Bloomberg Línea — The political crisis that erupted in Peru after the imprisonment of former president Pedro Castillo on December 7, 2022, has generated multiple protests throughout the country, leaving more than 60 people dead. But while the situation remains tense, it does not seem to have had a significant impact on Peru’s financial asset valuations, nor does it seem to be bringing down the “real” economy.
The country continues to have the fourth-lowest country risk in Latin America, only surpassed by Chile, Uruguay and Panama in that ranking, nd some of its bonds are valued at slightly better than at the beginning of the year.
The Peruvian sol is not enjoying its best performance, however: the local currency has seen a decline of more than 0.5% in 2023, while there are currencies in the region that have been appreciating, such as the Chilean peso (6.7%), the Mexican peso (6.06%) and the Brazilian real (2.3%).
In terms of equities, the Lima Stock Exchange is only 0.7% below what it was on December 6, 2022, that is, the day before the beginning of the crisis.
The impact of the political crisis seems limited when compared to what happens in other countries in the region when faced with adverse political situations. To cite two examples:
- Argentina suffered the second largest stock market fall in the history of global capitalism on August 12, 2019, after former president Cristina Fernández de Kirchner won the primaries to be vice-presidential candidate. Cristina’s good result caused private dollar deposits in the country’s banks to fall by half, collapsed bonds and generated a sharp jump in the US dollar against the peso.
- Ecuadorian President Guillermo Lasso’s party was recently defeated in local elections. Within a few days, Ecuador’s country risk jumped 600 basis points, and Ecuador displaced El Salvador in the third place of country-risk ranking, behind Venezuela and Argentina in Latin America.
To get an idea of the magnitude of the Peruvian political crisis, in the last thirty years, five former democratically elected presidents have been sentenced to prison terms. But even so, the dollar in Peru costs 3.85 soles, barely 10% more than it did at the end of 2002, that is, 20 years ago.
In comparison, in Argentina the dollar started this century with a one-to-one exchange rate and today it costs about 370 pesos in the parallel market. The US currency has appreciated by 36,900% against the peso.
On the other hand, despite its political instability, Peruvian bonds are rated investment grade by rating agencies, something that does not happen with the sovereign instruments of Brazil, the region’s superpower.
What is Peru’s secret?
“Peru’s macroeconomic fundamentals are very solid and have been able to respond to numerous crises, including the current one,” Carlos Oliva, a former economy and finance minister of Peru, told Bloomberg Línea.
“Part of the explanation lies in a political Constitution that includes elements that facilitate such macroeconomic soundness, such as the independence of the Central Reserve Bank and its prohibition to lend directly to the government, equal conditions for domestic and foreign investment, freedom to own other currencies, prohibition to affect contracts through laws and other articles included in the economic title of the 1993 Constitution,″ Oliva said.
“One could also add the experience of the economic mismanagement of the 1980s, which left some lessons, such as how pernicious fiscal deficits are. Although this also happened in other countries that seem not to have learned that lesson, but when you have locks in the Constitution, it is easier to be fiscally responsible.”
For his part, Diego Macera, director of the Peruvian Institute of Economics and also director of the Central Reserve Bank of Peru, said: “Despite all the political scandals, Peru’s macro indicators are still solid”.
“The first thing is that the accumulated fiscal strengths are still there. We have half the gross debt as a percentage of GDP than the regional average; inflation higher than we would like, but also at almost half the regional average during 2022 (and without raising the reference rate too much); investment grade; extremely balanced fiscal accounts; international reserves among the highest in the region when measured as a percentage of GDP, among other reasons,” Macera added.
“The second thing is that the institutions that manage economic policy have not been contaminated. The Central Reserve Bank is a very serious and independent institution and has been for three decades now. The Ministry of Economy and Finance, with some ups and downs, has generally maintained a responsible fiscal policy, unlike what is seen in other countries in the region such as Bolivia, Argentina or Brazil. These are not just figures; history and credibility count.”
“The third thing is constitutional locks. In Peru, the damage that a bad government or a bad Congress can do to the economic foundations is limited by the Constitution and the markets know that. Of course, a lot of damage can be done without necessarily changing the Constitution, but the big mistakes typical of Latin American countries -such as financing public spending with monetary emission or expanding public enterprises- are restricted in the current Constitution. This indirectly limits the potential fiscal deficit gap in the medium and long term”.
According to economist and academic Marco Ortiz, Peru’s economic stability is maintained despite the social upheaval is the central bank’s autonomy.
“In the ‘90s a series of reforms occurred that gave constitutional rank protection to the Central Reserve Bank. That is to say, the Central Bank is guaranteed its independence by the Constitution. Therefore, any political change that does not imply a constitutional reform is not seen as a severe danger for the country’s macro-financial situation,” he said.
“Furthermore, fiscal limits were included towards the end of the 1990s, which limit the spending capacity of incoming governments.”
“The Central Reserve Bank of Peru’s own economic management is highly respected at international level. The figure of Julio Velarde, president of the entity, is very important and the quality of the BCRP’s technical team matters a lot. Investors are reassured that there will not be abrupt jumps, for example, in the exchange rate.”
“In 2021, after Pedro Castilo’s victory, the country suffered a capital outflow in the range of US$17 billion. The BCRP intervened by providing liquidity and hedging through foreign currency derivative instruments.”
Argentina’s fragility, in contrast
One of Peru’s counterparts in the region is Argentina, in terms of it suffering economic effects with every political crisis.
When asked why this difference occurs, Gabriel Caamaño Gómez, an Argentine economist and director of Ledesma consulting firm, said: “There are countries in which there is an institutional scaffolding and a certain orientation of economic policy that does not go into crisis or is not subject to 180° turns with a change of government. This is the result of a fairly stable social consensus”.
However, in Argentina “the average voter one day tells you that everything must be privatized and four years later asks to re-establish. The pendulum swings from one extreme to the other, it is very volatile”.
For his part, Leonardo Chialva, an Argentine partner at Delphos Investment, pointed out that the great difference between his country and Peru is that in the latter there are solid “institutions” and “technicians in charge of the key agencies”, and not “politicians in office”.