## EXECUTIVE SUMMARY

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---

### Context
- Following the overheating in 2021–22, the economy is approaching the end of its adjustment cycle towards more sustainable growth and lower inflation in a challenging external environment.
- The authorities are implementing very strong policies to preserve macroeconomic stability.
- The government has reform ambitions to raise tax revenues, reduce inequality, reform pensions and health care, and foster a green economy but is encountering strong resistance in a fragmented Congress.
- External downside risks remain tied to a possible abrupt global slowdown and sharply tighter global financial conditions.
- Domestic risks relate to potential discontent from unmet social demands, a deterioration in security, and uncertainty related to the health care sector.
- Risks associated with the outcome of the constitutional reform have significantly narrowed.
- The global energy transition and Chile’s abundant resources in copper, lithium, wind, and solar provide medium/long-term upside opportunities.
- Chile has very strong fundamentals and institutional policy frameworks and a strong track-record of implementing prudent policies that continue to support resilience and capacity to respond to shocks.

### Flexible Credit Line (FCL) and Qualification
- The FCL has provided a valuable buffer against tail risks and boosted market confidence by reinforcing Chile’s policy and institutional strengths.
- Chile’s 24-month FCL arrangement was approved on August 29, 2022, in the amount of SDR 13.954 billion (800 percent of quota, around US$18.5 billion).
- The authorities intend to continue to treat the FCL as precautionary and gradually exit conditional on external risk developments.
- Staff’s view: Chile continues to meet the FCL qualification criteria specified under the Executive Board decision on FCL arrangements (Decision No. 14283-(09/29), adopted on March 24, 2009, as amended).
- Staff recommends that the Board complete this review that would allow Chile to make purchases, if needed, until the expiration of the FCL arrangement on August 28, 2024.

### Recent Developments
- GDP and labor:
  - After growth surged to 11.7 percent in 2021, GDP growth decelerated to -0.6 percent (yoy) in 2023Q1, from 2.4 percent in 2022.
  - Seasonally adjusted real GDP contracted by 0.3 percent in 2023Q2 relative to 2023Q1.
  - The three-month average unemployment rate edged higher to 8.5 percent in May 2023 (8.5 percent as of June for three-month average); the employment rate remains about 3 percentage points below its pre-pandemic level.
- External and exchange rate:
  - The current account deficit widened to 9 percent of GDP in 2022; the four-quarter moving average peaked at 9.9 percent of GDP in 2022Q3 and is expected to have reverted to about 5 percent of GDP in 2023Q2 (with an estimated average deficit of about 2 percent of GDP in the first six months of 2023).
  - The exchange rate appreciated by about 7 percent in 2023H1 relative to the average level in 2022 after high volatility in 2022.
  - Central Bank intervened over July-September 2022 involving the sale of US$6.2 billion in the spot market and US$10 billion forward sales (settled in Chilean pesos).
  - A twelve-month reserve accumulation program started in June 2023; purchases are sterilized.
- Prices, wages, and minimum wage:
  - Headline inflation declined to 7.6 percent (yoy) in June 2023, from a peak of 14.1 percent in August 2022; core inflation was 9.1 percent (yoy, June 2023).
  - Headline inflation slowed to 6.5 percent (yoy) in July; core inflation decelerated to 8.5 percent in July.
  - Real wages increased by 1.2 percent (yoy) in May 2023 but remained 1.6 percentage points below their mid-2021 level.
  - Minimum wage schedule: increased from CLP410,000 in January to CLP440,000 in May; will increase to CLP460,000 in September and to CLP500,000 in July 2024; estimated to impact about 10 percent of employees.
- Fiscal and reserves:
  - The fiscal balance improved to 1.1 percent of GDP in 2022 from a deficit of 7.7 percent in 2021, underpinned by a 23 percent decline in real spending due to removal of pandemic-related stimulus measures and one-off revenues.
  - Gross international reserves (GIR) increased by about US$1½ billion since early June; as of August 7, GIR stood at US$40.7 billion.
  - The BCCh initiated a reserve accumulation program in mid-June aiming to lift reserves by US$10 billion over twelve months.
- Financial sector:
  - Banks’ capital adequacy and liquidity ratios stand comfortably above regulatory requirements; credit growth slowed to 3.4 percent (yoy) in June 2023.
  - Hold-to-maturity securities represented 3.4 percent of total assets in March 2023.
  - Banking turmoil in the US and Europe has not spilled over to Chile.

### Outlook and Risks
- Growth and output gap:
  - Real GDP growth is now expected to be around zero percent in 2023, reflecting a more gradual adjustment of domestic demand.
  - Large positive output gaps in 2021-22 are projected to broadly close during 2023-24.
  - Growth is projected to pick up to 1-2 percent in 2024 and thereafter gradually return to the potential growth rate of around 2.5 percent.
- Inflation:
  - Inflation is projected to decelerate to 4.5 percent by end-2023 and to converge to the 3-percent target by end-2024.
- Fiscal and external:
  - The fiscal balance is expected to deteriorate to a deficit of 1.9 percent of GDP in 2023 due to lower revenues, before gradually converging to broadly zero over the medium term.
  - The current account deficit is set to narrow to 3.8 percent of GDP in 2023 (from 9 percent of GDP in 2022) and to gradually converge to its historical average of about 3 percent of GDP.
- Main risks:
  - External: possibility of an abrupt global slowdown and sharply tighter global financial conditions, possibly resulting in lower and more volatile commodity prices and net capital inflows.
  - Domestic: social discontent from unmet demands, security deterioration, uncertainty related to the health care sector stemming from a Supreme Court ruling against private health insurance companies (Isapres).
  - Upside: global transition to greener technologies and expected surge in global demand for copper, lithium and green hydrogen.

### Macroeconomic Policies
- Monetary policy:
  - MPR raised from 0.5 percent in July 2021 to 11.25 percent in October 2022.
  - Real interest rates, measured as the 1-year inflation-indexed interbank swap rates, have been around 5 percent since late 2022 (compared to an estimated neutral real interest rate of about 0.75 percent).
  - The Central Bank of Chile committed to maintaining a sufficiently restrictive stance; the Bank signaled that rate cuts could start in the third quarter of 2023 if disinflation continues.
  - The BCCh started its rate cutting cycle on July 28, lowering the monetary policy rate by 100 basis points to 10.25 percent.
  - The stock of assets acquired under unconventional liquidity measures in 2020-21 will substantially decline in 2024 upon maturity.
- Fiscal policy:
  - The 2023 budget projects a deterioration to a deficit of 1.9 percent of GDP in 2023 from a surplus of 1.1 percent of GDP in 2022.
  - The budget incorporates higher mandated spending on minimum pensions and aims to increase public investment while overall real expenditures are expected to remain broadly constant relative to 2022.
  - Staff estimates the budget implies a small fiscal stimulus of about ½ percentage points of GDP (change in the non-mining structural primary balance).
  - Policy recommendation: save any stronger than projected revenues and wait to disburse unallocated funds, aiming for a broadly neutral fiscal stance while continuing to target support for vulnerable households.

