Colombia: Arrangement Under the Flexible Credit Line and Cancellation of the Current Arrangement

Colombia's strong economic policy framework, comprising an inflation-targeting regime, a flexible exchange rate, effective financial sector supervision and regulation, and a fiscal policy guided by a structural balance rule, has underpinned a strong policy response and growth resilience to a large terms-of-trade shock.

Abstract

Colombia's strong economic policy framework, comprising an inflation-targeting regime, a flexible exchange rate, effective financial sector supervision and regulation, and a fiscal policy guided by a structural balance rule, has underpinned a strong policy response and growth resilience to a large terms-of-trade shock.

Context

1. Colombia’s macroeconomic policies and policy frameworks remain very strong. The inflation-targeting regime, flexible exchange rate, and fiscal policy guided by the structural balance fiscal rule allowed Colombia to start adjusting smoothly to permanently lower oil prices. The current account is largely financed by stable sources of funding and reserve coverage ratios are adequate. The 2013 FSAP found that the financial regulatory and supervisory framework was sound. At the conclusion of the 2016 Article IV Consultation, Executive Directors expressed confidence in Colombia’s very strong policies.

2. External risks to the global economic outlook have increased. The April 2016 WEO notes that there is a pronounced increase in downside risks that revolve around the threat of a disorderly pull-back of capital flows, the international ramifications of developments in China, further spells of depressed oil prices, as well as the ongoing risk of adverse spillovers from the process of normalization of U.S. monetary policy. The April 2016 GFSR elaborates on balance sheet stresses in China as a result of slowing growth and warns of the negative spillovers if China experienced a disorderly deleveraging. In any of these scenarios, Colombia could be affected despite its sound fundamentals, as commodity prices would fall and global risk aversion would increase. The effects on Colombia could be amplified since its regional trading partners are exposed to the same global risks and suffer from idiosyncratic weaknesses.

A01ufig1

Colombia—Increased Global and Regional Risks

Citation: IMF Staff Country Reports 2016, 154; 10.5089/9781484390818.002.A001

Recent Developments

3. Despite a large external shock, Colombia’s economy showed remarkable resilience in 2015. The price of oil fell 40 percent between the approval of the current FCL arrangement and March 2016, delivering a much larger terms-of-trade-shock than the regional average. Falling oil prices led to a reduction in national income and a strong peso depreciation. Growth in key regional markets for Colombia’s nontraditional exports weakened more than expected. Growth moderated to 3.1 percent as investment weakened, while private consumption remained brisk. Inflation remained above the target band (2–4 percent) since February 2015 because of the depreciation and weather-related food shocks. Near-term inflation expectations are also above the target band. Nevertheless, 24-month-ahead inflation expectations remain anchored within the target band. The central government fiscal deficit widened to 3 percent of GDP in 2015 as oil revenue fell but was in line with the parameters of the fiscal rule.

A01ufig2

Colombia-Oil Price and Exchange Rate

Citation: IMF Staff Country Reports 2016, 154; 10.5089/9781484390818.002.A001

Source: Haver.
A01ufig3

Nontraditional Exports-Trading Partner Growth

(Percent)

Citation: IMF Staff Country Reports 2016, 154; 10.5089/9781484390818.002.A001

Source: IMF WEO.

4. The current account deficit reached a record level in 2015 but reserves remained stable. The deficit widened to 6.5 percent of GDP but in nominal terms it remained close to its 2014 level. The depreciation led to a reduction in imports and in the income and services accounts that broadly matched the decline in exports caused by lower commodity prices. Capital inflows remained strong as non-oil FDI and portfolio inflows proved resilient. International reserves remained broadly constant at US$46.3 billion since the rules-based FX intervention mechanism was not triggered in 2015. Reserve coverage in months of imports and in percent of the current account deficit plus short-term debt at remaining maturity improved in 2015.

