Uruguay’s Second Review Under the Stand-By Arrangement and Requests for Modification, Waiver of Nonobservance and Applicability of Performance Criteria are discussed. Growth remains robust, inflation is subdued, and the external position continues to strengthen, with buoyant exports and upward pressure on the peso. Fiscal performance has been better than expected, with public debt continuing to fall as a percentage of GDP. Structural reforms are also progressing well, with key new reform initiatives under way in several areas.
1. Since the issuance of the staff report, the following additional information has become available. This information does not alter the thrust of the staff appraisal.
2. Economic developments remain favorable.
Sustained rapid growth of industrial production and exports (at annual rates well above 20 percent) point to continued robust GDP growth. Inflation remains subdued, at 4.9 percent (y/y) in December, below the target range of 5½–7½ percent. Gross reserves stood at US$3.4 billion on December 31, US$920 million higher than at the start of the year. Standard & Poor’s Ratings Services revised its outlook on its long-term sovereign credit ratings on Uruguay of B (noninvestment grade) from stable to positive.
Staff supports the granting of waivers of applicability in relation to all the end-December 2005 quantitative PCs. Final data is not yet available on any of the quantitative PCs for end-2005, but based on available information staff considers that they are likely to have been observed. The indicative target on base money was exceeded (by 5.1 percent) as the central bank accommodated stronger than anticipated seasonal money demand, mainly through additional central bank foreign exchange purchases.
3. Financial sector reforms are progressing broadly as envisaged.
Institutional reform legislation (end-December PC). On December 27, the authorities submitted a draft legislation to congress that would strengthen the central bank’s (BCU) operational independence (including by raising the number of board members from three to five, and staggering their terms) and require its recapitalization. It would also create a single superintendency (within the BCU) with responsibility for financial sector supervision and regulation, and a separate deposit insurance agency with a broad range of instruments for bank resolution. While the relevant structural PC was formally not observed because it envisaged that the financial supervision agency would be established outside the central bank (as noted in the staff report), the staff believes that the draft law achieves the key objectives of the PC, and the decision to keep the agency within the central bank does not affect the program goals in this area. Staff therefore supports the authorities’ request for a waiver.
Action plan for BHU (end-December PC). The authorities have adopted a broad action plan for BHU, including key strategic decisions in line with the end-December PC. They have also committed to the principles that will guide the development of a detailed implementation plan (proposed new benchmark for end-February).
COFAC. The situation of the ailing cooperative bank (COFAC) remains fragile. Following the December 2005 release of US$9 million in reprogrammed deposits, foreign currency deposits have fallen by about US$6 million. Capital remains positive but has dropped below prudential norms, prompting the BCU to require a recapitalization plan. COFAC has proposed to transform itself into a stock company, which would allow equity investment by an identified new shareholder (the Venezuelan Development Bank). At the same time, the central bank is preparing contingency measures in case the recapitalization does not materialize.
4. Debt management. The structural benchmark for end-December of creating a debt management unit at the Ministry of Finance has been met. Moreover, both chambers of congress have approved the new law on public debt ceilings noted in the staff report (¶ 10).
5. Monetary policy. The monetary policy committee on December 29 reaffirmed the inflation target of 4.5–6.5 percent for end-2006 and the overall monetary policy framework. However, the committee has decided to announce an indicative growth rate for M1. For 2006, the BCU envisages an increase in M1 of 12.6 percent, in line with the projected growth of domestic demand and the monetary program agreed with the staff.
6. The investment treaty with the U.S. has been ratified by both chambers of congress.