Bolivia: Staff Report for the 2015 Article IV Consultation
Author: International Monetary Fund. Western Hemisphere Dept.
Publication Date:
18 Dec 2015
eISBN:
9781513588278
ISBN:
9781513588278
Language:
English
Keywords:
ISCR; CR; price; Bolivia; U.S. dollar; IDB lending; broad money; private sector; net credit; current account; financial system; Credit; Public investment spending; labor market
Download PDF (4.6 MB)

This 2015 Article IV Consultation highlights that Bolivia has achieved strong economic performance and poverty reduction over the past decade. Real GDP growth has averaged about 5 percent since 2006, and the poverty ratio has declined by 16 percentage points. Real GDP growth is projected to stay relatively strong at 4.1 percent in 2015, despite the sharp decline in oil prices that is starting to have an impact. A sizable public investment budget, strong credit growth to the private sector, and robust private consumption are expected to support activity. Growth is expected to decelerate to 3.5 percent over the medium term, as the full impact of the new commodity price normal is felt.

Abstract

This 2015 Article IV Consultation highlights that Bolivia has achieved strong economic performance and poverty reduction over the past decade. Real GDP growth has averaged about 5 percent since 2006, and the poverty ratio has declined by 16 percentage points. Real GDP growth is projected to stay relatively strong at 4.1 percent in 2015, despite the sharp decline in oil prices that is starting to have an impact. A sizable public investment budget, strong credit growth to the private sector, and robust private consumption are expected to support activity. Growth is expected to decelerate to 3.5 percent over the medium term, as the full impact of the new commodity price normal is felt.

Context and Recent Developments

1. After a decade of admirable macroeconomic performance and poverty reduction, Bolivia’s policies are being challenged by the end of the commodity boom. Facilitated by prudent macroeconomic management, in the context of a commodity boom, Bolivia has registered average annual real GDP growth of about 5 percent since 2006, when President Evo Morales and his party (Movimiento al Socialismo—MAS) took power. The poverty ratio has also declined by 16 percentage points. However, given Bolivia’s large dependence on commodities (among the highest in the region, text chart), the end of the commodity boom poses significant challenges.1 The key one will be to deliver on the government’s policy objectives laid out in the Patriotic Agenda 2025—including eradication of extreme poverty, better access to health and education, and state-controlled industrialization—while maintaining debt and external sustainability.

A01ufig1

Commodity Exports 1/

(In percent of GDP)

Citation: IMF Staff Country Reports 2015, 334; 10.5089/9781513588278.002.A001

Sources: UN Comtrade; Gruss (2014); IMF, World Economic Outlook; and IMF staff calculations.1/ Average ratios to GDP for 2010-12. Excludes precious metals and re-exports. Venezuela data refer to net oil exports.

2. Although President Morales has a strong mandate, a referendum on his ability to be reelected is looming on the horizon. President Morales was sworn in for a third term in January 2015 with a two-thirds majority in both houses of Congress. A national referendum on a constitutional change allowing him to run for the Presidency again is slated for February 2016.

A01ufig2

Real GDP Growth

(In percent, y/y)

Citation: IMF Staff Country Reports 2015, 334; 10.5089/9781513588278.002.A001

Source: Haver Analytics, Inc.1/ Includes ARG, BRA, CHL PER, PRY and URY.

3. The expansion continued in the 1st half of 2015 but imbalances are developing given lower commodity prices:

  • Real GDP growth has remained robust and high relative to the rest of Latin America. Economic activity decelerated but remained strong at 5.5 percent in 2014 (chart). The momentum was maintained in 2015, with a growth rate of 4.8 percent through Q2. There are some recent signs of deceleration, however, with economic activity indicators growing only 2.4 percent and 3.9 percent in July and August, respectively (Figure 1).

    Figure 1.
    Figure 1.

    Bolivia: Real and External Sector Developments

    Citation: IMF Staff Country Reports 2015, 334; 10.5089/9781513588278.002.A001

    Sources: National Institute of Statistics, Central Bank of Bolivia, and Fund staff calculations.
    A01ufig3

    CPI Inflation

    (In percent, y/y)

    Citation: IMF Staff Country Reports 2015, 334; 10.5089/9781513588278.002.A001

    Source: IMF staff calculations based on national authorities' data.

  • Inflationary pressures have subsided. Abstracting from seasonal patterns, monetary conditions started to loosen in the 1st half of 2014 as liquidity declined and the inflation rate fell (Figure 2). By September 2015, inflation had declined to 4.1 percent y/y, in part also helped by declines in import prices given the relative strengthening of the Boliviano against the neighboring currencies (chart, Box 1).

    Figure 2.
    Figure 2.

    Bolivia: Monetary Developments

    Citation: IMF Staff Country Reports 2015, 334; 10.5089/9781513588278.002.A001

    Sources: Central Bank of Bolivia and Fund staff calculations.

    Monetary Policy and Inflation in Bolivia1/

    Inflation has remained low and stable in the last few years, anchored by a stable exchange rate and central bank intervention in money markets to control the level of liquidity. Open market operations (OMOs) are the main operational instrument. The central bank monitors the growth rate of monetary aggregates; mainly net domestic credit of the central bank and excess reserves of the banking sector. It also intervenes in the foreign exchange market through daily auctions at a set U.S. dollar exchange rate, within a narrow buy-sell spread band. This exchange rate at the central bank window has remained virtually unchanged since 2008, with a de-facto stabilized regime since 2011. Central bank policies have so far been effective in managing inflation, especially given ample liquidity related to the significant increase in public investment spending. This is associated with the nationalization of hydrocarbons in 2006 and the subsequent boom in oil prices.