5. The NIIP deteriorated to minus 44 percent of GDP in 2015 but is still dominated by FDI. Most of the drop (12 percentage points since 2014) reflects the valuation impact from the exchange rate depreciation that lowers the dollar value of GDP. FDI accounts for half of gross external liabilities. While the NIIP is sustainable, the increase in portfolio liabilities to 25 percent of GDP could lead to heightened vulnerability to global financial volatility.

6. The banking system and corporate sector remained in good financial health. The financial system was resilient to changing global and local conditions. Financial soundness indicators remained strong. Funding costs increased, especially for small entities, but liquidity stress tests do not raise systemic funding concerns. Corporate debt is modest by international standards. Debt indicators worsened mainly in the oil and airline industries but solvency problems remain contained. Moreover, debt service capacity improved for the largest 100 firms through end-2014, although these gains have been partially erased by the materialization of commodity price and depreciation shocks.

Outlook and Policies

7. Growth will be subdued in the near future but is projected to gradually return toward potential. Staff projects growth to slow to 2.5 percent in 2016 and gradually increase over the medium-term supported by the construction phase of the fourth generation infrastructure investment program (4G). Tighter policies and reduced national income will weigh on growth in the near term but, on the positive side, the depreciation will boost exports and promote import substitution. The acceleration in inflation is expected to reverse in the second half of 2016 as the temporary effects of weather-related shocks and the depreciation die out. Inflation is projected to return to the target range in early 2017.

8. The macroeconomic framework provides flexibility to deliver a coordinated and gradual response to the large external shock. The authorities are tightening policies progressively to achieve a soft landing and align domestic demand with the subdued outlook for national income.

  • Fiscal policy. The structural fiscal rule is the anchor that drives the smooth adjustment of revenue and expenditure to permanently lower oil prices. Public debt rose in 2015 but remains relatively moderate and sustainable, and is projected to decline in the medium term in line with the planned fiscal consolidation and projected growth path. A structural tax reform is expected to be approved by year-end.

  • Monetary policy. The ongoing tightening cycle (275 bps since August 2015) will gradually bring inflation and near-term inflation expectations back to the target range and help align credit growth with weaker domestic demand. Solidly anchored medium-term inflation expectations underscore the credibility of the inflation-targeting framework.

  • Exchange rate and reserves. The flexible exchange rate regime continues to play an important role in helping the economy adapt to changing global conditions. The rules-based FX auction program discontinued on May 31, 2016, was an effective mechanism to prevent disorderly depreciations and was triggered only on May 20, 2016. Colombia has an adequate international reserve level for normal times, though it might be insufficient to cope with tail risks. With the peso broadly aligned with fundamentals, weak commodity prices, and already strong buffers, reserves are projected to remain constant in the next two years.

  • FCL. The successive FCL arrangements have provided a cushion of international liquidity and complemented the authorities’ gradual policy adjustment to lower oil prices, and sent a positive signal to international financial markets on the strength of the economy. In past episodes of heightened external risks such as the 2008-09 global financial crisis, the FCL supported a countercyclical policy response.

9. The authorities are implementing an ambitious structural reform package and further strengthening the macroeconomic and financial frameworks.1 The 4G program of road concessions is expected to improve productivity and regional integration, and boost Colombia’s competitiveness and medium-term economic prospects. Initiatives such as a recently approved customs code, plans to streamline regulations and reduce subsidies, and a program to expand school coverage will support the productive transformation away from commodities. The implementation of peace-related initiatives will have important consequences for regional development and competitiveness. The authorities will seek the approval of a structural tax reform this year to help offset the decline in oil revenue, while protecting key expenditure areas. They are also implementing FSAP recommendations to further strengthen the resilience of the financial system.

Role of the Flexible Credit Line Arrangement

A. Benefits of the FCL

10. The FCL has served Colombia well. The previous FCL arrangements have been instrumental to cope with heightened external risks in recent years, complementing the authorities’ policy response to shocks such as the recent drop in commodity prices and the 2008–09 global financial crisis. In addition, the instrument has ensured a cushion of international liquidity for the country, providing space to strengthen the policy framework and to rebuild policy buffers, while sending a positive signal to international financial markets on the strength of the economy.