### Fiscal commitments, fiscal pact, and revenue measures
- Authorities aspired to increase tax revenues by about 3.5 percent of GDP by 2026.
- Recently approved overhaul of copper mining taxes is expected to raise revenues by about 0.5 percent of GDP.
- Upcoming government proposal to adjust corrective taxes could yield another 0.4 percent of GDP, including through higher carbon taxes.
- The flagship tax reform package expected to yield the remaining 2.7 percent of GDP was rejected by Congress in March.
- Government negotiating a fiscal pact linking revenue measures with higher social and security spending; staff assesses the medium-term fiscal commitment of reaching a broadly balanced fiscal position by 2027 to be appropriate and feasible, implying a fiscal effort of about 2 percentage points of GDP.
- Government estimates for the proposed fiscal pact (Percent of GDP):
  - Tax Reform: Tax evasion and avoidance measures 1.6; Income taxes 0.7; Wealth tax 0.4; Reduction in exemptions 0.2; Tax incentives -0.2; Total 2.7.
  - Additional Spending Plans: Pension reform 1.2; Higher minimum guaranteed pensions 0.8; Higher pension contributions for public employees 0.4; Health system 0.9; Security 0.4; National system of care and childcare 0.2; Total 2.7.
  - Note: Government proposal from June 2023 for permanent medium-term revenue and spending measures. Estimated cumulative yields are those by the authorities.
- In the absence of additional revenue measures, spending would need to be constrained in outer years to achieve the government’s medium-term fiscal targets.

### Fiscal framework refinements and decentralization
- Recent enhancements: introduction of a prudent debt ceiling; cyclical adjustment for lithium revenues for the structural balance rule; disclosure of the sensitivity of fiscal projections to macroeconomic shocks.
- Introduction of an explicit escape clause is under consideration by Congress.
- Recommended improvements:
  - Broaden the supervisory and advisory role of the Autonomous Fiscal Council.
  - Develop integrated sovereign asset-liability management.
  - Further strengthen fiscal risk reporting and management.
- Fiscal decentralization: greater financial autonomy to regional governments, including higher transfers and ability to borrow subject to approval of the Ministry of Finance; implementation priorities include strengthening regional public investment management capacity, enhancing controls for governance risks, and improving regional fiscal transparency and accountability.

### Financial sector resilience, supervision, and reforms
- 2021 FSAP concluded Chile’s financial regulatory and supervisory system is robust.
- Implementation of Basel III requirements has improved banks’ solvency and liquidity.
- Stress tests indicate financial stability appears well guarded.
- Planned measures to further improve resilience:
  - Introduction of an industry-funded deposit insurance and bank resolution framework.
  - Strengthening consolidated supervision of financial conglomerates.
- BCCh actions:
  - Preparing banks for the unwinding of extraordinary liquidity measures deployed during the pandemic.
  - Activated a counter-cyclical buffer (CCyB) of 0.5 percent of risk-weighted assets in May as a precautionary measure.
  - Greater clarity needed on the CCyB’s longer-term policy role.
- Ongoing enhancements to AML/CFT preventive measures.
- Implementation progress on 2021 FSAP recommendations includes a bill to deepen the repo market and enforce CMF powers over mutual funds; CMF implemented Internal Liquidity Adequacy Assessment Process regulation.

### Institutional strengths, safeguards, and staff appraisal
- Staff reviewed the audited FY2022 financial statements and no significant issues were identified.
- Chile’s FCL arrangement has supported the authorities’ policy efforts amid an uncertain external environment.
- Staff assesses that Chile continues to meet the FCL qualification criteria.
- Chile has very strong economic fundamentals and institutional policy frameworks, along with a sustained track record of implementing very strong macroeconomic policies.
- Staff recommends the completion of the review under the FCL arrangement for Chile.

### External Economic Stress Index (ESI)
- Methodology:
  - ESI based on standardized U.S. real GDP growth (weight 0.15), China real GDP growth (weight 0.15), change in the copper price (weight 0.35), Emerging market volatility index (VXEEM) (weight 0.25), and U.S. long-term (10-year) Treasury yield, detrended (weight 0.25).
  - Lower values indicate higher stress.
- Recent developments:
  - ESI indicates external stress increased in the second half of 2022 followed by a decline recently.
  - Main drivers of higher external stress in late 2022: a decline in the copper price, an increase in U.S. yields, and a short-lived increase in emerging market volatility.
- Baseline and projections:
  - Under the new baseline, external stress is expected to decline in 2024 but to remain above-average levels.
  - The ESI is projected to peak in 2023Q4 then fall gradually until 2024Q4; index expected to remain slightly negative, suggesting a moderate level of external economic stress.
- Adverse scenario assumptions:
  - U.S. growth: a decline of 1.8 percentage points in 2023 and an increase of 0.4 percentage points in 2024 relative to the baseline.
  - China growth: a decline of 1.2 percentage points in 2023 and an increase of 0.8 percentage points in 2024 relative to the baseline.
  - Copper price: a 15 percent decline relative to the baseline.
  - VXEEM: a two standard deviation increase relative to the baseline.
  - U.S. yields: a decrease by 0.4 percentage points relative to the baseline (in annual terms).
  - Under the adverse scenario the ESI suggests Chile faces above-average external risks.

### External Debt Sustainability Analysis (Annex I) — Baseline and key indicators
- External debt (percent of GDP) — baseline: 2018: 59.4; 2019: 66.7; 2020: 76.9; 2021: 72.0; 2022: 77.6; 2023: 71.7; 2024: 72.0; 2025: 71.9; 2026: 71.6; 2027: 70.5; 2028: 69.8.
- Change in external debt (percent of GDP): 2018: -3.1; 2019: 7.4; 2020: 10.2; 2021: -4.9; 2022: 5.5; 2023: -5.9; 2024: 0.3; 2025: -0.1; 2026: -0.4; 2027: -1.1; 2028: -0.7.
- Identified external debt-creating flows (percent of GDP): 2018: 3.3; 2019: 8.0; 2020: 9.5; 2021: -8.0; 2022: 11.9; 2023: 5.1; 2024: 3.3; 2025: 2.6; 2026: 2.1; 2027: 2.3; 2028: 2.1.
- Current account deficit, excluding interest payments (percent of GDP): 2018: 2.8; 2019: 3.3; 2020: -0.2; 2021: 5.8; 2022: 7.0; 2023: 1.5; 2024: 1.5; 2025: 1.3; 2026: 1.1; 2027: 1.0; 2028: 0.8.
- Automatic debt dynamics (percent of GDP): 2018: -2.4; 2019: 5.3; 2020: 8.2; 2021: -13.5; 2022: 5.2; 2023: 2.4; 2024: 1.2; 2025: 0.8; 2026: 0.7; 2027: 0.6; 2028: 0.6.
  - Contribution from nominal interest rate (percent of GDP): 2018: 1.7; 2019: 1.9; 2020: 2.1; 2021: 1.5; 2022: 2.1; 2023: 2.3; 2024: 2.2; 2025: 2.2; 2026: 2.2; 2027: 2.2; 2028: 2.2.
  - Contribution from real GDP growth (percent of GDP): 2018: -2.3; 2019: -0.5; 2020: 4.5; 2021: -7.2; 2022: -1.9; 2023: 0.2; 2024: -1.0; 2025: -1.5; 2026: -1.6; 2027: -1.7; 2028: -1.7.
  - Contribution from price and exchange rate changes (percent of GDP): 2018: -1.7; 2019: 3.9; 2020: 1.6; 2021: -7.8; 2022: 5.0.
- External debt-to-exports ratio (percent): 2018: 208.6; 2019: 240.4; 2020: 245.7; 2021: 226.5; 2022: 217.9; 2023: 222.6; 2024: 220.3; 2025: 217.6; 2026: 217.9; 2027: 215.4; 2028: 213.6.
- Gross external financing need (in billions of US dollars): 2018: 66.5; 2019: 72.0; 2020: 73.6; 2021: 69.3; 2022: 91.6; 2023: 67.6; 2024: 73.1; 2025: 75.8; 2026: 68.6; 2027: 82.5; 2028: 85.9.
- Staff assessment: external debt increased to 77.6 percent of GDP in 2022 but is projected to gradually decline to about 70 percent of GDP by 2028 and remains sustainable under a wide range of shocks.

