Colombia - Economic Briefing October 2003

 Impending National Referendum Promises Fiscal Relief

On 25 October, Colombians will go to the polls to vote on important economic and political reforms. The reforms put to vote are considered vital to secure a more sustainable longer-term fiscal setting. Meanwhile, the economy is developing favourably but at a more moderate pace than observed earlier in the year, as investment activities are trailing off and the external sector continues to suffer from meagre demand in key export markets.

Referendum considered vital for fiscal stability
On 25 October, Colombians will go to the polls in a nationwide referendum over key questions regarding the country’s political and fiscal regime. The referendum addresses essentially three core issues, namely political reform, corruption and fiscal adjustment. A positive vote in support of the government’s initiative would help provide not only a more stable footing for fiscal accounts but would also bolster the Uribe administration’s mandate to proceed with its current political agenda that has been focused on strengthening security and advancing on essential economic reforms. The key focus of the referendum from an economic standpoint has been the approval of items that will affect the government’s fiscal agenda.

Question 14 of the referendum suggests a two-year freeze on operational spending in addition to a cap on public sector pension and salary outlays, which exceed two minimum wages. Furthermore, Question 8 of the referendum seeks to limit public sector salaries and pensions at a maximum of 25 minimum wages; would phase out special pension regimes for the military, oil workers and teachers in 2007 and set the retirement age at 55. Finally, Questions 6 and 9, which would reduce the number of Congressmen and do away with local auditing authorities, are also expected to improve the fiscal setting in terms of potential savings generated. If all of the aforementioned referendum items are approved, the total fiscal savings could reach an estimated 1.2% to 1.4% of GDP this year and 2.3% to 2.5% of GDP next – the lion share being generated by the fiscal spending freeze. The recent September Gallup poll indicates that all four measures are likely to be approved by more than the required simple majority vote. The government has been focusing its efforts at campaigning to increase voter participation, as a minimum 25% voter turnout is required for the referendum approval. In the event that the referendum should not be approved, the government could implement the fiscal measures via decree but not without political costs of a backlash from sectors affected.

Consensus Forecast participants appear to confide in the government’s fiscal commitment, as this month’s estimate for the fiscal deficit, at 2.8% of GDP, is on target with the government’s projection. However, panellists remain sceptical about the fiscal setting for next year, as rising debt service outlays and increased military spending are likely to bring the fiscal deficit to 2.9% of GDP instead of the government’s estimate of 2.5% of GDP.

Inflation continues to abate amid more stable exchange rate
Consumer prices rose 0.22% in September, which was slightly below market expectations of 0.32% and also lower than the 0.31% rate observed in August. The September figure lowered the annual inflation rate to 7.1% from 7.3% in August. Education and housing prices experienced the strongest monthly increases, while food and clothing price increases were subdued. The September result also brings accumulated inflation for this year to 5.4%, which is above the 5% central inflation target agreed to with the IMF but still falls within the +/- 2 percentage point target band. Subdued consumption and high unemployment should help to avert a renewed surge in consumer prices. Additionally, the moderate appreciation of the currency and increased stability in exchange rate movements this year, provided for by Central Bank intervention and a more propitious environment in international markets, are containing inflationary expectations. In fact, Consensus participants expect inflation to moderate further through the end of the year with the year-end rate reaching 6.7%, down a 0.1 percentage point from last month. The moderate pick up in economic activity next year will exert some pressure on consumer prices. In fact, Consensus panellists anticipate that the annual inflation rate will reach 5.9%, which exceeds the Central Bank’s 3.5% to 5.5% target range.

Central Bank keeps monetary reins loose
As a result of the improved inflationary setting, the Central Bank has had to adjust monetary reins only very moderately this year. The benchmark DTF rate has remained virtually unchanged throughout the year and at 7.7% at the end of September was just 7 basis points above the end of December 2002. According to the Consensus, the DTF rate will be raised to 8.5% by the end of this year, which is down a 0.1 percentage point from last month. Participants expect monetary authorities to raise interest rates further next year, amid the pick up in economic activity, with the DTF rate seen rising to 9.3%.