IMF with Positive Outlook for Guatemala

For the entity, "growth has been accelerating since mid-2018 after three years of weak performance," and a variation of 3.4% of GDP is expected for 2019.

Tuesday, May 7, 2019

Backed by a positive fiscal boost, the recovery of exports after last year's decline resulting from a deterioration in the terms of trade, and the dynamism of private investment. Growth would peak at 3.7% in 2021, before converging towards the potential rate of 3.5% by 2024, the International Monetary Fund reported after its last visit to the country.

See "Guatemala: Growth Projections Improve" and "Economic Outlook for the New Year"

From the IMF report:

May 6, 2019. Underpinned by a strong macroeconomic framework, fundamentals remain strong and growth prospects are positive aided by supportive fiscal and monetary policies. Over the medium term, higher and more inclusive growth is key to meaningfully lift Guatemalans’ living standards. Building consensus on long-awaited business climate and public sector reforms would promote private sector growth and the attainment of the Sustainable Development Goals (SDGs).

An Improving Outlook Aided by a Supportive Policy Mix

1. Near-term growth is poised for a rebound amidst well-anchored inflation expectations. Growth has revived since mid-2018 after three years of weaker performance. Staff projection is for 3.4 percent in 2019 propelled by a positive fiscal impulse, exports recovery after last year’s slump due to weaker terms of trade, and investment momentum. Growth would peak at 3.7 in 2021, before converging to its potential rate of 3½ percent by 2024, while inflation is projected to remain within the 4±1 percent target. The current account balance is expected deteriorate to -1½ percent of GDP by 2024, nonetheless foreign reserves would remain within comfortable ranges.

2. Risks to the outlook are tilted to the downside. External risks originate from a growth slowdown in the U.S. and other regional trading partners. The main domestic risk stems from lagged implementation of business climate reforms and drifting anti-corruption efforts, which would dampen investment prospects. On the upside, the timely creation of a government-sponsored agency, alongside the deepening of existing trade agreements, would invigorate exports prospects.

3. Fiscal and monetary policy support to demand is appropriate and should extend into the near term. In line with Fund’s advice, the macroeconomic policy mix has been geared towards supporting demand.

  • Fiscal policy. The fiscal deficit is expected to widen to 2.2 percent of GDP by year-end, and to 2.4 percent next year, enabling a cumulative fiscal impulse of 1 percent of GDP over 2018−20. Spending momentum from easier awarding of government projects, and from the Ministry of Finance’s closer coordination with the General Comptroller office and with executing agencies, should extend into the near term. Going forward, as the economy operates near its potential, the deficit is set to stabilize around its historical mark of about 2 percent.
  • Monetary policy. Accommodative monetary conditions allowed for a turnaround in credit since mid-2018 in tandem with domestic demand. The accommodative stance should continue as the output gap closes amid well-anchored inflation expectations. Gradual normalization should follow suit as the economy grows above potential (2021 by staff projections). Banguat’s strong monetary policy management has been paramount to anchoring inflation expectations and, going forward, additional enhancements to the inflation targeting could be considered, including greater FX flexibility (as observed in 2018), secondary market development (via the adoption of the securities market law and the dematerialization of securities), and refinements to the forward-looking communication strategy, building on a proven record of anchoring inflation expectations.

Lifting Potential Growth and Living Standards through Public Sector and Business Environment Reforms
With the demographic dividend materializing over the next two decades, lifting potential growth is a priority to achieve economic success and social cohesion. This calls for wide-ranging public sector and business climate reforms.

4. Well-targeted and productive infrastructure and social spending would promote private sector growth and key SDGs. The authorities should prioritize those investments generating the strongest externalities (such as water and sanitation services, preventive and primary healthcare, pre-primary education programs and teachers’ training) and with the highest potential for cost recovery and private sector participation (e.g., transportation infrastructure). Congress approval of multi-year loans for education, health, food security, justice, infrastructure, and water and sanitation, will enable the incorporation of these priorities into a medium-term budget framework. As spending is scaled-up, more focus should be placed on performance-based budgeting through strengthened monitoring and evaluation, as steered by the Secretary of Planning.

