Czynniki ryzyka i perspektywy

Panama has experienced phenomenal economic growth and enjoys low levels of inflation and unemployment. In addition, fiscal and external accounts seem sustainable, full dollarisation benefits macroeconomic stability, and investment efforts to further diversify the economy are underway.

Because those factors – along with a tolerable level of short-term external debt – somewhat mitigate the liquidity risk associated with rather limited official reserves, Credendo Group assesses Panama’s short-term political risk as modest (category 3 on a scale from 1 to 7). Considering the longer term, some additional vulnerability pertains to potential adverse shocks to oil prices, world trade and international financing conditions. Yet because political stability is expected to prevail and solvency is buttressed by benign external debt dynamics, Credendo Group is no less positive on MLT political risk (category 3).

Judging Panama’s business environment, it is obvious that rapid economic growth, full dollarisation and a political consensus on the merits of liberal economic policies are key positive factors. Moreover, the presence of a well-developed banking system is very beneficial. That being said, corruption abounds and institutional quality remains to be improved. That is why Credendo Group classifies the Panamanian systemic commercial risk in its middle category (B on a scale from A to C).

Fakty i liczby

Zalety

  • Liberal economic policies
  • Phenomenal growth
  • Solid investment rate
  • International confidence

Wady

  • Endemic corruption
  • Low labour productivity
  • Need to foster inclusiveness
  • Vulnerability to shocks in world trade

Main export products

  • Transport services (21.0% of total current account receipts), tourism (16.6%), manufactures (12.4%), financial services (4.8%)

Income group

  • Upper middle income

Per capita Income

  • USD 10,970

Population

  • 3.9 M

Description of electoral system

  • Presidential: 5-year term, no consecutive terms allowed,latest election in May 2014
  • National Assembly: 5-year term, latest election in May 2014

Head of State and Government

  • President Juan Carlos Varela

Ocena ryzyka dla kraju

Turbulent history

Panama geographically occupies the narrowest and most south-western part of the land corridor between North and South America. Yet, relations with Colombia rather than with Central American peers have shaped its political history. Indeed, upon declaring independence from Spain in 1821, Panama did not join the Central American Federation but instead opted for incorporation into Simon Bolivar’s Gran Colombia. And even after Venezuela and Ecuador seceded from the union in 1830, Panama continued under Colombian rule for seven more decades.

Independence was eventually declared in 1903, just months after the United States had started to support Panamanian separatists. The US did so in response to the failure of Colombian congress to ratify a treaty that would have granted the US favourable concession terms to first complete and then operate the transcontinental canal under construction. The strategy paid off, and the US successfully concluded a similar treaty with the new Panamanian government just days after the declaration of independence. As part of the deal, the US gained ‘sovereign rights’ over what is now known as the Canal Area: a strip of land extending eight kilometres on either side of the Canal. Panamanian sovereignty over that territory was only restored on 31 December 1999, while the US still reserves the right to protect the Canal by military force if necessary.

The 1903 episode was neither the first nor the last time that the US meddled in Panamanian internal affairs in order to safeguard geopolitical and economic interests. Notoriously, the US shortly invaded Panama in December 1989 to depose its dictator Manuel Noriega (a military strongman who had been a US ally before amassing power in increasingly controversial ways: he was involved in drug trafficking and money laundering, blatantly manipulated election results, and allegedly orchestrated the disappearances and assassinations of several political opponents).

Transition to liberal democracy

Democracy was restored in post-Noriega Panama and between 1990 and now, all elected presidents have fully served their five-year terms. This political stability is expected to prevail, even if contentious issues abound. These days, domestic debate revolves around the inclusiveness of economic growth, the battle against corruption, the management of the Canal and social security, and the environmental impact of expanding mining activities.

The current president of Panama is Juan Carlos Varela of the conservative Panameñista Party (PP). He won the 2014 election on a platform of fierce opposition to outgoing president Ricardo Martinelli of the centre-right Democratic Change (CD), among other things condemning corruption in his administration and his alleged desire to cling to power (it did not bode well with voters when Martinelli – himself constitutionally barred from running for a second consecutive term – promoted his wife as vice-presidential candidate on the CD ticket). Yet despite the rhetoric, Varela has broadly adhered to the policies of his predecessor. That is partly because the PP failed to win a legislative majority and thus struggles to deliver on campaign promises of ‘ending’ corruption and furthering social inclusion. But it is also because Varela never intended to renounce the pro-market stance, which spurred growth and lured foreign investors to Panama.

