Juan Manuel Santos, Colombia's president
Juan Manuel Santos, Colombia's president © AP

Oil, in recent years a lifeline for the Colombian economy, will contribute almost nothing to the Andean nation’s gross domestic product this year.

Nevertheless, President Juan Manuel Santos told investors in London this week that, thanks to a programme of what he calls “intelligent austerity”, his country’s economy “will be stronger than the one we had before the oil price drop”.

Revenue from what had been Colombia’s biggest export commodity has fallen a staggering 60 per cent since 2013, as the sharp drop in crude prices cut royalty payments the Santos government receives from the oil industry and state-controlled Ecopetrol.

The total cost of the “oil shock” for Colombia is about 4 per cent of GDP since prices began to decline three years ago.

The government has been forced into its programme of intelligent austerity to help it come to terms with oil’s now-minuscule contribution of 0.1 per cent to GDP.

But Mr Santos — who later this year will become the first Colombian head of state to have tea with the Queen — told investors oil’s decline had proved “a blessing in disguise. We were getting too dependent on minerals and oil”.

It had forced Colombia to focus on other economic areas, notably manufacturing. Mr Santos also said his country was targeting “healthy growth” based on formal employment, rather than casual labour.

Non-commodity related exports are forecast to reach $14.7bn this year, as seen in the chart below, taken from the investor presentation. Foreign direct investment is expected to rise to $10.8bn, up from $7.8bn in 2015.

This, together with a peso-pinching campaign of “fiscal discipline” showcased and set out in detail by Andres Escobar, the deputy finance minister, means that Colombia is on track to record higher growth than the majority of its regional neighbours.

Mr Escobar confirmed his government expects GDP growth of “slightly less” than 3 per cent in 2016, a fraction lower than the 3.1 per cent recorded in 2015 — a figure that surprised markets, which had forecast 2.5 per cent growth back in the first quarter of 2015. If Mr Escobar is right, Colombia will beat the consensus of analysts’ growth forecasts for a second year running.

Part of the Colombian adjustment recipe presented in London was to incorporate standards for fiscal discipline into the constitution, meaning governments are legally bound to keep their accounts in order. Mr Santos admitted “the cost of fiscal discipline is very high”.

Facing down the oil shock, 2012-2016
Change in terms of trade, %Average annual GDP growth, %
Colombia-42.44.1
Peru-29.94.4
Chile-12.93.4
Mexico-22.42.5
Brazil-19.70.3
Source: Finance ministry, IMF

For example, the government’s own cost-cutting adjustment was equivalent to 1.1 per cent of GDP last year and will reach 0.7 per cent this year. The government is also committed to bringing its current account deficit — expected to reach 6.1 per cent this year — back down below the psychologically important barrier of 5 per cent by 2017.

According to Mr Escobar, IMF data show that Colombia has suffered the largest trade-related shock of all Latin American countries as a result of falling crude exports, with a decline in terms of trade equivalent to 42.4 per cent. To accommodate this “oil shock”, imports will contract 1.9 per cent in 2016.

Balance of payments, % of GDP
201420152016*
Current account-5.2-6.5-6.1
Net FDI3.32.74.1
Net portfolio investment3.13.31.1
Derivatives and loans00.61.1
Reserve assets-1.2-0.1-0.2
Source: Central bank, finance ministry
*forecast

But cost-cutting is not the sole ingredient in the Colombian adjustment recipe. Taxes must rise too, warned Mr Escobar. A new tax reform programme now receiving its final checks was described as “95 per cent ready”.

This will help increase much-needed government revenues in a nation where 85 per cent of citizens pay no personal taxes and notable loopholes exist for the wealthy.

Out of the 1m companies in Colombia, only 3,000 of the biggest businesses contribute to tax revenues, and this select group pays 70 per cent of all Colombian income tax.

Juan Pablo Cordoba, head of the Colombian Securities Exchange, said reform was needed to ease the burden on the country’s big businesses. Although exact details of the tax reforms are yet to be made public, the aim is to increase tax revenues by 1.5 percentage points as a share of total economic output.

Already, Colombia is beginning to benefit from a tax avoidance amnesty given added bite by a new information-sharing agreement with nearby Panama, where the Mossack Fonseca law firm is located. By 2018 there will be full disclosure of all Colombian assets held through Panama.

Mr Escobar said wealthy Colombians had already declared assets worth 3tn pesos ($1bn) being held offshore, and agreed to pay an 11.5 per cent penalty on newly declared sums.

Lucinda Elliott covers Latin America at FT Confidential Research. Richard House is Principal, Latin America, at FT Confidential Research.

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