Risk drivers and outlook

Uruguay has been a beacon of political stability in the region but the country is doing well from an economic point of view as well. In the past 15 years, the country has only recorded positive GDP growth while, more recently, the current-account balance has turned into a surplus. Its main weak points remain external debt and public debt, which are both elevated. Based on its political stability and economic resilience, Uruguay’s MLT political risk has been rated well since 2010 with a classification of 3/7.

Since 2012 Uruguay has been in category 3/7 for the short term due to its vast amount of foreign-exchange reserves mitigating the risk of an elevated level of external short-term debt.

The business environment has improved vastly in the past year. The improving growth prospects and current-account balance and higher credit availability in combination with moderate inflation have led Credendo to place Uruguay in the lowest risk category for systemic commercial risk (A on a risk scale from A to C).

The overall outlook is stable but nevertheless remains vulnerable to external shocks given the country’s high economic openness. These potential shocks mainly lie in the rise in global trade protectionism, rebounding oil prices and weak export prices. Internally, the ongoing efforts towards fiscal consolidation are important.

Facts & figures

Pros

  • One of the most stable, prosperous and democratic countries in the region
  • High level of foreign exchange reserves
  • Relatively diversified economy
  • 15-year positive GDP growth streak

Cons

  • Elevated level of external and public debt
  • High economic openness while trade protectionism is on the rise
  • Vulnerable to weather conditions

Head of State

  • President Tabaré Vázquez

Next general elections

  • To be held on 27 October 2019, and a run-off if needed on 24 November 2019

Population

  • 3.4 m

GDP (in 2017)

  • USD 58.6 billion

Income per capita

  • USD 15230

Income group

  • High income

Main export products: (in % of current account receipts)

  • Tourism (14.6), Meat (10.0), Manufactures (9.8), Transport (2.8)

Country risk assessment

Highlights

  • Uruguay is known as “the Switzerland of South America”: one of the most stable, prosperous and democratic countries in the region.
  • After a wake-up call triggered by a deep economic recession in 2002, the country successfully diversified its exports and trade partners, resulting in a 15-year GDP growth streak.
  • The current-account balance turned into a surplus as of 2016 thanks to historical low oil prices and the strong Argentine peso, leading to high tourism revenues.
  • Uruguay enjoys a high level of foreign-exchange reserves but external debt is at an elevated level.
  • In recent years the fiscal deficit has been widening but fiscal consolidation should keep public debt sustainable.

The Switzerland of South America

During the early 20th century, Uruguay acquired the sobriquet of “the Switzerland of South America”, being one of the most stable, prosperous and democratic countries in the region. This image was tarnished by a military junta in 1973-1985. Economic and political turmoil, in particular left-wing urban guerrilla attacks in the early 1970s, led the government to suspend the constitution and launch a period of repressive military rule. However, since the restoration of democratic rule in 1985, the country has once again been living up to its reputation and is broadly stable.

Since 2005, the left-wing coalition “Frente Amplio (FA)” has governed the country, after more than 170 years of rule by the two main political parties (Partido Blanco and Partido Colorado). Currently Tabaré Vázquez is President, after a decisive election victory in 2014. His party, FA, holds a majority in both houses of Congress. It is not the first time that Vázquez has run the country: he also held the post between 2005 and 2010 before being succeeded by his party colleague José Mujica (Uruguayan presidents do not serve consecutive terms).

FA and its presidents have been following a pragmatic left discourse. They have introduced social and economic reforms that have reduced poverty and unemployment while maintaining a pro-business stance. Consequentially, investor confidence has remained strong in the country.

Vázquez faces challenges in reaching consensus within the FA, which is made up of several political parties with varying interests. Internal disagreements are likely to slow down some areas of policymaking, especially the unpopular fiscal adjustment plan. Vázquez is likely to face more pressure in this arena as the 2019 elections approach. However, the ruling coalition’s survival is not threatened and policymaking is likely to remain stable, predictable and transparent overall.

Tackling the persistent fiscal deficits to keep public debt sustainable

In recent years the fiscal deficit has been increasing and it peaked in 2016 at roughly -4% of GDP, which is still a moderate level. This evolution can mainly be explained by weakening Uruguayan growth since 2015, when Brazil plunged into recession. Since then, the government has introduced consolidation measures, resulting in declining fiscal deficits. As of 2018, primary surpluses are expected but due to the weight of interest payments the overall balance is expected to remain in deficit (estimated at -2.9% of GDP in 2018). Indeed, the interest payments are significant, standing at around 10% of revenues. In the coming years, the IMF expects the fiscal deficit to stabilise at around -2.5% of GDP. However, election years – such as 2019 – have seen historically higher spending and deficits, suggesting the deficit could widen again. Therefore, commitment to fiscal consolidation will be important for ensuring fiscal sustainability.

Historically, public debt has declined sharply from almost 100% of GDP in 2003 to around 66% of GDP at the end of 2017. That being said, in the past 5 years public debt has been increasing due to the widening fiscal deficits. Under the prospect of narrowing fiscal deficits in the coming years, public debt is forecast to remain stable at about 65% of GDP.

