Colombia

Oxford Economic Country Briefings, Oct 27, 2008

Highlights and Key Issues

* Political uncertainties remain to the fore. President Uribe's government continues to face challenges from opposition tactics, possible heightened PARC activity, and allegations of former paramilitary links or "parapolitics". The petition for a referendum on a constitutional reform to enable Uribe to run for a third term in 2010 is still in play but he has yet to confirm that he will run.

* Economic concerns are also on the rise. Domestic demand has been slowing on the back of monetary tightening, curbing growth in manufacturing and construction. GDP grew by 3.7% in Q2 after 4.5% in Q1 and 8% a year earlier, while H1 growth was 4.1% versus 8.2% in H1 2007. Our 2008 GDP forecast has been cut to 3.3%, with 2.7% now seen in 2009.

* High world food and fuel prices have pushed up inflation. The annual rate reached 7.9% in August, up from 5.7% at end-2007, before easing to 7.6% in September but still well above the 2008 target of 3.5-4.5%. Interest rates were raised by 25bp in February and July but the 10% rate was held in August and September. The standstill may continue in Q4, despite a possible overshoot of the 2009 inflation target of 3-3.5%.

* The external accounts improved in H1 2008, with the current account deficit down to US$2.4bn from US$3.4bn in H1 2007. This largely reflects higher oil revenues, which led to a H1 trade surplus of US$1.5bn versus a deficit of US$900m a year earlier. Multilateral funding of up to US$2.4bn is being sought for 2009.

Overview

Politics remain unpredictable

* Complexities continue on the political front, not least with respect to the scenario for the 2010 presidential race. Plans have been advancing for another constitutional reform led by President Alvaro Uribe's allies in Congress to allow him to run for a third term. A petition with over 4m signatures requesting a referendum on this was sent to the electoral authority in August. Days prior to a 19 September signature verification deadline, Uribe indicated the petition could be withdrawn against the backdrop of opposition tactics to delay judicial and political reform proposals he sent to Congress in late August, amid a fresh flare-up of parapolitics allegations. In lateOctober, the petition remained in play but Uribe has still to clarify whether he will seek a third term in 2010 or perhaps contest the poll in 2014. In the interim, there are signs that the PARC guerrilla group is in the process of adopting an aggressive strategy under leader Wilson Cano to regain momentum after a series of defeats by the army this year.

2009 growth outlook deteriorates

* The pace of GDP expansion has slowed significantly this year after rising 8,2% in 2007 and averaging 7% in the past three years. Growth was still robust at 8% in Q4 2007, but eased to 4.5% in Q1 this year, well below 8.5% in Q107. The Q1 result was partly influenced by the timing of Easter, with fewer working days compared with a year earlier. GDP data for Q2 showed a further slowdown to 3.7%, yielding H1 2008 growth of 4.1%, versus 8.2% in H1 2007, as manufacturing grew by just 1.1% (and 1.6% in H1) with construction at 0.3%. The mining sector rose by 7.6% in Q2 (and 6.2% in H1), lifted by 9% growth in hydrocarbons as a result of high oil prices.

* Government officials had been working with a 2008 growth projection of 5%, but indicated on 20 August that 4.5% is more realistic, close to the middle of the 3.3-5.3% range projected by the central bank. After the Q2 data, finance minister Oscar Zuluaga cut the forecast to 4%. Our 2008 forecast has now been cut to 3.3%, with 2.7% seen in 2009. During October both central bank president Jose Dario Uribe and Zuluaga indicated that their 2009 forecasts are being further revised down in light of the global credit crisis and slower growth of local consumer credit, with Uribe expecting 4% and Zuluaga 3-4%. It is unclear whether changes previously signalled to the 2009 (COP140bn) draft budget sent to Congress at endJuly were finalised. Plans were previously in hand to reduce the central government budget deficit to 3% of GDP in 2009 from the 3.3% projected outturn this year, but these targets may prove difficult to achieve.

Monetary tightening on hold?

* Despite a monetary tightening begun in April 2006, the authorities are still confronting inflationary pressures exacerbated by high global food and energy prices. In H1 2008, prices rose 6% with the annual rate climbing to 7.2%, well above the central bank target range of 3.5-4.5%, warranting a 25bp rise in the benchmark interest rate to 10% in July, only the second increase this year although in May deposit requirements on stock and bonds purchases were raised to 50% from 40%. In July, the bank also launched a move to buy US$20m daily in the market to boost reserves. Annual inflation rose to 7.9% in August, before easing to 7.6% in September, and in both months the central bank held rates unchanged. Back in February, the central bank acknowledged a probable overshoot of its 2008 inflation target, but kept the 2009 target of 3-3.5%. An easing of food and fuel prices evident recently should help the inflation outlook, although after 6.5% in nine months the endyear rate will be above 7%. This underlines the current policy dilemma. But given that real interest rates are around 2% and the loosening now under way in the US and other leading economies, a rate rise looks very unlikely this month.