Chile Seeks to Spend its Way Out of Crisis at a Hefty Price
Chile Seeks to Spend its Way Out of Crisis at a Hefty Price
(Bloomberg) --
Chile is gambling its status as a pro-market poster child as the government scraps plans to cut debt in favor of at least $1.5 billion per year in additional social spending to appease protesters.
With violent demonstrations entering their second month, officials now are planning a wider fiscal deficit target in 2020 that could grow even larger in coming years as citizens demand more generous wages and pensions, as well as a new constitution. That move may fan further increases in public debt that’s already risen to 26% of GDP from 5.2% in 2008.
At stake is not only social peace, but also Chile’s reputation for fiscal prudence that’s earned it the highest sovereign debt rating in Latin America, on par with China and Israel. While the government has some room to boost spending to head off more unrest, President Sebastian Pinera has tried to resist to pressure to implement populist solutions, telling reporters just last week that “we have to be careful of populism and demagoguery” and ensure the economy has “solid foundations.”
Yet the government has had little choice other than loosening the purse strings. In one of his first announcements after assuming as finance minister last month, Ignacio Briones increased this year’s fiscal deficit target to 2.9% of gross domestic product, from 2% previously. Just on Tuesday, officials said they will present an economic reconstruction plan to address the destruction left after weeks of looting.
“What the government has announced as new spending is the just the starting point,” said Felipe Alarcon, an economist at financial services firm EuroAmerica. “We don’t have final word on how much the measures will cost.”
Read more: Chile’s President Warns Against Populism After Social Unrest
Rainy Days
Some economists point to Chile’s stockpile of savings as evidence it can weather the storm. Its two sovereign wealth funds, the Economic Stabilization Fund (FEES) and the Pension Reserve Fund (FRP), have more than $20 billion in assets, and the government has said it plans to use $2.4 billion from the FEES to bankroll social spending.
There’s also evidence that taxes have room to go up. Chile collected 20% of GDP in tax revenue in 2017 versus an average 34% for countries in the Organisation for Economic Co-operation and Development, or OECD. Only Mexico collects less, at 16%. France collects the most, at 46%.
“Any increase in spending will have to be compensated for,” said Sebastian Diaz, an economist at Pacifico Research. “That means more taxes.”
Credit Ratings
Credit rating companies aren’t concerned, yet. For Fitch Ratings Inc., the government has been pragmatic in its announcement of new taxes and the use of sovereign funds.
“We expect Chile’s government debt to gradually increase from current levels but remain well below the ‘A’ median of 48% of GDP,” said Richard Francis, Fitch’s director of sovereign ratings.
Meanwhile, Moody’s Investors Service’s decision last year to downgrade its Chile rating was based in part on spending pressure. “One of our arguments was that social demands for more spending and public services would pressure public finances and make it harder for the government to implement fiscal consolidation as they had announced,” said analyst Ariane Ortiz-Bollin.
Neither Fitch nor Moody’s specified a fiscal deficit figure that could trigger fresh downgrades, arguing that ratings changes take into account a range of factors. For example, China has the same credit rating than Chile, but its debt-to-GDP ratio stands at 37%, compared to 61% in Israel, said Moody’s Ortiz-Bollin.
As protests rage on and Pinera faces an emboldened political opposition, more spending may be the only solution, said Alejandro Fernandez, an economist at consultancy firm Gemines Consultores. He said Chile has room to widen its fiscal deficit to 3.5% of GDP, as long as it comes with a plan to bring that number back in line in the medium to long-term.
“People may get the idea that Chile is letting its hair loose and turning into the next Argentina,” he said. “But I think it’s the only way to avoid a collapse.”
To contact the reporter on this story: Eduardo Thomson in Santiago at ethomson1@bloomberg.net
To contact the editors responsible for this story: Daniel Cancel at dcancel@bloomberg.net, Matthew Malinowski, Walter Brandimarte
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