NS 4540 Winter Term 2018 El Salvador Outlook

NS 4540 Winter Term 2018 El Salvador: Outlook 2018

Overview I • President Salvador Sanchez Ceren of the left-wing FMLN will face challenges of • Legislative weakness • Modest economic growth • High crime • The opposition Arena is expected to • Gain ground in the March 2018 legislative election and • Win back the presidency from the FMLN in February 2019 • Fragmented legislature will continue to undermine political effectiveness in 2018 -22 • Tensions between the two political parties to continue 2

Overview II • Economic growth will average 2. 3% annually 2018 -19 • Supported by rising remittances and • Soft oil prices • These offset • Fiscal constraints and • Weak investment • Cancellation by Trump administration of the Temporary Protected Status (TPS) scheme for over 200, 000 Salvadorians will have impact on remittances • Remittances should • Grow at current pace 2018 -19 but • Decelerate thereafter 3

Forecast 4

Gridlock • Political gridlock is a particular problem in the fiscal area. • The public deficit has remained above 2. 5% of GDP in recent years and public debt has increased steadily • Part of the problem is the pension system that has increased the financial demands on the Salvadoran state significantly. • At the same time, pension fund returns have been insufficient, partly due to ineffective investment rules. • A fundamental reform of the pension system is urgently needed, but unlikely 5

Assessment I • A number of factors account for El Salvador’s low growth prospects • Migration and violence are nearly as high in Honduras as in El Salvador • Political paralysis is also a problem in Guatemala and Costa Rica and • Low competitiveness and fiscal shortcomings are a bottleneck in several countries • None of these factors independently explains El Salvador’s poor growth performance • It is the combination of all these problems that complicates matters for El Salvador 6

Assessment II • Specifically • High levels of migration together with dollarization have led to an overvalued exchange rate which • Has reduced employment opportunities feeding • Crime and violence while • Political gridlock and the preferences of the economic elite make policy change particularly difficult • If El Salvador is to move on from it low growth equilibrium it will require drastic measures such as • The introduction of a new national currency • The rapid expansion of research and development and • The establishment of political dialogue on key areas, including pensions 7

Assessment III • With all such possibilities highly unlikely in the short-tomedium term, the economy looks set to suffer for some time. • Fiscal consolidation and market-friendly reforms alone cannot resolve the deep structural obstacles that hinder the economy. 8

Major Forecast Risks • Firms face difficulties in hiring skilled workers • Probability very high, impact very high intensity = 25 • High deficits prevent the government from enacting progrowth policies leading to further stagnation • Probability high, impact very high, intensity = 20 • Inadequate road network hampers business operations • Probability high, impact high, intensity = 16 • Investment fails to increase, hurting growth • Probability high, impact high, intensity = 16 • Falling levels of violence suffer a reverse • Probability high, impact moderate, Intensity = 12 • Risk intensity is product of probability and impact on a 25 9 point scale