The entrenched economic liberalism is apparent in international relations as well. Panama has signed free trade agreements with the European Union and the US, and it has similar accords with many regional peers. Moreover, economic integration within Latin America may get an additional boost should Panama join the Pacific Alliance, a dynamic trade bloc made up of Mexico, Colombia, Peru and Chile to which it is now a candidate member.

More than a canal

Panama having a population of less than four million, it is unsurprising that the world-renowned namesake canal has played an all-important role in the country’s economic development. It indeed continues to do so. Today – one hundred years after its inauguration – some 14,000 vessels pass through the Panama Canal every year, together carrying more than 300 million tons of freight. That is about 5% of all world trade. What is more, the impressive numbers are expected to increase further as of April 2016, when the canal expansion project that started in 2007 will finally be completed (some eighteen months behind schedule). The works will allow more and larger ships to traverse the 82-kilometre-long waterway, doubling its capacity.

Apart from generating toll revenues, the Canal has also fostered development in more indirect ways. In particular, it has allowed Panama to position itself as a regional logistics hub: a transcontinental railroad and pipeline complement the waterway, and the Colón Free Trade Zone near the Atlantic entrance to the Canal is the second largest free port in the world. Moreover, Panama’s central location in the Americas has rendered it a popular business centre, with a hotel and airline industry to match.

Yet, if Panama is commonly renowned for anything besides the Canal, it is offshore banks. Infamous for their accommodating role in drug trafficking and money laundering in the Noriega days, financial institutions have come a long way since then. At present, the IMF judges that the banking system is sound, with robust asset quality, low credit risk and significant balance sheet buffers. The healthy expansion and comparatively high level of credit to the private sector furthermore suggest that the sector has facilitated economic growth (see graph).

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One reason for the health of the banking sector may lie in the fact that Panama has no Central Bank. Indeed, with the exception of some symbolic coins, the country has no currency of its own and rather uses the US dollar as legal tender. For banks, the lack of a ‘lender of last resort’ implies that no one will come to the rescue should their portfolio turn sour, which may in turn encourage prudent management. That being said, the laissez-faire regulatory approach also entails risks. In particular, because the intergovernmental Financial Action Task Force identified Panama as having strategic Anti-Money Laundering and Combating the Financing of Terrorism (AML/CFT) framework deficiencies, many countries have instructed their financial institutions to scrutinise Panamanian transactions. Reforms to increase financial transparency are being implemented, yet delays could still undermine investor confidence and impede access to the international payments system and capital markets.

Diversification beyond services

As a logistics, banking and business services hub, Panama draws comparisons to 'Asian Tiger' Singapore rather than to regional peers. The economy has seen some diversification, however. Chiefly, Panama has successfully developed a tourism industry since the mid-1990s. Within Central America (excluding Mexico and the Caribbean that is), its number of visitors is now second only to that of neighbouring Costa Rica, a long-time ecotourism favourite. The evolution helps to explain that services represent more than 70% of Panamanian GDP.

Considering primary sectors, it is apparent that Panama’s geographic blessing extends well beyond occupying the narrowest point between the Atlantic and the Pacific oceans. For one thing, there is great scope for growth in the fisheries and agricultural sectors. These have largely remained underdeveloped, even if bananas were a prime export until import quotas imposed by the EU decimated the industry as of the 1990s. Panama furthermore is abundant in natural resources, boasting significant deposits of gold, silver, copper and coal. Of late – and despite related environmental concerns – the country has started to develop some of the potential. Most notably, Canadian company First Quantum Minerals is investing more than USD 6 billion (an amount superior to the cost of the Canal expansion) to develop a major new copper mine. When it comes on line, expectedly in 2018, it will provide a major boost to Panamanian exports. Finally, its location and geography imply that Panama holds great potential for hydro and thermal electricity generation. Related government investment plans should in time reduce dependence on oil imports.

As for secondary sectors, manufacturing has largely remained limited to activities in the Colón Free Trade Zone. Construction has been much more dynamic thanks to public infrastructure investments (such as the expansion of the Canal and the construction of a metro system in the capital) as well as private sector demand (Panama City's skyline being dominated by skyscrapers hosting international companies' regional headquarters).

