DBRS Upgrades Chile to AA (low), Trend Revised to Stable

DBRS, Inc. (DBRS) upgraded the Republic of Chile’s long-term foreign currency issuer rating to AA (low) from A (high) and long-term local currency issuer rating to AA from AA (low). The trends on both ratings were changed to Stable from Positive. In addition, the short-term foreign currency issuer rating was confirmed at R-1 (middle) with a Stable trend, and the short-term local currency issuer rating was upgraded to R-1 (high) from R-1 (middle) with the trend revised to Stable from Positive.

The upgrade of Chile’s ratings reflects (1) a sustained commitment to sound macroeconomic policymaking, (2) an exceptionally strong public sector balance sheet, and (3) a demonstrated capacity to weather adverse shocks. These factors, underpinned by a stable political environment, have contributed to Chile’s lengthening track record of strong growth, macroeconomic stability and improving social indicators. On a cumulative basis, this has had a strengthening effect on the credit which DBRS has rated A (high) since May 2006. The Stable trends reflect DBRS’s assessment that Chile’s growth outlook remains favourable and that there is ample policy space to support the economy if the external environment deteriorates.

Despite weak global growth, the Chilean economy continues to expand at a solid pace. The Central Bank of Chile expects that GDP grew by 5.5% in 2012, with large positive contributions from private consumption and investment. The strength of domestic demand has been supported by robust job creation and gains in real wages, all within the context of low inflation. In addition, the economy continues to benefit from relatively favorable terms of trade, despite modestly lower copper prices in 2012. Chile is expected to remain one of the fastest growing economies in Latin America in 2013 with consensus forecasts pointing to GDP growth of 4.8%.

In the event of a sharp deterioration in the external environment, Chile has the capacity to provide strong policy support. With $20.9 billion (8.2% of GDP) saved offshore in sovereign wealth funds and $10.4 billion (4.1% of GDP) held by the Public Treasury, fiscal savings are above pre-crisis levels. Central government debt in September 2012 amounted to only 11.5% of GDP, one of the lowest debt burdens in either advanced or emerging economies. As a result, the public sector – including the Central Bank – has a net creditor position equivalent to 8.2% of GDP. Moreover, the fiscal accounts have posted surpluses in 2011 and 2012.

With a sound banking system and ample foreign currency liquidity, Chile is also well-positioned to manage a return to unfavorable global financing conditions. Chilean banks are liquid and well-capitalized, and their reliance on foreign funding, including parent banks, is relatively limited. High foreign direct investment provides the economy with a stable source of external financing. From 2003 to 2011, annual net FDI inflows averaged 3.6% of GDP. Furthermore, the Central Bank held reserves of $41.6 billion (16% of GDP) in December 2012. This, in addition to fiscal savings, provides Chile with ample liquidity to cover all external debt maturing in the next 12 months.

Sound macroeconomic policies, openness to trade and investment, and a well-developed financial system have contributed to Chile’s strong economic performance and improved living standards. From 1990 to 2011, the economy grew at an average rate of 5.3%, real income per capita more than doubled, and poverty declined from 39% to approximately 14%. Moreover, Chile’s high national savings rate, which averaged 23.1% of GDP from 1990 to 2011, finances high levels of domestic investment and limits the economy’s reliance on net external borrowing.

Despite these positive developments, labor productivity in Chile is low compared to advanced economies, income distribution is among the most unequal in the world, and education outcomes, although strong by regional standards, rank similar to Turkey and Russia and below most economies in Central and Eastern Europe.

In addition, Chile’s highly open economy has a narrow commodity-dominated export base. Approximately 60% of exports are concentrated in the mining sector, partly the result of a substantial rise of copper prices in recent years. Although Chile’s macroeconomic policies are designed to dampen the effects of copper price fluctuations on the real economy, economic output and fiscal revenues are exposed to the commodity price cycle. China, a key driver of global copper demand and international prices, has quickly become Chile’s largest trading partner, accounting for 23.9% of Chile’s exports in 2012. A slowdown in China would likely have a significant effect on copper prices and, therefore, on economic activity in Chile.

However, in DBRS’ view, Chile’s ratings are underpinned by several structural strengths, including a sound macroeconomic policy framework, strong public institutions and a stable political environment. Favourable growth prospects and ample policy space to weather adverse shocks further support the ratings.

Notes:
All figures are in U.S. Dollars unless otherwise noted.

The principal applicable methodology is Rating Sovereign Governments, which can be found on the DBRS website under Methodologies. The principal applicable rating policies are Commercial Paper and Short-Term Debt, and Short-Term and Long-Term Rating Relationships, which can be found on our website under Rating Scales.

The sources of information used for this rating include the Central Bank of Chile, Ministry of Finance, INE, IMF, OECD, and Haver Analytics. DBRS considers the information available to it for the purposes of providing this rating was of satisfactory quality.

This rating is endorsed by DBRS Ratings Limited for use in the European Union.

Lead Analyst: Michael Heydt
Rating Committee Chair: Alan G. Reid
Initial Rating Date: 30 May 2006
Most Recent Rating Update: 17 December 2012

For additional information on this rating, please refer to the linking document under Related Research.