MACRO REPORT: Major risks to Peru's 2017 growth

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Monday, April 10, 2017

Despite the fact that Peru is the fastest growing economy in South America, President Pedro Pablo Kuczynski (pictured) has seen his popularity plummet since mid-2016.

The economic success story is under assault from high unemployment, rising food prices, and the massive damage caused by the coastal El Niño weather phenomenon, which has led to reduced growth projections for this year.

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Coastal El Niño is an anomalous 5-6°C warming of the maritime strip close to the Pacific coast, which causes enough humidity to produce heavy rains.

Ratings agency Moody's estimates that the damage from the rains will probably dilute the stimulus package of 5.5bn soles (US$1.7bn) that the government had announced. As a result, Moody's cut its 2017 growth forecast from 4% to 3.7%. If the bad weather extends into May, the agency said its growth projection could be cut to 2.4%.

The central bank also cut its GDP growth prediction for 2017 from 4.3% to 3.5%.

Estimations of the reconstruction cost vary widely between US$7bn by local consulting firm Maximixe and US$15bn by defense minister Jorge Nieto Montesinos.

CPI

The consumer price index in metropolitan Lima, used as a national proxy, rose to 1.3% in March, the highest for the month in 19 years, according to statistics agency Inei. Like in March 1998, when inflation was 1.32%, the El Niño weather phenomenon had a big impact on consumer prices.

The 12-month inflation rate increased to 3.97% last month from 3.25% in February and 3.10% in January.

"Inflation will stay around the ceiling of the target range during most of the year, but will cede by the end to close at around 2.7%," says BBVA Research.

Analysts consulted in the central bank's monthly survey, forecast year-end inflation of 2.9%-3.0% for 2017. The central bank's inflation target range is 1%-3%

FX rate

The Peruvian sol traded at around 3.25/US$ on April 10 and is expected to reach 3.41 at year-end by analysts consulted in the central bank's monthly forecast survey.

Monetary policy

The central bank decided this month to leave the key interest rate at 4.25% for 14th consecutive month.

Capital Economics said near-term rate cuts are unlikely due to the risk of a surge in inflation and BBVA Research said it does not rule out a rate cut during the second half of the year.

Unemployment

The unemployment rate steadily increased during the last part of 2016, reaching 7.7% at year-end in the Lima metropolitan area.

The average unemployment rate for the three months through February 2017 was 7.2% compared to 6.2% in the three months through January, according to Inei.

Trade balance

The trade balance posted a surplus of US$1.7bn last year after two consecutive years of deficits (US$3.2bn in 2015 and US$1.5bn in 2014).

Exports totaled US$36.8bn last year and imports US$35.1bn.

The trade balance showed a surplus of US$891mn in the two first months of 2017. February was the 8th consecutive month to register a surplus.

BBVA Research said that higher copper prices should boost Peru's trade surplus this year as the price of copper is expected to increase by 9%, while oil prices are projected to drop 28%.

Fiscal accounts

The fiscal deficit reached 2.7% of GDP in 2016, with a downward trend since August when the deficit hit 3.4%.

Last year's result was 0.3 percentage points below the government's target of 3.0%.

For 2017, the target is a fiscal deficit of 2.5%. Finance minister Alfredo Thorne has however hinted at raising the target as a way to finance the reconstruction of the damage caused by El Niño.

Polls

Support for President Kuczynski has been dipping since September last year when it reached a high of 63%. The negative view of the government was then only 17%.

In a March Ipsos poll, the negative view of the government jumped to 58% while the president's support plummeted to 32%.