    A01ufig6

    Public Sector Deposits at the Central Bank

    (In billions of Bolivianos)

    Citation: IMF Staff Country Reports 2015, 334; 10.5089/9781513588278.002.A001

    Source: Central Bank of Bolivia and staff calculations.
    A01ufig7

    Sources of Liquidity in the Financial System

    (Growth decomposition of M4' as of December, in percent)

    Citation: IMF Staff Country Reports 2015, 334; 10.5089/9781513588278.002.A001

    Staff estimates indicate that the central bank has been able to control about 30 percent of consumer inflation variability with timely monetary policy reactions affecting money markets and bank lending activities. These estimates are based on an empirical model including (a) the central bank’s monetary policy instruments; (b) the exchange rate and base money as long-term nominal anchors; (c) the interbank interest rate and banks lending rate and credit as monetary policy transmission channels; and (d) consumer and core prices, the economic activity index and the real effective exchange rate as ultimate indicators of the effects on the real economy.

    A01ufig8
    Source: Central Bank of Bolivia and staff calculations.
    1/ Prepared by A. Guerson. See “Inflation Dynamics and Monetary Policy in Bolivia,” IMF Working Paper (forthcoming).

  • The fiscal balance has swung into deficit and the non-hydrocarbons balance continues to worsen. The fiscal deficit of 3.4 percent of GDP in 2014 partially reflected record-high capital expenditure coinciding with general elections that year and regional elections in March 2015 (Figure 3). The non-hydrocarbons primary balance has also deteriorated by 9.1 percentage points of GDP since 2006 (to -12.3 percent of GDP in 2014) as the hydrocarbons revenue bonanza led to a major ramp up of public spending (chart). So far in 2015, the fiscal balance has stayed in surplus (1.8 percent of GDP through August), similar to the situation in 2014. The increase in tax collections, especially of corporate income tax, has offset the decline in hydrocarbon-related revenues.

    Figure 3.
    Figure 3.

    Bolivia: Fiscal Developments

    Citation: IMF Staff Country Reports 2015, 334; 10.5089/9781513588278.002.A001

    Sources: Ministry of Economy and Public Finances, Central Bank of Bolivia, and Fund staff calculations.1/ The fiscal impulse is calculated as the change in the cyclically-adjusted non-hydrocarbons primary balance.

  • The current account balance has worsened substantially. Having been in significant surplus since 2003, the current account surplus declined to 0.2 percent of GDP in 2014 and slipped into a deficit of 1.4 percent of GDP in 2015Q1 (chart). Lower international oil prices started to feed into gas export prices in the 1st half of 2015 (export prices were down 34.2 percent y/y), while real import growth remained robust given the continued economic expansion and real currency appreciation.

A01ufig4

Fiscal Balance and Public Investment

(In percent of GDP)

Citation: IMF Staff Country Reports 2015, 334; 10.5089/9781513588278.002.A001

Source: IMF staff calculations based on national authorities' data.
A01ufig5

Current Account

(In percent of GDP)

Citation: IMF Staff Country Reports 2015, 334; 10.5089/9781513588278.002.A001

Source: Central Bank of Bolivia.

4. The Boliviano is assessed to be stronger than warranted by medium-term fundamentals and desirable policies in 2015 (Annex I). The de-facto stabilized exchange rate against the dollar combined with significant dollar appreciation—especially against the Brazilian real and the Argentine peso—has led to an appreciation of more than 40 percent in real effective terms since 2010. Competitiveness has also deteriorated, on the back of sizable minimum and average wage increases (the former nearly fourfold in the last decade), which have been significantly above productivity growth, and scarce investments in non-traditional export sectors. International reserves are more than adequate by any metric at US$14.2 billion (42 percent of GDP) as of September 2015, although they have fallen by nearly US$0.9 billion since end-2014.

A01ufig9

Real Exchange Rates

(Index, Jan 2010=100)

Citation: IMF Staff Country Reports 2015, 334; 10.5089/9781513588278.002.A001

Source: Central Bank of Bolivia.

5. Headline financial indicators are solid, although vulnerabilities are beginning to develop and likely to increase as growth slows and lower oil prices bite (Annex II). Banks’ overall capital adequacy ratio stood at 12.7 percent in June 2015, with all major banks above the regulatory minimum of 10 percent, and the aggregate leverage ratio is around 8 percent. Profitability continues to decline, although it remains adequate with the return-on-equity at 13.8 percent as of June 2015. NPLs remain among the lowest in the region (around two percent). Dollarization of deposits continues to decrease, standing at about 20 percent as of August. However, while credit growth to the private sector has moderated somewhat to around 15 percent (y/y), the credit-to-GDP ratio has picked up considerably. It stood at above 45 percent of GDP in June 2015, 3½ percentage points more than a year ago and suggestive of potential vulnerabilities on the rise.

