ECONOMIC OUTLOOK PARAGUAY - BBVA Research...PARAGUAY ECONOMIC OUTLOOK 2H-2016 │ NOV-2016 7 GDP growth slowed in the second quarter Source: Central Bank of Paraguay TOTAL GDP (Chge

PARAGUAY ECONOMIC OUTLOOK 2H-2016 │ NOV-2016

PARAGUAYECONOMIC OUTLOOK

SECOND HALF 2016


2

The Central Bank has

managed to control

inflation, and

expectations are

anchored. In this

context, we foresee no

changes in monetary

policy.

We expect GDP to grow

by 2.9% next year.

Growth will be supported

by the start of

infrastructure works and

a gradual recovery in

consumption.

Looking ahead, the

national currency will

depreciate somewhat

further due to global

uncertainty, the US

Federal Reserve’s

interest rate adjustment

and fundamental factors



Contents

Paraguayan economy

- How has activity evolved so far this year?

- Macroeconomic projections for 2017

- Looking to the medium term

1

Main messages2

Closing date: 10 November 2016


PARAGUAYSECOND HALF 2016

Growth will be supported by infrastructure

projects


1. How has activity evolved so far

this year?


The Paraguayan

economy is proving

resilient in the face of

a highly volatile

external environment

6Source: IMF, World Bank and BBVA Research

GDP: LATAM5* AND PARAGUAY

(Average chge.% YoY 2011-2016)

• Uncertainty in financial markets due

to the upcoming adjustment in US

Federal Reserve rates

• Contraction of the Brazilian economy

• Fall in the price of soybeans

*Latam5: Brazil, Chile, Colombia, Mexico and Peru


0.1

2.7

3.5

4.2

4.74.8

Brazil Mexico Chile Colombia Peru Paraguay


7

GDP growth slowed in the second quarter

Source: Central Bank of Paraguay

TOTAL GDP

(Chge. % YoY and contribution in percentage points)

GDP EXCL. AGRICULTURE AND BINATIONALS*

(chge. % YoY)


* The Itaipú y Yacyretá hydroelectric projects, shared with Brazil and Argentina respectively.

4.03.6

5.7

7.1

5.0

2.1

0.9

-0.6 -0.5

3.5

-0.3-0.6 -0.6

-0.2

1.5

0.5

1.5

1.7 2.0

2.73.7

3.0

5.1

6.96.5

2.62.4

1.11.5

6.2

1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 3Q15 4Q15 1Q16 2Q16

Agriculture and binational (p.p.) Other sector (p.p.)

6.2

5.1

8.0

10.2

7.4

3.2

1.2

-0.9-0.6

4.9

1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 3Q15 4Q15 1Q16 2Q16


8

This result was driven by recent trends in power production and

general activity


• Greater use of installed capacity and favourable

hydrological conditions.

• Increased slaughter of livestock led to

improvements in the meat industry and availability

of raw materials (leather goods and footwear).

• Upturn in central government investment, in

reaction to normal execution of works.

GDP ON THE SUPPLY SIDE

(chge. % YoY)


1Q16 2Q16

Agriculture: 3.2 2.9

Electricity and water 11.8 20.0

Livestock, forestry and fisheries -0.8 14.4

Mining and manufacturing -3.6 10.6

Construction 2.7 23.0

Services -0.4 1.6

Taxes 1.6 6.5

Total Added Value -0.6 1.3

Total GDP 1.5 6.2

GDP excl. agriculture and

“binationals”-0.6 4.9


9

Most notable on the expenditure side in 2Q were the increase in

exports and the improvement in domestic demand


EXPORTS OF GOODS AND SERVICES

(chge. % YoY)

DOMESTIC DEMAND EXCLUDING INVENTORIES

(chge. % YoY)


Energy: 28%

Meat: 26%

Soy flour: 20%

7.9

1.42.1

6.3

2.8

-8.5-7.7

1.9

-2.6

7.2

1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 3Q15 4Q15 1Q16 2Q16

0.4

2.1

8.4

7.6

5.7

4.6

2.3

-0.9-0.7

2.6

1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 3Q15 4Q15 1Q16 2Q16


10

Available indicators for 3Q show activity and exports maintaining their

dynamism


ECONOMIC ACTIVITY INDICATOR

(chge. % YoY)

EXPORT OF ENERGY

(chge. % YoY)


* Average of July, August and September.

