peru economic outlook 2q18 - bbva research

BBVA Research - Peru Economic Outlook 2Q18 / 1

Peru

Economic Outlook

2Q18April 2018


Contents

01

02

Economic activity

Financial markets

03 Inflation

04 Monetary policy

05 Risks

Key messages

A difficult start to the year for the economy. Political tensions and problems in

some sectors (mining, oil & gas and construction) had a negative impact on

the performance of economic activity

We are projecting growth of 3.2% in 2018 and 3.5% for next year. The forecasts take into account a

favourable international environment for Peru. On the domestic front we are assuming a calmer political

scenario, a fiscal stimulus in 2018 and a commencement of the deficit reduction by the government next

year.

The new administration faces some significant challenges. In the short term, reactivating the economy

and adopting measures to ensure fiscal sustainability. In the long term, the agenda for boosting

productivity remains outstanding.

Financial markets continued to perform well in the first quarter in spite of the volatile environment. In

particular, we expect the Peruvian currency to continue its slight tendency to appreciate in a context of

substantial trade surpluses and capital inflows on the financial side. We are projecting a year-end

exchange rate of between S/.3.20 and S/.3.25 to the US dollar

Central Bank in pause mode in the short term In a context without inflationary or exchange rate pressures

and in which much depends on the gradual recovery of domestic demand, we estimate that Central

Reserve Bank of Peru (BCRP) will hold its base rate at 2.75% for the next few months.

The risks of deviation from our growth forecasts for 2018 and 2019 are balanced. Externally, downward bias if

Federal Reserve makes more aggressive adjustments, China’s growth slows and/or protectionism intensifies.

Domestically, upward bias if the political environment improves and if any large-scale mining project is carried

out


01Economic activity


A difficult start to the year for the economy: (i) high political tensions,

uncertainty and…

Peru: political tension index Resignation

of KuczynskiStart of

impeachment

proceedings

Odebrecht

Preventive

detention

of Ollanta Humala

and Nadine Heredia

Source: BBVA Research

0

20

40

60

80

100

120

Jul-15 Oct-15 Jan-16 Apr-16 Jul-16 Oct-16 Jan-17 Apr-17 Jul-17 Oct-17 Jan-18

Index of political tensions moving three-month average


Construction

“Construction Club” (corruption investigation)‘Correo’ daily newspaper, 6 March

…(ii) problems in some sectors

Mining

Maintenance of the Cuajone (Southern) plant and lower grade ore in some

operations.

Oil and gas

Rupture of TGP LNG pipeline in February


In this context, first quarter growth will be lower than was forecast

three months ago

GDP 2018(Chg. % YoY)

*Estimated

Source: Central Reserve Bank of Peru and Ministry of Economy and Finance (IFMS)

Political tensions

Problems in sectors:

4.43 months ago

Mining

Oil and gas

Construction

3.2

2.3

2.6

2.9

2.2

Q1-17 Q2-17 Q3-17 Q4-17 Q1-18*


We project that GDP will grow by 3.2% in 2018 and 3.5% in 2019

Source: Central Reserve Bank of Peru and Ministry of Economy and Finance (IFMS)

We project that GDP will grow by 3.2% in 2018 and 3.5% in 2019

Robust and synchronised global growth

Attractive metal prices

Fed continues with monetary stimulus

01 External factors

Political détente, at least in the short term

Acceleration in public spending in the

remainder of the year

Consolidation of fiscal accounts starting in

2019

02 Internal factors

GDP 2018(chg.% real YoY)

These projections assume:

2.3

3.2

3.5

2017 2018 2019

Projection


External factors: (i) robust and synchronised global growth

…but with greater uncertainty

The pace of global growth

continues...

...thanks to the recovery in

investment and trade

01Economic policies are

extending the cyclical recovery

The US fiscal stimulus could

underpin the other areas

02Greater financial volatility

The unusual environment of

low volatility has been left

behind

03

Normalisation of central banks’