11. The FCL has also enhanced the economy’s resilience to adverse external shocks. As discussed in IMF Country Report No. 15/206, empirical analyses by the Colombian central bank and IMF staff found that access to the FCL reduced the sovereign risk premium for Colombia had an important positive impact on consumer confidence and growth, and helped ease exchange rate pressures faster.

12. The authorities are requesting a successor 2-year FCL arrangement for SDR 8.18 billion (about US$11.4 billion) or 400 percent of quota, which they intend to treat as precautionary, and thus, will cancel the current arrangement which expires on June 16, 2017. They consider that the increase in external uncertainty and risks warrants larger reliance on contingent external financing from the Fund. The authorities consider that the FCL provides useful temporary insurance that reinforces market confidence and provides breathing space as they adjust smoothly to a lower level of national income against a background of heightened global and regional uncertainties.

B. Evolution of Risks

13. Global risks have increased significantly since the current FCL arrangement was approved. Intensified global risks have augmented the size of potential shocks and their transmission to Colombia may be now more severe. As the April 2016 WEO notes, there is a pronounced increase in downside risks that revolve around the threat of a disorderly pull-back of flows and the international ramifications of the economic transition in China (Chapter 1, Section III). In addition, tighter financial conditions and bouts of financial market volatility could affect confidence and growth.

  • Growing risks to global growth. The risk of protracted shortfall in domestic demand in advanced countries remains a concern. Moreover, the transition to a new growth model in China has had a larger than expected global impact, possibly exacerbated by the overreaction of financial markets—as happened in the August 2015 and January 2016 episodes. A sharper-than-forecast slowdown in China could have strong international spillovers through trade, commodity prices, and confidence. In addition, there is a risk of a significant slowdown in other large EMs and frontier economies, resulting from a downturn in the credit cycle and potentially intensified by domestic factors.

  • Further spells of depressed commodity prices. Weak global demand, together with possible further increases in supply and other factors such as a strong U.S. dollar, could lower commodity prices.2 Falling commodity prices would weaken Colombia’s current account and currency.

  • Turbulence in financial markets. Events such as the April 2016 GFSR’s risk of a loss in policy confidence leading to rising global risk premiums, possible delays in normalization of conditions in economies in recession, or asymmetric shifts of monetary policy in advanced countries could result in safe-haven flows and a sharp retreat in the overall EM asset-class. The impact on Colombia would be much larger than the current account impact described above. An analysis of recent risk-off episodes shows that the Colombian peso is one of the most sensitive EM currencies to risk sentiment. Staff analysis indicates that a two-standard-deviation increase in the VIX is associated with a 1 percent of GDP decline in portfolio flows to Colombia.

  • Further deterioration in Colombia’s vulnerable neighbors. In the last year, the outlook for Brazil, Ecuador, and Venezuela has deteriorated significantly. These countries account for 27 percent of Colombia’s nontraditional exports, and the dramatic growth slowdown is already hindering Colombia’s export recovery in the baseline scenario. Furthermore, increased sovereign spreads in these neighboring countries suggest an increased risk of sliding into an adverse downside scenario where Colombia’s nontraditional exports decline significantly. A shock to commodity prices would also increase the likelihood that such an adverse scenario would materialize and could lead investors to reassess their exposure to the region. There is also a risk that some of Colombia’s neighbors take protectionist measures to improve their trade balances.

A01ufig4

Exchange Rate Depreciation in risk-off Episodes 1/

(Peak depreciation 60 days into episode)

Citation: IMF Staff Country Reports 2016, 154; 10.5089/9781484390818.002.A001

Source: Haver and staff calculations.1/ Average of two risk-off episodes: new exchang rate mechanism in China (8/21/15) and Fed tightening coupled with commodity and China concerns (1/15/16).
A01ufig5

EMBI Spreads- Nontraditional Export Partners

(Basis points)

Citation: IMF Staff Country Reports 2016, 154; 10.5089/9781484390818.002.A001

Source: Bloomberg.

