Statement by Hector Torres, Alternate Executive Director for Uruguay and David Vogel, Advisor to Executive Director

Sound policies and favorable external conditions have led to a strong economic recovery, but important challenges lie ahead. Uruguay’s near-term economic prospects are generally favorable. The main short-term challenge is rising inflation in the wake of vigorous growth and capital inflows. The reduction of vulnerabilities in recent years has been a major accomplishment, but challenges remain. The objectives and instruments of monetary policy should be clarified. Maintaining high primary fiscal surpluses is essential to reduce the debt burden. Further improving the business climate is key.


Sound policies and favorable external conditions have led to a strong economic recovery, but important challenges lie ahead. Uruguay’s near-term economic prospects are generally favorable. The main short-term challenge is rising inflation in the wake of vigorous growth and capital inflows. The reduction of vulnerabilities in recent years has been a major accomplishment, but challenges remain. The objectives and instruments of monetary policy should be clarified. Maintaining high primary fiscal surpluses is essential to reduce the debt burden. Further improving the business climate is key.

August 29, 2007

Recent Developments

Uruguay's economy continues to show a satisfactory performance. Clearly, the Uruguayan authorities' policies and reforms have led to positive and synergetic results. Among others, economic activity continues to increase robustly; unemployment is currently below 9 percent (the lowest rate in more than a decade); real wages have increased significantly - although they have not yet fully recovered to pre-crisis levels; the poverty rate is five percentage points lower than it was two and a half years ago; inflation - although it has increased in recent months due to some temporary factors and a high imported inflation - is under control; investment relative to GDP is at an inedited high level for the country; exports exhibit record levels and are highly diversified; the average maturity of debt (currently at 14 years) has risen significantly; interest payments represent around 4.1 percent of GDP (6 percent in 2004); the overall fiscal balance will be close to the equilibrium at the end of 2007, which is absolutely unprecedented in Uruguay; the debt-to-GDP ratio will finish this year somewhat higher than 60 percent (approximately 40 percentage points below the ratio in 2004); and international reserves have increased substantially.

The Authorities' Unalterable Ownership

After many years, this Article IV Consultation is no longer in the context of an IMF supported program. Regarding the developments of the last program, the Ex Post Evaluation points out the critical contribution of the Stand-By Arrangement, and Uruguay's efforts and achievements made so far.

In 2004, Uruguay's debt to the Fund was very high (SDR 1,728 million, representing 564 percent of Uruguay's quota or 20 percent of the country's GDP). Hence, one of our authorities' most immediate actions was to reach a new arrangement with the Fund in order to significantly mitigate financial pressures over the short-term.

The Board approval of the Stand-By Arrangement in June 2005 was key for Uruguay to regain access to international financial markets, in a process which has obviously been fed by the confidence instilled by the authorities' policies and reinforced by the creation of a Debt Management Unit at the Ministry of Finance - one of the program's conditionalities. The Debt Unit's professional work contributed to reducing Uruguay's debt cost, lengthening its maturity, and improving its currency structure (although much remains to be done in this area, the current structure -71 percent in external currency and 29 percent in domestic currency and inflation linked- is substantially different from the one observed in 2004 - 83 percent and 17 percent respectively).

After a significant change in the financial situation, at the end of 2006, and in the context of the program's fifth and sixth reviews, the government formalized the cancellation of the Stand-By Arrangement and the early repayment of the outstanding debt to the Fund. The latter allowed the country to fulfill its commitment of establishing a well-articulated exit strategy from the Fund's financial support. It is worth noting that all along the Stand-By Arrangement and - perhaps more telling- even after the early cancellation in December 2006, our authorities have demonstrated their strong ownership of the program - Uruguay's program. The fact that Uruguay has no outstanding obligations with the Fund has not meant any change in the envisaged reforms or targets, but simply a rescheduling of certain reforms in order to better fit the program with financial, social, and political aspects.

Key Aspects of the Reform Agenda

During recent years, the Fund has increasingly taken political economy considerations into account in its analysis and reports. These considerations are particularly important when a country, like Uruguay, has to face delicate equilibriums among substantial social, economic, and financial needs, some of which may -at least in the short term- imply trade-off situations.