YoY growth in

September6.4

5.3

6.2

5.4

4.8

1Q15 2Q15 3Q15 4Q15 1Q16 2Q16 3Q16*

IMAEP IMAEP without agriculture and binational

-6.9

-10.6

3.2

13.1

17.1

28.0

20.3 21.0

32.0

1Q15 2Q15 3Q15 4Q15 1Q16 2Q16 2Q16 Aug-16 Sep-16


11

However, indicators for investment and consumption continue to

show weakness


ECN: BUSINESSES LINKED TO INVESTMENT*

(chge. % YoY)

ECN: BUSINESS ASSOCIATED WITH CONSUMPTION*

(chge. % YoY)


* ECN: Estimador de Cifras de Negocios (turnover estimator) * ECN: Estimador de Cifras de Negocios (turnover estimator)

Positive

performance

in

September

9.4

4.0

-6.5

-10.8

2.23.6

-4.5

6.5

0.1

-7.3 -6.5

1.1

2Q15 3Q15 4Q15 1Q16 2Q16 Jul-16 Aug-16

Construction materials Gross capital formation

0.8 1.0 1.7 1.9 1.4

8.4

0.8

-21.1-19.0

-29.0

-14.6

-2.4

-7.6

0.7

2Q15 3Q15 4Q15 1Q16 2Q16 Jul-16 Aug-16

Hyper, supermarkets, distributors and other Vehicle sales


3,1

3,8

2,5

3,0

3,5

4,0

2015 2016(p)

In this context, we

foresee the

Paraguayan

economy growing by

3.8% in 2016

12Source: Central Bank of Paraguay and BBVA Research

TOTAL GDP

(Average chge.% YoY 2011-2016)

Support…

• In the first half of the year GDP grew

by 3.7%

• Improved performance of the

Construction and Services sectors

… but

• Slackening of dynamism in the

energy generation sector



2. Macroeconomic projections for 2017


Economic activityGrowth will be 2.9% in 2017, underpinnedby investment in infrastructure and therecovery of consumption

Macroeconomic projections


15

Our baseline scenario for 2017 assumes the following exogenous

factors


On the external side

1. The world economy will show moderate growth,

in an environment of great uncertainty

2. Global interest rates will remain low, with

gradual adjustment on the part of the US

Federal Reserve

3. Recovery of the Brazilian economy (in positive

territory after two consecutive years of declines)

4. Terms of trade will continue to deteriorate due

to the increase in the price of oil and the low

price of soybeans


USA

Eurozone

China

Brazil

Downward

adjustment

No

adjustment

Upward

adjustment

World

Latam

1.6 1.5

6.6 5.8

3.0 3.2

-1.2 1.5

1.6 2.1

-3.0 0.9

16

World growth projections for 2016-2017

Source: BBVA Research



18

United States: growth for 2016 revised downwards


• Revised downwards due to:

1. indicators suggesting insufficiently strong growth in 2H16

following the weak first half;

2. persistently low productivity,

• Federal Reserve: we expect a process of very

gradual adjustment to key rates

• Going forward, uncertainty about economic

policies following the elections

US GDP GROWTH

(%)


1,7

2,42,6

1,6

2,1

0,0

0,5

1,0

1,5

2,0

2,5

3,0

3,5

2013 2014 2015 2016 2017

Oct-16 Jul-16


19

Brazil: a lurch towards orthodoxy and problems in moving ahead with

reforms


• Lurch towards orthodoxy, which looks likely to

continue:

– Central Bank less tolerant of inflation

– More prominent role played by the private sector,

etc.

