We estimate a growth potential of 3% over the medium term, as copper prices moderate and productivity lags. Managing social demands for more inclusive growth while dealing with lower growth prospects is currently Chile's key credit challenge. Debt has risen to around 25.6% of GDP in 2018, but fiscal metrics compare favorably with those of peers. The government maintains significant flexibility to respond to shocks given financial assets of around 20% of GDP.
The stable rating outlook reflects our assessment that the country’s credit profile encompasses important strengths, including the high institutional strength reflected in its governance and policy effectiveness scores, which are in line with or above those of its peers. The government's fiscal strength remains very high despite the deterioration reported to date, with debt metrics lower than those of many A-rated sovereigns. Although the sovereign has lost its net creditor status, government holdings of financial assets provide the country with important buffers to manage adverse shocks.
Aggressive fiscal consolidation that proves effective in reducing government debt ratios could exert positive pressure on Chile’s rating. Similarly, a sustained increase in Chile’s medium-term growth prospects, supported by government policies that increase total factor productivity and promote economic diversification, could exert positive pressure on the rating.
An increase in government debt metrics with no indication of debt stabilization could result in a negative rating action. Difficulties in sustaining GDP growth close to Chile’s potential rate could also lead to a downgrade.
Recent protests and riots highlight Chile's exposure to social risk
For more than a month, Chile has undergone social unrest and riots in what has become its biggest political and social crisis since the return to democracy in 1990. Protests were sparked by an increase in public transportation fares, but they ultimately reflected underlying social discontent with high living costs, the quality and coverage of public services and income inequality. Protests in Santiago and other cities have been violent. While violence has waned and curfews have been lifted, instances of unrest and destruction are still occurring.
The government of President Sebastian Piñera responded by inviting representatives from opposition parties to discuss a legislative agenda and announced several measures under a so-called “new social agenda”. These include canceling the increase in subway and bus fares, boosting minimum state pension payouts, guaranteeing a minimum income to low-income workers, halting increases in electricity tariffs, expanding government health care coverage for certain medical procedures and measures to reduce the cost of medicines.
Preliminary estimates are that the fiscal cost of these measures amount to $1.3 billion (0.4% of GDP) in 2020. Following a massive demonstration of more than 1 million people in Santiago and the continuation of social unrest, President Piñera announced the replacement of eight cabinet members, including his interior and finance ministers. In an effort to quell protests, last week the government agreed with all political parties except one a national accord for a referendum in April 2020. People then will vote on (i) whether to have a new constitution (yes or no) and what kind of body should write the new constitution (a constitutional mixed convention or a constitutional convention). The agreement for the referendum appears to have succeeded in lowering the intensity and frequency of the protests.
We expect the outcome of this process to be a constitution which overall content will not be materially different from the current one, as Chileans' main objection to it is the constitution's origin – from the dictatorship era – not so much its content. Moreover, the Constituent Assembly to be selected after the April 2020 referendum will have the participation of members elected by the population entirely for this purpose, adding legitimacy and rigor to the process. Also, the new constitution must be agreed by two-thirds of Assembly members, thus reducing the risk of drastic changes. That said, the process will likely take about two years and uncertainty about the final outcome will likely dampen business sentiment, investment and, consequently, growth prospects.