We want to thank staff for its report on Colombia’s request for a Flexible Credit Line Arrangement (FCL). It comes a month after the formal Board discussion on the Article IV consultation and the informal discussion of a possible successor arrangement. We are grateful for the support Directors expressed to the country’s macroeconomic management and by their favorable views on the medium-term outlook and recognized that the economy remains vulnerable to external risks.

As stated in the formal request for a successor arrangement, the current FCL is coming to an end at a time when Colombia is in the final stages of the adjustment process to the shocks that hit the economy between 2014 and 2016, including the sharp decline in oil prices in the second half of 2014 which became one of the largest adverse external shocks the country has ever had to face.

The policy response was structured around three specific pillars that have been at the core of our macroeconomic policy for many years: allowing the exchange rate to act as the primary shock absorber given the limited number of currency mismatches and a sound financial sector; cautious monetary policy to keep inflation under control; and commitment to a medium-term fiscal rule to keep spending and debt at sustainable levels.

These pillars were also critical in dealing with the supply shocks that followed—especially the severe drought caused by el Niño weather phenomenon in 2016 that led to food shortages and a sharp increase in energy prices. Their combined effect, together with the peso’s sharp nominal depreciation, sent headline inflation up to three times the target.

The response by the Central Bank was a tightening cycle that helped break inflation’s trend in the second half of 2016. This downward trend was sustained as the effects of the currency depreciation and supply shocks subsided, leading to a headline inflation of only 13 basis points above the target in April.

Faced with falling inflation and anchored expectations as well as a negative output gap, the Bank has followed a cautious cycle of monetary easing—cutting the policy rate by 350 basis points over the past year and a half—while continuing to strengthen their decision-making process and paying close attention to the macro financial stability of the economy.

On the fiscal front, efforts centered on consolidation in line with the medium-term fiscal rule. They included passing a comprehensive tax reform to increase general VAT rates, limit exemptions in personal income tax, reduce corporate tax rates, and strengthen tax administration and introduce new penalties to tackle evasion. To date most of the expected negative short-run impact of the reform has already taken place and the positive effects on investment of lower corporate tax rates to impact medium-term growth are starting to operate.

These policy actions have facilitated a relatively smooth adjustment that is now giving way to recovery. Growth was 1.8 percent last year and is expected to reach 2.7 percent this year—with first-quarter growth in line with forecasts—and to continue increasing to 3.5 percent by the end of the decade; inflation is very close to target with expectations firmly anchored below 4 percent; the current account is estimated to fall to the 2-3 percent of GDP range deemed sustainable by authorities; and the labor market has been resilient and capable of maintaining unemployment at 9 percent levels despite the slowdown.

Despite this progress authorities are well aware of the need to rebuild policy buffers as recovery gains pace, since the economy is still vulnerable. The country cannot afford a disorderly adjustment to any materialization of the major identified global risks—namely the possibility of a sharp correction in financial markets, the buildup of vulnerabilities if financial conditions remain loose, a choke on growth via an escalation in trade restrictions, the possibility that commodity prices can fall abruptly in the face of a global downturn, or the challenges posed by the humanitarian crisis in Venezuela.

Any of these risks could be further amplified by a reversal of the substantial capital inflows the country has experienced, and by the large increase in participation of foreign investors in local debt markets. This is particularly relevant, given the evidence that the depth and composition of international investors can expand the impact of external shocks, and that large institutional investors could react more strongly and persistently to economic shocks.

Colombia’s main line of defense against a more volatile and uncertain external environment will be maintaining the strong institutional policy framework that is part of its laws and Constitution, and the strong fundamentals that have been the backbone of its macro policy for more than a decade: an inflation targeting framework and flexible exchange rate regime, public finances firmly anchored on debt sustainability and a structural fiscal rule, and strong financial regulation and supervision.

Furthermore, policy continuity is underpinned by a strong political consensus in Colombia on macroeconomic stability and very strong policy frameworks. The country remains firmly committed to maintaining solid policies and responding appropriately to any shocks that could arise.

Nevertheless, we know that if an adverse tail-risk scenario materialized, the FCL arrangement would provide critical support by allowing the economy to better absorb the shock and move along a smoother path of adjustment.

This is the main reason behind the authorities’ request for a new two-year FCL arrangement with an access level of 384 percent of quota, and for the cancellation of the current arrangement. Our analyses suggest we would still need that level of support to face an adverse shock scenario, even after a drawdown in reserves consistent with what markets deem as sustainable. As with the current arrangement, we intend to treat it as precautionary and welcome the fact that it also provides a positive signal regarding the policy’s ability to deal with these types of shocks.

We also remain committed to a temporary use of the instrument. With the substantial reduction of some of the global risks affecting Colombia, we would intend to reduce access to Fund resources in any subsequent FCL arrangements, and to phase out Colombia’s use of the facility. Reducing access and exiting the FCL should be contingent on the evolution of risks, particularly if—barring the emergence of new ones—there is a significant reduction in the likelihood of a global slowdown that would adversely impact commodity prices, an abrupt tightening of global financial conditions or of protectionism, and a retreat from integration. In any case, it would be underpinned by a careful communications strategy to provide adequate guidance to markets.

Finally, let us reiterate our conviction that the current macro framework, together with an adequate reserves position and access to the FCL, has allowed the country to maintain confidence in the economy and balance adjustment and reform in the face of very large negative shocks. We believe this continues to be the most sensible course of action.