• But the political environment will not help:

– Government to face tough opposition

– Uncertain support of Congress and the population

for reforms, etc.

• In this context, we expect a slow recovery going

forward and a reduction in inflation

• But more robust growth will require structural

reforms, which will be difficult to get approved

BRAZIL: GDP GROWTH

(%)


3,0

0,1

-3,8

-3,0

0,9

-5

-4

-3

-2

-1

0

1

2

3

4

2013 2014 2015 2016 2017

Oct-16 Jul-16


20

Oil in line with very gradual recovery. Soybeans affected by

increased supply


BRENT CRUDE

(US$ per barrel)

SOYBEANS

(US$ per metric ton)


• The price of oil will recover gradually as the

current surplus is absorbed

• The price of soybeans is adjusted downwards due to

the upward surprise in world harvests, especially

in the US and Brazil

0

20

40

60

80

100

120

1Q

14

4Q

14

3Q

15

2Q

16

1Q

17

4Q

17

3Q

18

2Q

19

1Q

20

4Q

20

Jul-16 Oct-16

300

350

400

450

500

550

600

1Q

14

4Q

14

3Q

15

2Q

16

1Q

17

4Q

17

3Q

18

2Q

19

1Q

20

4Q

20

Oct-16 Jul-16


21

Risks in the developed economies intensify in the short term, those in

China in the medium term



Sho

rt-t

erm

pro

babili

ty

Impact

Brexit,

European

institutional

crisis, etc.

Vulnerability

in emerging

markets

(corporate

debt)

Uncertainty

about

economic

policies in the

US

Imbalances

in China:

property

market,

among

others


22

Our baseline scenario for 2017 assumes the following exogenous

factors


On the domestic front:

1. Construction of infrastructure works will have a

greater effect on the economy from the second

half of 2017

2. Government spending on goods and services

consistent with the “fiscal rule”

3. Growth in electricity generation will ease


23

The increased levels of both public and private investment will

provide support to the economy

Source: DNCP (Dirección Nacional de Contrataciones Públicas or “National Directorate for Public Contracts”)

• These projects are in addition to the public

projects already under way (road

improvements, etc.)

• Infrastructure generates significant positive

externalities for levels of productivity

PARAGUAY | PPP PROJECTS

(US$ millions)


* There are more Private Initiative projects, but until they are declared of Public

Interest, they are confidential pursuant to Article 51 of Law 5.102/13

Preliminary

amount (US$

millions)

%

of

GDP

Total 2,920 10.1

1. Public Initiative 2,858 10.2

- Awarded

(Routes 2 and 7)520 1.9

- Approved and in the bid assessment stage

(Airport)132 0.5

- Under study

(Hidrovía (a plan by the five countries of the

La Plata Basin to convert the Paraguay and

Paraná rivers into an industrial shipping

channel), Routes 1 and 6, Upper Paraná

Clean-up)

2,206 7.9

2. Private Initiative 62 0.2

- Under study with confidentiality clause*

Article 51 of the PPP Law (Roads and

Railways)

62 0.2


24

Moreover, consumption will recover, but exports will tend to return to

normal

Source: Central Bank of Paraguay and BBVA Research

PRIVATE CONSUMPTION

(chge. % YoY)

EXPORTS IN REAL TERMS

(chge. % YoY)


3,8

2,8

1,6

3,1

2014 2015 2016(p) 2017(p)

4,3

-3,0

2,5

1,1

2014 2015 2016(p) 2017(p)


We forecast growth

of 2.9% in 2017.


