CARACAS — Chile’s president-elect Gabriel Boric economic program charts an ambitious increase in social spending financed by tax and pension reforms, and Bank of America sees a path for the new leader to succeed: “forced moderation.”

In a research note to investors, analysts of the Charlotte, North Carolina-based bank argue that Boric and his new administration, will have to moderate original plans amid governability challenges and tough initial macroeconomic conditions. “We believe he will have to reduce the size of the tax reform and go gradual on some spending promises,” analysts Jane Brauer, Sebastian Rondeau, Gabriel Tenorio,  Christian Gonzalez Rojas,and Lucas Martin, wrote in a report dated December 22.

The new administration, scheduled to formally take office on March 11, will inherit a complex scenario. While Chile’s economy is rebounding after contracting 5.8% in 2020 and BofA projects now an 11.5% gross domestic product expansion for this year, the new government “will face substantial governability challenges amid a divided Congress, a constitutional reform process and a high fiscal deficit. Boric has already acknowledged that these difficulties could lead to more gradual changes,” the analysts said in the 16-page study.

Base Case Scenario

A divided Congress “will force Boric to moderate his tax reform”, according to the analysts, leading to a lower collection target from 5% to 3% of GDP in four years as well as spending increases.

“The new government will have to unwind massive fiscal and monetary stimulus deployed so far to fight high inflation and a large fiscal deficit. The fiscal deficit will close above 8% of GDP in 2021 (and about 10% of GDP after adjusting for one-off and cyclical revenue)”, according to the report.

On December 14, Chile’s central bank raised the country’s benchmark interest rate to 4% from 2.75%, as the Andean country’s grapples with an inflation that reached 6.7% in November, a 13-year high and above BCCh’s target range of 2.0%-4.0%, Reuters reported. Prices accelerated broadly in housing and utilities, recreation and culture, education, furniture, and restaurants and hotels, Trading Economics said. The consumer price index held at 6% in October and 5.7% in September. BofA projects that the monetary policy rate will peak as high as 5.75% in the first half of 2022, to begin to decline in 2023.

Besides the macroeconomic imbalances, BofA also points to the “high uncertainty” about the timing, scope and implementation of pension reform and the existence of AFPs (Admistradoras de Fondos Pensiones Planvital) funds. “The drafting of a new constitution may delay some reforms, but it could put pressure on spending later on if approved, remaining an important risk,” the analysts wrote.

Still “Underweight” Chile

During the presidential electoral campaign, Boric promised to stabilize debt levels as a percentage of GDP by the end of his four-year term. However, BofA expects Chile’s public debt to rise to 50% of GDP by 2025 vs 35% in 2021, and up to two credit rating downgrades.

BofA maintains an “underweight” stance on Chile’s external debt and expects the nation’s assets to underperform in the medium-term as its fiscal metrics deteriorate vs peers. “The new constitution poses risks to Chile’s fiscal flexibility and institutional perceptions. External supply is also likely to remain elevated”, they concluded.

In the other hand, the Chilean peso (CLP) is starting to look “attractive” at current levels. “The currency has accumulated a large risk premium over the course of the year, and is now trading 25-30% weaker than our medium-term fair value of 660, based on our Compass BEER model.” The analysts believe “we could see some tactical rallies as the degrees of uncertainty start falling in coming months and the BCCh continues hiking rates.”

The International Monetary Fund sees Chile’s economy growing 11% this year, followed by 2.5% expansion in 2022.

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Also Relevant:
* With Chile Choosing a President in Weeks, BofA Sees a ‘Twilight Zone’ Post-Election Scenario of Rising Debt and Low Growth
* Chile Central Bank Raises Benchmark Rate by 125bps to 4%, More Tightening Likely: Reuters
* Chile’s Uncertain Next Chapter: Foreign Affairs
* Morgan Stanley Sees a ‘Turnaround’ in Punished Chilean Assets as Most Consequential Election Looms Large
* Brazil, Chile Markets ‘Overweight’ For Morgan Stanley as MXLA Seen Rising 14% Mid-2022

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