6. The Financial Services Law appears to be altering the allocation of credit flows, and could pose risks to financial stability and inclusion (Box 2). For 2015, the minimum credit quotas to productive and social housing sectors are being met by most financial institutions. Meeting the quotas, however, has required a sharp acceleration of loans to the productive sector and for social housing (growth of 26 percent since December 2014), and a reduction in credit growth to the service and commerce sectors (chart). The interest rate caps seem to be having a material effect on microfinance institutions, which have increased loan sizes above trend to reduce operational costs while the number of borrowers has declined (chart).

The Impact of the Financial Services Law1/

The Financial Services Law aims to promote financial inclusion, preserve financial stability, and enhance credit to housing and productive sectors. Productive sectors are defined broadly as non-service sectors, including agriculture, mining, and manufacturing. Supreme Decrees issued in 2013 and 2014 set the floor on deposits rates and ceilings on lending rates for social housing (5.5–6.5 percent), for corporate and SME loans to productive sectors (6–7 percent), and microfinance loans (11.5 percent). Full service banks are also required to direct at least 60 percent (50 percent for SME banks) of their loan portfolios to social housing and productive sectors within five years, guided by intermediate annual targets. Guarantee funds were created from a 6 percent tax on banks’ 2014 profits to finance down payments for productive sector and social housing loans.

Looking ahead, achieving the 60/40 target by 2018 could imply rapid credit growth, raising concerns about concentration risks, compromised asset quality, and over-indebtedness in the productive sector. If the share of non-productive sector credit to GDP were to remain constant, total credit growth needs to be around 18 percent with productive sector credit growth (including for social housing) of 33 percent (“Non-productive Credit-to-GDP Scenario”). If credit growth for non-productive sectors continues at the rates seen in 2014, the 60/40 target by 2018 implies annual overall credit growth of about 25 percent and productive sector credit growth of 42 percent (“Credit Growth Trend Scenario”). In each scenario, the credit to GDP gap, a measure of whether credit growth is excessive or not, is high, indicating the buildup of financial stability risks. An alternative scenario would be to meet the credit quotas by balance sheet reduction, implying a credit crunch in the non-productive sector as banks reduce lending to it.

A July 2015 modification to expand the scope of the “productive sector” helps address the credit growth pressure but may lead to other risks. This change allows the inclusion of the tourism sector and intellectual property. The risks, however, could simply be shifted to loan quality and the supervisory burden given increasing complexity and scope for circumvention.

A01ufig12

Non-productive Credit-to-GDP Scenario

Citation: IMF Staff Country Reports 2015, 334; 10.5089/9781513588278.002.A001

Source: IMF staff calculations based on national authorities' data.
A01ufig13

Credit Growth Trend Scenario

Citation: IMF Staff Country Reports 2015, 334; 10.5089/9781513588278.002.A001

Source: IMF staff calculations based on national authorities' data.
1/ Prepared by D. Heng. See “Impact of the New Financial Services Law in Bolivia on Financial Stability and Inclusion” IMF Working Paper (forthcoming).
A01ufig10

Credit Growth

(In percent, y/y)

Citation: IMF Staff Country Reports 2015, 334; 10.5089/9781513588278.002.A001

Source: Financial System Supervisory Authority (ASFI).
A01ufig11

Number of Borrowers and Loan Size

(In thousands of borowers unless otherwise specified)

Citation: IMF Staff Country Reports 2015, 334; 10.5089/9781513588278.002.A001

Source: Financial System Supervisory Authority (ASFI).

7. The authorities are finalizing a 5-year development plan (Plan Quinquenal) centered on sizable public investments playing a catalytic role in the growth process. These will be in a vast number of areas, including public infrastructure, productive activities, health, education, and technology. Key commodity related projects cover discovery/exploration of gas and oil reserves, petro-chemical plants, thermo- and hydro- electricity plants, and large iron ore and lithium mines. While details are still being finalized, fiscal and external deficits will likely persist under the plan, with a sizable share of external financing expected.

8. Policies implemented in recent years have been partially in line with previous Fund advice (Table 2). Pro-cyclical fiscal stimulus has been avoided, and the authorities have taken some important steps towards adopting a medium-term fiscal framework. Inflation pressures have also been contained and there have been significant increases in public infrastructure spending. Recommendations to improve the non-hydrocarbons fiscal balance, discontinue central bank lending to public enterprises, and gradually allow greater exchange rate flexibility have gained less traction.

Table 1.

Bolivia: Risk Assessment Matrix1/

article image

The Risk Assessment Matrix (RAM) shows events that could materially alter the baseline path (the scenario most likely to materialize in the view of IMF staff). The relative likelihood is the staff’s subjective assessment of the risks surrounding the baseline (“low” is meant to indicate a probability below 10 percent, “medium” a probability between 10 and 30 percent, and “high” a probability between 30 and 50 percent). The RAM reflects staff views on the source of risks and overall level of concern as of the time of discussions with the authorities. Non-mutually exclusive risks may interact and materialize jointly. “Short term” and “medium term” are meant to indicate that the risk could materialize within 1 year and 3 years, respectively.

Table 2.

Past Fund Policy Recommendations and Implementations

article image
Source: Fund staff.