14. Colombia’s vulnerability to global and regional risks increased due to the likely nonlinear impact of the above-mentioned shocks. Despite falling commodity prices since the current FCL arrangement was approved, commodities still account for more than 50 percent of exports, and the indirect risk through Colombia’s neighbors would magnify the damage of a further negative shock. Moreover, sharp and persistent drops in oil prices to below the US$30/barrel level could suddenly make large swathes of the Colombian oil industry unprofitable and reduce oil production drastically. The worse outlook for oil production could prompt capital outflows. This could be particularly harmful for the local-currency sovereign bond market, where nonresident holdings have increased sharply since 2013 and now stand at around US$14 billion (5 percent of GDP). The 11 percent depreciation of the peso since June 2015 added to investors’ unrealized losses in dollar terms (between June 2014 and June 2015, the exchange rate already depreciated 34 percent). As unrealized losses accumulate, the possibility of global shocks suddenly triggering stop-loss strategies in Colombia-focused portfolios increases the risk of a foreign investor sell-off.

A01ufig6

Colombia: Foreign Holdings of Domestic Public Debt (1/)

Citation: IMF Staff Country Reports 2016, 154; 10.5089/9781484390818.002.A001

Source: National authorities and Fund staff calculations.1/ Includes TES for monetary control.

15. The external economic stress index for Colombia worsened significantly in the last year and would deteriorate further under the downside scenario (Box 1). Colombia has seen a strong deterioration of the external environment in recent quarters driven by falling oil prices and increased financial market volatility. The projected baseline ESI in 2016 Q2 reaches levels similar to those in the adverse scenario in the current FCL arrangement. In the updated adverse scenario behind the request for increased access under the FCL, the ESI would come close to the level last seen in the global financial crisis.

External Economic Stress Index

The External Economic Stress Index (ESI) for Colombia is calculated according to the methodology outlined in “Review of the Flexible Credit Line, the Precautionary and Liquidity Line, and the Rapid Financing Instrument—Specific Proposals.”

The index is based on four major variables which capture external risks for Colombia. The external risk variables include: the level of the oil price, a proxy for oil exports as well as oil-related FDI; U.S. growth, a proxy for exports, remittances and other inward FDI; the emerging market volatility index (VXEEM); and the change in the 10 year U.S. government bond yield, proxies for risks to equity and debt portfolio flows. The index is then calculated as a weighted sum of standardized deviations of the above variables from their means. The weights are estimated using balance of payments and international investment position data, all expressed as shares of GDP. The weight on oil prices (0.32) corresponds to the sum of oil and coal exports and oil-related FDI. The weight on U.S. growth (0.24) corresponds to exports to the U.S. The weight on the VXEEM (-0.04) comes from the equity portfolio investment stock and the weight on the U.S. government bond (-0.40) from the debt portfolio investment stock. The methodology is unchanged from previous FCL requests.

The calculation of the downside scenario reflects external risks stemming from potential heightened financial volatility as a result of a significant global growth slowdown. In the new adverse scenario, stress in financial markets following a significant global growth slowdown leads to an increase of the EM VIX by two standard deviations. Growth weakness would be transmitted to commodity markets, with oil prices falling 26 percent with respect to the baseline. Structurally weak growth in advanced economies would lower U.S. growth by ½ percentage points. More volatile global financial conditions, sharp price adjustments, and decompression of term premia would trigger a 100 bps increase in long-term U.S. interest rates.

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Colombia: External Economic Stress Index

(Negative values indicate above average stress)

Citation: IMF Staff Country Reports 2016, 154; 10.5089/9781484390818.002.A001

Source: IMF staff calculations.