As usual, trade-off situations bring out different preferences, conflicts, and collateral effects that require in-depth analysis and discussions, which should obviously be handled with due respect to democratic process. It is worth underscoring that Uruguay enjoys a well-established democratic system and, of course, this requires investing time in building up consensus before making decisions.[1]

Decisions always involve time considerations. In this regard, the Uruguayan authorities have put special emphasis on the sustainability of reforms. As depicted by the cited phrase (footnote 1), bringing people around takes more time than establishing a reform by decree, but it is worth the trouble as reforms are long-lasting only when society understands the need for them. Furthermore, it is worth recalling that citizen's involvement in public discussions and decisions is often associated with less corruption. Moreover, our authorities have kept in mind the importance that each reform provides proper incentives and habits as well as promoting better institutions as the pillars on which Uruguay's social and economic developments should be based.

In this kind of ambitious reform agenda, it is impossible to undertake all reforms at the same time. Establishing priorities is critical to the reform agenda and, in this regard, an adequate assessment of the macro criticality of each reform has been key in the reform process.

Years of Reforms

Having underscored the key aspects of the reform agenda, we turn now to specific comments on some of the most significant achievements.

Reinforcing financial institutions: Just days after the current administration took place, the authorities had to face the insolvency of a cooperative bank (Cofac). The government resisted pressures to bail out depositors. Far from that, the government introduced a limited deposit insurance scheme and established a clear precedent that no public money would be used to bail out private creditors. Furthermore, the government successfully privatized the Nuevo Banco Comercial (NBC), which was acquired by a partnership of foreign financial institutions. The Government also improved the supervision and prudential policies of the financial sector so as to reduce vulnerabilities, for instance, by creating incentives to lessen the still high dollarization in the financial system. Admittedly, BHU's reform is not yet completed but the Government is relentlessly working on it. In fact, the legal framework for BHU's reform has already been approved and it is at the implementation stage.

Diversifying trade and investment: Uruguay's Congress has approved an Investment Treaty with the United States. This agreement was complemented early this year by the signing of a Trade and Investment Framework Agreement (TIFA), which sets a blueprint to enhance economic relations between Uruguay and the United States. Beyond this, Uruguay's government is also making progress in diversifying its trading partners, so as to avoid too much concentration of trade within our region.

Establishing and reforming key offices: In addition to the Debt Management Unit which was established at the Ministry of Finance, a new Private Investment Office was created and the Tax Agency (DGI) has been decisively transformed, thus enhancing transparency and accountability while reducing incentives to evasion and rent-seeking activities. Following the same objective, the customs agency and the social security bank (BPS) are undergoing a vital transformation.

The tax reform as the centerpiece of the authorities' reform agenda: It is interesting to recall that in order to invite Uruguayan citizens to participate in this reform, a draft version of the tax bill was first posted on the Ministry's website. Later on, a refined version was subject to in-depth discussions in Congress. Throughout the whole process, our authorities have clearly underscored that, whereas they would not compromise with pressure groups, they were open to introducing improvements aimed at strengthening the reform's objectives (efficiency, equity, and coherence with the government's aim of promoting investment).

Improving the business climate: A law aimed at promoting and defending competence was recently issued and a bankruptcy bill is currently under Congress' consideration. The Uruguayan authorities have also made it clear that it is absolutely crucial to further increase social inclusiveness to promote stability in a global sense.

Looking forward: Our authorities have underlined that until the end of this year, they will focus on the approval of the financial sector laws and the reform of the police pension fund.

Fiscal Issues

Fiscal policies have successfully contributed to the authorities' envisaged targets: ensuring fiscal sustainability (as noted, overall fiscal balance and public debt relative to GDP show substantial improvements); mitigating poverty conditions (although growth is a pre-condition to reducing poverty, the social deterioration coming from the 2002 crisis required active policies - namely the Social Emergency Plan); revamping public infrastructure (the limited resources led to foster a modality of Private-Public Partnership, which will be carried out in a transparent manner and following the best international practices in this area); and significantly increasing and better targeting social expenditures (which was undertaken without putting fiscal prudence at risk).

Precisely, during recent discussions on the budget in Congress, Uruguay's Minister of Finance stressed that effective social policies require prudential fiscal management. The government has discussed at length with Congress on the budget composition, which shows a clear interest in improving social expenditure without compromising Uruguay's financial program in any way.

