Public Information Notice: IMF Concludes Article IV Consultation with Peru

March 19, 2001

Public Information Notices (PINs) form part of the IMF's efforts to promote transparency of the IMF's views and analysis of economic developments and policies. With the consent of the country (or countries) concerned, PINs are issued after Executive Board discussions of Article IV consultations with member countries, of its surveillance of developments at the regional level, of post-program monitoring, and of ex post assessments of member countries with longer-term program engagements. PINs are also issued after Executive Board discussions of general policy matters, unless otherwise decided by the Executive Board in a particular case.

On March 12, 2001, the Executive Board concluded the 2000 Article IV consultation with Peru and approved a one-year Stand-By Arrangement in an amount of SDR 128 million (see Press Release 01/9, March 12, 2001).1


In 1998-99 the economy weakened under the influence of the El Niño weather disturbance, a sharp drop in commodity export prices, and a liquidity squeeze stemming from turbulence in international financial markets. Output declined in 1998 and recovered only slightly in 1999. Employment fell. The external current account deficit increased in 1998, as export prices dropped, but narrowed in 1999 when domestic demand weakened. Weak domestic demand also helped to lower inflation. Bank credit slowed sharply, initially reflecting cuts in foreign credit lines after the Russian crisis, but subsequently owing to banks' concern about the debt servicing capacity of their clients. Bank loan portfolios deteriorated. As capital inflows declined, the currency depreciated significantly in real effective terms and international reserves fell; however, international reserves still remained at a comfortable level. The fiscal situation deteriorated over this period from balance in 1997 to a deficit of 3 percent in 1999.

Output recovered in the first half of 2000, but subsequently slowed markedly as private investment weakened because of heightened political uncertainty and as government spending was tightened to offset overspending prior to the elections in the first half of the year. The weakening in domestic demand contributed to a further decline in employment and the maintenance of low inflation. Strong demand for Peru's exports in 2000, together with weak domestic demand, reduced the external current account deficit to an estimated 3 percent of GDP. The combined public sector deficit, at 3 percent of GDP, exceeded the limit established by Peru's Fiscal Responsibility Law.

The deterioration in bank loans continued in 2000. In response to the weakening of the banking system, the authorities took additional steps to ease liquidity further and help bring about needed consolidation of the banking system. As banks remained cautious in their lending given the weak outlook for the business sector, bank credit continued to decline in 2000.

The program for 2001 assumes real GDP to grow between 2 and 3 percent, with inflation declining to between 2.5 and 3.5 percent, a further reduction in the external current account deficit, and a moderate accumulation of net international reserves that would keep gross reserves at about nine months of imports of goods and services and 60 percent of broad money. Consistent with Peru's Fiscal Responsibility Law, the combined public sector deficit would be reduced to 1.5 percent of GDP. The growth projection is predicated on a recovery in the second half of the year, driven by a pick-up in private demand as uncertainty subsides following the change in government.

Executive Board Assessment

While noting that the pickup in output growth in the first half of 2000 was short-lived and that economic activity continued to be weak, Directors concurred with the authorities' intention to focus their efforts on securing macroeconomic stability in the transition to a new government. In this regard, Directors welcomed the authorities' objective of reducing the overall fiscal deficit to the limit established by the Fiscal Responsibility Law for 2001.

Directors agreed with the authorities that the fiscal adjustment in 2001 falls appropriately on the side of current expenditure, as the slowdown in economic activity limits the scope for increasing revenues. They welcomed the government's commitment to safeguard expenditure on social programs, and supported the authorities' intention to work with the World Bank to improve the targeting and monitoring of social programs, and to ensure the allocation of adequate resources for these programs.

Directors expressed concern about recent changes in tax policy that did not turn out to be revenue neutral. They urged the authorities to resist pressures for granting tax breaks and relaxing tax administration in the period through the change in government. Directors stressed the need for preparing a comprehensive tax reform proposal by midyear, so that the next administration will be able to move rapidly to improve tax policy and strengthen tax administration, while ensuring an appropriate level of government revenue for 2002 and beyond.

