[dropcap]M[/dropcap]uch has changed since 2013 when Colombia was one of the fastest growing economies in Latin America. The last four months of 2015 saw turmoil in the Colombian economy due to the continuous and massive fall of oil prices and other commodities.
With China’s stock market underperforming and hitting markets around the world as well, Colombia has had to scale down its macroeconomic expectations.
This situation forced Colombia’s Central Bank to raise interest rates as a way to stop inflation. Emerging markets have also taken a hit, and Colombia is not an exception.
[quote]This year will be a “year of transition” for Colombians.[/quote]
But what has been done in the country to smooth market pressure? More important, what monetary policy is the Banco de la Repu?blica using to reduce inflation and keep the economy from stagnating when the USD to COP exchange rate is off the charts?
In Colombia, the target for an acceptable inflation rate is around 3.5 percent to 4.5 percent, but according to the Central Bank’s press release dated Dec. 18, it was 6.39 percent last year — way above the accepted rate.
The Bank thus decided to increase its benchmark to 5.75 percent in response to a slowdown of consumer spending in 2016, because goods are more expensive, which in turn has reduced the demand for goods.
Spending more, spending wisely
The idea of the Bank is to reduce prices and by default, reduce inflation. The Central Bank basically took the step which everyone was expecting anyway, but the challenge for this year is to educate consumers to spend more carefully, especially on non-essential goods.
According to Colombia’s Finance Minister, Mauricio Ca?rdenas, who was interviewed at the World Economic Forum in Davos, the purpose is to offset the plunge in world oil prices by boosting domestic consumption and private investment in the country.
This may be hard to grasp. How does the Bank expect to stimulate consumption when raising its interest rates seems to do the opposite?
The problem is that many basic consumer goods are imported. But with the U.S. dollar at more than $3,300 pesos, there is more demand for domestic goods, since they are not affected by devaluation in most cases. Hence, the government is clearly creating a demand for domestic products by stimulating consumption.
This year will be a “year of transition” for Colombians, and nobody really knows what will happen to oil prices. At the moment, the prospects are hardly encouraging, and it is probable that the Colombian economy will continue to contract.
Into the peace economy
On the other hand, it is likely that foreign investments will rise across the board. For Colombia, a lot will depend on its credibility and the confidence of international investors.
If, as seems likely, there is a peaceful settlement of its long civil conflict, large amounts of foreign capital should be injected into the economy in the second half of the year. But the long-term success of its economy will require it to become more competitive.
In order to do that and reduce its unemployment rate, Colombia needs to strengthen a safe investment climate, backed by a sound fiscal policy, the ending of corruption, a strong and liquid financial system and a skilled labor force. Only then will the “risk” ranking of the nation fall in a significant way.
The 2008-2009 global financial meltdown has taught us that every crisis comes to an end, and when it does, it teaches governments (and investors) what they should not do in the future. In Colombia’s case the answer for its economic slowdown is to diversify.
Given its fiscal dependence on oil exports, the government was living in a misleading “comfort zone”, insofar as it was over-dependent on revenues from the country’s biggest company, Ecopetrol, at a time when the international price for oil peaked above $100 USD per barrel.
Today, with the dramatic plunge, the only way it can fund the budget is by borrowing money on the bond market. According to Minister Ca?rdenas, there is still a shortfall of $1.5 billion USD in the 2016 budget.
Away from oil
With the signing of a peace agreement with the FARC guerrilla expected during the first quarter of 2016, the national government should consider shifting its attention to promising sectors like non-fossil fuels and others, like tourism or agro-industry, which suffered a great deal from 50 years of civil unrest.
A study by the National Planning Department (DNP) estimates that the GDP will grow by 4.8 percent in the year the peace agreement is signed and continue to moderately grow in the following years.
Given the current devaluation of the Colombian peso, it may seem more logical to be worried rather than optimistic. But there may be a positive side to the situation, because it will force Colombia to rely less on oil exports, diversify its industrial base and encourage its private sector to enter into public/private partnerships (PPP) which would also be transnational, with the participation of more foreign investors.
This would open up entrepreneurial opportunities and expand an educated middle class. So, the talk on the street is that the Central Bank will continue to raise interest rates until inflation is pushed down to its acceptable range. For both the government and Colombian consumers, the readiness of cash to spend on value-added goods will be the way to turn a lagging economy around in the course of this year.
Ernesto Daza Lacouture is an Industrial Engineer with a Masters in Finance from the Hult International Business School, London. He is currently the director of corporate investments in a Colombian investment bank and acts as a financial consultant for startups. He is a member of RedBrit, a network of alumni from British Universities.
