Interesting Times
The Colombian state still faces three main challenges to achieving peace: the demobilization and reintegration of the FARC fighters; reparations for victims; and rural development. The target date for finalizing the deal was recently postponed to an indefinite date -- but it’s likely that some agreement will be signed before yearend.
What will be the economic effects of a deal? President Juan Manuel Santos has naturally been very optimistic. We are more skeptical; in the short run, little is likely to change, but there should be a good long-run effect on the now-small rural economy. Other benefits will include a reduction in violent acts. Growth rates for peaceful regions of Colombia are between 2% and 3% greater, on average, than in regions in conflict. In agriculture, the impact is even greater: agricultural GDP grows between 3% and 4% faster in regions where there is no conflict. We estimate that eliminating violent acts should bring an increase in total annual GDP growth of approximately 0.3pp in the short run. There is also potential for new sectors to develop, especially in agribusiness. But peace alone won’t bring great immediate growth in this sector: Colombia also needs roads, investment in innovation and technology, and to ensure property rights. The country still has a long way to go in these areas.
Inflation trends show that demand is growing faster than warranted by current economic conditions, fueled mostly by high public spending (and to a lesser extent by private spending), putting additional pressure on prices, above the significant pressure exerted by the exchange rate. Inflationary pressure is weakening, though, as the currency strengthens somewhat, and El Niño’s effects dissipate. But it’s not clear what is happening with the dynamism of internal demand (for example, employment is still strong, credit is still growing rapidly). We expect the Central Bank to keep increasing rates to 7% or 7.25%, and inflation to be at 6.3%-6.5% by December. It should slowly converge toward target as we move into 2017.
After years of very poor performance, the industrial sector at last seems to be getting some traction, with a remarkable recovery over the past two quarters. While it is true that much of the recovery is coming from the reopening of the Cartagena oil refinery, many industrial sub-sectors, such as beverages, textiles, plastics and fabrication of mineral products, are also showing a good performance.
The Santos administration’s most important reform was the rescinding of the Uribe-era law allowing presidents to be reelected for a consecutive four-year term. Turns out, the public can be unhappy with its leader, when obliged to live with him for an additional four years. Uribe’s second term was problematic, and Santos’ is no less turbulent. We believe the change will favor governability. Four years may be a short tenure for a president. But we now know that the malaises derived from immediate reelections surpass the shortcomings of short governments.
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