5. The scale of the infrastructure and social gaps is large and calls for additional financing, starting with greater spending efficiency and revenue mobilization. In so doing, the authorities should aim for creating additional fiscal space while preserving the debt-to-GDP ratio broadly stable. This would preserve a stable macroeconomic framework conducive to private sector growth.
  • Public financing management. The authorities are generating savings via a sound public debt strategy, including 20-year, and small-denomination, bond issuances. To cushion against unexpected shocks, the authorities have put in place a risk management financial strategy, including an emergency fund, contingent credit lines, and natural disaster insurance.
  • Public sector reforms. Necessary reforms to reap efficiency gains include (i) the laws on civil service and salaries in the public administration to facilitate public service professionalization (via meritocracy-based recruitment, incentives, and training); (ii) the procurement law to bolster cost-effectiveness and balance agility and transparency; (iii) reduced revenue-earmarking and mandatory spending floors, and couching spending objectives within a medium-term framework; and (iv) rationalizing tax incentives and exemptions. Staff recognizes the authorities’ drive for enhancing fiscal transparency.
  • A stronger SAT to reverse the erosion in tax revenues. Despite reinforced internal audits and the successful implementation of the Integral Load Control Plan in Puerto Quetzal, tax revenue as a percent of GDP has declined by around ½ percentage points over 2016−18. Reversing the decline in tax collection hinges on strengthening the large taxpayer office management, improving the use of tax information to address noncompliance, redirecting resources towards risk-based auditing, and reconsider the lifting of bank secrecy for tax audit purposes. Regarding the latter, the current suspension, in addition to denting tax collections, could undermine Guatemala’s compliance with respect to international transparency treaties.

6. The authorities’ agenda to promote a thriving business environment is commendable and should be expedited. The proposed agenda endeavors to improve the rule of law and the regulatory framework, which would dynamize investment and exports—both on a steady decline over time. The adoption of an insolvency law and other initiatives to restore legal certainty for large-scale investment projects (e.g. swift incorporation of ILO Convention 169 into Guatemala’s domestic legal system) are important to strengthen contract enforcement and improve investors’ confidence. Spearheading the PPP framework and passing the road infrastructure bill would catalyze private investments and improve domestic market connectivity and competitiveness. Efforts aimed at improving the issuance of construction licenses should continue in order to ease the shortage in residential housing and promote the development of middle-sized cities. A government-sponsored exports and investment promotion agency would foster exports and competitiveness, as would expedited customs procedures with El Salvador and Mexico building on the successful experience with Honduras.

7. The government should reaffirm its commitment to the anti-corruption agenda. Withdrawal from CICIG puts a premium on sustaining prior legal and institutional progress and proceeding with outstanding cases. Strengthening the Attorney General’s Office and judicial capacities should be focal points. Therefore, efforts should go to fortify the investigative and prosecutorial competences and to reduce the judicial backlog. The authorities’ plans to extend the coverage of the public prosecutor’s office and to consolidate its financial independence are welcome. Furthermore, a preemptive strategy is of the essence to reduce exposure to corruption and calls for reforms, partly ongoing, to strengthen the procurement and the AML/CFT framework, reduce red tape, improve contract enforcement, and increase the transparency of tax exemptions.

Modernizing the Financial System and Enhancing Financial Inclusion
8. The financial system is healthy, and there is room for further modernization.Banks continue to be well-capitalized and liquid, while nonperforming loans remain low. The authorities should persevere in their efforts to align the financial sector with Basel III standards. Initiatives meriting support include the bill on banks and financial groups, the draft AML/CFT bill, the securities market law, and the electronic money law.

9. The authorities are encouraged to flesh out a National Strategy for Financial Inclusion . Last year’s reform of the code of commerce and movable guarantees, and the recent approval of the factoring law are meant to facilitate SMEs’ access to credit. Further efforts are needed to operationalize the 2016 microfinance law, and to set in motion simplified bank accounts and credit bureaus. The authorities have set up an interinstitutional Commission to implement a National Strategy for Financial Inclusion. To propel technological innovation, which includes FinTech solutions, an analytical center is setup to contemplate a system of regulatory responses (sandbox) in a way that balances technological innovation with financial stability.

Building Consensus Towards a Development Strategy
10. Unleashing higher and more inclusive potential growth calls for a nationwide dialogue. Building on success in macroeconomic management, Guatemala is well poised to embrace wide-ranging business climate reforms and an SDG agenda. The time is ripe for forging a national consensus towards raising growth prospects and living standards.

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