Outlook and Risks

9. Against the background of a sober global outlook and a new commodity price normal, economic momentum in 2015 is being maintained at the cost of twin deficits. Given the lags in the adjustment of gas prices in the export contracts to Brazil and Argentina, the full impact of the oil price decline on gas exports and hydrocarbon revenues will be felt in the second half of 2015. Nonetheless, with a sizable public investment budget, strong credit growth to the private sector (13 percent y/y), and robust private consumption, growth is projected at 4.1 percent in 2015—relatively high for the region but still below the authorities’ forecast of around 5 percent. Fiscal and current account balances are expected to deteriorate significantly, registering deficits of 5.3 and 4.5 percent of GDP respectively.

10. The outlook for Bolivia is increasingly challenging in the medium term. In the staff baseline, which assumes significant public investment and credit growth (average annual growth of around 10 percent y/y), GDP growth is forecast to remain robust at about 3.5 percent in 2016 and beyond.2 This is in line with potential growth, which has been revised down from 5 percent to 3½ percent, reflecting the lower commodity price normal and a reassessment of prospects for private investment and total factor productivity (TFP) growth.3 Given oil prices are currently forecast to recover only moderately over the medium term, the fiscal and external accounts are projected to remain in significant deficits, leading to a drawdown of international reserves, although they should remain adequate (14 percent of GDP and 6 months of imports in 2020). Financing the fiscal deficits will also likely involve recourse to existing public sector deposits and direct lending from the central bank.

11. In line with the global context, risks for Bolivia are tilted to the downside. These include: (i) a sharper slowdown in Brazil; (ii) further dollar appreciation, which would exacerbate the overvaluation of the Boliviano given the de-facto stabilized exchange rate against the dollar; (iii) U.S. interest rate normalization, which may lead to rising NPLs given many bank loans are indexed to a variable reference interest rate;4 (iv) the combination of credit quotas and interest rate caps under the Financial Services Law leading to a credit crunch in the nonproductive sectors and/or excessive credit growth in the productive sector and for social housing; and (v) additional softness in energy prices over the medium-term. There could also be a perfect storm where Bolivia’s large buffers disappear steadily if a failure to discover and explore significant new hydrocarbons reserves and/or renew the Brazil gas contract in 2019 is combined with a weakening of the fiscal position and an undermining of central bank credibility.

12. There are, however, important upside risks. A quicker and larger than expected recovery in international oil prices would improve the fiscal and external accounts, and could result in greater foreign investment to discover new hydrocarbons reserves if combined with a more attractive investment regime. Various commodity-related projects could also pay off more than expected in the staff baseline. And the ramp up in infrastructure spending could have a significant impact on potential growth if used efficiently.

Policy Recommendations

Changes to the global outlook and the lower commodity price normal necessitate a rethink of policies to anchor strong and durable growth. Two overarching imperatives are to improve the non-hydrocarbons primary balance and allow more exchange rate flexibility. Given large buffers, the authorities can take a measured approach to meeting these objectives. Many of the recommendations of previous Article IV Consultations remain valid (Table 2).

A. Anchoring Fiscal Sustainability and Strengthening the Fiscal Framework

13. An incomplete adjustment to the new commodity price normal would raise concerns about Bolivia’s debt sustainability. Preserving fiscal sustainability is critical for the achievement of the governments’ development objectives. Under a passive scenario of no policy change and assuming public investment to GDP remains at 2014 levels, the overall fiscal deficit could widen to about 10 percent of GDP and public debt could reach 70 percent of GDP by 2020. This is above the threshold marking a high risk of debt distress for LICs (Annex III).5

14. Improving the non-hydrocarbons fiscal balance is essential, but a gradual approach can be taken given large buffers and development needs. The non-hydrocarbons primary deficit has widened from 3.2 percent of GDP in 2006 to a whopping 12.3 percent of GDP in 2014 (text table). In addition to the short horizon of Bolivia’s current proven gas reserves, lower international oil prices and uncertainties related to the long-term export contract with Brazil add to the urgency for improving the non-hydrocarbons primary balance. Nonetheless, given Bolivia’s low level of net public debt and the need to improve infrastructure and further reduce poverty, the authorities can pursue a calibrated approach and adjust the path to respond to future shocks as needed.6

Bolivia: Fiscal Balances and Public Debt

article image
Sources: Ministry of Economy and Public Finances and staff projections.

15. The baseline projection builds on a moderate consolidation of the non-hydrocarbons primary deficit over the medium term. In 2015, the consolidation is based on a capital budget execution rate of around 80 percent, consistent with outturns in years before 2014 (an election year). Thereafter, public investment continues to decline and stabilizes at around 9¼ percent of GDP by 2020. This reflects capacity constraints, more conservative expectations regarding official financing, and lower hydrocarbons revenues. The non-hydrocarbons primary deficit shrinks by 4½ percent of GDP to 7.8 percent of GDP in 2020, with public debt stabilizing at around 50 percent of GDP.

16. Staff, however, recommends a more ambitious consolidation to build fiscal buffers. The baseline scenario projects a relatively high level of debt in the medium term for a low income country like Bolivia. An active policy scenario targets a more ambitious but still gradual reduction of the non-hydrocarbons primary deficit to 2.2 percent of GDP by 2020, with debt declining to 32½ percent of GDP. If credibly implemented, automatic stabilizers could be allowed some play around this path. Measures to adjust the non-hydrocarbons primary balance by an additional 5½ percent of GDP could include:

  • Revenue. Introducing a progressive personal income tax (PIT) or reforming RC-IVA (the complementary VAT regime), as well as establishing rules to deal with transfer pricing practices and preparing the tax administration to control them. A fully fledged PIT could bring additional revenue of around 1 percent of GDP and improve the equity and efficiency of the tax system, in addition to rendering the tax system more progressive. While it may have a negative revenue impact in the short term, ensuring transparent and incentive compatible hydrocarbons and mining fiscal regimes is essential to discovering new reserves/deposits and generating commodity-related revenues in the longer term.