C. Access Considerations Under an Adverse Scenario

16. Staff’s assessment is that the level of access of 400 percent of quota requested by Colombia would provide reasonable coverage against increased global risks. A significant slowdown in global growth coupled with a flight to quality could trigger a drop in oil prices, a current account shock, and a sharp reduction in capital inflows—outflows for some instruments—that could be fairly persistent. This type of shock would deliver an adverse scenario that could be as impactful as Lehman’s shock was for Colombia, with somewhat more persistence (see, for instance, what is implied by the ESI in Box 1). Other shocks to commodity prices could equally trigger the type of current account shocks and associated capital flow reversals as the one described in Table 3.

Table 1.

Colombia: Selected Economic and Financial Indicators, 2013–21

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Sources: Colombian authorities; UNDP Human Development Report; World Development Indicators; and Fund staff estimates.

Includes the quasi-fiscal balance of Banco de la República, sales of assets, phone licenses, and statistical discrepancy.

Includes foreign holdings of locally issued public debt (TES); does not include Banco de la República’s outstanding external debt.

Excludes Colombia’s contribution to FLAR and includes valuation changes of reserves denominated in currencies other than U.S. dollars.

Table 2a.

Colombia: Summary Balance of Payments, 2013–21

(In millions of US$, unless otherwise indicated)

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Sources: Banco de la República and Fund staff estimates and projections.
Table 2b.

Colombia: Summary Balance of Payments, 2013–21

(In percent of GDP)

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Sources: Banco de la República and Fund staff estimates and projections.
Table 3.

Colombia: External Financing Requirements and Sources, 2014–17

(In millions of U.S. dollars)

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Sources: Colombian authorities and IMF staff estimates.

Including financial public sector.

Original maturity of less than 1 year. Stock at the end of the previous period.

IMF definition that excludes Colombia’s contribution to Fondo Latinoamericano de Reservas (FLAR) and includes valuation changes of reserves denominated in other currencies than U.S. dollars.

Original maturity of less than 1 year. Stock at the end of the current period.

Includes all other net financial flows (i.e. pension funds, other portfoloi flows), Colombia’s contribution to FLAR, and errors and omissions.

ARA metric based on latest weights and published WEO.

17. In staff’s view, more than doubling access relative to the current FCL arrangement is justified given Colombia’s increased exposure to heightened global risks.3 Despite the increased shocks, the requested access of 400 percent of quota is based on rollover rates above the 25th percentile of historical experiences (Figure 3). The key adjustments are: (i) a larger oil price shock; (ii) significantly lower public sector rollover rates, mostly because of higher risks to nonresident holdings of local-currency public debt; (iii) somewhat lower private sector rollover rates due to the possibly nonlinear effects of external shocks; and (iv) increased use of international reserves, which are drawn down from 150 to 127 percent of the ARA metric, in line with the larger external shock.4

Figure 1.
Figure 1.

Colombia: FCL Qualification Criteria

Citation: IMF Staff Country Reports 2016, 154; 10.5089/9781484390818.002.A001

Sources: Banco de la República; Ministerio de Hacienda y Crédito Público; Datastream; Haver; and Fund staff estimates.1/ Combined permanent 1/4 standard deviation shocks applied to interest rate; growth; and non-interest current account balance.2/ Data for 2016 corresponds to issuance up to April 2016.3/ Combined 2 year shock to primary balance (1/2 standard deviation) and growth (1 standard deviation) shocks to primary balance; permanent shock to interest rate (to historical maximum) and exchange rate (about 30 percent real).4/ One-time increase in non-interest expenditures equivalent to 10 percent of banking sector assets leads to a real GDP growth shock (see above): growth is reduced by 1 standard deviation for 2 consecutive years; interest rate increases as a function of the widening of the primary deficit.5/ 30 percent permanent real depreciation in 2016.
Figure 2.
Figure 2.

Colombia: Reserve Coverage in an International Perspective

Citation: IMF Staff Country Reports 2016, 154; 10.5089/9781484390818.002.A001

Sources: World Economic Outlook; IFS; and Fund staff estimates.1/ The current account is set to zero if it is in surplus.2/ The blue lines denote the 100-150 percent range of reserve coverage regarded as adequate for a typical country under this metric.3/ Calculated based on the ARA metric augmented by a buffer for commodity exporters.
Figure 3.
Figure 3.