TOTAL GDP

(Chge. % YoY)

Support…

• Infrastructure projects (PPP)

• Slow improvement in external

demand (Brazil)

… but

• Reduced dynamism in the Electricity

sector


4,7

3,1

3,8

2,9

2014 2015 2016(p) 2017(p)


26

Risks to our growth forecast for 2017


1. Delays in

execution of

infrastructure

projects

2. Slower

recovery in Brazil

4. Lower growth

in China

3. Uncertainty

about economic

policies in the US


Fiscal scenario

We foresee fiscal deficits of close to 2.0%of GDP and an increase in the public debtratio, but public indebtedness will remainat low and sustainable levels




FISCAL RESULT

(% of GDP)

PUBLIC DEBT

(% of GDP)


1,3

1,0

-1,7 -1,7

-1,1

-1,7

-2,0 -1,9

2010 2011 2012 2013 2014 2015 2016(p) 2017(p)

14

11

15 14

18

20

24

26

2010 2011 2012 2013 2014 2015 2016(p) 2017(p)

The debt ratio will rise next year to finance fiscal deficits, but…


29

…in relative terms it will remain at low and sustainable levels

Source: IMF, Bloomberg and Central Bank of Paraguay

COMPARISON OF THE LEVEL OF PUBLIC DEBT

(% of GDP)


74

62

5754

49 49

4039

35

24 23

17

50

Bra

zil

Uru

guay

Arg

entina

Mexic

o

Co

lom

bia

Venezu

ela

Bo

livia

Panam

a

Ecuad

or

Para

guay

Peru

Chile

37

Moody’s: Baa3

Moody’s: Ba1

Debt in countries with same qualif ication.


30

The Fiscal Responsibility Act (LRF in the Spanish abbreviation)

requires some adjustments


The LRF has been a success in terms of

strengthening institutions, but…

Legal ambiguity surrounding the LRF

• The Budget Laws (approved by Congress) are in a situation of legal parity with the LRF

Low deficit limit

• Plans for investment in infrastructure may end up being curtailed

Limited exception clauses

• These may restrict the scope for applying countercyclical policies

• A structural rule?

– The government is considering making

amendments to the LRF

– More compatible with the Paraguayan economic

environment

• However, amending the LRF so soon after its

implementation would raise doubts about real

commitment to fiscal prudence.

• Increased pressures on fiscal accounts:

– Increase in minimum wage, presidential elections

– Increased spending on infrastructure


Exchange rateLooking ahead, downward pressures onthe national currency due to globaluncertainty, the US Federal Reserve’sinterest rate adjustment and fundamentalfactors



32

Exchange rate dynamic influenced by external volatility

Source: Bloomberg

EXCHANGE RATE

(PYG/USD)

US FEDERAL RESERVE KEY INTEREST RATE: PROBABILITY

OF AN INCREASE IN 2016

(%)


5480

5530

5580

5630

5680

5730

May-16 Jun-16 Jul-16 Aug-16 Sep-16 Oct-16 Nov-16

6%

16%

26%

36%

46%

56%

66%

76%

86%

May-16 Jun-16 Jul-16 Aug-16 Sep-16 Oct-16 Nov-16


33

An adjustment to the FED key rate will lead to readjustments of

portfolios and push the dollar up against the Paraguayan currency

Source: Bloomberg and BBVA Research

• The market expects more gradual

moves from the Federal Reserve

• If this expectation proves unfounded

(i.e. If the Federal Reserve raises

rates faster), downward pressures

on the Paraguayan currency will be

intensified

FEDERAL RESERVE KEY RATE PROJECTIONS

(%)


0.6

0.8

1.2

0.75

1.25

1.75

0.5

0.7

0.9

1.1

1.3

1.5

1.7

1.9

2016 2017 2018

Future BBVA


34

In this context, we project that the exchange rate (number of guaraní

per dollar) will show an upward trend


In an environment of greater global

uncertainty, we cannot rule out bouts

of volatility over the course of this

upward trend in the exchange rate

EXCHANGE RATE

(PYG/USD)


46034669

5768Dec-16

5700 - 5800

Dec-175900 - 6000

Dec-13 Dec-14 Dec-15 Dec-16 Dec-17


InflationThe Central Bank has managed to hold theyear-on-year inflation rate at around thetarget, and expectations are anchored