  • Expenditure. Public investment has scope to decline further and still remain above the average level in 2006–12 (chart). Prioritization should be based on economy-wide returns, with a focus on the quality of investment. Reducing energy subsidies could yield over 1 percent of GDP. There is also scope to reduce the wage bill, which is high by low-income country standards, and rationalize goods and services expenditures to pre-2014 levels.

17. Staff reiterates the importance of introducing a medium-term fiscal framework. The Ministry of Finance has taken some welcome steps in this regard, including creating a Macro-Fiscal unit that produces fiscal projections, enhancing coordination with the Central Bank regarding the overall macroeconomic framework, and instructing public enterprises to prepare multi-annual budgets during the formulation of the 2015 Budget.7 These steps should be built on to implement a fully fledged medium-term fiscal framework. Key aspects of this are a multi-year budget and setting a fiscal target for the non-hydrocarbons primary balance that is consistent with long-term debt sustainability, taking into account the state of the business cycle and oil price volatility.

A01ufig14

Price of Oil and Public Investment

Citation: IMF Staff Country Reports 2015, 334; 10.5089/9781513588278.002.A001

Source: IMF Global Assumptions (GAS) and staff calculations based on authorities’ data.

18. State-owned enterprises and their quasi-fiscal activities pose additional fiscal risks, requiring a credible monitoring framework to assess their financial health. (Annex IV. I.) There exist some important quasi-fiscal activities conducted through subsidiaries of strategic public enterprises which are currently classified as outside the Non-Financial Public Sector (NFPS). In addition, the Plan Quinquenal will likely have further significant investments in manufacturing activities and the creation of more SOEs. To manage these contingent risks, the authorities should start monitoring and publishing SOEs’ financial operations and balance sheets as a first step to including them in the fiscal accounts of the NFPS. More broadly, the legal requirement that SOEs should “generate surpluses”, or otherwise be subject to closure, should make sure that surpluses more than offset capital depreciation.

B. Improving Exchange Rate and Monetary Policies

19. Creating conditions for greater exchange rate flexibility is critical. This would help facilitate adjustment to the large terms of trade shock and to future external shocks. And it is especially important given the assessed overvaluation of the Boliviano and potential for further dollar appreciation. In staff’s view, the tremendous progress in de-dollarizing the economy is one important pre-condition for an orderly transition to a more flexible exchange rate regime. Country experiences also suggest that cementing de-dollarization usually requires migration to an exchange rate regime that allows for two-way flexibility. This helps internalize exchange rate risks and reduce incentives for dollarization (Annex IV. II.). Any transition would need to be carefully crafted, however, including credibly anchoring inflation expectations and ensuring that the appropriate monetary policy instruments and money markets’ infrastructure are in place.

20. An effective monetary policy framework which anchors inflation expectations will require central bank credibility and fiscal sustainability. The new central bank law under preparation should maintain the bank’s operational independence and preserve its capital base. To this end, the practice of direct lending by the central bank to public corporations or trust funds for development objectives should be discontinued. The direct lending, started in 2009, has expanded to US$2.9 billion (equivalent to 8.4 percent of GDP) as of mid-2015, of which about 60 percent are directed to YPFB (the state oil and gas company). In addition, the “Fondo para la Revolución Industrial Productiva (FINPRO)” was established in 2012, with lending and grants from the central bank totaling US$1.2 billion. Staff recommends that lending activities are stripped from the central bank balance sheet and consolidated in a separate fund for development. This fund would need transparent investment rules, a strong governance structure, and a clearly-stated development mandate. This separation would contribute to enhancing central bank credibility by eliminating the possibility of conflicting objectives: price stability should be clearly stated as the central bank’s first priority. An effective monetary policy transmission would also benefit from a revision of the targets in the Financial Services Law that distort interest rates and credit allocation.

C. Ensuring Financial Sector Stability and Enhancing Financial Inclusion

21. The Financial Services Law includes several reforms recommended in the FSAP. The setting up of a deposit insurance scheme and a credit registry are welcome steps, as are the implementation of some Basel II and III principles (such as adding market risk to capital requirements and completing the guidance on operational and interest rate risk). The creation of a Financial Stability Council—which met for the first time in August 2015—is another important step. Developing a framework to monitor systemic risks and a macroprudential toolkit will further strengthen financial sector surveillance. The recent advances in AML/CFT are expected to culminate in the publication of a national strategy in late 2015.

