Moody's outlines Chile challenges in wake of downgrade

Chile's economy is improving - but authorities have work to do on multiple fronts to help increase the country's credit strength and bolster growth in the medium and long term.

That was among the main takeaways from a Moody's conference held in capital Santiago on Tuesday.

The rating agency, which last month downgraded Chile to 'A1' from 'Aa3' following a deterioration of its fiscal position, expects GDP growth to come in at around 3.7% in 2018.

Growth is forecast to decelerate slightly next year before slowing to around 3.0%. Prior to 2014, growth averaged 4-5%, mainly supported by high copper prices.

Conversely, the central government debt to GDP ratio has increased, to just under 25% today from 8.6% in 2010.

"Chile's fiscal position remains very strong but is no longer exceptionally so, and for this reason we hold that, in terms of ratings, it no longer compensates for credit profile weaknesses that we have identified," Ariane Ortiz-Bollin, a Moody's vice president, told the conference.

Among these weaknesses are low per capita income - when compared with similarly rated countries - and a heavy dependence on copper export revenue.

Ortiz-Bollin (pictured) added that the forecast slowdown in economic growth would mark an "important change" from the past and that this deceleration would likely hinder Chile's chances of regaining credit strength of previous years.

In a statement issued at the time of the downgrade, Moody' said: "Debt metrics are likely to stabilize, but it is very unlikely that the weakening of the sovereign credit will be reversed."

Ortiz-Bollin cited low productivity levels as the key factor behind the forecast slower growth. She pointed to the impact of lower ore grades on the mining sector and listed several "structural challenges." These challenges are an ageing population, quality of education and training, a low percentage of women in the workforce and infrastructure bottlenecks.

In February, OECD secretary general Angel Gurría said Chile must take advantage of stronger forecast growth to address shortcomings.

The OECD says Chile must implement policies to address low productivity levels and take steps to improve access to quality jobs and reduce high levels of inequality.

GDP growth last year was 1.5% while economic activity in June increased 4.8% year-on-year.

As part of efforts to diversify the economy, the government has said it wants to turn Chile into a financial services hub.

What about Chile's banks?

A day after the downgrade, Moody's cut the ratings of five Chilean banks and one branch.

"The downgrade of the banks was pretty much directly driven by the sovereign downgrade," Moody's associate managing director Aaron Freedman told BNamericas on the sidelines of the event.

Freedman said the fundamentals of the banking sector "remain solid" and that the downgrade reflects the view that, today, government support may be less be forthcoming in a stress event than previously.

He added that during the downturn lenders held steady: "The banking system has demonstrated a high degree of resilience despite the slowdown in the economy."

Chile's banks tend to be more profitable than those in regions such as Europe but less profitable than their peers in Latin America. Chilean lenders are expected to benefit from the upturn in the economy.

On the radar, he said, the big challenge is capital levels. "They are not weak but they are not strong either."

A banking reform bill in congress brings Chile's capital regulations in line with Basel III standards.