### Sovereign risk, public debt sustainability (Annex II summary) and public debt projections
- Overall assessment: Low.
- Medium-term and long-term risks: Low.
- Public debt (percent of GDP) — selected projections from Table 4: Actual 2022: 38.0; 2023: 38.0; 2024: 40.6; 2025: 41.7; 2026: 41.8; 2027: 41.3; 2028: 41.1; 2029: 39.9; 2030: 39.6; 2031: 38.7; 2032: 38.3.
- Primary deficit (percent of GDP): 2022: -0.7; 2023: 2.3; 2024: 1.4; 2025: 0.8; 2026: 0.2; 2027: -0.3; 2028: -0.2; 2029: -0.3; 2030: -0.2; 2031: -0.2; 2032: -0.2.
- Memo indicators:
  - Real GDP growth (percent): 2022: 2.4; 2023: -0.2; 2024: 1.5; 2025: 2.2; 2026: 2.3; 2027: 2.4; 2028: 2.5; subsequent years 2.5.
  - Inflation (GDP deflator; percent): 2022: 6.7; 2023: 7.8; 2024: 3.3; 2025: 3.3; 2026: 3.2; 2027: 3.0; 2028: 3.0.
  - Nominal GDP growth (percent): 2022: 9.2; 2023: 7.5; 2024: 4.8; 2025: 5.5; 2026: 5.6; 2027: 5.5; 2028: 5.6.
- Commentary: Public debt will peak in 2026 and then gradually fall until 2032 under the assumption that the government adheres to its medium-term target of a broadly balanced fiscal position.

### Debt coverage, structure, and buffers
- Residual maturity of central government debt: 11.4 years.
- External debt expected to stabilize at 70 percent of GDP in the medium term, after increasing to 77.6 percent of GDP in 2022 (from 72 percent of GDP in 2021).
- Net international investment position: -18 percent of GDP at end-2022.
- About 95 percent of Chile’s external debt is owed to private creditors.
- Chile maintains investment grade status according to the three major rating agencies.
- Sovereign spreads: EMBIG and 5-year CDS spreads stood at about 135 and 80 basis points at end-June, respectively.
- International reserves:
  - Gross international reserves stood at 82 percent of the Fund’s reserve adequacy metric (ARA) on average over 2020-22 and 70.4 percent in June 2023.
  - BCCh actions in 2023 include gradual unwind of FX forward operations with a daily reduction of US$50mn over ten months and daily purchases of US$40 million over twelve months to lift reserves by US$10 billion to about 14 percent of GDP by 2024 (approximately 77 percent of the ARA metric).
  - Government usable liquid FX assets: US$17 billion as of May, including US$7.6 billion in the sovereign wealth fund and US$6.7 billion in the pension reserve fund (equivalent to an improvement in reserve coverage of up to 30.3 percentage points).
  - Complementary facilities: FLAR credit line US$1.25 billion; bilateral swap facility with the PBOC US$7.2 billion; BIS Renminbi Liquidity Arrangement US$3.7 billion; subscription to the Fed’s FIMA repo facility US$26 billion.
- Staff assesses reserves to be adequate due to these mitigating factors and authorities’ commitment to a flexible exchange rate.

### Policy-relevant conclusions and implications
- Fiscal framework:
  - Medium-term structural fiscal consolidation plans, guided by the structural fiscal balance rule, are fully consistent with fiscal sustainability.
  - The government aims to keep debt below a prudent ceiling of 45 percent of GDP.
- Revenue and reforms:
  - Authorities are aiming for an ambitious tax reform, not included in the baseline scenario, to finance demands for higher social spending.
- Contingent liabilities and buffers:
  - State-contingent liabilities (pension withdrawals, credit guarantees) are expected to result in modest fiscal costs in the medium term; ongoing management and disclosure are highlighted.

*Source: EXECUTIVE SUMMARY and selected sections from IMF staff report excerpt (1chlea2023005).*

### EXECUTIVE SUMMARY

### EXECUTIVE SUMMARY

### Context
- Following the overheating in 2021–22, the economy is approaching the end of its adjustment cycle towards more sustainable growth and lower inflation in a challenging external environment.
- The authorities are implementing very strong policies to preserve macroeconomic stability.
- The government has reform ambitions to raise tax revenues, reduce inequality, reform pensions and health care, and foster a green economy but is encountering strong resistance in a fragmented Congress.
- External downside risks remain tied to a possible abrupt global slowdown and sharply tighter global financial conditions.
- Domestic risks relate to potential discontent from unmet social demands, a deterioration in security, and uncertainty related to the health care sector.
- Risks associated with the outcome of the constitutional reform have significantly narrowed.
- The global energy transition and Chile’s abundant resources in copper, lithium, wind, and solar provide medium/long-term upside opportunities.
- Chile has very strong fundamentals and institutional policy frameworks and a strong track-record of implementing prudent policies that continue to support resilience and capacity to respond to shocks.

### Flexible Credit Line (FCL) and Qualification
- The FCL has provided a valuable buffer against tail risks and boosted market confidence by reinforcing Chile’s policy and institutional strengths.
- Chile’s 24-month FCL arrangement was approved on August 29, 2022, in the amount of SDR 13.954 billion (800 percent of quota, around US$18.5 billion).
- The authorities intend to continue to treat the FCL as precautionary and gradually exit conditional on external risk developments.
- Staff’s view: Chile continues to meet the FCL qualification criteria specified under the Executive Board decision on FCL arrangements (Decision No. 14283-(09/29), adopted on March 24, 2009, as amended).
- Staff recommends that the Board complete this review that would allow Chile to make purchases, if needed, until the expiration of the FCL arrangement on August 28, 2024.