22. The Law, however, could pose risks to financial stability and reduce financial inclusion. While meeting the 2015 credit quotas appears manageable, trying to reach the medium-term targets could lead to excessive credit growth in productive sectors (including social housing) and/or a credit crunch in nonproductive sectors. And staff VAR analysis suggests that credit dynamics have a significant impact on growth, with a 1 p.p. increase in real credit growth raising GDP growth by 0.2 p.p. the following year. Overall, scenario analysis points to credit growth rates potentially in excess of 30 percent for the productive sectors to meet the 5-year credit quotas (Box 2). This could lead to deterioration in asset quality and rising NPLs. Stress tests suggest a doubling of NPLs is manageable for most banks but a spike to peak levels reached over the last decade would cause many banks to be significantly below regulatory capital thresholds (chart).8 The above-trend increase in the average loan size of microfinance institutions and the declining number of borrowers point to adverse effects of the interest rate caps on financial inclusion. This may also result in increased activity of unregulated lenders as they attract the non-productive sectors and small borrowers no longer serviced by microfinance institutions.

A01ufig15

Capital Adequacy Ratio

(In percent)

Citation: IMF Staff Country Reports 2015, 334; 10.5089/9781513588278.002.A001

Source: IMF staff calculations based on national authorities
 data.

23. Key provisions of the regulations should be modified if material risks build up, and greater financial inclusion could be achieved by relying primarily on market-based signals. The interest rate caps and credit quotas were set by decrees and hence can also be modified as needed, although clear and transparent rules regarding changes are critical to avoid creating regulatory uncertainty. Indeed, the recent expansion of the definition of productive sectors likely increases the scope for circumvention of the quotas, effectively watering them down but also increasing the supervisory burden to police them effectively. Staff strongly recommends the creation of a real estate price index to have a better idea of risks building up in the real estate sector. This is especially important given the inclusion of social housing in the credit quotas and the associated lack of need for a down payment. Staff also reiterates that financial inclusion could be better attained by more limited and carefully-designed state intervention, such as further use of partial credit guarantees.

D. Increasing Potential Growth and Inclusiveness

24. Increasing private investment is central to medium-term prospects. The share of private investment to GDP has long been one of the lowest in the region, and is currently around 8 percent (chart). Bolivia also ranks among the lowest in Latin America and the Caribbean in terms of economic diversification and complexity.9 Indeed, raising Bolivia’s complexity score—reflecting how knowledge intensive or sophisticated its exports are—to the average in Latin America and the Caribbean would increase growth by about 0.4 p.p. (chart). Addressing the key impediments listed below will be essential to ensuring the complementarity between public and private investment, and enhancing diversification (Annex IV. III.).

  • Regulatory uncertainty. There has been important progress in adapting the legal framework to the new Constitution (including the Investment Promotion Law in April 2014, the Mining Law in May 2014, and the Arbitration Law in June 2015). Some of these laws, however, do not fully resolve regulatory uncertainty. For example, the Arbitration Law exempts many key sectors, while the right of the Bolivian state to ultimately accept or reject the verdicts of external tribunals could weaken the purpose of the law. More generally, important aspects of the legal framework are left to decrees, many of which are still pending or can be modified. Finally, a few key laws are still pending, such as the hydrocarbons and labor laws, a new tax code, and sectoral incentive laws. This creates uncertainty.

    A01ufig16

    Private Investment, 2014

    (In percent of GDP)

    Citation: IMF Staff Country Reports 2015, 334; 10.5089/9781513588278.002.A001

    Source: IMF World Economic Outlook. (WEO).
    A01ufig17

    Net Impact on Predicted GDP per Capita Growth Rates: Own Complexity Versus LAC Average Complexity

    (In percentage points, annual averages)

    Citation: IMF Staff Country Reports 2015, 334; 10.5089/9781513588278.002.A001

    Source: Rodrigues Bastos and Wang (2015).

  • Other impediments. Competitiveness is being further crimped by high real wage growth and other mandated bonuses, which have led to real income growth exceeding productivity growth. Meanwhile, labor market inflexibility and pervasive informality continue to undermine productivity and SME financial access. Importantly, the government’s increasing incursion into product markets through price controls and public enterprises crowds out private investment, given that public enterprises are less bound by competitive forces and efficiency levels needed in the private sector.

25. Bolivia has registered some of the largest declines in inequality and poverty in the region over the last decade, but further progress will be challenged by the end of the commodity boom (charts). Social transfers to the elderly, pregnant and school kids benefit about 30 percent of population, and have helped improve primary schooling, maternal health, and reduce extreme poverty especially in rural areas. However, most of the reduction in poverty and inequality is explained by declining wage inequality as the skills premium has fallen, and not larger transfers (Box 3). Importantly, labor market policies have played a role through sustained minimum wage increases and salary caps in the public sector. The skills premium could well increase as the spillovers to low skill workers from the commodity boom go into reverse. Given a tighter revenue envelope, it is essential to ensure that the social transfers are well designed and targeted and there is a focus on the quality of education and healthcare.

Inequality and Poverty Reduction1/

The tremendous inequality and poverty reduction in Bolivia over the last decade has a few potential explanations: i) changes in the levels of average labor income, which are explained by sustained economic growth fueled by favorable terms of trade and high levels of public investment; and ii) changes in the distribution of total income, which in turn respond to changes in the skills premium, transfers and social programs, and specific labor market policies such as the sustained increase in the real minimum wage.

A01ufig20

Bolivia: Renta Dignidad, Bono Juancito and Bono Juana Azurduy 1/

Citation: IMF Staff Country Reports 2015, 334; 10.5089/9781513588278.002.A001

Source: APS Bolivia; IMF staff calculations.1/ 2015 includes data to May. Number of beneficiaries correspond to the average number of payments.

