July 16, 2001
This buff contains information which has become available since the staff report (SM/01/185) was issued. This information does not modify the thrust of the staff appraisal.
1. The monthly index of economic activity (IMACEC) increased in April by 2.6 percent (year-on-year), bringing the rate of growth in the first four months of the year to 3.1 percent (year-on-year). Unemployment has remained roughly unchanged, as data through May indicate a seasonally-adjusted rate of 9.7 percent. In the first five months of the year, exports increased by 1.6 percent (year-on-year) in U.S. dollar terms, while imports grew by only 0.4 percent. The price of copper has continued to drift downward, declining by 14 percent since end-2000. The 12-month inflation rate in June was 3.6 percent (2.7 percent for the underlying inflation index).
2. The peso, together with other currencies in the region, has been under some pressure in recent days, depreciating by 6 percent against the U.S. dollar in the first eleven days of July. (This follows a depreciation of about 10 percent in the first six months of the year.) The authorities and private analysts attribute the recent weakness in the peso to adverse developments in neighboring countries. Chilex’;s sovereign bond spread continued to decline slowly to about 170 basis points in recent days, but increased to 182 basis points on July 11, amid generalized turbulence in international bond markets.
3. Forecasts of output growth in 2001 from a monthly survey of private analysts and institutions taken by the central bank have been revised downward, with the median forecast declining from 3.9 percent in the June survey to 3.6 percent in the July survey. On the basis of recent indicators, including developments in the external environment, the staff considers that the risks on the projection for output growth in the staff report, 4 percent, may now be more weighted on the downside. Also, although copper prices are very difficult to predict, recent prices suggest that their average for 2001 is likely to fall short of the 80 U.S. cents per pound envisaged earlier. If both output and copper prices were to turn out somewhat lower than projected in the staff report, the actual deficit of the central government would increase moderately, but the authoritiesx’; structural balance measure would not be affected. Regarding the external current account balance, lower export receipts would be broadly offset by smaller outflows of profit remittances by foreign-owned mining companies and by reduced import demand.
4. In terms of policy developments, the central bank announced in early July that during the rest of the year it will issue about US$1 billion of medium-term paper payable in domestic currency but indexed to the exchange rate with respect to the U.S. dollar. (Such instruments started to be issued during the 1998 episode of pressure against the peso.) The central bank estimates that the total amount of this type of paper outstanding at end-2001 would be around US$2.5 billion. The central bank explained that the new bond issue is intended to meet increased private demand for instruments to cover currency risk (resulting from recent high volatility in the foreign exchange market), and not to target the level of the exchange rate. The central bank also said that the issuance of bonds indexed to the exchange rate will result in a better currency composition of its balance sheet, which currently includes a large share of assets denominated in foreign exchange and a large share of liabilities indexed to domestic inflation. Press reports indicate that some economic agents have interpreted the issuance of bonds indexed to the exchange rate as indirect intervention in the foreign exchange market aimed at influencing the level of the exchange rate.
5. On July 10 the government submitted to congress a proposal for a limited income tax reform intended to be revenue neutral. The reform would reduce personal income taxes (including by lowering the maximum rate from 45 percent to 40 percent and raising the level of income exempt from taxes), and would allow deduction of interest payments on mortgages in the determination of taxable income. The reduction in tax revenue resulting from these measures (estimated at 0.2 percent of GDP) would be offset by an increase in the corporate income tax rate from 15 percent to 17 percent. Some elements of the reform would be introduced gradually in the period through 2004.
6. The authorities recently indicated to the staff that they will establish a commission of independent experts charged with setting the reference price of copper that will be used to measure the structural balance of the central government. Full details about this initiative are not yet available, but the staff understands that the commission will produce forecasts of copper prices for each of the coming 10 years, the average of which will then be used as the reference price. The staff considers that establishing such a commission could enhance the transparency of the new fiscal policy framework, particularly if the commissionx’;s methods and analysis were to be published. Also, basing the reference price on a forecast over a specific horizon, rather than on an uncertain notion of a long-run price, will make the estimated structural balance a more reliable indicator of the underlying fiscal position. Although the horizon of 10 years is somewhat longer than suggested by the mission, the effect of this difference would not be substantial as long as the commissionx’;s forecasts take into account the considerable persistence of copper price fluctuations.