New Realities Shaping Chile's Outlook

IMF News, December 9, 2016

Source details

Publication: By Patrick Blagrave, IMF Research Department, December 9, 2016
Main finding: Potential growth in Chile has slowed.
Recent GDP performance:
- Chile’s GDP growth has averaged just 2 percent since 2014.
- Previous years’ rates were about 4 percent.
- By comparison, the average growth rate of Latin America’s six largest economies has been just 0.3 since 2014.
Causes of slowdown:
- Less dynamic external environment and reduced export demand.
- Permanently lower copper prices.
Supporting strengths:
- Flexible exchange rate.
- Credible inflation-targeting.
- Disciplined approach to fiscal policy.
- Recently enacted structural reforms.
IMF judgment: An important portion of the recent slowdown is due to weak potential growth and will be hard to reverse; policy should support short-term growth while building on structural reforms to boost medium-term potential.

External vulnerabilities:
- Chief external risk: any unexpected slowdown in China, which could lower copper prices and demand for other exports.
- Other external risks: weaker growth in the region; faster-than-anticipated increase in interest rates in the United States.
- Upside scenario: a fiscal expansion in advanced economies could raise external demand, boosting exports and copper prices and improving Chile’s terms of trade.
Domestic vulnerabilities:
- Consumer and business confidence is depressed, near levels not seen since the global financial crisis.
- Confidence could improve with passage of parts of the reform agenda but could be dampened by:
- Legal ambiguities in the new labor bill.
- Difficulty implementing the new corporate tax code.
Financial spillovers:
- High debt levels among nonfinancial corporations and strong sector-specific balance sheet interlinkages could amplify shocks.
- IMF estimate: a 100 basis point increase in Chile’s Emerging Market Bond Index spread—associated with a tightening of domestic credit provision—could reduce GDP growth by about 0.3 percentage points within the first year.

Short-term demand support:
- Monetary policy should remain supportive, easing further if disinflation pressures become broader.
- Fiscal consolidation is appropriate to maintain credibility, but this can proceed slowly.
Increase potential growth:
- Fast-track creation of a new Infrastructure Fund geared to attract private capital.
- Enhance workers’ skills further through more targeted professional and vocational training.
- Continue efforts to help small and medium-sized enterprises to grow and increase productivity.
Enhance the regulatory framework:
- Prioritize adoption of key Basel III regulations.
- Implement risk-based supervision for Chile’s insurance sector.
Pension reforms to reduce life-time income inequality:
- Gradually increase contribution rates to 15 percent.
- Increase female retirement age to 65.
- Increase both pension and solidarity pillars for current retirees.
- Fund a portion of increased benefits with indirect taxes.

Source: New Realities Shaping Chile's Outlook — IMF, December 9, 2016.