monetary policy somewhat

faster than expected at the

Federal Reserve, while the

ECB has already taken the first

steps

04Uncertain effect of US

protectionist measures

The direct effect of those

already been approved has

been limited, but they could

herald more aggressive

measures

05Global risks

Greater in the short term

due to a possible escalation

of protectionist measures

06



Source: BBVA Research and national sources


Upward revision in the US and the euro zone

The tax reform will have a direct

positive effect on growth

The Fed will continue to normalise

its monetary policy

Risk of protectionism

The headwinds deriving from

politics and trade could moderate

growth in 2018

New economic and political

goals

Progress in the ECB’s

exit from QE, avoiding

the generation of

tensions

Trade and investment

favour the expansive

cycle in 2018

USA CHINA EURO ZONE


Down

Up

Unchanged

2018

3.82019

3.8

World

2018

2.82019

2.8

USA

2018

2.02019

2.2

Mexico

2018

2.02019

3

Colombia

2018

4.52019

4.3

Turkey

2018

2.32019

1.8

Euro zone

2018

6.32019

6.0

China

2018

3.22019

3.5

Peru

2018

3.22019

3.2

Chile

2018

2.62019

3.3

Argentina

2018

2.92019

2.5

Spain


South America

2018

1.22019

2.6



External factors: (ii) metal prices at attractive levels

Source: Bloomberg and BBVA Research

Copper price(dollars per pound)

Global growth provides support to

industrial metals (average prices

higher than in 2017)

Nonetheless over the course of the

year prices will gradually correct

downwards as non-trading

positions unwind (in the case of

copper)

Domestic effects on activity This

will favour private sector

investment in mining

Projection

1.5

2.0

2.5

3.0

3.5

4.0

Q1-13 Q2-14 Q3-15 Q4-16 Q1-18 Q2-19


1.0

1.5

2.0

2.5

3.0

3.5

Nov-17 Jun-18 Jan-19 Aug-19

External factors: (iii) Federal Reserve continues with the process of

monetary adjustment

Source: Bloomberg and BBVA Research

US Federal Reserve rate(%)

Increased public spending. Since

there is very little slack in the US

economy, this boost will be

transmitted to prices, requiring the

Fed to become more aggressive

Domestic effects on activity.

Increased cost of financing

investment

2018 2019

The market (futures)

anticipates two more

hikes in 2018

We foresee three

rate hikes of 25 bps

each in the

remainder of 2018


Internal factors


Implementing provision needed for Law No. 30737

(on reparations for corruption)

01 Political détente, at least in

the short term

02 Acceleration in public

spending in the remainder of the

year

Panamerican

Games

Reconstruction Major infrastructure

projects (Line 2 of

the Lima Metro)


Growth in activity in 2018: Construction will stand out among sectors,

and Investment will be the leading expenditure item


Construction and non-primary

manufacturing (fiscal boost)

Services (boosted by the Construction

sector)

Fisheries (bigger anchoveta catch)

Public investment (fiscal boost)

Private investment (especially in the

mining sector)

Drivers

GDP(chg. % real)

3.2%2018

Sectors

Demand


Growth in activity in 2019: greater dynamism of Construction and

private sector investment


Construction and non-primary

manufacturing (greater investment in

mining)

Private investment (greater investment

in mining: Mina Justa and expansion of

Toromocho, among others)

Drivers

3.5%2019

Sectors

Demand

GDP(chg. % real)


The new growth forecasts for 2018-2019 have been revised downwards

relative to those projected three months ago

GDP(chg. % real)

2018

First-quarter growth, at 3.2%, less

than forecast (4.4%):

2019

More conservative forecast,

waiting for steady improvement to

set in in the climate for doing

business

Source: Central Reserve Bank of Peru and

BBVA Research

3.5

3.8

3.2

3.5

2018 2019

3 months ago Actual


Short- and long-term challenges faced by the

new administration

Short-term challenges:

Reactivating the economy and ensuring fiscal

sustainability

Long-term challenges:

Agenda for boosting productivity remains outstanding


Short-term challenges: (i) reactivating the economy

Greater reach by type of

business affected

01

Reparations to be withheld: in

what form? how much? and

how?

02

Incentives to collaborate with

the authorities

03

Need to

normalise the

Construction

sector

Law 30737 better than

Urgent Decree DU-003

Why?

Implementing regulations

needed


Short-term challenges: (ii) ensuring fiscal sustainability

Fiscal balance*(% of GDP)

Source: MEF

*Non-financial public sector.

Gross public sector debt(% of GDP)

2120 20

23 2425

28 28 28 28

20

12

20

13

20

14

20

15

20

16

20

17

20

18

20

19

20

20

20

21

MEF

Source: MEF

2.3

0.9

-0.3

-2.1-2.6

-3.1-3.5

-2.9

-2.1

-1.0

2012 2014 2016 2018 2020

MEF fiscal

consolidation

-5 pp

of GDP


Short-term challenges: (ii) ensuring fiscal sustainability requires

increasing government revenues and…

Tax revenues*(% of GDP)

The decline in revenues is

explained by:

• Deterioration in terms of trade

• Decline in economic growth

• Tax measures implemented between 2012

and 2016

• Greater tax delinquency

• Increased tax refunds

What can be done?

