Activity to decelerate in 2023
Activity is set to decelerate in 2023. Household consumption (66% of GDP) will continue to drive GDP, but the pace of growth will lose steam. The outlook is underpinned by durably and historically high inflation, the delayed impact of tighter credit conditions (from a minimum of 0.25% per year up to August 2021 to a benchmark 7.75% interest rate in January 2023) and as the job market weakens. Conversely, the Con Puche Perú economic reactivation plan (estimated at 0.6% of GDP) announced in December 2022, in a failed attempt to curb protests, will help slow the slide in private consumption. The package encompasses the expansion of welfare provisions like pensions and access to natural gas in homes, among other measures. Meanwhile, private investment should remain weak, impacted by both tighter local and global financing conditions, and the uncertain political scenario that subdues investor confidence. Similarly, public investments should also perform poorly, influenced by the lack of political focus. Last, exports (29% of 2021 GDP) are expected to post a positive albeit smaller contribution on back of relatively sharper growth momentum in China, which is Peru’s main export destination. This could also favour copper prices and thus Peru’s foreign sales. Nonetheless, downside risks for the red metal’s exports are related to frequent community-led protests at mines in Peru.
A narrower external shortfall and a marginally wider fiscal deficit
The current account deficit should narrow in 2023. More precisely, the trade balance surplus should widen as decelerating domestic activity will lead to lower import expansion (26% of 2021 GDP) which slows faster than exports. Furthermore, the income deficit should also improve thanks to lower profit repatriations. Additionally, the services deficit should remain broadly stable. While freight costs are expected to shrink, prolonged protests impacting the popular tourist region of Cusco will prevent the travel account from converging towards its historically pre-pandemic large surplus. On the financing side, while the unstable local political environment could affect foreign direct investments (3.3% of GDP in 2021), they should be sufficient to cover the expected lower external account shortfall in 2023. It is also important to note that strong foreign exchange reserves (equivalent to 30% of estimated 2022 GDP and ensuring 15 months of import coverage) are important buffers against potential external headwinds. Last, total external debt (private and public) at Q3 2022 stood at 42.5% of GDP (with 24.8% of GDP as medium and long-term public debt).
On the fiscal front, the budget deficit is expected to weaken slightly this year. Public revenue growth is set to lose steam as activity dips. Meanwhile, the 2023 budget approved in November 2022 earmarked a 9% rise in public expenditure this year, notably for capital investment projects. While political turmoil could hamper its execution, the fiscal package announced in December 2022 and the higher financing cost will contribute to the deeper budgetary deficit. Overall, Peru’s sound macro fundamentals have softened the market´s negative reaction to the country’s current political crisis.
No end in sight to political upheaval
Peru’s highly fragmented political environment has further deteriorated since December 7 2022, when the incumbent President Pedro Castillo (July 2021 – December 2022) from the left-leaning Perú Libre party announced that he was instituting an “exception government” and dissolving Congress in order to “restore the rule of law and democracy”. He intended to rule by decree, while waiting to organise a constitutional assembly. This announcement came on the same day that he was set to face a third impeachment motion in Congress following allegations of corruptions and “moral incapacity”. The move sparked the resignation of several ministers, while the armed forces, the police and the Supreme Court warned Castillo that he was acting in breach of the Constitution.
Indeed, according to Peruvian law, the President can only dissolve Congress if the legislature carries out two no-confidence votes in Cabinet, which was not the case. Hours later, the Congress voted by an ample margin to oust Pedro Castillo (101 votes in favour out of 87 required) and he was arrested on charges of rebellion and conspiracy. Pursuant to the Constitution, Vice President Dina Boluarte took office on the same day, but has failed to appease a tense political environment. Large-scale protests and blockades have gained strength and spread across the country, particularly to the poor rural Andean regions in the south and in the capital Lima, prompting to a death toll of at least 48 people at end-January 2023. Protesters are calling for Boluarte’s resignation, a snap general election, the dissolution of Congress, a new Constitution and Castillo’s release from prison. It is not yet clear how the ongoing political crisis will be resolved. Amid mounting social discontent, Boluarte has proposed holding elections this year. However, Parliament, which initially supported bringing forward the scheduled 2026 general elections to April 2024, has refused her proposal.