Country Report Chile July 2008

Outlook for 2008-09

• The president, Michelle Bachelet, will struggle to regain her authority over the centre-left ruling coalition, Concertacion Democratica, which has lost its majority in both houses, and splits are emerging.
• The centre-right Alianza por Chile (Alianza) opposition is well-placed for the presidential and congressional elections in December 2009 even though it is not expected to defeat the Concertacion at the October 2008 municipal poll.
• With an open economy and a fiscal policy based on a structural fiscal surplus rule, Chile's macroeconomic policies will remain mostly sound in 2008-09.
• However, a move in April by the Banco Central de Chile (the Central Bank) to intervene in exchange rate markets to quell the appreciation of the peso risks complicating its inflation-targeting regime.
• Fiscal policy will be more expansionary in the forecast period, but continued high prices for copper will enable Chile to post strong surpluses.
• Renewed monetary tightening and above-target inflation will slow private consumption and investment growth. This will bring GDP growth down to 3.6% in 2008. GDP growth will start to recover in 2009, reaching 3.8%.
• Inflation is likely to ease later in 2008, but will remain above the ceiling of the 3% (±1 percentage point) target for much of the forecast period.

Monthly review

• The unity of the ruling Concertacion coalition has come under further strain after the four allied parties failed to agree on a common electoral list for councillors—for the first time since the coalition was formed in 1998.
• A pact between the Concertacion and the Partido Comunista (PC), by which the former has agreed not to field candidates for mayor where the incumbent is a communist member has caused controversy.
• Education reform almost falls foul of electioneering as the government seeks to add last-minute amendments unacceptable to the Alianza.
• After the shock rise of twelve-month inflation to 8.9% in May, the Central Bank board raised its interest rate by 50 basis points to 6.75% on June 10th, but further rises will be necessary to re-anchor inflationary expectations.
• Following a disappointing GDP growth performance of only 3% in the first quarter, in April output grew by 4.8% year on year, driven by the dynamic communications and retail sectors, but also owing to statistical effects.