• Approve the implementing regulations of the

General Anti-Tax Evasion Act

• Rationalise tax exemptions (the Government

foregoes revenues equivalent to 2.2% of

GDP)

* General Government

Source: Central Reserve Bank of Peru

23

18

2012 2017

-5 pp


Short-term challenges: …containing increases in current spending

Fiscal expenditure*(% of GDP)

Increase in current spending

explained by:

• Wage increases in the education, healthcare

and defence sectors

• Increase in hiring of CAS (administrative

service contract) workers

What can be done?

• Review with Congress the inclusion of

276,000 CAS workers in the State workforce

(cost: 0.4% of GDP)

• Review the standardisation of military and

police pensions (cost: 0.1% of GDP)

* General Government

Source: Central Reserve Bank of Peru

19.6 20.0

13.815.3

5.84.7

2012 2017

Current Capital


Gross public sector debt(% of GDP)

Source: Central Reserve Bank of Peru and BBVA ResearchSource: Central Reserve Bank of Peru and

BBVA Research

2.3

0.9

-0.3

-2.1

-2.6

-3.1-3.4

-3.0

-2.5-2.2

-2.0

2012 2013 2014 2015 2016 2017 2018 2019 2020 2021 2022

BBVA Research

consolidation

0

10

20

30

40

50

60

20

02

20

03

20

04

20

05

20

06

20

07

20

08

20

09

20

10

20

11

20

12

20

13

20

14

20

15

20

16

20

17

20

18

20

19

20

20

20

21

20

22

Limit set by the

fiscal rule

Projection

Fiscal balance*(% of GDP)

*Non-financial public sector.

Short-term challenges: We therefore estimate that fiscal consolidation

will be more gradual


5.0

7.5

9.1

1.0

8.5

5.8

3.3

4.0

2.53.2

3.5 3.4

2003 2006 2009 2012 2015 2018 2021

Long-term challenges: ensuring higher sustainable growth

Contribution to potential GDP growth(percentage points)


GDP(Chg. %

YoY)

Structural reforms

not taken into

account

Source: Central Reserve Bank of Peru and BBVA Research

Projection

0

1

2

3

4

5

6

7

2001 2003 2005 2007 2009 2011 2013 2015 2017

Capital Labor Total factor productivity

0

1

2

3

4

5

6

7

2001 2003 2005 2007 2009 2011 2013 2015 2017


02Financial markets


Solidity of macro fundamentals lend support to domestic financial

markets

Exchange rate(USD/PEN)

Rate of Sovereign Bond 2023(%)

Source: Bloomberg Source: Bloomberg

3.15

3.20

3.25

3.30

Oct-17 Dic-17 Feb-18 Abr-18

Impeachment

process

Fed more

aggressive and

resignation of

PPK

Political

distension

3.0

3.4

3.8

4.2

4.6

Oct-17 Dic-17 Feb-18 Abr-18

Political

distension

Oct- 17 Dec-17 Feb-18 Apr-18 Oct- 17 Dec-17 Feb-18 Apr-18


Going forward? Pressure on the PEN to appreciate due to the

significant trade surplus and…

Balance of trade(US$ billions)

Commodity prices

Source: Central Reserve Bank of Peru and BBVA Research Source: Central Reserve Bank of Peru and BBVA Research

Copper(US$cents/lb)

Gold(USD/troy ounce)

Previous projection Previous projection

265

270

275

280

285

290

295

300

305

2017 2018p

1235

1240

1245

1250

1255

1260

1265

1270

1275

1280

2017 2018p

-1.5

-2.9

1.9

6.36.6

5,3

2 014 2 015 2 016 2 017 2018 p


… the capital inflows on the financial side

FDI in mining (reinvestment of

profits)

Fiscal deficit (greater supply of

public debt, with demand coming partly

from non-residents)

Attenuated by…

Rather more aggressive Fed (four

rate hikes in 2018, each of 25 bps)

AFPs (pension funds) (increase in

limit on investment abroad)

Central bank intervention on the

currency market

Source: Bloomberg

Financial account*(US$ million)

*Errors and omissions excepted

5,472

4,345

5,239

2016 2017 2018


We project that the exchange rate will hold fairly steady in 2018,

showing a slight upward trend in the following year


Exchange rate(USD/PEN)

Projection

Factors determining the

exchange rate in 2018 and 2019

3.20

3.25

3.253.30

2.95

3.05

3.15

3.25

3.35

3.45

3.55

Jan-16 Nov-16 Sep-17 Jul-18 Dec-19


03Inflation


Inflation is temporarily below the lower limit of the target range, and

inflationary expectations are holding steady


Inflation: Headline, Minus food and

energy, and Core (Chg. % YoY in CPI)

Inflationary expectations at one- and two-

year horizons*

(%)

* Corresponds only to economic analysts and financial system.