### Recent Developments
- After growth surged to 11.7 percent in 2021, GDP growth decelerated to -0.6 percent (yoy) in 2023Q1, from 2.4 percent in 2022, led by normalization of private consumption and investment.
- The unemployment rate (3-month average) edged higher to 8.5 percent in May 2023, from 7.9 percent at end-2022; the employment rate remains about 3 percentage points below its pre-pandemic level.
- The fiscal balance improved to 1.1 percent of GDP in 2022 from a deficit of 7.7 percent in 2021, underpinned by a 23 percent decline in real spending due to removal of pandemic-related stimulus measures and one-off revenues.
- The current account deficit widened to 9 percent of GDP in 2022; the four-quarter moving average peaked at 9.9 percent of GDP in 2022Q3 and is expected to have reverted to about 5 percent of GDP in 2023Q2 (with an estimated average deficit of about 2 percent of GDP in the first six months of 2023).
- The exchange rate appreciated by about 7 percent in 2023H1 relative to the average level in 2022 after high volatility in 2022; the Central Bank intervened over July-September 2022 involving the sale of US$6.2 billion in the spot market and US$10 billion forward sales (settled in Chilean pesos).
- A twelve-month reserve accumulation program started in June 2023; purchases are sterilized to ensure consistency with the monetary policy framework and the flexible exchange rate regime.
- Headline inflation declined to 7.6 percent (yoy) in June 2023, from a peak of 14.1 percent in August 2022; core inflation (excluding volatile items) was 9.1 percent (yoy, June 2023).
- Real wages increased by 1.2 percent (yoy) in May 2023 but remained 1.6 percentage points below their mid-2021 level.
- Minimum wage schedule: increased from CLP410,000 in January to CLP440,000 in May; will increase to CLP460,000 in September and to CLP500,000 in July 2024; estimated to impact about 10 percent of employees.
- Financial sector: banks’ capital adequacy and liquidity ratios stand comfortably above regulatory requirements; credit growth slowed to 3.4 percent (yoy) in June 2023 (from about 10 percent in 2021 and 2022).
- Hold-to-maturity securities represented 3.4 percent of total assets in March 2023.
- Banking turmoil in the US and Europe has not spilled over to Chile.

### Outlook and Risks
- Real GDP growth is now expected to be around zero percent in 2023, reflecting a more gradual adjustment of domestic demand.
- Large positive output gaps in 2021-22 are projected to broadly close during 2023-24.
- Growth is projected to pick up to 1-2 percent in 2024 and thereafter gradually return to the potential growth rate of around 2.5 percent.
- Inflation is projected to decelerate to 4.5 percent by end-2023 and to converge to the 3-percent target by end-2024.
- The fiscal balance is expected to deteriorate to a deficit of 1.9 percent of GDP in 2023 due to lower revenues, before gradually converging to broadly zero over the medium term.
- The current account deficit is set to narrow to 3.8 percent of GDP in 2023 (from 9 percent of GDP in 2022) and to gradually converge to its historical average of about 3 percent of GDP.
- Main external risks: possibility of an abrupt global slowdown and sharply tighter global financial conditions, possibly resulting in lower and more volatile commodity prices and net capital inflows.
- Domestic risks: social discontent from unmet demands, security deterioration, uncertainty related to the health care sector stemming from a Supreme Court ruling against private health insurance companies (Isapres).
- Upside: global transition to greener technologies and expected surge in global demand for copper, lithium and green hydrogen.

### Macroeconomic Policies
- Monetary policy: MPR raised from 0.5 percent in July 2021 to 11.25 percent in October 2022.
- Real interest rates, measured as the 1-year inflation-indexed interbank swap rates, have been around 5 percent since late 2022 (compared to an estimated neutral real interest rate of about 0.75 percent).
- The Central Bank of Chile is committed to maintaining a sufficiently restrictive stance to ensure convergence of inflation to the 3-percent target; the Bank signaled that rate cuts could start in the third quarter of 2023 if disinflation continues.
- The stock of assets acquired under unconventional liquidity measures in 2020-21 will substantially decline in 2024 upon maturity.
- Fiscal policy: the 2023 budget projects a deterioration to a deficit of 1.9 percent of GDP in 2023 from a surplus of 1.1 percent of GDP in 2022, mostly due to lower revenues and fading one-off effects.
- The budget incorporates higher mandated spending on minimum pensions and aims to increase public investment while overall real expenditures are expected to remain broadly constant relative to 2022 due to reductions in other spending categories.
- Staff estimates the budget implies a small fiscal stimulus of about ½ percentage points of GDP (change in the non-mining structural primary balance).
- Policy recommendation: save any stronger than projected revenues and wait to disburse unallocated funds, aiming for a broadly neutral fiscal stance while continuing to target support for vulnerable households.

*Source: EXECUTIVE SUMMARY (1chlea2023005)*

### 16.      The government remains strongly committed to fiscal sustainability by conditioning

### 16.      The government remains strongly committed to fiscal sustainability by conditioning 

### Fiscal commitments, revenue measures, and fiscal pact
- Authorities aspired to increase tax revenues by about 3.5 percent of GDP by 2026.
- Recently approved overhaul of copper mining taxes is expected to raise revenues by about 0.5 percent of GDP.
- Upcoming government proposal to adjust corrective taxes could yield another 0.4 percent of GDP, including through higher carbon taxes.
- The flagship tax reform package expected to yield the remaining 2.7 percent of GDP was rejected by Congress in March, prompting a pragmatic adjustment of strategy.
- Government is negotiating a fiscal pact linking measures from the rejected tax reform (tax evasion and avoidance measures, reforms to personal income taxes, introduction of a wealth tax, and reduction of tax exemptions) with plans for higher social and security spending (to enhance the universal guaranteed pension, the health care system, security, the national system of care, and childcare provision).
- The proposed fiscal pact also includes incentives for growth and investment and measures to modernize the state and increase spending efficiency.
- Staff assesses the government’s medium-term fiscal commitment of reaching a broadly balanced fiscal position by 2027 to be appropriate and feasible, implying a fiscal effort of about 2 percentage points of GDP.
- In the absence of additional revenue measures, spending would need to be constrained in outer years to achieve the government’s medium-term fiscal targets, as assumed in the baseline.
- Chile’s public debt is deemed to be sustainable with high probability (Annex II), with the debt ratio stabilizing below the authorities’ prudent ceiling of 45 percent of GDP.

### Proposed fiscal pact: government estimates (Percent of GDP)
- Tax Reform
  - Tax evasion and avoidance measures 1.6
  - Income taxes 0.7
  - Wealth tax 0.4
  - Reduction in exemptions 0.2
  - Tax incentives -0.2
  - Total 2.7
- Additional Spending Plans
  - Pension reform 1.2
  - Higher minimum guaranteed pensions 0.8
  - Higher pension contributions for public employees 0.4
  - Health system 0.9
  - Security 0.4
  - National system of care and childcare 0.2
  - Total 2.7
- Note: Government proposal from June 2023 for permanent medium-term revenue and spending measures. Estimated cumulative yields are those by the authorities.

### Fiscal framework refinements and decentralization
- Recent enhancements: introduction of a prudent debt ceiling; cyclical adjustment for lithium revenues for the structural balance rule; disclosure of the sensitivity of fiscal projections to macroeconomic shocks.
- Introduction of an explicit escape clause is under consideration by Congress.
- Additional recommended improvements:
  - Broaden the supervisory and advisory role of the Autonomous Fiscal Council.
  - Develop integrated sovereign asset-liability management.
  - Further strengthen fiscal risk reporting and management.
- Fiscal decentralization: government committed to supplement gradual fiscal decentralization reform (greater financial autonomy to regional governments, including higher transfers and ability to borrow subject to approval of the Ministry of Finance) with adequate safeguards for fiscal responsibility.
- Implementation priorities for decentralization: strengthen regional public investment management capacity, enhance controls for governance risks, and improve regional fiscal transparency and accountability.

