Fitch: Perus Growth Beyond Fiscal Stimulus Will Test Kuczynski

Peru’s president-elect, Pedro Pablo Kuczynski, faces the delicate task of balancing fiscal stimulus with prudent maintenance of public finances, Fitch Ratings says. Moreover, he will be tasked with ensuring that infrastructure investments and proposed tax-regime changes yield sustainable growth beyond their short-term impact. In the medium term, the sovereign rating will depend in part on the government’s ability to adjust public finances to lower copper mining revenues.

Peru’s creditworthiness is based on its track record of macroeconomic policy credibility, consistency and flexibility, as well as strong fiscal and external balance sheets. These factors have enabled the country to navigate risks such as its high commodity dependence, low government revenue base and financial dollarization.

Kuczynski’s party indicated it will rely on fiscal stimulus to offset the negative impact of decreased copper prices through a ramp-up of public investment and adjustments to the tax regime to favor small-business formalization and private investment. Rising copper production and increased public investment aim to achieve growth of 3.5% in 2016 and 4.0% in 2017. While Peru’s growth averaged 5.8% from 2011 to 2015, we expect the economy will continue to outperform the ‘BBB’ median, with 2.4% and 2.9% growth in 2016 and 2017, respectively.

Peru maintains low general government debt of 22.8% of GDP in 2015. Savings, including a 4%-of-GDP stabilization fund and a large cushion of local and regional government deposits, would allow Peru to implement a moderate, short-term, counter-cyclical fiscal policy. However, the interim pace of fiscal deterioration and the medium-term consolidation strategy of maintaining fiscal credibility and policy consistency should be key in assessing Peru’s credit profile.

The president-elect and new Congress will be inaugurated on July 28, and the executive must publish a five-year policy agenda within 90 days of that date.

Sustaining Peru’s growth trajectory will depend upon the success of initiatives that include improving the country’s transit, energy and logistics infrastructure while raising the productivity of alternative sectors such as tourism and agriculture. It will also depend on creating conditions that will move labor formalization forward and broaden the tax base. Moreover, an improvement in credibly managing and resolving social conflicts in mining investments would be critical to the recovery of the country’s competitive mining sector.

The Congress will play an important role in these major reforms. On April 10, Kuczynski’s party, Peruanos por el Kambio, received a 15% minority share of deputies in Peru’s unicameral Congress, while the center-right party, Fuerza Popular, led by Keiko Fujimori, won a simple majority. However, the left-leaning Frente Amplio, with strong support in the southern mining provinces obtained similar representation as Kuczynski’s party. Therefore, the passage of the president-elect’s agenda will depend on how well Kuczynski’s administration builds consensus on key legislative reforms.