Targeted public policies have played an important role. Redistributive policies hinged on transfers to specific population groups: school age kids (Bono Juancito Pinto), elderly people (Renta Dignidad) and pregnant women and newborns (Bono Juana Azurduy). Together, these three programs benefited just under 30 percent of the total population, and totaled 1.5 percent of GDP in 2014.

A01ufig21

Datt-Ravallion Decomposition of Changes in Poverty

Citation: IMF Staff Country Reports 2015, 334; 10.5089/9781513588278.002.A001

A closer analysis suggests that fast growth was the main driver behind poverty reduction; while a declining skills premium drove down inequality. During 2007–2013, nearly 70 percent of the decline in extreme poverty is explained GDP growth, while the remaining 30 percent is associated with changes in the distribution of income. Moreover, real labor income increased rapidly for low skilled workers, while it declined for high skilled workers (this was something also seen in Ecuador and Peru, although Bolivia had the highest decline for high skilled workers). This declining skills premium was the main factor behind the drop in the Gini coefficient, while the effect of changes in non-labor income (transfers) was limited, notwithstanding an important impact for some groups such as for the elderly poor after the introduction of Renta Dignidad.

A01ufig22

Decomposition of reductions in Poverty and Inequality by Education Level

Citation: IMF Staff Country Reports 2015, 334; 10.5089/9781513588278.002.A001

Source: IMF staff calculations using Bolivia’s Household Surveys.Gini coefficient change based on re-scaled gini coefficients in the range (0-100)
A01ufig23

Annualized Real Wage Growth by Education Level

(In percent)

Citation: IMF Staff Country Reports 2015, 334; 10.5089/9781513588278.002.A001

Source: SEDLAC (CEDLAS and the World Bank).
1/ Prepared by M. Vargas. See “Explaining Inequality and Poverty Reduction in Bolivia,” IMF Working Paper (forthcoming).

Gini Inequality Index

Citation: IMF Staff Country Reports 2015, 334; 10.5089/9781513588278.002.A001

Source: SEDLAC (CEDLAS and The World Bank)1/ Includes ARG, BRA, ECU, SLV, HON, MEX, PRY, PER and URY.
A01ufig19

Population Under Poverty Lines 1/

(In percent of total population)

Citation: IMF Staff Country Reports 2015, 334; 10.5089/9781513588278.002.A001

Source: World Bank Development Indicators (WDI).1/ 2005 Purchasing Power Parity USD.

E. Authorities’ Views

26. The authorities strongly disagreed with staff’s growth outlook for the short and medium term, and rejected staff’s proposed consolidation of the non-hydrocarbons primary deficit. They expect growth to be around 5 percent in 2015 and that high public investment in productive sectors will pay off and lead to growth averaging about 5¾ percent during 2015–20, significantly above staff’s growth forecasts for 2015 and beyond. They also forecast a fiscal deficit of about 4 percent of GDP in 2015. They indicated, however, that the deficit target would be lower for 2016. The authorities did not see the need for cutting back on public investment as they believe that revenues—both non-hydrocarbons and hydrocarbons related—will pick up in the coming years.

27. The authorities disagreed with the need for greater exchange rate flexibility at this juncture or for operational independence of the central bank. They argued that greater exchange rate flexibility would not help competitiveness given that export volumes of hydrocarbons and mining sectors are largely supply-determined, and also given the limited response of nontraditional exports to exchange rate dynamics. Moreover, they argued that the majority of imports were capital goods needed for development. The authorities were of the view that central bank independence was not needed in the case of Bolivia, given the existing coordination between the Ministry of Finance and central bank to ensure macroeconomic stability and the political consensus on the importance of a low inflation rate. They indicated that the central bank should play an important development role, and therefore direct lending to public corporations will remain an important financing source for public investment.

28. The authorities agreed that financial regulations can be adapted as needed, but disagreed about the potentially adverse impact of the credit quotas and interest rate caps. The authorities argued that banks will achieve the 60 percent share of productive loans to total loans without the risk of excessive credit growth. They explained that the credit quotas have so far proved effective in redirecting flows away from bank profits and towards productive loans, while NPLs remained the lowest in the region. They emphasized that banks remain profitable and that the decreasing number of microfinance borrowers did not reflect reduced financial inclusion, but a reclassification within the financial sector, with some of these borrowers now classified as bank customers. The authorities concurred on the necessity to construct a house price index and to modify the credit quotas and interest rate caps if systemic risks build up.

29. The authorities agreed on the need to increase private investment going forward, but did not share staff’s analysis regarding the impediments. They emphasized progress made in aligning key laws to the new Constitution, and pointed to the investment projects in the pipeline. In particular, they argued that the Investment Promotion and Arbitration Laws contributed to improving the business environment and effectively modernized the framework governing investment in Bolivia. The authorities expected that foreign private investment will play a greater role in the coming years. They highlighted the recent rapprochement with the domestic private sector. The authorities further rejected the need for labor market reforms, arguing that their labor policies are an important tool for redistribution and have contributed to reducing poverty and inequality. The authorities are convinced of the public sector’s catalytic role in increasing the productive capacity of the economy and facilitating the functioning of markets through direct intervention.

