Can Uruguay correct its unsustainable finances before it’s too late?

Uruguay flag

Uruguay’s decelerating economy and growing budget deficit have put President Tabaré Vazquez’s government under pressure to drive short-term growth while enacting a fiscal adjustment in order to meet its 2019 fiscal deficit goal of 2.5% of GDP.

  • Uruguay’s 2016 fiscal deficit reached 3.6% of GDP, marking the country’s highest deficit in almost 30 years. The expanding financing gap prompted the government’s recent announcement to increase its sale of debt to $2.05 billion for 2017, up from $1.75 in 2016
  • Rating and Investment (a Japanese ratings firm) maintained Uruguay’s debt at BBB, and gave a positive outlook for the Uruguayan economy, emphasizing Uruguay’s relative positive economic performance in relation to neighboring Brazil and Argentina. Fitch Ratings also indicated that it appears the worst of Uruguay’s economic troubles are behind them, giving the government some positive news
  • Economic recovery in Brazil and Argentina (Uruguay’s top regional trade partners) remains fragile, and thus clouds Uruguay’s short-term growth prospects. In this case, multinational executives with exposure to Uruguay should continue to track the threat posed by local fiscal imbalance

Exports by country - Uruguay

Short-term prospects for Uruguay

Uruguay will need to continue pursuing spending cuts and new revenue measures in order to drive confidence in its ability to sustain its fiscal position and thus drive heightened investor confidence, although there are some short-term signs of positive faster economic growth.

  • Tourism arrivals jumped by 20% in January 2017 when compared against January 2016, with the increase being driven by an uptick in tourists from Argentina, Brazil and Chile
  • Industrial production rose by 5.6% in December while exports jumped by 18.7% in US dollar terms in January. Both indicators would suggest growing demand for Uruguay’s key outputs by its trading partners
  • Inflation should fall to 8.2% in 2017 against 9.6% in 2018. Falling inflation will help to provide support to private consumption in the short-term
  • A fiscal adjustment will enter into full force this year, as the government lifts taxes on individual income, raises the social security tax, while also hiking corporate income taxes. Likewise, the government has overseen an increase in gasoline prices (+8%) that had been amongst the lowest of the region, and has also raised energy prices (7.5%) and water prices (+8%). The tax revenue boosting measures will be implemented together with spending cuts amounting to nearly US$ 500 million, as well as a reduction to the countries value-added tax on consumption by two percentage points (from 20% to 18%)

With the significant fiscal adjustment measures in place, Uruguay will rely heavily on a sustained return of external demand for its exports, without which it will be likely to see a continued rise in domestic employment and thus government revenues. While FSG maintains a positive outlook for Uruguay (forecasted GDP growth of 1.4% in 2017 and 2.4% in 2018), as we do for its key regional trading partners Brazil and Argentina, multinationals should consider their exposure to the market in the case of a failed fiscal adjustment while continuing to track the performance of the country’s export sector.

This post was written by Greta R. Spivey, Intern for Latin America Research

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