RaboResearch - Economic Research

Peru: losing steam

Country Report


The Peruvian economy, impacted by low commodity prices, has been growing below its potential. The mining sector remains the main driver for growth, while manufacturing and construction sectors remain depressed. Inflation pressures have intensified due to steady currency depreciation. 

Strengths (+) and weaknesses (-)

(+)      Sound fiscal position and economic management

Public debt remains low and the government had a negligible fiscal deficit of 0.1% in 2014. This showcases that the central government (despite the inefficient regional governments) can still secure a successful implementation of its policies that set a deficit target (1% of GDP) and limit increases of real expenditure and debt increases for the non-financial public sector.  

(+)      Potential for structural economic growth in the medium term

The economy has grown rapidly in the past decade and is likely to continue its growth path as high investment and savings ratio’s (one of the highest in the region) are supportive of investments.

(-)       Relatively high level of poverty and inequality

Despite a continued decline in the poverty levels, 22.7% of the population lived below the national poverty line in 2014. Regional inequality remains profound, whereby poverty in rural areas is 3 times higher than in urban ones. Given such high social inequality, risk of tensions is present.

(-)       Partially dollarized economy

Despite the current de-dollarization efforts, the economy remains highly susceptible to exchange rate shocks as well as gradual depreciation that is being witnessed at the moment. Furthermore, a substantial part of government debt is denominated in USD.

Key developments

1. Economic growth continues to slow down

The economy of Peru seems struggling to get back on track with sustaining the GDP growth levels in excess of 5 % that the country was accustomed to up until last year. And even though growth is expected to rebound slightly from 2.4% in 2014 to 3.4% this year, it is still disappointing. The drop in the growth rate has been caused both by declining commodity prices, as well as disappointing production levels of the main export commodities (copper and gold) due to production disruptions. Slightly higher growth expectations for 2015 are partially driven by a recovery in the mining and energy sector that expanded by 10.3% yoy in 1H 2015 as the country’s largest mines have increased their output. On the negative side, the manufacturing and construction sectors continue to be depressed, contracting by around 3% in 1H 2015, and also the fishing industry is expected to be impacted by the El Nino effects and weaker private investment. To tackle the declining economic growth amid the unfavourable external factors, in April 2015, the government introduced a new stimulus package equal to 0.8% of GDP in hopes that it will boost consumer spending and therefore stimulate the economy from within. Moreover, the National Government continues increasing public spending to finance major infrastructure projects, including an additional metro line in Lima and the Talara oil refinery. Also the Central Bank of Peru (CBP) has kept its interest rate low and has lowered bank’s reserve requirements (for loans issued in the local currency) to make more money available for investment. However, due to a weakening of the national currency, rising inflation (3.5% in 1H 2015 vs. the 3% target range’s upper bound) is constraining the governments and CBP’s options to further stimulate growth. Moreover, stimulus packages wouldn’t go unnoticed in the country’s fiscal balance that is expected to slide  into negative numbers, even though still staying within the deficit norm of 1% of GDP. On the other hand,  new mines and infrastructure projects, combined with the sound economic policy and an expectation for external shocks to fade away provide a certain degree of comfort regarding future growth prospects.

2. Currency depreciation exposes vulnerabilities, but risks remain contained

Lower revenues from commodity exports and USD strength are weighing heavily on the Peruvian currency. In the past year the sol has depreciated by 8.4%%, despite interventions by the Central Bank totalling 10bn in 2015. Luckily the government still has enough buffers (15 months of import cover) to contain high exchange rate volatility. However, the depreciation remains worrisome because of the still high dollarization of the economy. At the end of July 2015, 39% of credit was USD denominated and although that is a marked improvement from 70% recorded a decade earlier, it is still substantial. As the dollarization is also present on the deposit side, at 43% at the end of 2014, this does not pose a direct risk to the banks. However, currency mismatch with debtors could lead to higher delinquency rates, which at this moment do not pose a threat to the relatively healthy banking sector. Moreover, comfort can be derived from the fact that recent monetary policies managed to tackle the dollarization issue. By increasing reserve requirements on FX denominated loans and lowering the ones on domestic credit, the share of USD loans fell by 4.2ppts in 15H1, while in 2014 as a whole it fell by 2.1ppts. 

Figure 1: PEN exchange rate follows falling commodity prices
Figure 1: PEN exchange rate follows falling commodity prices Source: Macrobond, LME
Figure 2: Budget balance delves into deficit
Figure 2: Budget balance delves into deficitSource: EIU

3. Political vacuum leaves room for radical elements during upcoming elections in 2016

The president, Ollanta Humala of the ruling centre-left Gana Perú coalition, is in his final year in office and his government is extremely unpopular among the population that is completely disillusioned with Peru’s political class. In the past year the government has faced a series of scandals that has led to the disposition of some key figures, as well as the case involving Martín Belaunde Lossio that is still ongoing. The population begins to increasingly express its discontent, with protests not only in the mining sector, but also concerning the issues as diverse as malpractices of the local electricity company and youth labour law. Therefore, there is a clear need for a strong presidential candidate that would take over the office next year and would be able to address these issues and tackle the unnecessary social conflict, that begins to weigh heavily on the investment climate. Currently 2 candidates are leading the 2016 election polls: Keiko Fujimori (daughter of the former president Alberto Fujimori) and Pedro Pablo Kuczynski (former economy minister). Widespread discontent with the current government created room for the populist Fujimori who promises to break from traditional politics, and that creates uncertainty about how sound and business friendly future government policies will be. On the positive side, Peruvian leaders so far have proven to be pragmatic and making centrist shifts after the elections despite strong rhetoric during their campaigns. However, the current situation creates uncertainty about future policy and that might also hurt investments. 

Factsheet of Peru
Factsheet of PeruSource: EIU, CIA World Factbook, UN, World Economic Forum, Transparency International, Reporters Without Borders, World Bank.

Background information

Peru has a turbulent macroeconomic and political history. In the late 1980s, Peru suffered a deep economic crisis and experienced hyperinflation. Furthermore, there was a guerrilla war between the government and the Maoist Shining Path in the 1980s and 1990s. In a past decade Peru has become one of the fastest growing economies in Latin America. Both investment and consumption have grown rapidly, driven by strong commodity exports and appropriate economic policies. Despite a recent slump in GDP growth, investment in new mining projects is likely to continue supporting growth in the coming years. However, some mining projects remain highly controversial and face public opposition. This is partially related to Peru’s high level of (income) inequality, which has both a geographical and an ethnic character. The number of people that have an income below the national poverty line remains substantial, in spite of rapid improvement realised in recent years. The macroeconomic position of Peru is relatively strong. Public debt is very low and the fiscal deficit is manageable. Balance of payments risk is limited in spite of a sizeable current account deficit, as this deficit is still almost fully covered by FDI inflows. The country has a large stock of foreign exchange reserves. However, the level of dollarization of the economy remains substantial, even though it has substantially declined in recent years. Also, Peru primarily exports commodities, which makes the economy vulnerable to external price shocks. More diversification of the economy is needed to allow the economic and social development of the country to continue in the long term.  

Economic indicators of Peru
Economic indicators of PeruSource: EIU


Ksenija Vojevoda
RaboResearch Global Economics & Markets Rabobank KEO
Alexandra Dumitru
RaboResearch Netherlands, Economics and Sustainability Rabobank KEO

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