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Chile’s Political Scandal Worrisome to Investors

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That Chile’s economy is inextricably linked to the price of copper, its premier export, is nothing new but a recent high profile campaign finance scandal and a series of other corruption scandals have tainted the reputation of a country that for years, was a poster child for Latin America and the emerging markets in general.

Investors, local Chileans as well as foreign investors, have also been less-than-happy with the policies of socialist President Michelle Bachelet, which have alienated business and corporate leaders. Which is why some are hoping that last week’s cabinet reshuffle in the wake of the campaign finance scandal (Bachelet removed five ministers, including her finance minister, from office) may be a sign of a slow return towards the more market-friendly policies that were Chile’s hallmark for years and that investors believe the country needs for improved economic growth.

“The cabinet reshuffle wasn’t entirely surprising — it was more a matter of ‘when’ rather than ‘if’,’” said Brian Jacobsen, chief portfolio strategist at Wells Fargo. “When you have financial scandals and a slowing economy, it’s important to make it look like you’re doing something to right the ship.”

Bachelet’s new finance minister is Rodrigo Valdes, an economist and the current chairman of state-run Banco del Estado. He is well respected, Jacobsen said, and will likely push for tempering some of the president’s reform plans. However, how far his influence will extend is yet to be seen, and it’s more likely that at the end of the day, “Bachelet will get her way and that might not augur well for the long-term growth outlook of Chile,” he said.

Healthcare and education reform, a major factor in the 2013 elections that helped her secure power, are two key areas for the president. These are important issues, of course, and it’s good that Bachelet has focused on them, said Ben Rozin, analyst and portfolio manager at Manning & Napier. However, “the way in which she has approached raising money for this has not been favorable to Chile.”

Bachelet essentially increased taxes on corporations and got rid of some of the tax credits that favored companies had allowed them to effectively put money back into the Chilean economy. The new tax laws greatly impacted corporate and business investment, Rozin said, even if the president was successful in what she wished to achieve.

Reforming the corporate tax code by increasing rates was poorly timed, Jacobsen said: Chile was already struggling to grow and the tax increase killed investment in the country.

Furthermore, falling copper prices have exacerbated the effect that a dampened business climate has had on the Chilean economy.

“Chile is still expected to grow at around 3% this year, which is pretty good considering where most emerging economies are,” Rozin said. “We still have some investment in Chile and we see opportunities there based on industry and company fundamentals rather than the macro picture. For us to get more excited about Chile, though, we would have to see the commodity cycle turn and both the demand for copper and prices go up, and we also want to see better political and economic coordination.”

Overall, Rozin believes that Chile’s current political woes are more likely to give a “black eye” to the country rather than inflict any permanent damage.
“It’s not going to affect the ability to get things done but it’s also definitely something worth monitoring because in a way, this political funding scandal has exposed a deep seated corruption in the political system, and Chile faces a challenge in restoring some of the credibility it has spent several decades building up,” he said.

The scandal has further damaged the image of the extreme right political party, which is already tainted by its links to the brutal dictatorship of General Augusto Pinochet. But according to Jacobsen, Bachelet’s popularity is also very low and it’s unlikely that she would win a reelection even if the constitution allowed her to run.

“Her party is weak and it is weakening, so perhaps the best that can be said is that the 2018 elections are just around the corner,” he said. “Without sky-high copper prices to lean on, whoever runs will have to unwind some of the anti-business policies to diversify the Chilean economy and bring some growth.”


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