### Financial sector resilience and supervision
- 2021 FSAP concluded Chile’s financial regulatory and supervisory system is robust.
- Implementation of Basel III requirements has improved banks’ solvency and liquidity.
- Stress tests indicate financial stability appears well guarded.
- Authorities should continue monitoring developments, stand ready to intervene to avoid disorderly conditions, and encourage careful assessment of credit quality, prudential lending standards, and adequate reporting.
- Planned measures that would further improve resilience:
  - Introduction of an industry-funded deposit insurance and bank resolution framework.
  - Strengthening consolidated supervision of financial conglomerates.
- BCCh actions:
  - Preparing banks for the unwinding of extraordinary liquidity measures deployed during the pandemic.
  - Activated a counter-cyclical buffer (CCyB) of 0.5 percent of risk-weighted assets in May as a precautionary measure.
  - Greater clarity needed on the CCyB’s longer-term policy role.
- Ongoing enhancements to AML/CFT preventive measures.

### Structural and social reforms
- Government envisions far-reaching reforms; adoption prospects uncertain due to a fragmented Congress.
- Pension reform priority:
  - Universal minimum pension has substantially mitigated risks of old-age poverty, but many still face inadequate pensions.
  - Government proposal (submitted to Congress in November) includes additional 6 percent contribution (to be paid by the employer).
  - Proposal aims to: (i) foster redistribution through the addition of notional accounts, (ii) further expand the minimum pension, and (iii) increase the government role in the management and investment of pension savings.
  - Design and implementation will be critical to foster capital market deepening, labor formalization, and ensure a level playing field.
- National Lithium Strategy proposal to develop institutional framework to foster investors’ interest in the sector.
- Climate strategy: recent Framework Law on Climate Change; broader use of green taxes and consideration of complementary emission reduction schemes.

### FCL qualification, external position, and reserves
- Staff’s assessment: Chile continues to meet the FCL qualification criteria.
- Executive Board provided a very positive assessment of Chile’s policies in the context of the 2022 Article IV consultation.
- Key assessments:
  - External position is sustainable.
  - Sovereign has access to international markets at favorable rates.
  - Official reserve assets are adequate due to several mitigating factors.
  - Public debt is sustainable and supported by a very strong fiscal framework.
  - Inflation peaked in August 2022 and is projected to converge to target by end-2024.
  - Financial sector is sound and effectively supervised.

- Current account and REER:
  - Current account recorded a deficit of 9 percent of GDP in 2022 (compared to 7.3 percent in 2021).
  - Current account deficit projected to fall to 3.8 percent of GDP in 2023 and to around 3 percent of GDP in the medium term.
  - REER depreciated by more than 13 percent over 2020-22 (relative to its 2010-19 average) and fully recovered during January-May 2023.
  - External debt: expected to stabilize at 70 percent of GDP in the medium term, after increasing to 77.6 percent of GDP in 2022 (from 72 percent of GDP in 2021).
  - Net international investment position: -18 percent of GDP at end-2022.

- Capital flows and IIP composition:
  - Over 2020-22, private flows accounted for 72 percent of total asset flows and 82 percent of total liability flows.
  - In 2022, private flows accounted for over 90 percent of total liability flows.
  - Chile’s IIP liabilities are dominated by FDI and averaged 163 percent of GDP over 2020-22.
  - Private sector accounted on average for about 86 percent of total IIP assets and about 91 percent of total IIP liabilities over 2020-22.
  - About 95 percent of Chile’s external debt is owed to private creditors.

- Sovereign access and spreads:
  - Chile maintains investment grade status according to the three major rating agencies.
  - EMBIG and 5-year CDS spreads stood at about 135 and 80 basis points at end-June, respectively.
  - Central government issued external debt in each of the past five years, with a cumulative amount equivalent to about 1,400 percent of Chile’s quota in the IMF.

- International reserves:
  - Gross international reserves stood at 82 percent of the Fund’s reserve adequacy metric (ARA) on average over 2020-22 and 70.4 percent in June 2023.
  - BCCh actions in 2023:
    - Began to gradually unwind the FX forward operations from the 2022 intervention program with a daily reduction of US$50mn over ten months.
    - In June, began a reserve accumulation program with daily purchases of US$40 million over twelve months which will lift reserves by US$10 billion to about 14 percent of GDP by 2024 (approximately 77 percent of the ARA metric).
  - Staff assesses reserves to be adequate due to mitigating factors:
    - Government has sizeable usable liquid FX assets (US$17 billion as of May), including US$7.6 billion in the sovereign wealth fund and US$6.7 billion in the pension reserve fund (equivalent to an improvement in reserve coverage of up to 30.3 percentage points).
    - More than a quarter of short-term debt represents intercompany loans from foreign direct investors to local firms.
    - 70 percent of banks’ short-term external debt (US$21 billion at end-2023Q1) is covered by banks’ liquid foreign assets (US$14.6 billion at end-2023Q1).
    - Reserves are complemented with a credit line with FLAR (US$1.25 billion), access to a bilateral swap facility with the PBOC (US$7.2 billion), a BIS Renminbi Liquidity Arrangement (US$3.7 billion), and subscription to the Fed’s FIMA repo facility (US$26 billion).
    - Authorities remain strongly committed to a flexible exchange rate.

### Public debt, monetary policy, inflation, and financial supervision
- Public debt and fiscal stance:
  - Gradual fiscal consolidation guided by the fiscal rule expected to rebuild buffers and stabilize gross public debt below 45 percent of GDP.
  - Public debt is mostly denominated in domestic currency, with average external debt maturity above ten years.
  - Liquidity risks mitigated by assets in the sovereign wealth and pension reserve funds and a large domestic banking sector.
  - Staff assesses public debt to be sustainable with high probability; debt trajectory robust to standard shocks (Annex II).
  - 2021 Fiscal Transparency Evaluation concluded Chile has strong fiscal institutions and sound fiscal transparency practices.

- Inflation and monetary framework:
  - Chile maintains a credible inflation-targeting regime and a flexible exchange rate.
  - Monthly (yoy) inflation averaged 5.4 percent over the past five years.
  - Inflation spike into double digits (from April 2022 to March 2023) was temporary; longer-term inflation expectations remained anchored.
  - Inflation projected to converge to target by end-2024.
  - BCCh maintains a small negative equity, which does not compromise policy solvency nor require immediate recapitalization.
  - 2021 Transparency Review underscored BCCh’s high standards of policy analysis, conduct, and independence.

- Financial sector soundness and supervision:
  - Financial sector appears sound overall with pockets of vulnerability.
  - Banks’ capital adequacy and liquidity ratios stand comfortably above regulatory requirements.
  - Solvency stress tests from the 2021 FSAP and more recent tests indicate low solvency risks and well-guarded financial stability.
  - Implementation progress on 2021 FSAP recommendations: bill to deepen repo market and enforce CMF powers over mutual funds; CMF implemented Internal Liquidity Adequacy Assessment Process regulation.
  - Chile adheres to the IMF’s SDDS Plus since March 2020.