Colombia and Selected Countries: Comparing Adverse Scenarios 1/

(Probability density)

Citation: IMF Staff Country Reports 2016, 154; 10.5089/9781484390818.002.A001

Source: Fund staff calculations.1/ The empirical distributions are based on countries’ actual experiences during the crisis year (for all four types of debt rollover rates), or countries’ experiences during the crisis year relative to proceding 3-year average (for FDI). For the presented FCL/PLL country cases, shocks are defined according to the adverse scenario and placed on the kernel curve.

18. A decline in the price of oil to the US$25 dollar range would impact negatively both traditional and nontraditional exports. This decline in the price of oil, within the 68 percent confidence interval for WEO projections, combined with a 10 percent decline in export volumes, would yield a decline in the value of oil exports of around 35 percent.5 The oil price decline would also affect Colombia’s neighbors, reducing nontraditional exports and contributing to a current account shock of around US$4 billion. Imports would contract, marginally offsetting the impact of lower oil prices on the current account.

A01ufig8

Brent Price Prospects

(U.S. dollars a barrel)

Citation: IMF Staff Country Reports 2016, 154; 10.5089/9781484390818.002.A001

Sources: Bloomberg, L.P.; and IMF staff estimates.Note: Derived from prices of futures options on February 26, 2016.

19. A sharp depreciation linked to falling oil prices and/or a flight to quality would affect the local-currency bond market severely as foreign investors cut losses. A temporary interruption in international bond issuance and a US$1.5 billion net sell-off in the local-currency bond markets (about 11 percent of the stock held by foreigners) would result in a large reduction in external financing to the public sector. As a result, public sector rollover rates in the adverse scenario would be significantly lower than in the current FCL arrangement. The assumed sell-off in the local-currency market has precedent in international perspective (see kernel figure estimated for 20 EMs in the latest stress episodes) and is plausible given the accumulated unrealized dollar losses from peso depreciation.

A01ufig9

Foreign Participation Local-Currency De

Citation: IMF Staff Country Reports 2016, 154; 10.5089/9781484390818.002.A001

Source: Ministry of Finance.

20. Large private sector debt maturities may face rollover difficulties in such an adverse scenario. A total of US$21 billion of private sector external debt comes due in 2016, and a larger figure in 2017 (Table 3). A fraction of these debts is from commodity-related firms and are unlikely to be rolled over in an adverse scenario. A 73 percent rollover rate for MLT private external debt is above the 25th percentile of the distribution of rollover rates observed in past crises (Figure 3). Judging from the experience of Colombia and Mexico around the Lehman episode and that of other EM crises, a drop in private short-term rollover rates to 85 percent is within historical experience. Combined with zero net inflows to the domestic equity market, this would imply around US$8 billion in private sector net capital outflows. Falling oil-related investment would reduce FDI by 20 percent (70 percent in the oil sector and 10 percent in other sectors).6 The total capital account shock would be US$14.4 billion. Even after significant use of international reserves (US$6.8 billion), a financing gap of US$11.4 billion would remain.

A01ufig10

Private Short-Term Rollover Rates

Citation: IMF Staff Country Reports 2016, 154; 10.5089/9781484390818.002.A001

Sources: Central Banks of Colombia and Mexico.

Assumptions Underlying the Illustrative Adverse Scenarios

(In percent, unless otherwise indicated)

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Source: IMF staff calculations.

D. Exit Strategy

21. The authorities consider access to the FCL to be temporary and dependent on external conditions. Indeed, they have demonstrated their commitment to an exit strategy by reducing access when risks attenuated. In particular, Colombia’s first FCL arrangement was approved in May 2009 in the amount of 900 percent of old quota, but successor FCL arrangements starting in mid-2011 have been only 500 percent of old quota, reflecting the authorities’ assessment that risks related to the global financial crisis had receded.