In the remainder of the year we expect inflation to tend towards the

centre of the target range

Normalisation of prices especially

food prices

Demand pressures will remain

limited

Exchange rate relatively steady


Inflation(chg. % YoY CPI)

Projection


04Monetary policy


34

Central Bank has been accentuating the monetary stimulus since the

second quarter of last year


Real interest rate*(%)

*Ex ante (with expectations of inflation at one year)

Position of monetary policy(difference between the real rate and the neutral ratein percentage points)


Contractive

Expansive

Inflation and

expectations start to fall

-1.5

-1.3

-1.1

-0.9

-0.7

-0.5

-0.3

-0.1

0.1

0.3

Jan-16 Jul-16 Jan-17 Jul-17 Jan-18Mar-18


Monetary pause for the rest of the year

Baseline scenario: rate at 2.75% in

the next few months

Involves boost in public spending,

beyond mere normalisation

Involves measures tending to

increase inflation and inflationary

expectations around 2%

If fiscal momentum is weaker than

forecast, the Central Bank could

offset it with a greater monetary

stimulus


Monetary policy reference rate (%)

2.75Mar-18

2.75

Projection

2.0

2.5

3.0

3.5

4.0

4.5

Aug

-13

Nov-1

3

Fe

b-1

4

Ma

y-1

4

Aug

-14

Nov-1

4

Fe

b-1

5

Ma

y-1

5

Aug

-15

Nov-1

5

Fe

b-1

6

Ma

y-1

6

Aug

-16

Nov-1

6

Fe

b-1

7

Ma

y-1

7

Aug

-17

Nov-1

7

Fe

b-1

8

Ma

y-1

8

Aug

-18

Nov-1

8


05Risks


External Domestic

Intensification of trade war

More aggressive Fed

Sharper slowdown in China

Improvement in the political

environment

Slower normalisation of the

Construction sector

Development of major mining

projects such as Quellaveco


We consider that these risk factors are balanced

Upward bias

Downward bias

Risks of deviation from growth forecasts for 2018 and 2019


Summary of projections


Macroeconomic projections

Forecast closing date: 12 April 2018

Source: Central Reserve Bank of Peru and BBVA Research Peru

*Monetary policy rate

2012 2013 2014 2015 2016 2017 2018 (p) 2019 (p)

GDP (% YoY) 6.0 5.8 2.4 3.3 4.0 2.5 3.2 3.5

Domestic demand (excl. inventories, % YoY) 9.8 6.4 2.5 2.2 0.9 1.7 3.3 3.3

Private Spending (% YoY) 6.5 7.2 1.9 2.7 1.3 2.0 3.3 3.3

Private Consumption (% YoY) 7.4 5.7 3.9 4.0 3.3 2.5 2.7 3.0

Private investment (% YoY) 15.6 7.1 -2.2 -4.2 -5.7 0.3 3.0 4.5

Public spending (% YoY) 11.6 8.1 3.6 3.6 -0.3 -0.1 6.1 2.7

Public spending (% YoY) 8.1 6.7 6.0 9.8 -0.5 1.0 6.1 2.3

Public investment (% YoY) 19.5 11.1 -1.1 -9.5 0.2 -2.8 6.0 3.8

Exchange rate (vs. USD, EOP) 2.57 2.79 2.96 3.39 3.40 3.25 3.23 3.26

Inflation (% YoY, EOP) 2.6 2.9 3.2 4.4 3.2 1.4 2.0 2.4

Interest rates * (%, eop) 4.25 4.00 3.50 3.75 4.25 3.25 2.75 3.25

Fiscal Balance (% GDP) 2.3 0.9 -0.3 -2.1 -2.6 -3.1 -3.4 -3.0

Current Account (% GDP) -2.8 -4.7 -4.4 -4.8 -2.7 -1.3 -1.3 -1.8

Exports (billions of USD) 47.4 42.9 39.5 34.4 37.0 44.9 48.3 49.2

Imports (billions of USD) 41.0 42.4 41.0 37.3 35.1 38.7 41.7 43.3


Peru

Economic Outlook

2Q18April 2018


This report has been produced by the Peru Division

ENQUIRIES TO: BBVA Research Peru Av. República de Panamá 3055, San Isidro, Lima 27, Peru. Tel: + 51 12112042 - [email protected] - www.bbvaresearch.com

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peru economic outlook 2q18 - bbva research

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