36

Inflation is not a problem (around the target) and expectations are

anchored


ANNUAL INFLATION

(%)

INFLATIONARY EXPECTATIONS

(%)


4.2

3.13.6

4.0 4.5

Apr-14 Mar-15 Feb-16 Jan-17 Dec-17

4.5

4.0

4.5

3.8

3.9

4.0

4.1

4.2

4.3

4.4

4.5

4.6

4.7

4.8

Oct-15 Dec-15 Feb-16 Apr-16 Jun-16 Aug-16 Oct-16

Año 2016 Año 2017


Monetary Policy The reference rate stands at 5.50% andwe do not expect any changes in the nextfew months



38

Monetary policy: Banco Central in pause mode in the next few

months


• Central Bank of Paraguay, no major concerns

in the short term:

– Inflation and expectations are within the target

range

– Risk of exchange mismatch is limited

– We foresee reduced pressures on the currency

• However, in this environment we do not rule out

possible monetary easing if private spending

remains weak.

BENCHMARK INTEREST RATE

(%)


6.75

6.005.75

5.50

5.50 5.50

Dec-1

4

Mar-

15

Jun-1

5

Sep

-15

Dec-1

5

Mar-

16

Jun-1

6

Sep

-16

Dec-1

6

Mar-

17

Jun-1

7

Sep

-17

Dec-1

7

Tasa de referencia Tasa de interés real expost


3. Looking to the medium term



POTENTIAL GDP: CONTRIBUTION TO GROWTH

(percentage points)


Potential growth will decline in the next few years due to the reduced

contribution from productivity

0

1

2

3

4

5

2007 2009 2011 2013 2015 2017 2019 2021

Capital Stock Workforce Human capital Productivity

Proyection


41

Measures are required to strengthen productivity and

competitiveness

Source: World Economic Forum

WEF 2016: MOST PROBLEMATIC FACTORS IN DOING BUSINESS IN PARAGUAY

(% of total responses)


5

2

4

4

4

5

5

11

14

15

15

18

0 2 4 6 8 10 12 14 16 18 20

Other

Policy instability

Crime and thef t

Insufficient capacity to innovate

Poor public health

Restrictive labor regulations

Poor work ethic in national labor force

Access to financing

Inefficient government bureaucracy

Inadequately educated workforce

Inadequate supply of inf rastructure

Corruption


42

In which areas do improvements need to be made? Infrastructure

and education

Source: World Economic Forum and ECLAC

GLOBAL COMPETITIVENESS INDEX 2016-2017

(Index between 1 “worst” and 7 “best”)

LATAM: INVESTMENT IN INFRASTRUCTURE

(% of GDP, 2012)


1

2

3

4

5

6

71. Institutions

2. Inf rastucture

3. Macroeconomic environment

4. Health and primary education

5. Higher education and training

6. Goods market ef f iciency

7. Labor market ef f iciency

8. Financial market development

9. Technological readiness

10. Market size

11. Business sophistication

12. Innovation

Paraguay LATAM

5.5

5.1

4.9

4.5

4.5

4.1

3.3

3.3

2.9

2.8

2.6

2.5

2.3

1.6

1.6

0 1 2 3 4 5 6

Costa Rica

Uruguay

Nicaragua

Bolivia

Peru

Brazil

Mexico

Panama

Argentina

Chile

Paraguay

Colombia

El Salvador

Ecuador

GuatemalaRegional average: 3,42%


43Source: World Economic Forum

PARAGUAY: SELECTED PILLARS OF THE COMPETITIVENESS INDEX 2016

(Ranking)


*Includes the Caribbean

Indicators

Global

Ranking

(out of 138 countries)