22. The authorities request for higher access under the FCL is motivated by heightened risks to the global economic outlook. They note that global risks have increased, particularly those concerning developments in China, commodity markets, and financial volatility. If risks materialized, the authorities would likely tighten fiscal and monetary policies further and use their reserve buffers. In this context, a new FCL arrangement with increased access would boost confidence, and afford them additional space and time to pursue the adjustment in an orderly fashion.

23. The authorities have outlined conditions that would facilitate exit. They expect that as the growth transition in China progresses smoothly, investor concerns about stressed emerging market economies recede, and monetary policy normalizes in advanced countries, uncertainties will abate, and associated commodity price and global financial risks will recede. They also expect the outlook in regional trading partners to improve gradually as they undergo adjustments to restore internal and external balance. With substantial reduction of some of the global risks affecting Colombia, the authorities would intend to reduce access to Fund resources in any subsequent FCL arrangements, and to phase out Colombia’s use of the facility. Successful adjustment to permanently lower oil prices and the ongoing productive transformation of the economy should also build resilience and reduce future access to Fund resources.

E. Assessment of Qualification

24. Staff’s assessment is that Colombia continues to meet the qualification criteria for an FCL arrangement identified in paragraph 2 of the FCL decision. Colombia has very strong economic fundamentals and institutional policy frameworks, with an inflation targeting framework and a flexible exchange regime, a fiscal policy framework anchored by a structural balance rule, and financial system oversight based on a sound regulatory and supervisory framework. Colombia has a sustained track record of implementation of very strong policies and the authorities are firmly committed to maintaining such policies going forward.7 Staff’s assessment of Colombia’s qualification is based, in particular, on the following criteria:

  • Sustainable external position. Colombia’s external debt is relatively low, at 42 percent of GDP at end-2015. This is higher than projected at the time of the last FCL request (31 percent of GDP) to a large extent because of the sizeable depreciation and a methodological change to include nonresident holdings of local-currency public debt in the external debt statistics (5 percent of GDP). Staff’s updated external debt sustainability analysis shows that external debt ratios would decline over the medium term and remain manageable even under large negative shocks (Table 11). The current account deficit is projected to narrow to 6.0 percent of GDP this year and gradually fall to about 3.6 percent by 2021. The real effective exchange rate was broadly in line with fundamentals by the end of 2015; the external position appears weaker than implied by fundamentals, while the economy is adjusting to a new equilibrium, but is projected to strengthen as trade volumes adjust to the new relative prices.

  • Capital account position dominated by private flows. Capital account flows in Colombia are predominantly private, mostly in the form of net flows of foreign direct investment and portfolio investment (2.7 and 3.3 percent of GDP in 2015). The reliance on portfolio inflows is projected to decline in 2016 and remain stable around 1.2 percent of GDP over the medium term. FDI inflows are expected to remain resilient, financing about 80 percent of the current account deficit over the medium-term. As a result, the current account deficit will continue to be financed largely through stable funding sources.

  • Track-record of steady sovereign access to international capital markets at favorable terms. Colombia has had uninterrupted access to international capital markets at favorable terms since the early 2000s. All major credit rating agencies rate Colombia at investment grade level. Sovereign bond and CDS spreads (281 and 218 basis points) have increased since the time of the last FCL arrangement but they sit comfortably on the regional median.

  • International reserve position remains relatively comfortable. Gross international reserves increased slightly during the current FCL arrangement despite the large drop in oil prices and currency depreciation. They stood at US$47 billion as of March 2016. This is broadly equivalent to coverage of 10 months of imports, 150 percent of the ARA metric,8 and 116 percent of the sum of short term external debt at remaining maturity and the projected current account deficit, which is relatively comfortable (Figure 2).

  • Sound public finances, including a sustainable public debt position. The authorities are committed to fiscal sustainability by adhering to their structural balance rule. A strong fiscal framework and moderate levels of public debt helped Colombia adjust policies to absorb the permanent oil price shock. The authorities have committed to approving a structural tax reform by year-end. At 50.6 percent of GDP, public debt is some 4 percentage points higher than a year ago—partly due to the valuation effects of the peso depreciation and, to a lesser extent, the cyclical widening of the central government deficit. Public debt is projected to decline gradually over time and remain sustainable (Figure 5).