### Institutional strengths and FCL stance
- Chile’s track record: sustained implementation of very strong policies, high policy credibility, and regulatory quality; effective adjustment to shocks (Global Financial Crisis, 2019 social unrest, pandemic).
- Authorities committed to treating the FCL arrangement as precautionary and to gradually exit conditional on external risk developments.
- Authorities commenced replenishing reserve buffers as part of the strategy to gradually exit from the FCL arrangement.
- Under a tail risk scenario prompting a full drawing under the FCL, Chile’s capacity to repay the Fund would remain adequate (Table 8).

*Source: IMF staff report excerpt.*

### 32.      Safeguards. Staff reviewed the audited FY2022 financial statements and no significant

### 32. Safeguards

### Safeguards review
- Staff reviewed the audited FY2022 financial statements and no significant issues were identified.

### Staff appraisal
- Chile’s FCL arrangement has supported the authorities’ policy efforts amid an uncertain external environment.
- The FCL arrangement has contributed to the country’s resilience, in the context of very strong policy and institutional frameworks, as evidenced by a relatively low level of public debt, well anchored medium-term inflation expectations, and a sound financial system.
- The authorities have indicated their intent to continue treating the FCL as precautionary and gradually exit when external conditions allow.
- Staff assesses that Chile continues to meet the FCL qualification criteria.
- Chile has very strong economic fundamentals and institutional policy frameworks, along with a sustained track record of implementing very strong macroeconomic policies.
- The authorities remain strongly committed to continue pursuing prudent policies.
- Staff recommends the completion of the review under the FCL arrangement for Chile.

*Source: IMF staff appraisal and safeguards review (FY2022).*

### Box 1. External Economic Stress Index

### Box 1. External Economic Stress Index

### Methodology
- The External Economic Stress Index (ESI) summarizes Chile’s exposure to external shocks.
- The ESI is based on four variables—standardized around their mean—which capture Chile’s external risks:
  - U.S. real GDP growth (weight 0.15)
  - China real GDP growth (weight 0.15)
  - Change in the copper price (weight 0.35)
  - Emerging market volatility index (VXEEM) (weight 0.25)
  - U.S. long-term (10-year) Treasury yield, detrended (weight 0.25)
- Lower values indicate higher stress.
- The choice of the weights draws on the balance of payments and international investment position data, expressed as a share of GDP, and normalized.
- The updated ESI uses the change in the copper price consistently for the baseline and adverse scenarios (previously the level was applied in historical series and the adverse scenario).

### Recent developments
- The updated ESI for Chile indicates that external stress increased in the second half of 2022 followed by a decline recently.
- Main drivers of higher external stress in late 2022:
  - A decline in the copper price
  - An increase in U.S. yields
  - A short-lived increase in emerging market volatility
- External stress declined in 2023Q1 due to:
  - Higher growth in the U.S. and China
  - A loosening of financial conditions

### Baseline projections and outlook
- Under the new baseline, external stress is expected to decline in 2024 but to remain above-average levels.
- The ESI is projected to:
  - Peak in 2023Q4
  - Then fall gradually until 2024Q4
- The projected path reflects expectations of improving financial conditions and a relatively stable copper price under the April 2023 WEO baseline.
- The index is expected to remain slightly negative, suggesting a moderate level of external economic stress.

### Adverse scenario and implications
- An adverse scenario shows that Chile continues to face elevated external risks.
- The adverse scenario factors in:
  - A decline in U.S. and China growth in 2023 followed by a recovery in 2024
  - A decline in the U.S. yield in line with the April 2023 WEO adverse scenario
  - A decline in the price of copper
  - An increase in emerging market volatility similar to the adverse scenario for the 2022 FCL request
- Under the adverse scenario the ESI suggests Chile faces above-average external risks.

### Adverse scenario assumptions (as specified)
- U.S. growth: a decline of 1.8 percentage points in 2023 and an increase of 0.4 percentage points in 2024 relative to the baseline (all in annual terms).
- China growth: a decline of 1.2 percentage points in 2023 and an increase of 0.8 percentage points in 2024 relative to the baseline (all in annual terms).
- Copper price: a 15 percent decline relative to the baseline.
- VXEEM: a two standard deviation increase relative to the baseline.
- U.S. yields: a decrease by 0.4 percentage points relative to the baseline (in annual terms).
- Assumptions on U.S. growth and U.S. yields (items (i) and (iv)) are in line with the April 2023 WEO downside scenario.

*Source: IMF staff calculations and projections contained in Box 1. External Economic Stress Index*

### Annex I. External Debt Sustainability Analysis

### Annex I. External Debt Sustainability Analysis

### External debt summary
- External debt increased to 77.6 percent of GDP in 2022, mainly due to depreciation of the peso and the temporary deterioration in the 2022 current account.
- Over the medium term, external debt is projected to gradually decline to about 70 percent of GDP by 2028.
- Despite sensitivity to the exchange rate, external debt remains sustainable under a wide range of shocks.
- The non-financial corporate sector appears highly leveraged, but a large share of its debt is FDI-related (i.e., intercompany loans) and has foreign exchange hedging or long maturity.

### Key DSA baseline projections and indicators (selected figures from Table 1)
- Baseline: External debt (percent of GDP): 2018: 59.4; 2019: 66.7; 2020: 76.9; 2021: 72.0; 2022: 77.6; 2023: 71.7; 2024: 72.0; 2025: 71.9; 2026: 71.6; 2027: 70.5; 2028: 69.8.
- Change in external debt (percent of GDP): 2018: -3.1; 2019: 7.4; 2020: 10.2; 2021: -4.9; 2022: 5.5; 2023: -5.9; 2024: 0.3; 2025: -0.1; 2026: -0.4; 2027: -1.1; 2028: -0.7.
- Identified external debt-creating flows (percent of GDP): 2018: 3.3; 2019: 8.0; 2020: 9.5; 2021: -8.0; 2022: 11.9; 2023: 5.1; 2024: 3.3; 2025: 2.6; 2026: 2.1; 2027: 2.3; 2028: 2.1.
- Current account deficit, excluding interest payments (percent of GDP): 2018: 2.8; 2019: 3.3; 2020: -0.2; 2021: 5.8; 2022: 7.0; 2023: 1.5; 2024: 1.5; 2025: 1.3; 2026: 1.1; 2027: 1.0; 2028: 0.8.
- Automatic debt dynamics (percent of GDP): 2018: -2.4; 2019: 5.3; 2020: 8.2; 2021: -13.5; 2022: 5.2; 2023: 2.4; 2024: 1.2; 2025: 0.8; 2026: 0.7; 2027: 0.6; 2028: 0.6.
  - Contribution from nominal interest rate (percent of GDP): 2018: 1.7; 2019: 1.9; 2020: 2.1; 2021: 1.5; 2022: 2.1; 2023: 2.3; 2024: 2.2; 2025: 2.2; 2026: 2.2; 2027: 2.2; 2028: 2.2.
  - Contribution from real GDP growth (percent of GDP): 2018: -2.3; 2019: -0.5; 2020: 4.5; 2021: -7.2; 2022: -1.9; 2023: 0.2; 2024: -1.0; 2025: -1.5; 2026: -1.6; 2027: -1.7; 2028: -1.7.
  - Contribution from price and exchange rate changes (percent of GDP): 2018: -1.7; 2019: 3.9; 2020: 1.6; 2021: -7.8; 2022: 5.0.
- External debt-to-exports ratio (percent): 2018: 208.6; 2019: 240.4; 2020: 245.7; 2021: 226.5; 2022: 217.9; 2023: 222.6; 2024: 220.3; 2025: 217.6; 2026: 217.9; 2027: 215.4; 2028: 213.6.
- Gross external financing need (in billions of US dollars): 2018: 66.5; 2019: 72.0; 2020: 73.6; 2021: 69.3; 2022: 91.6; 2023: 67.6; 2024: 73.1; 2025: 75.8; 2026: 68.6; 2027: 82.5; 2028: 85.9.
- Gross external financing need (percent of GDP): 22.5; 25.9; 28.9; 21.9; 30.4; 10-Year: 19.3; 10-Year: 20.2; 19.9; 19.7; 19.8; 19.7 (table presents decade labeling; values kept as in source).