The administrations under FA have been actively tackling the weaknesses of public debt. Firstly, they have increased Uruguay’s debt maturity, making it rather long term (in excess of 10 years). Secondly, the exchange-rate risk has been reduced after a debt exchange at the end of 2011. Nevertheless, the share in foreign currency remains significant, especially as the exchange rate is floating.

15-year GDP growth streak after a wake-up call triggered by economic crisis

Uruguay recorded a recession between 1999 and 2004 due to the combination of a recession in Argentina, a devaluation of the Brazilian real and persistently low agricultural prices (an important export sector). The recession was aggravated by the Argentinian financial crisis of 2002, which triggered negative GDP growth of 11% in Uruguay. When Argentina defaulted on its debt, the Argentines pulled their money out of the banks in Uruguay, triggering a bank run. Thanks to an IMF bailout, the country avoided default. 

External debt restructuring and international financial assistance led to a swift recovery but the Uruguayan leaders realised further measures needed to be taken. Firstly, regulation of the banking sector has been improved and the sector is now stronger than before the crisis of 2002.
Furthermore, a diversification effort was necessary. The authorities started to decouple the economy from its large neighbours (Brazil and Argentina) and export to new markets. As a result, in comparison with 2000, Uruguay exported 14% of its exports to Brazil in 2015 (from 23% in 2000) and 5% to Argentina (from 18%), while China became its largest trade partner, accounting for 15% of its exports. The country also entered new industries (e.g. software and audio-visual services). Today it is relatively diversified with its main export products being tourism (about 15% of current-account receipts in 2017), meat and manufactured goods (each accounting for about 10% of current-account receipts). The strategy worked as the country kept growing despite the global economic crisis of 2008 and more recently the recession in Brazil and Argentina in 2017. Indeed, since 2004, the country has been among the fastest-growing economies in Latin America and by 2018 it had experienced 15 years of uninterrupted economic growth. Even if in the coming years growth is likely to decelerate compared to its last decade average of above 4%, it is likely to remain robust at around 3%, supported by planned investment in rail infrastructure.

Improved current-account balance in a context of high foreign-exchange reserves but elevated external debt

Since 2016, the current-account balance has noted surpluses, after a decade of deficits. The main reasons for the improvement are twofold. Firstly, the country is benefitting from the historical low oil prices (as it is an oil importing country). Secondly, at the end of 2015 Argentina removed its import and currency restrictions, leading to surging tourism revenues.
Also in 2018 a small surplus is expected before the current-account balance falls into negative territory again. Nevertheless, the current-account deficits are projected to be small.

Uruguay benefits from large inward FDI in most years, often for companies operating within free zones. These capital inflows even largely financed the current-account deficit before 2016. However, net FDI inflows completely dried up in 2016, reflecting the deep recessions in Argentina and Brazil, which have been key sources of investment in the past decade. As a result, the gross foreign-exchange reserves were under pressure. However, since then, they have been on the rise in absolute terms and even stand at a high level, covering around 11 months of imports in March 2018. Also in the medium term, foreign-exchange reserves are projected to remain high while FDI inflows are expected to be strong.

External debt increased by 10% in absolute terms over five years. However, since 2017, external debt in relative terms has decreased and is forecast to remain broadly stable at the current elevated level.

In the long term, the evolution of oil prices and world market prices of key export goods (including beef, rice and soy) will be key for the country. Further diversification efforts away from agricultural products are also recommendable as the country is vulnerable to weather conditions (e.g. El Niño). The country could, for example, turn the tide for manufacturing exports since it has stagnated over the past 5 years.

US trade protectionism could bring opportunities and risks

The US President, Donald Trump, is moving the United States in a protectionist direction. Trump is mainly focused on countries with which the USA has a trade deficit. On the positive side, the USA has a trade surplus with Uruguay and therefore the country is not directly targeted by the US administration.

Nevertheless, trade tariffs are being directed to important trade partners of Uruguay, such as China, Mexico and the EU. The consequences of the new policy will depend on how some of the USA’s main trading partners, notably China, react. A number of rounds of escalating tariffs would hit business confidence, investment decisions, diplomatic ties and ultimately the performance of the global economy. As Uruguay is a small but very open country, it would be negatively impacted as well in such a scenario. On the negative side, an agreement between China and the USA to decrease the trade deficit by importing more American agricultural goods to China could negatively affect the Uruguayan exports. 

However, up until today, trading partners have reacted with a proportionate response: tariffs of a similar level are imposed in kind. As a result, the cost of goods is being pushed up but this is not likely to generate a major slowdown in growth. This could be good news for Uruguay, such as the jump in soybean prices (a major export product) following the threat of Chinese tariffs on soybean from the USA. Moreover, increasing trade protectionism between the United States and China could force the countries to seek other trade partners to fulfil their consumption needs, e.g. Uruguay.

Analyst: Jolyn Debuysscher – J.Debuysscher@credendo.com