  • Low and stable inflation, in the context of a sound monetary and exchange rate policy. The ongoing spell of inflation above the target band (7.9 percent y/y in April 2016) is mainly due to temporary shocks that are expected to unwind later this year. As the exchange rate stabilizes in line with oil prices, the pass-through to tradable goods prices will decrease. The effects of El Niño weather phenomenon on food prices will subside when the wet season beings in the second half of the year.9 Medium-term inflation expectations remain anchored within the target range of 2-4 percent. The authorities remain committed to their inflation targeting framework and flexible exchange rate, and have increased the policy rate by 275bps since August 2015 to contain inflationary pressures.

  • Sound financial system and absence of solvency problems that may threaten systemic stability. The financial system solvency and liquidity has remained strong amid less favorable external financing conditions, sectoral credit issues, and changes in local funding conditions. According to a central bank stress test conducted in 2015, the banking sector would remain solvent even under an extreme macroeconomic shock. Banks’ exposure to companies in the oil sector is low, mitigating the risk from low oil prices to direct lending portfolios.

  • Effective financial sector supervision. The authorities have finalized and implemented many of the January 2013 FSAP recommendations, including those that help address cross-border risks. Since December 2015, the supervisor has the authority to impose higher levels of capital and liquidity to individual financial institutions that exhibit a higher risk profile. In addition, laws granting independence and legal protection of the supervisor came into effect in January 2016. Laws awarding further regulatory powers over holding companies of financial conglomerates are currently before Congress. Work on addressing the identification of systemic financial conglomerates has progressed but assessing risks from mixed conglomerates remains challenging given complex ownership and offshore structures where regulatory reach is limited. Colombia has consolidated a comprehensive risk-based supervisions scheme of AML/CFT for financial institutions that is a reference in Latin America. The authorities plan to further embed Basel III elements in their regulatory framework and enhance their resolution frameworks.

  • Data transparency and integrity. Colombia’s macroeconomic data continues to meet the high standards found during the 2006 data ROSC. Colombia remains in observance of the Special Data Dissemination Standards (SDDS), and the authorities provide all relevant data to the public on a timely basis. The authorities continue to work with staff in the Statistics Department to improve information, methodology, and procedures concerning the submission of Government Finance Statistics as noted in IMF Country Report No. 16/129.

Figure 4.
Figure 4.

Colombia: Indicators of Doing Business and Institutional Quality

Citation: IMF Staff Country Reports 2016, 154; 10.5089/9781484390818.002.A001

Sources: World Bank and Fund staff estimates.
Figure 5.
Figure 5.

Colombia: Public DSA—Composition of Public Debt and Alternative Scenarios

Citation: IMF Staff Country Reports 2016, 154; 10.5089/9781484390818.002.A001

Source: Fund staff estimates.
A01ufig11

Sovereign Spreads

(Basis points)

Citation: IMF Staff Country Reports 2016, 154; 10.5089/9781484390818.002.A001

Source: Bloomberg.1/ LA5 corresponds to the maximum and minimum sovereign spreads among Brazil, Peru, Mexico, Chile, and Uruguay.
Table 4.

Colombia: Operations of the Combined Government, 2013–21 1/

(In percent of GDP, unless otherwise indicated)

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Sources: Ministry of Finance; Banco de la República; and Fund staff estimates and projections.

Includes central administration only.

The increase in tax revenue in 2012 reflects the elimination of the fixed asset tax credit, which was part of the end-2010 tax reform.

Includes income tax payments and dividends from Ecopetrol corresponding to earnings from the previous year.

In percent of potential GDP. Adjusts non-commodity revenues for the output gap and commodity revenues for differentials between estimated equilibrium oil price and production levels. Adjustments are made to account for fuel subsidy expenditures and the accrual of Ecopetrol dividends.