Monetary and Exchange Rate Policies

Some factors have posed substantial challenges for the monetary policy. First, the inflation “imported” through the booming of commodity prices and particularly with recent increases affecting Uruguay's agricultural exports, which weigh heavily in its CPI as they constitute the staple food of its population. Secondly, the increase in international oil prices which also has a direct impact on Uruguay's CPI as there is a full pass-through into domestic fuel prices. Finally, the country was hit by climate vagaries as during the past year a drought was followed by a flood and a severe cold. Fortunately, the tax reform (which involves a reduction of VAT rates and the elimination of certain other indirect taxes that were largely inefficient and distortive -i.e., Cofis or Impuesto de Contribución para el Financiamiento de la Seguridad Social) has helped to partially offset the above-referred pressures.

Another challenge to Uruguay's monetary policy comes from large capital inflows, which tend to generate some difficulties related to volatility and eventual distortions of the competitiveness in the short term. The Central Bank grasped the opportunity to make opportunistic foreign currency purchases that helped both to increase international reserves (Chapter V of the Selected Issues Paper underscores that “reserves are nearing optimal prudential levels, although further accumulation is desirable going forward”) and smooth volatility and reduce the distortions on the exchange rate. Having said this, it is important to remark that the authorities fully agree with the staff's comments (Chapter II of the Selected Issue Paper) that “the exchange rate should be allowed to float more freely in response to normal shocks”. Whereas it is not yet clear whether Uruguay will continue to enjoy such strong capital inflows, our authorities prefer to smooth some volatility associated with short-term capital inflows which, by their nature, are quite unpredictable.

In conclusion, the BCU's target-range is expected to decrease in the future (4-6 percent in 2008) and, as usual, the authorities will continue to face the mentioned challenges with a combination of fiscal and monetary instruments, which, if necessary, could be pragmatically tuned-up to meet the inflation target. Our Central Bank authorities are strongly committed to continue improving the functioning of the financial and monetary systems, whereas giving clear signals that keeping inflation at check is the overriding objective of monetary policy.

Market Access and Sovereign Spreads

As noted above, Uruguay has taken advantage of the global financial conditions and regained important and relatively inexpensive access to the international financial markets. This has been possible thanks to the authorities' prudent policies and their outstanding debt strategy.[2] Chapter III of the Selected Issues Paper deserves an in-depth analysis. This study notes that since the loss of investment grade, Uruguay's spreads are mostly associated with those of other emerging market economies - particularly neighboring countries. Evidently, almost every country in the world is affected by deeper links to the global financial markets established by a high integration and more sophisticated products. Uruguay is no exception; however, the specificities of its case are made apparent by noting that whereas during 2004 and 2005 the average of EMBI global bond spreads for emerging markets were noticeably lower than Uruguay's, the current situation is showing a positive change for the country in absolute and relative terms.

It is also interesting to underline that during the period of market turbulences in recent weeks, Uruguay's rating was upgraded, which is an arms-length recognition to the authorities' fiscal policies and debt strategy, firmly settled on Uruguay's long and unalterable tradition of honoring its debts, as was fully recognized by many outstanding international policymakers during a recent conference on Uruguay's 2002 crisis and its aftermath. [3]


The authorities are satisfied with the positive results achieved so far, as well as the encouraging prospects based on sound policies and the reform advances undertaken in two and a half years. However, this is not bringing complacency but rather reinforcing their determination to continue making progress to fully implement the government's policies and reform agenda, setting the basis for Uruguay's sustainable growth and human development.

Finally, this Article IV consultation ratifies once again the excellent relation between Uruguay and the IMF. Our authorities very much value the candid and fruitful discussions on different issues, even in those where both sides had different approaches.


A good illustration of the these kinds of considerations is provided by the former Chilean Minister of Finance Alejandro Foxley (cited by Allan Drazen in Political Economy in Macroeconomics, Princeton University Press, 2000), underscoring that “economists must not only know their economic models, but also understand politics, interests, conflicts, passions -the essence of collective life. For a brief period of time you could make changes by decree; but to let them persist, you have to build coalitions and bring people around.”


For instance, Euromoney awarded Uruguay as the best borrower among emerging countries in 2007.


Uruguay: The 2002 Crisis and its Aftermath. Montevideo, May 29, 2007.