Growth superstar

Booming public investment along with consumer and international investor confidence have in recent years established Panama as the fastest growing economy in the Americas (see graph). In the decade before 2014, real GDP growth averaged no less than 8.6% per year. In 2014, reflecting difficult trade relations with troubled Venezuela and a reduced pace of investment, the rate of expansion moderated to a still-high 6.2%. That seems in line with medium-term potential. Indeed, the IMF forecasts economic growth to fluctuate between 6% and 7% in the years ahead.

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Yet despite phenomenal growth and record low unemployment, significant social discontent pertains to the prevailing high levels of poverty and inequality. That observation highlights the key medium-term challenge for Panama: sustaining high growth levels while advancing inclusiveness. An optimistic view suggests that the two goals are complementary: as public investments slow down, they will be replaced by labour productivity gains as the engine of growth, thus benefiting workers. Active policies to that end will be required, however. In particular, human capital will need to be bolstered by investments in education and training as well as health care. Greater female labour force participation should be promoted too. And further efficiency gains can be achieved by updating labour market policies and strengthening institutions.

Credible public finance management

All in all, Panamanian policymakers seem well equipped to confront the medium-term economic challenges. Sure enough, vast public investments have entailed significant fiscal deficits and rising public indebtedness. Yet because GDP expanded at an amazing rate, deficit and debt ratios did not. At the end of 2014, public debt including Panama Canal Authority (PCA) liabilities stood at 45.6% of GDP. That is low in historical perspective, even if the ratio increased vis-à-vis that of 2013. What is more, because scaled back investments are expected to gradually reduce fiscal deficits – from 6.6% of GDP in 2014 to less than 2% from 2017 onwards – the IMF forecasts public debt to decline to around 40% of GDP in the five-year outlook.

Public finances are thus deemed sustainable, providing fiscal space for countercyclical policies should downside risks – such as adverse shocks to global trade or international financing terms – materialise. Along with full dollarisation of the Panamanian economy – deficit financing by printing money thus not being an option – this instils confidence in financial markets. That was clearly illustrated by Panama’s USD 1.25 billion Eurobond issuance in March 2015. Due in 2025, the bonds sold at a yield of 3.89%, implying a historically low spread of merely 178 basis points compared to ten-year US treasury bonds.

That being said, some shortcomings do prevail with regard to longer-term public finance management. First and foremost, due to frequent revisions and optimistic assumptions regarding Canal revenues, the current Social and Fiscal Responsibility Law fails to serve as an effective long-term policy anchor. It should be amended. Moreover, the fact that the government faces significant contingent liabilities that are not included in the official debt statistics (notably, unfunded pension liabilities amount to some 24% of GDP) implies that fiscal buffers need to be strengthened. Finally, untargeted subsidies constitute a fiscal risk and should be phased out. Some headway has already been made in that regard, since lower oil prices allowed a scaling back of electricity subsidies.

Solid external liquidity and solvency

Apart from urging prudent bank management and fiscal policies, dollarisation has historically also kept a lid on inflation. Still, Panamanian consumer prices rose much faster than those in the US as of 2010. That prompted strikes to demand higher wages in various sectors of the economy, and inflation was a key theme in the 2014 general election. Making good on a campaign promise, President Varela resorted to price controls on food items upon taking office. While those helped to address the problem (in combination with lower international commodity prices that is), the controls also provoked concerns about increased state interventionism. But fears have not materialised, as Varela has on the whole remained committed to liberal economic policies.

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Partly reflecting the continued pro-business policy stance, Foreign Direct Investment (FDI) inflows have remained strong. In fact, when taking into account the size of the economy, net FDI flows into Panama easily outshine those into Latin American peers (see graph).

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Crucially, net FDI inflows have largely offset Panama’s elevated current account deficits (see graph). That mitigates the risk associated with such external imbalances, because FDI flows are considered a non-debt-creating financing source. Indeed, despite recent current account deficits of 12% of GDP – largely explained by capital imports related to infrastructure investments – reliance on short-term credit is minimal and total external debt (excluding bank liabilities) has fallen from more than 70% of GDP at the end of 2010 to less than 50% today.

Considering the years ahead, benign external dynamics are in the cards. As investment projects near completion and operations begin, import growth will likely slow down while export earnings should boom. Consequently – some downside risk related to adverse competitiveness effects of a strong US dollar notwithstanding – the Panamanian current account deficit is forecast to drop below 10% of GDP as of 2017. While that is still substantial, continued strength of FDI inflows is expected to keep external indebtedness firmly on a downward path, underpinning both liquidity and solvency.