Passing the baton

Colombia overtakes Peru to become the regions fastest-growing big economy

Aug 2nd 2014

AS HE prepared to begin a second term as Colombias president on August 7th, the first name
that Juan Manuel Santos inked in for his cabinet was Mauricio Cardenas, who keeps his job as
finance minister. That was no surprise: helped by an investment boom, the countrys economy
grew by 6.4% in the first quarter compared with the same period last year. Mr Cardenas says
the second quarter was strong, too. The government will be raising its growth forecast for this
year from 4.7%.
This is a welcome exception to a regional trend: Latin America as a whole looks likely to grow
by less than 2% this year, the worst figure since 2009 (see chart). The end of the commodity
boom that lifted the region for more than a decade, the fading of the era of cheap money as
central banks in the rich world prepare to raise interest rates and a series of home-grown
factors have all taken their toll.

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Borrow, renege, borrow again

Passing the baton

The Exceptional Central Bank

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Juan Manuel Santos

Peru

Colombia

Colombias lottery winnings at work

The fall has been especially abrupt in Peru, where the economy is suffering what Luis Miguel
Castilla, the economy minister, calls a hiccup. Even if it rebounds in the fourth quarter as he
expects, predictions of growth of more than 4% this year seem too rosy. For a country that has
enjoyed Asian-style growth averaging 6.4% a year in 2003-13, the slowdown is a nasty

surprise. Colombia has overtaken Peru to become the fastest-growing of the bigger Latin
American economies.
Both countries are medium-sized commodity exporters with open-market economies. They are
both members of the free-trading Pacific Alliance. So why is Colombia now faring better than
Peru?
The answer starts with what Victor Bulmer-Thomas, a British economic historian of Latin
America, has called the commodity lottery. Colombias main exports are oil and coal, whose
prices have held up over the past couple of years. Peru depends on copper and gold for half its
exports; their prices have fallen (steeply in the case of gold). So the value of Perus exports fell
by 9% last year while that of Colombias slipped only slightly.
In explaining Colombias growth, Mr Cardenas also points to several reforms. Last year the
government arranged lower mortgage rates via an agreement among banks and a public
subsidy. This helped to boost construction, which is growing at over 10% a year. The subsidy is
now being withdrawn; $200m of public money leveraged housing investment totalling $2 billion,
according to Mr Cardenas.
A law in 2012 cut onerous payroll taxes (while raising income tax on the better-off). The result
is that formal-sector jobs are growing at 8% a year, while the large informal sector has started
to shrink, which ought to boost productivity. Ambitious, albeit delayed, private-public
partnerships in roads and railways should see investment of up to $25 billion by 2018.
Mr Santos has also implemented a fiscal rule under which the public-sector deficit, long a drag
on growth, has fallen steadily, to less than 1% of GDP. That has boosted the confidence of
investors. In March J.P. Morgan, a bank, more than doubled the share of Colombian bonds in
its emerging-market indices.
By contrast, Peru is suffering what Mr Castilla calls a complicated year. First, the sol
depreciated by about 9% in 2013, a textbook consequence of deteriorating terms of trade,
which raised the financing costs of some careless Peruvian companies. Further setbacks have
included weather-related contractions in fishing and farming, a standstill in investment by
regional governments because of corruption scandals and unexpected technical problems at
two big copper mines.
In response the government is shovelling money at the economy. Extra bonuses and wage
increases for state employees and extra loans for small business are worth more than 1% of
GDP. Mr Castilla insists that the economy will rebound in the fourth quarter and will again grow
by 6% in both 2015 and 2016. With new low-cost mines starting up, copper output should rise
by 20% next year while building work will start on public-private partnerships worth $18 billion,
including a gas pipeline and a second metro line for Lima.

Most analysts predict that Peru will soon regain its lead over Colombia. But that is not assured.
Perus long growth spurt was based on a mixture of catch-up after a disastrous 1980s, sound
economic policies (it enacted a fiscal rule in 1999), cheap natural gas and, above all, a huge
mining boom. But Peru has now caught up a lot. Francisco Rodrguez, an economist at Bank
of America, argues that the fall in mineral prices, together with delays in mine development,
have already driven Perus potential (ie, non-inflationary) rate of growth down to less than 5%
and that it will fall further.
Only if we do nothing, replies Mr Castilla. The government has launched plans to cut red tape
and to promote diversification away from mining. It has enacted promising reforms of the civil
service and of education, though their success turns on determined implementation. Its critics
decry an absence of labour-market reform.
In Colombia, Mr Cardenas is confident that all the new highways will raise the countrys
potential rate of GDP growth by 0.7 percentage points over four years. Mr Santos says a peace
deal with the FARC guerrillas would add another extra point of growth, by boosting agricultural
and energy output and encouraging investors.
But there are risks. The biggest involves the oil industry. Guerrilla sabotage and declining
reserves are threatening output and thus government revenue. Peace carries a price as well
as offering a dividend. Mr Cardenass next task may be to push through further tax increases.
Lotteries give countries opportunities. Development comes from using them to create more
productive economies. On that score, Colombia now has an edge over Peru; both are better
placed than many of their South American neighbours.

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