Spending

Chile’s leftist government surprises with spending cuts

One of the world’s most dramatic post-Covid spending cuts is expected to generate a bigger-than-expected budget surplus for Chile’s leftist government this year, which will delight investors who had worried about the president’s costly campaign promises. radical Gabriel Boric.

“We expect a 1.6% surplus in gross domestic product this year,” said Finance Minister Mario Marcel. “This is the first surplus in nine years. The current government has made an effort to be disciplined, which means that our results this year will be better than expected.

Marcel, a technocrat who gained a reputation for caution in his previous role as governor of the country’s central bank, is adamant that the Boric administration will not repeat the economic mistakes made by leftist governments elsewhere in the region. .

“Several times, ambitious reforms were proposed which raised a lot of hope among the population, but which could not be continued later due to the weak economy and the lack of resources of the government. state,” Marcel told the Financial Times. “It’s not something we want to be exposed to.”

Chile’s caution comes as officials and economists worry that a spike in interest rates could put governments under financial pressure. The volume of outstanding IMF loans is expected to hit a record high this year, while borrowing costs in several emerging markets and some advanced economies, such as the UK, have soared.

Analysts fear that beyond next year, Santiago will struggle to deliver better public services without breaking the budget.

“The biggest challenge is to implement a very ambitious social spending program in pensions, housing, education and the care system without affecting the sustainability of economic growth and investments,” said Sebastian Rondeau, Southern Cone Economist at Bank of America. “It’s a big challenge.”

Finance Minister Mario Marcel said Chile is taking a cautious line to avoid the mistake others have made by adopting reforms that raise people’s hopes but then cannot be sustained © Cristobal Olivares /Bloomberg

The government, however, thinks it can increase spending by using tax reform to generate more revenue. Chile’s tax revenue is one of the lowest in the OECD, at 19.3% of GDP in 2020. Marcel said the planned changes would gradually increase tax revenue by about four percentage points of GDP by here 2026.

“In Chile, there is a very strong belief in politics, especially on the center-left, that if you don’t have sound public finances, you can’t make the reforms you want to adopt sustainable,” Marcel said. .

Investors have also been unsettled by a debate over Chile’s constitution, which began when the previous government accepted a demand from protesters for a new document. A draft charter produced by an elected assembly dominated by the far left was rejected by voters last month and discussions continue on how to move forward.

Marcel remains convinced that the revised charter will not lead to unrest. “What has become clear is that we are converging towards a more moderate constitutional framework,” Marcel told the FT in a separate chat ahead of the September 4 plebiscite.

Boric’s government took office in March promising to spend more on health, education and pensions. But he had to drastically curb the budget after the previous conservative administration led by Sebastián Piñera sparked a boom in consumer spending with a lavish Covid support package worth 14.1% of GDP, IMF figures show. . Early pension withdrawals further fueled spending.

Growth surged, with the economy growing 11.7% last year, but inflation also surged, prompting the central bank to tighten monetary policy. Chile began raising rates in July 2021 when Marcel was governor of the central bank, eight months ahead of the US Federal Reserve.

Chile’s central bank raised rates to 10.75% in September and Marcel said he expected “probably one last increase before rates stabilize and we start to see more results from the side of inflation”.

Citi analysts expect prices to rise 13.5% this year and rates to peak at 12% by December. They predict Chile’s growth will slow to 2% in 2022 and the economy will contract by 0.5% next year.

“In one year we have absorbed all the huge deficit we inherited last year,” Marcel told the FT. “We are much more advanced in stabilizing our economy compared to other countries.”

“If you compare the 2021 deficit with the surplus we will have this year, that means [a fiscal adjustment of] nearly 10 percentage points of GDP,” he explained. “Public spending has been cut by 24% in real terms.”

After stabilizing public finances, the government now plans a modest 4.2% expansion in spending next year, according to a draft budget last week. Most of the extra money will be used to fund better state pensions for nearly 2.3 million Chileans, with smaller sums for infrastructure.

President Gabriel Boric delivers a speech on the launch of Chile's tourism program
President Gabriel Boric took office in March promising to spend more on health, education and pensions © Cristobal Basaure Araya/SOPA/LightRocket/Getty Images

Marcel was convinced that the country could make more use of its natural resources to meet its spending targets and shift its economy to a more environmentally friendly footing.

The South American nation is the world’s largest producer of copper and the second largest producer of lithium. Mining, said Marcel, “is undergoing a major transformation from a so-called ‘dirty’ industry to a clean industry, using less water and more renewable energy. In our case, this is reflected in the use of water and energy sources.

The Boric administration wanted to channel some lithium revenue into developing environmentally friendly hydrogen production and export, he said.

The northern Chilean desert and its long coastline offer some of the most concentrated sources of solar and wind energy in the world. This opens the possibility of using abundant renewable electricity to produce non-polluting hydrogen, a green fuel. Marcel said the government was working with the World Bank and the Inter-American Development Bank to find ways to finance the ports and pipelines needed to develop the fledgling industry.

Rapid development will allow Santiago to pursue a sound fiscal policy, while achieving its ambitious social spending plans.

“Chile has always been considered a country with strong institutions, good macroeconomic policy and an open economy,” he said. “We aspire to add to this an eco-friendly economy, a green economy.”