30. The authorities expect to build on the tremendous inequality and poverty reduction registered over the last 15 years. They highlighted the role of Renta Dignidad as an effective redistributive policy, as well as other pro-poor policies such as the large and sustained increase in the minimum wage. They also stressed that while other conditional transfers, such as Bono Juancito Pinto and Bono Juana Azurduy have positive effects on inequality and poverty, their main aim is to improve human capital. The authorities disagreed with the conclusion that the inequality decline partially reflected declining wages for skilled workers given that wages increased across the board.

Staff Appraisal

31. Following a decade of strong macroeconomic performance, poverty reduction, and de-dollarization, the Bolivian economy is at a point of inflexion. Bolivia has recorded strong economic growth and built up significant fiscal and external buffers over the past decade, supported by prudent macroeconomic management in the context of a commodity boom. It has also achieved some of the largest declines in poverty and inequality in the region. The global outlook has changed, however, and Bolivia faces a challenge of adjusting to the new commodity price normal while preserving and building on the economic and social gains achieved in recent years. The authorities can pursue a measured approach to this adjustment given sizable buffers.

32. The impact of the commodity price declines is already being felt, with the outlook becoming increasingly challenging in the medium term. Growth for 2015 is projected to remain relatively high, at 4.1 percent, supported by a sizable public investment program and strong credit growth to the private sector. The outlook for 2016 and beyond, however, is increasingly challenging, as the full impact of lower international oil prices is expected to widen fiscal and external deficits further, absent an adjustment. Moreover, the short horizon of current proven reserves of natural gas adds to the urgency to implement measures to improve competitiveness and promote the development of non-commodity sectors.

33. Key policy imperatives are to improve the non-hydrocarbons primary balance and allow greater exchange rate flexibility. The latter would help facilitate adjustment to the large terms of trade shock and to future external shocks. It will also be important to adopt a credible medium-term fiscal framework which includes activities of SOEs more systematically, and strengthen the monetary policy framework to uphold the central bank’s operational independence and credibility. If and when it does take place, any transition to greater exchange rate flexibility needs to be carefully crafted to ensure that inflation expectations remain well anchored and to preserve the de-dollarization achieved so far. Important conditions to make the transition an orderly process include central bank credibility and its primary focus on price stability, and fiscal sustainability. Regarding the financial sector, key provisions of the regulations—the credit quotas and interest rate caps—should be modified via decrees if material risks build up.

34. Increasing private investment is central to medium-term prospects, while preserving the reduction in inequality will be challenging given the end of the commodity boom. Measures to increase private investment include resolving remaining legal and regulatory uncertainty, ensuring transparent and incentive compatible hydrocarbons and mining fiscal regimes, reducing government incursions into product markets, and reducing labor costs and increasing labor market flexibility. Regarding maintaining the inclusiveness of growth, given a tighter fiscal envelope, it is essential to ensure that social transfers are well designed and targeted, and that there is a focus on the quality of education and healthcare.

35. Data provision is broadly adequate for surveillance, although has some shortcomings. Notable progress has been made to further strengthen the quality and timeliness of statistics, including working towards full subscription of the Special Data Dissemination Standard (SDDS). Improving data on quasi-fiscal activities of subsidiaries of SOEs outside the fiscal accounts, and the creation of a real estate price index would be further important steps.

36. It is proposed that the next Article IV consultation with Bolivia be held on the standard 12-month cycle.

Figure 4.
Figure 4.

Bolivia: Financial Sector Developments

Citation: IMF Staff Country Reports 2015, 334; 10.5089/9781513588278.002.A001

Sources: ASFI and Fund staff calculations.1 Licensed institutions only.
Table 3.

Bolivia: Selected Economic and Financial Indicators

article image
Sources: Ministry of Economy and Public Finances, Central Bank of Bolivia, National Institute of Statistics, UDAPE, and Fund staff calculations.

The discrepancy between the current account and the savings-investment balances reflects methodological differences. For the projection years, the discrepancy is assumed to remain constant in dollar value.

Includes nationalization costs and net lending.

Excludes reserves from the Latin American Reserve Fund (FLAR) and Offshore Liquidity Requirements (RAL).

All foreign assets valued at market prices.

Official (buy) exchange rate.

Table 4.

Bolivia: Operations of the Combined Public Sector1/

(In percent of GDP, unless otherwise indicated)

article image
Sources: Ministry of Economy and Public Finances and Fund staff calculations.

The operation of mixed-ownership companies, primarily in the telecommunications, electricity and hydrocarbon sectors, are not included.

Includes incentives for hydrocarbon exploration investments in the projection period.

Includes pensions, cash transfers to households, and social investment programs (previously classified as capital expenditure).

The authorities' programs of social investment, including school breakfast, recurrent costs on basic sanitation and social management, are reclassified to current spending.

Primary balance before nationalization costs minus hydrocarbon related balance.

Hydrocarbon related revenues are defined as direct hydrocarbon tax (IDH), royalties, and the operating balance of state oil/gas company (YPFB).

Hydrocarbon related revenues minus YPFB capital expenditures.

Table 5.

Bolivia: Summary of Balance of Payments

(In millions of U.S. dollars, unless otherwise indicated)

article image
Sources: Central Bank of Bolivia, National Institute of Statistics and Fund staff calculations.