Analysis: Colombia’s dilemma – the uprisings’ economic roots

RIO DE JANEIRO, BRAZIL – Protests in the country are forcing Colombia to question what is more important: having healthy public finances or rebuilding trust in the government.

“If you know why the shutdown occurred, please be pedagogical and explain to everyone else that this shutdown was not only due to the tax reform,” reads an anonymous post that recently went viral on Colombia’s social networks.

For over 20 days, the country has witnessed a succession of protests for which there is currently no immediate solution. The Minister of Finance has resigned, the bill to raise taxes has been shelved, and violence has flared up, intermingled with the dissatisfaction of citizens who do not only want to emerge from the pandemic. They also want to re-enter the new normal with better job opportunities and a better quality of life.

This year’s protests began in reaction to a tax reform proposal from Iván Duque’s government, but experts agree that they are nothing new. The fact is that the 2019 demonstrations have been resumed, to which several other grievances have been added: corruption, the delay in implementing the peace agreements with the former FARC guerrilla, the murders of peasant and indigenous leaders, and also poverty and social inequality. The pandemic has exacerbated these last two issues, and poverty had grown from 36% of the population in 2019 to 43% last year.

The situation is clearly difficult, and for the government, there is an additional complication: debt. Duque had hoped to increase tax collections by at least 2% of GDP so that none of the debt-rating agencies would strip Colombia of its investment grade.

After the reform failed, Standard & Poor’s downgraded Colombia’s debt rating on Wednesday, causing the peso and the Bogotá stock market to plummet the following day. It will only take another rating agency to do likewise to trigger a flight of foreign capital, as many funds only allow investing in bonds with at least two investment grades.

“We are in an important dilemma as a society,” says economic analyst Carolina Monzón of Itaú Bank by phone from Bogotá to ‘El Pais’. “There are major demands in the social and also in the structural contract. Thinking not only about this very current pandemic front but beyond it, how are we going to address this debt issue so that it doesn’t keep growing?,” she asks.

Chilean inspiration

Social discontent rose in 2019 and is inspired by the Chilean movement, says Andrés Zambrano, professor at the Faculty of Economics at the Andes University. This month, Chile elected the composition of its future Constituent Assembly, with its main goals to eradicate poverty and reduce structural inequalities in the country. According to World Bank data based on the Gini index, Colombia is the 4th most unequal country in Latin America and the Caribbean.

“Here there is a similar conjuncture to Chile, in the sense that there is very high inequality, there are wealthy households, where the wealth of Colombia is very concentrated,” says Zambrano. “It’s a movement made up of mostly middle-class families and vulnerable families that have a high unemployment rate. This whole dangerous economic cocktail has reached a point where people have said ‘enough,'” he explains.

Colombia’s GDP fell by 6.8% last year because of the pandemic. Even though almost half of the economy operates in the informal sector, the government enforced long and strict periods of compulsory confinement, monitored by the police. Informality increased, along with poverty. Many families relied on government assistance as part of a social relief program for the most vulnerable as their only income during this time.

For the tax reform to have a better chance of being accepted by the population, the plan was to make these programs permanent, converting them into a universal basic income unprecedented in the Latin American region.

The devalued middle class

According to Zambrano, the problem was that an increase in the value-added tax (VAT) and a broadening of the taxpayer base was also proposed. Currently, only families with an income equivalent to US$1,000 per month pay income tax, and the government intended to lower this threshold to US$700.

Alberto Carrasquilla, then Minister of Finance, reported a month ago that the average income in the country is 1.1 million pesos a month (US$290), so levying more taxes on those earning more than that would not technically be overtaxing the middle class. But what this crisis has exposed, experts agree, is that the average income does not allow the middle class to cover all its needs.

“There is a mea culpa here from economists, that we were thinking about the best tax reform, the best tax system, disregarding the social discontent which existed at this time,” says Zambrano. “What we weren’t taking into account was this distrust of the government, and people don’t want to give it more money because they think it’s an unfair government that doesn’t represent them.”

The difference between salaries is highlighted in that post circulating on social media, correctly pointing out that the minimum wage is 908,526 pesos (US$240), while a deputy earns approximately 34.4 million (almost US$9,300).

“This paralysis is not of truckers, nor teachers, nor farmers, this paralysis is of the Colombian people. Politicians do not represent us, nor by accommodated unionists, we are represented by the front lines which keep fighting,” the viral text states.

Public finances

“Since before the pandemic, there was talk that there were structural issues that needed to be solved,” Monzón points out, “such as that spending was very inflexible in issues like health and social security, for example.”

When the price of the oil exported by Ecopetrol, a majority state-owned company, is high, these pressures are not as serious. But when the price drops and the government decides to spend the same and finance itself with more debt, then the need to collect more taxes arises.

Losing investment-grade leaves investors less confident and drives interest rates up. In other words, it is more expensive for the government to borrow.

“We all thought that this year would not only be the year activity would recover, but also that there would be improvements on the fiscal front. But [these improvements] will not happen, and we are already experiencing a third wave [of the pandemic],” says the expert.

Only 7.7% of the Colombian population has been vaccinated so far. Colombia has spent 4% of its GDP on financial aid to mitigate the pandemic, Monzón points out, “we have been relatively austere compared to other countries, but it’s still not enough.”

Rising debt

It is estimated that by the end of this year, the cost of debt will be equivalent to 65% of GDP, says Monzón, placing Colombia as one of the most indebted countries in Latin America. “The government, when it presented us with its initial tax reform, was telling us that without some adjustments, the debt would reach almost 100% of GDP in 10 years,” the economist adds.

Monzón hopes that the new bill being prepared by Finance Minister José Manuel Restrepo, aimed at raising the tax paid by the largest companies, may move forward. Zambrano agrees but points out that the government’s focus right now should be on society.

“It is more important to take care of this social discontent, to build societies. It is better to focus on restoring trust in the state than on making a reform to fix the country’s finances,” says Zambrano, “and in that, we have failed.”

Source: El Pais