### Scenario and sensitivity test outcomes (figures and narrative)
- Scenario with key variables at their historical averages: 71.7; 73.9; 76.8; 79.7; 81.4; 83.8; 3.8; 1.2 (values as presented in table).
- Shocks tested in figure panels:
  - Individual shocks are permanent one-half standard deviation shocks (note in figure caption).
  - Permanent 1/4 standard deviation shocks applied to real interest rate, growth rate, and current account balance.
  - One-time real depreciation of 30 percent occurs in 2024 (Real Depreciation Shock panel).
- Visual summary from charts:
  - Non-interest current account shock panel shows baseline and shocked paths (external debt in percent of GDP across 2018–2028).
  - Interest-rate shock panel and growth shock panel similarly show baseline and shocked paths with average projections indicated in boxes.
  - Combined shock and 30% depreciation scenarios produce larger deviations from baseline, with the 30% depreciation showing the largest spike in external debt.

### Sovereign risk and public debt sustainability (Annex II summary)
- Overall assessment: Low (Overall...Low).
- Near term: (not published in this case — note about near-term assessment applicability).
- Medium term: Low.
- Long term: Low.
- Debt stabilization in the baseline: Sustainable with high probability.
- Commentary highlights:
  - The projected debt path is expected to stabilize and GFNs will remain at manageable levels. Therefore, debt is assessed as sustainable with high probability.
  - The overall risk of sovereign stress is low, reflecting a relatively low level of vulnerability, including in the medium- and long-term horizons.
  - Long-term risks are assessed as low, as aging-related expenditure linked to health and pension are expected to be paired to higher revenues.
  - Medium-term risks are assessed as low, reflecting the strength of the fiscal framework in guiding fiscal policy and rebuilding buffers.
  - Public sector debt is assessed to be sustainable under a wide range of plausible shock scenarios and with high probability, with low medium-term sovereign and financing risks.
  - Medium-term structural fiscal consolidation plans, guided by the structural fiscal balance rule, are fully consistent with fiscal sustainability.
  - The authorities are aiming for an ambitious tax reform, not included in baseline scenario, to finance demands for higher social spending.

### Debt coverage, structure, and disclosures (selected points)
- Debt coverage in the DSA: central government perimeter was chosen; non-central government entities are insignificant for central government coverage.
- Subsector inclusion in baseline:
  - Budgetary central government: Yes.
  - Extra budgetary funds (EBFs): No.
  - Social security funds (SSFs): No.
  - State governments: No.
  - Local governments: No.
  - Public nonfinancial corporations: No.
  - Central bank: No.
  - Other public financial corporations: No.
- Commentary on contingent and state-contingent liabilities:
  - Authorities continually manage state-contingent debts, which are detailed in an annual report.
  - Both the withdrawal of private pensions and the expansion of credit guarantees (FOGAPE) are only expected to result in modest fiscal costs in the medium term.
- Public debt structure indicators (central government perimeter):
  - Residual maturity: 11.4 years.
  - The share of foreign currency debt increased in 2021 due to the pension withdrawals but is still relatively small and expected to return to historical levels.
  - Most of debt is traded on secondary markets.
  - Projections show composition by currency, holder, governing law, instrument, and maturity across 2013–2031 series (charts summarized in commentary).

### Baseline public debt projections and drivers (selected figures from Table 4)
- Public debt (percent of GDP): Actual 2022: 38.0; 2023: 38.0; 2024: 40.6; 2025: 41.7; 2026: 41.8; 2027: 41.3; 2028: 41.1; 2029: 39.9; 2030: 39.6; 2031: 38.7; 2032: 38.3.
- Change in public debt (percent of GDP): 2022: 1.7; 2023: 0.1; 2024: 2.5; 2025: 1.1; 2026: 0.1; 2027: -0.4; 2028: -0.3; 2029: -1.1; 2030: -0.3; 2031: -0.9; 2032: -0.4.
- Contribution of identified flows (percent of GDP): 2022: 1.3; 2023: 0.1; 2024: 2.2; 2025: 0.8; 2026: -0.2; 2027: -0.8; 2028: -0.6; 2029: -1.5; 2030: -0.7; 2031: -1.3; 2032: -0.8.
- Primary deficit (percent of GDP): 2022: -0.7; 2023: 2.3; 2024: 1.4; 2025: 0.8; 2026: 0.2; 2027: -0.3; 2028: -0.2; 2029: -0.3; 2030: -0.2; 2031: -0.2; 2032: -0.2.
- Noninterest revenues (percent of GDP): steady at 22.8 for multiple years in projection sequence.
- Gross financing needs (percent of GDP): 2022: 0.7; 2023: 4.9; 2024: 2.4; 2025: 3.9; 2026: 3.9; 2027: 0.7; 2028: 1.7; 2029: 0.5; 2030: 2.3; 2031: 0.8; 2032: 0.3.
  - Of which: debt service (percent of GDP): 2022: 2.9; 2023: 4.1; 2024: 1.9; 2025: 4.1; 2026: 4.7; 2027: 1.9; 2028: 3.0; 2029: 1.8; 2030: 3.5; 2031: 2.0; 2032: 1.5.
- Memo:
  - Real GDP growth (percent): 2022: 2.4; 2023: -0.2; 2024: 1.5; 2025: 2.2; 2026: 2.3; 2027: 2.4; 2028: 2.5; subsequent years 2.5.
  - Inflation (GDP deflator; percent): 2022: 6.7; 2023: 7.8; 2024: 3.3; 2025: 3.3; 2026: 3.2; 2027: 3.0; 2028: 3.0.
  - Nominal GDP growth (percent): 2022: 9.2; 2023: 7.5; 2024: 4.8; 2025: 5.5; 2026: 5.6; 2027: 5.5; 2028: 5.6.
- Commentary: Public debt will peak in 2026 and then gradually fall until 2032 under the assumption that the government adheres to its medium-term target of a broadly balanced fiscal position.