Directors advised the authorities to resist proposals to force banks to refinance consumer debt, to introduce legislation that could weaken the private pension system, and to temporarily prohibit layoffs in the private sector. Several Directors also expressed concern about the recent measures to give employees free access to their current contributions to the unemployment protection fund. Given its short-term nature and neutral fiscal effect, a few other Directors did not think that this move entailed much risk.

Directors urged the authorities to continue their current efforts to strengthen the banking system along the lines recommended by the FSAP mission. They welcomed, in particular, the intention to improve the consolidated supervision of financial entities, strengthen anti-money laundering statutes, and to refrain from committing public resources to support specialized regional or sectoral financial institutions.

Directors noted that there has been a significant consolidation of the banking system over the last two years, but considered it critical that the supervisory agency remain vigilant in ensuring that all banks have adequate capital bases and resist pressures to ease existing regulations.

Directors endorsed the authorities' monetary policy stance for 2001 and commended the recent steps taken by the central bank to improve the transparency of monetary policy. They supported the intention to examine the adoption of a formal inflation targeting framework for monetary policy in Peru, and encouraged them to carefully assess the advantages and the requirements. Directors agreed that the current flexible exchange rate policy has served the economy well, and supported the authorities' intention to continue with the present regime.

Directors considered that the proposed steps in the area of privatization and the awarding of private sector operating concessions are appropriate. They noted, however, that over the last few years progress has lagged in these areas, and urged the authorities to meet their 2001 objectives. Directors also welcomed Peru's continued commitment to trade liberalization.

Directors noted that the authorities' recent efforts to diversify debt instruments and deepen the domestic capital market and encouraged them to continue to pursue a prudent debt management strategy.

Peru: Selected Economic Indicators

  1997 1998 1999 Prel.

(Annual percentage change, unless otherwise indicated)
Real economy          
Real GDP 6.7 -0.4 1.4 3.6 2.0-3.0
Inflation 1/ 6.5 6.0 3.7 3.7 2.5-3.5
Terms of trade 5.6 -13.8 -6.6 -0.6 2.0
Real effective exchange rate
(depreciation -) 1/ 2/
7.4 -11.1 -2.5 9.8 ...
Nominal exchange rate (in soles per U.S. dollar) 1/ 2.72 3.13 3.48 3.52 ...
Money and credit          
Base money 19.2 5.5 17.0 -4.0 6.0
Broad money 3/ 15.0 0.2 4.3 2.2 4.2
Credit to private sector 3/ 27.4 7.8 -2.3 -1.9 3.0
(In percent of GDP, unless otherwise indicated)
Savings and investment          
Gross domestic investment 24.6 24.2 22.0 20.6 20.0
National savings 19.4 17.8 18.5 17.6 17.6
External savings 5.2 6.4 3.5 3.0 2.4
Balance of payments          
Current account -5.2 -6.4 -3.5 -3.0 -2.4
Capital and financial account 8.4 4.0 2.0 2.7 2.8
Gross official reserves (in months of imports of goods and services) 1/ 12.3 13.1 10.8 9.9 9.3
Gross official reserves (in percent of broad money) 1/ 78.2 73.4 65.7 62.4 59.5
Public sector          
Combined public sector primary balance 4/ 1.9 1.3 -0.8 -0.7 0.8
Combined public sector overall balance 4/ 0.0 -0.6 -3.0 -3.0 -1.5
Public sector medium- and long-term external debt 33.3 35.6 38.7 36.1 35.9

Sources: Central Reserve Bank of Peru; and Fund staff estimates and projections.

1/ At end of period.
2/ Based on Information Notice System.
3/ Flows in foreign currency are valued at program exchange rate.
4/ Revenue excludes privatization receipts.

1 Under Article IV of the IMF's Articles of Agreement, the IMF holds bilateral discussions with members, usually every year. A staff team visits the country, collects economic and financial information, and discusses with officials the country's economic developments and policies. On return to headquarters, the staff prepares a report, which forms the basis for discussion by the Executive Board. At the conclusion of the discussion, the Managing Director, as Chairman of the Board, summarizes the views of Executive Directors, and this summary is transmitted to the country's authorities. This PIN summarizes the views of the Executive Board as expressed during the March 12, 2001 Executive Board discussion based on the staff report.


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