Peru in good position to weather political crisis - Capital Economics
Latin America Economics

Peru in good position to weather political crisis

Latin America Economics Update
Written by Quinn Markwith

The dissolution of congress by President Martin Vizcarra and his heated stand-off with the opposition will likely cause a sell-off in markets and further political gridlock. But as things stand, we doubt that this will prevent Peruvian GDP growth from recovering over the next year.

  • The dissolution of congress by President Martín Vizcarra and his heated stand-off with the opposition will likely cause a sell-off in markets and further political gridlock. But as things stand, we doubt that this will prevent Peruvian GDP growth from recovering over the next year.
  • The president’s cabinet lost a vote of confidence yesterday, prompting Mr. Vizcarra to dissolve congress. The opposition repudiated the decision by holding a snap vote to suspend the president and proceeded to swear in vice president Mercedes Araoz as leader. Last week, the sol weakened by 1% against the dollar when lawmakers first rejected president Vizcarra’s motion for early elections. (See Chart 1.) The political situation remains unclear. But on the economic front, we would highlight the following key points.
  • Financial conditions are loose, and Peruvian markets have a good track record of weathering political turmoil. Equities and the sol have come under pressure in recent days, and a modest tightening of financial conditions is likely. But financial conditions are still very loose by historical standards. (See Chart 2.)
  • During the 2017/18 political scandal, which forced Mr. Vizcarra’s predecessor to resign, the sol experienced a very mild sell-off. Even if the political crisis worsens further, history suggests that overall financial conditions will weather it well. (See Chart 1 & 2 again.) Some political uncertainty has been incorporated into our forecast for the sol, and we anticipate a further fall by around 2.0% against the dollar by end-year, taking it to 3.45/$US. (See our recent Update).
  • One reason for the resilience of Peruvian markets is that the economy’s balance sheets are strong. The budget and current account deficits will likely end the year at just 1.5% of GDP (see Chart 3), and public debt is low (at 27% of GDP last year). If the crisis impedes fiscal reform and or budget plans, Peru’s economic recovery shouldn’t be derailed. Local government spending is likely to rise next year (worth roughly 40% of government spending), and the boost from this is likely to be enough to offset any disruptions in spending at the central government level. (See Chart 4, and our recent Update).
  • Admittedly, if the political situation becomes much more unstable, the potential disruptions to the economy would require us to revisit our forecasts. But for now, we are not revising our forecast for GDP growth to recover from 2.5% y/y this year to 4.0% y/y in 2020.

Chart 1: Peru Sol vs. $US

Chart 2: Peru CE Financial Conditions Indicator

Chart 3: Budget & Current Account
Forecasts (% of GDP)

Chart 4: Local government Investment Spending
(% y/y, PEN Current Prices)

Sources: Refinitiv, Bloomberg, Capital Economics


Quinn Markwith, Latin American Economist, +44 20 7808 4072, quinn.markwith@capitaleconomics.com