LatAm*


Second Pillar: Infrastructure 122 21

Overall quality of infrastructure 130 21

Quality of highways 136 21

Quality of railway infrastructure n.a n.a

Quality of port infrastructure 108 17

Quality of air transport infrastructure 132 21

Availability of airline seats km/week 113 19

Quality of electricity supply 115 18

Mobile phone subscribers 91 15

Fixed telephone lines 102 21

In which areas do improvements need to be made? Infrastructure


44Source: World Economic Forum

PARAGUAY: SELECTED PILLARS OF THE COMPETITIVENESS INDEX 2016

(Ranking)


Indicators

Global

Ranking


LatAm*


5th Pillar: Higher education and training 107 20

Enrolments in secondary education 97 16

Enrolments in higher education 77 14

Quality of the educational system 136 21

Quality of maths and science teaching 137 21

Quality of business schools 130 21

Internet access in schools 127 20

Availability of research and training services 132 20

Personnel training activities 118 20

*Includes the Caribbean

In which areas do improvements need to be made? Education


75

57

54

51

56

61

66

71

76

2000 2005 2010 2015 2020 2025

45

There are also other factors that could be made use of to underpin

growth

Source: DGEEC (Paraguay’s statistics institute). Permanent Household Survey 2010-2015

• This situation (in which the working age

population outnumbers the dependent

population), is a good opportunity for sustained

development.

– The burden on households will continue to

diminish, creating room for increasing expenditure

on durable goods

• However, the associated benefits are conditional

on:

– the adoption of policies to encourage

productive investment, to increase job

opportunities and promote a stable social and

economic environment.

DEPENDENCY RATE1/

(%)


*1/ Percentage of the working age population represented by those under 15 and over

64 years of age

“Demographic bonus”


MAIN

MESSAGES


47

Main messages


• The Paraguayan economy posted annual average growth of 4.8% in the past five years. This is

remarkable, given the challenging external environment

• In the second quarter, growth accelerated. The thrust came from the Electricity, Construction and

Livestock sectors. In this context, growth will amount to 3.8% in 2016. We expect GDP to grow by 2,9%

next year. Growth will be supported by the start of infrastructure works and a gradual recovery in

consumption. However, the normalisation of electricity generation will lead to a slackening in the pace of

GDP growth

• Risks for 2017. On the external side, slower recovery in Brazil and lower growth in China. On the

domestic front, delays in executing major infrastructure works

• We expect the guaraní to depreciate somewhat further in the coming months. Global uncertainty,

adjustment to US Interest rates and somewhat lower export prices will lead to a rising trend in the (PYG to

USD) exchange rate

• To underpin growth in the medium term there is a need for measures to boost productivity and

competitiveness. In particular the need for greater development of infrastructure and the need to

address lags in education


48Source: Central Bank of Paraguay and BBVA

Research

PARAGUAY: MAIN MACROECONOMIC VARIABLES


Baseline scenario

2012 2013 2014 2015 2016 (f) 2017 (f)

GDP (% YoY) -1.2 14.0 4.7 3.1 3.8 2.9

Inflation (% YoY, eop) 4.0 3.7 4.2 3.1 4.0 4.5

Exchange rate (per USD, eop) 4,276 4,603 4,669 5,768 5,700 5,900

Interest rates (%, eop) 5.50 6.00 6.75 5.75 5.50 5.50

Private Consumption (% YoY) 2.8 4.6 3.7 2.4 1.7 3.1

Public Consumption (% YoY) 21.0 3.5 4.2 6.2 0.8 3.0

Investment (% YoY) -13.5 20.2 11.0 1.5 3.6 3.1

Tax Revenue (% GDP) -1.7 -1.7 -1.1 -1.7 -2.0 -1.9

Current Account (% GDP) -2.0 1.7 -0.4 -1.7 0.6 -0.2

Documents

ECONOMIC OUTLOOK PARAGUAY - BBVA Research...PARAGUAY ECONOMIC OUTLOOK 2H-2016 │ NOV-2016 7 GDP growth slowed in the second quarter Source: Central Bank of Paraguay TOTAL GDP (Chge