Peru's president pledges renewed infra investments

Corporate & Sovereign Strategy Economy & Policy Project & Infrastructure Finance Energy Regulation Politics Features Peru

After he was catapulted to office, Peru’s new President Martín Vizcarra moved quickly to outline his priorities, pledging to take a hard line on corruption after a series of graft scandals over the last year cast a shadow over Peruvian politics.

Vizcarra, thrust into the presidency after the resignation of former President Pedro Pablo Kuczynski, or PPK, also vowed to maintain a key element of his predecessor’s economic plan: stoke economic growth through infrastructure spending.

Yet as he forges ahead as Peru’s leader, the 55-year-old former vice president faces many of the challenges that PPK confronted, having to govern with an opposition-controlled Congress and finding a way to revive the country’s infrastructure sector, which continues to reel from the bribery scandal involving Brazilian construction giant Odebrecht.

PPK resigned on March 21 after a political crisis erupted when he acknowledged an investment bank he owned had done work for Odebrecht when he was a government minister.

Vizcarra took office two days later, and has since enjoyed a smooth political transition with his approval rating reaching 57%, according to three polls taken in April.

He has also found common ground with the opposition. “The government has the opposition parties on its side, which is a luxury in Peru,” says Elmer Cuba, a board member of the Central Reserve Bank (BCR). Vizcarra’s party, the center-right Peruvians for Change, holds just 18 of the 130 seats in Congress. If political tensions erupt with the opposition, as they did with PPK, Vizcarra might have little chance of lasting through 2021.

Luis Nunes, a political science professor who also runs his own political consulting business called Luis Nunes & Asociados (LN&A), says Vizcarra faces a different political landscape than PPK because the opposition does not want to see another change in government. He says a hostile Congress would likely hurt opposition parties in the next general election.

“Goodwill exists toward the administration, but it will have to show results to maintain support,” Nunes says. “Fighting corruption and growing the economy are the priorities.”

Vizcarra must simultaneously tackle a number of troubling economic trends, including rising unemployment and poverty rates. He also needs to ramp up public investment and attracting private investment to grow the economy above the anemic pace registered in 2017.

Hovering above these challenges is the need to run a squeaky-clean administration. Corruption has surged as the country’s top problem in opinion polls.

A big test will be how the administration deals with PPK, who is barred from leaving Peru for 18 months while he is under investigation. Three other former presidents are also under investigation for ties to the Odebrecht scandal, along with the opposition leader and former presidential candidate Keiko Fujimori. Former Odebrecht executives claim to have provided all five with secret campaign contributions in either the 2006 or 2011 presidential races.

Within his first month in office, Vizcarra dealt quickly with two resignations, moving to tamp down potential scandals. In mid-April, he accepted the resignation of Production Minister Daniel Córdova, who had reportedly offered to fire his deputy minister to avert a strike by fisherman. The head of the state’s acquisition control agency, Blythe Muro, also resigned after she faced criticism for signing off on a three-year, $4.7 million lease for a new office.

Mixed numbers
The Vizcarra administration began in a climate of decidedly mixed economic numbers. On the positive side, annualized inflation through March rose just 0.4%, and exports through February amounted to $7.6 billion, up 10.5% from the same period last year. Peru’s trade surplus topped $1.7 billion in the first quarter of the year, according to the BCR, which projects a $9.9 billion surplus for the full year.

The economy expanded by 3.2% in the first quarter of 2018, according to the national statistics institute INEI, up from last year’s 2.5% increase, the second lowest in the decade. The government lowered its growth forecast for 2018 in late April to 3.6% from 4%, but bumped up its 2019 GDP estimate to 4.3%.
The BCR forecasts private investment will expand by 5.5% this year compared to 0.3% growth in 2017. Public investment is expected to rise by 14.2% in 2018, short of the 18% that the administration wants to see, but far healthier than the 2.8% decline last year.

Government investments have become increasingly challenging as tax revenues dropped to 13.6% of GDP in 2017 from a high of 17% in 2014.

The Vizcarra administration also had to deal with news at the end of April that Peru’s poverty rate increased for the first time since 2001, as unemployment through March hit 8.1%, the highest in six years. Poverty affected more than one-fifth of the country’s 31.8 million people in 2017, up a full percentage point from the previous year. The INEI reported that the one-point increase means that 374,708 Peruvians slipped into poverty last year.

The path to growth
The government also plans to continue with PPK’s program to spark growth through public investment. To make room for more spending, Congress agreed last year to allow the fiscal deficit to increase to 3.5% of GDP this year, up from the previously limit of 2.3%, but it also required the government to start cutting the deficit in 2019 and get it down to 1% of GDP by 2021.

Finance Minister David Tuesta has outlined major expenses for rebuilding efforts after the El Niño flooding that wreaked havoc on the Peruvian coast in the first four months of 2017. The administration has budgeted approximately $2.2 billion — or 1% of GDP — for reconstruction in 2018. Another $1 billion will fund projects related to the 2019 Pan-American Games.

“We are going to publish legislation that will completely change the way of doing business in the public sector,” Tuesta said at a forum organized by Thomson Reuters at the end of April. He indicated the new rules would “simplify procedures, transferring teams to regions instead of projects being sent to Lima” for approval.

The BCR’s Cuba says public investment will grow by double digits this year and should add at least one point to the GDP. The administration is encouraged by data from the first few months of 2018. The construction sector expanded by 7.9% in January and February, compared to the previous year. The 0.56% increase in loans from banks to construction companies in March represented the first increase in nine months.

On the private side, mining will lead the way as investment responds to rising commodity prices. The sector, which accounts for close to 60% of Peru’s exports, could attract as much as $4.6 billion this year, according to the BCR, and a total $20.8 billion through 2022, says the Energy and Mines Ministry.

Mexico’s Southern Copper won the contract for the $2 billion Michiquillay copper project in February in the first mining concession auction that Peru has held in a decade. The company has said it is also considering two other big copper mines and a nearly $1 billion expansion of its copper refinery on the southern coast.

Bumping up the tax haul
The administration recognizes that it also urgently needs to increase revenues. In his first weeks in office, Tuesta focused on ways to aggressively tackle tax evasion. He says that nearly 200 tax breaks, loopholes and exemptions added up to approximately 2.2% of GDP. The government increased the selective sales tax on alcohol, soft drinks, tobacco, fuels and some vehicles in early May, hoping to generate an additional $530 million in revenue.

Former Finance Minister Alonso Segura says Peru does not need higher tax rates, but better collection. He also says the country needs to eliminate some tax breaks, including several added during the most recent reform in 2017. "Given the fiscal situation, everything needs to be on the table. Some exemptions are politically sensitive, but it is necessary to consider all options," he says.

Cuba warns that Peru cannot afford for tax revenues to keep dropping. Indicating that companies have basically figured out how to get around the tax agency’s controls, he says tax avoidance "is basically a kind of tax planning."

Before he left the Cabinet in early June, Tuesta was also examining spending cuts. Government officials say they have identified around $625 million in government spending that could be trimmed without have a negative impact on the economy. 

Cuba says cutting spending will not have a significant economic impact, but it will show the country that the government is interested in investing in areas that improve life for ordinary Peruvians. "These kinds of measures look good and help generate support. People want to see the government doing things that help them," he says. LF

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