### Realism and medium-term risk analysis
- Realism analysis commentary:
  - The realism analysis does not point to major concerns, and the forecast track record does not reveal any systematic bias.
  - The projected fiscal consolidation is reasonable, when considering Chile’s history and other country experiences.
  - Growth in 2023 is expected to be lower than implied by standard fiscal multipliers, as it is largely driven by the normalization of households' liquidity position after the exhaustion of the pension withdrawals.
- Medium-term risk analysis (Table 6, selected indicators):
  - Debt fanchart width: 34.2 (pct of GDP).
  - Probability of debt non-stabilization (percent): 4.2.
  - Terminal debt-to-GDP x1: 5.9.
  - Debt fanchart index (DFI): 1.0 (Risk signal: Low).
  - Average baseline GFN (percent of GDP): 2.9.
  - Banks' claims on the general government (pct bank assets): 6.7.
  - Change in banks' claims in stress (pct banks' assets): 2.3.
  - GFN financeability index (GFI): 3.9 (Risk signal: Low).
  - Medium-term index: Low risk.
- Commentary: The debt fanchart and gross financing needs modules point to a low level of risk, underpinned by the government's commitment of keeping debt below a prudent ceiling of 45 percent of GDP, moderate gross financing needs, and the ability of the banking sector to act as a residual creditor under a stress scenario. The medium-term risk analysis also points to a low level of risk under a stress scenario of a natural disaster shock in the magnitude of 4.5 percent of GDP and a commodity price shock.

### Policy-relevant conclusions and implications (as presented in the source)
- Fiscal framework:
  - Medium-term structural fiscal consolidation plans, guided by the structural fiscal balance rule, are fully consistent with fiscal sustainability.
  - The government aims to keep debt below a prudent ceiling of 45 percent of GDP.
- Revenue and reforms:
  - The authorities are aiming for an ambitious tax reform, not included in the baseline scenario, to finance demands for higher social spending.
- Contingent liabilities and buffers:
  - State-contingent liabilities (pension withdrawals, credit guarantees) are expected to result in modest fiscal costs in the medium term; ongoing management and disclosure are highlighted.

*Source: Annex I and Annex II, "External Debt Sustainability Analysis" and "Sovereign Risk and Public Debt Sustainability Analysis" (selected tables and figures) from the provided IMF content unit.*

### 1.      The economy continued to adjust in the second quarter of 2023.

### 1.      The economy continued to adjust in the second quarter of 2023.

### Economic activity and labor market
- Seasonally adjusted real GDP contracted by 0.3 percent in 2023Q2 relative to 2023Q1.
- Demand-side drivers of the contraction: lower exports and continued weak growth of private consumption.
- Production-side contributors: weakening in manufacturing, construction, and trade activities.
- The three-month average of the unemployment rate stayed unchanged at 8.5 percent as of June.
- The 4-quarter moving average current account deficit declined to 4.3 percent of GDP in 2023Q2, from 9 percent in 2022Q4.

### Inflation and monetary policy
- Headline inflation slowed to 6.5 percent (yoy) in July, from 7.6 percent in June.
- Core inflation decelerated to 8.5 percent in July, from 9.1 percent in June.
- The Central Bank of Chile (BCCh) started its rate cutting cycle on July 28, lowering the monetary policy rate by 100 basis points to 10.25 percent (the first rate reduction since the policy rate reached a peak of 11.25 percent in October 2022).
- The BCCh cited the consolidation of the inflationary convergence process as the driver for the change and indicated future policy rate cuts will consider the evolution of the macroeconomic scenario and its implications for the trajectory of inflation.

### Exchange rate, international reserves, and foreign exchange intervention
- The Chilean peso (CLP) fluctuated at around 800 pesos per U.S. dollar from February to early July 2023, and depreciated to an average of 852 pesos per U.S. dollar in the first half of August.
- Factors cited for depreciation: narrowing of the CLP-USD interest rate differential, slowing growth momentum in China, and potential implications for commodity prices.
- Gross international reserves (GIR) increased by about US$1½ billion since early June; as of August 7, GIR stood at US$40.7 billion.
- The BCCh initiated a reserve accumulation program in mid-June aiming to lift reserves by US$10 billion over twelve months.
- The peso is described as free-floating and serving as a shock absorber; in response to excessive volatility observed in mid-2023, the BCCh conducted a temporary, transparent, and fully sterilized FXI program that lasted 11 weeks and involved interventions in the spot and forward foreign exchange market.

### Fiscal policy, fiscal pact proposal, and public finances
- The government unveiled details on a fiscal pact reform proposal, planning sequential legislative initiatives through May 2024.
- The detailed proposal comprises five categories:
  - (i) modernizing the tax system,
  - (ii) covering higher envisaged spending on universal guaranteed pensions, health care, care services, and security,
  - (iii) enhancing public spending efficiency, including through spending reviews and governance reforms,
  - (iv) incentivizing investment, enhancing productivity and reducing informality,
  - (v) adopting an income tax reform.
- The government proposes an expert commission to monitor implementation and mechanisms for ex post evaluations.
- The government is working to garner political support in a fragmented Congress, particularly for the proposed income tax reform.
- Authorities are implementing a multi-year consolidation plan aiming to achieve a structural balanced budget by 2026 (-0.3 percent of GDP) while maintaining public debt below 45 percent of GDP.
- A new tax reform bill is expected to be submitted to congress during March-May of next year.

### Financial sector resilience and regulatory reforms
- The financial sector is described as liquid, solvent, and well capitalized, supported by effective supervision and regulation.
- Implementation of Basel III has been resumed to strengthen financial buffers.
- The BCCh activated the counter-cyclical buffer as a precautionary measure.
- Authorities are working on alternatives to improve the crisis management toolkit and bank resolution framework; a set of reforms has been submitted to congress.

### FCL access, exit strategy, and macroeconomic projections (authorities’ statement)
- Authorities view the Flexible Credit Line (FCL) as a valuable precautionary safeguard and plan to treat access as precautionary while preparing for a gradual exit when external conditions allow.
- Reserve accumulation program since June 2023 aims to lift reserves to their historical average, at around 14 percent of GDP.
- Projections and expectations reported by authorities:
  - The positive activity gap is closing and may turn negative in the second half of this year.
  - The economy is projected to grow between -0.5 percent and 0.25 percent in 2023.
  - The economy is projected to gradually reach its potential growth rate of 2-3 percent in 2025.
  - Headline inflation is projected to return to the Central Bank of Chile (CBC)’s target of 3 percent in the second half of 2024.
  - The current account deficit is expected to moderate to 3.7 percent of GDP in the fourth quarter of this year and stabilize at around 4 percent in 2024 and 2025.
- Authorities emphasize commitment to fiscal responsibility, debt sustainability, a strong monetary policy framework, and a flexible exchange rate regime.

*Source: 1chlea2023005 - 1.      The economy continued to adjust in the second quarter of 2023.*

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_Source: https://www.imf.org/-/media/files/publications/cr/2023/english/1chlea2023005.pdf_