A protester confronts riot police while holding a Chilean flag during a protest against President Sebastian Piñera earlier this year in Santiago, Chile.
Marcelo Hernandez/Getty Images News via Getty Images
Even when the pandemic ends, Chile's problems will not.
Over the course of the year, banks in the Andean country have sipped a dangerous cocktail of social unrest reminiscence and the full-blown impact of the pandemic. Fallout from COVID-19 battered bank profits. Chile's three largest private banks — Banco Santander Chile, Banco de Credito e Inversiones and Banco de Chile — reported an aggregate 32.3% annual drop in net income during the third quarter. Asset write-downs and operating expenses rose by 44.5% year over year as banks braced for losses down the line.
The events come on the heels of social unrest seen by late 2019, which already had deflated GDP growth and undermined banks' profitability. Banco Central de Chile now expects the economy to contract by between 4.5% and 5.5% this year, and prospects of a post-COVID recovery are largely dependent on both how the pandemic and the constitutional process evolve.
"The greatest risk for banks in the constitutional process is that it evolves in such a way that it prevents a sustained economic recovery," said Felipe Ramirez, chief economist with Chilean lender Institución Financiera Cooperativa Coopeuch.
Even as restrictions have begun to ease and GDP is rebounding, the outlook for the financial system is still opaque amid potential political risk stemming from the now-started constitutional process and a looming presidential election.
"There is no doubt that over the next few years we will sail through a sea of uncertainties and high expectations," Ramirez said. "A resurgence in violence could be an obstacle if the process does not move forward as people expect it to."
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On Oct. 26, 78% of Chileans voted in favor of abolishing its Pinochet-era constitution. As a result, the country will elect a 155-member constitutional assembly in April 2021 to write a new constitution from scratch. It will take 9 to 12 months to create a final draft, after which Chileans will vote on whether to accept or reject it.
Sandwiched in the middle of that process, Chile also will hold a presidential election in November 2021.
It will be "two years of uncertainty," as Claudio Soto, chief economist with Santander Chile, noted in a conference call. "There are several challenges ahead, but at least [after] all the violence we saw last year … now we see more agreement to conduct those changes through an institutional process," he added.
New investment is likely to remain depressed in the mean time, as large companies take a wait-and-see approach, Fitch said in a report. Capital expenditure is already down due to the disruption caused by both social unrest and the pandemic.
Bankers expect the Chilean government will continue to support the economy during 2021. As of now, delinquency ratios remain subdued thanks largely to broad repayment flexibility measures. Banks in Chile had renegotiated as much as 28.938 trillion pesos worth of real estate and commercial loans as of September, or 38.1% of their total book. But nonperforming ratios are widely expected to tick higher in the months to come.
"A lot of companies have suffered severe adjustments in income flows and a lot of people lost their jobs," Ramirez said. "A prolonged period of stagnation as a result of a process full of uncertainties and bad decisions could significantly affect banking profitability, mainly due to an increase in credit risk of customers."
Pension fund withdrawals
Although the outcome of the new constitution is unclear, economists are already expecting a gradual loosening of the fiscal grip. Private pension funds in Chile, a massive pool of $200 billion that has been instrumental to foster growth, are now expected to be at the core of the constitutional debate.
Throughout the pandemic, Congress allowed for a universal 10% withdrawal from the private pension funds to offer relief to Chileans, resulting in $12 billion worth of assets being pulled out. While originally envisaged as a one-off even, Congress is currently working to approve a similar measure again.
"There seems to be a gradual shift away from pragmatism and toward more populist policies," Nikhil Sanghani, a Latin American specialist with Capital Economics, said. "General trajectory is for the state to play a much bigger role in the Chilean economy."
Although withdrawals will mean a boost to consumption and debt repayment over the short term, lenders might have a hard time in the long-run if it becomes a habit. About 15% of pension funds are invested in bank bonds, and represent nearly a third of all sources of bond funding for banks.
In a call with analysts, Banco de Chile chief economist Rodrigo Aravena underscored the "importance of preserving critical aspects that have been important in the development of Chile."
Although uncertainty is high, economists still expect a somewhat contained outcome. "I hardly believe economic frameworks will change in a radical way," Martin Castellanos, head of LatAm research with the Institute of International Finance, said. "There might be more spending, but generally speaking, I would not expect big adjustments to a policy that has delivered such good results so far."
Capital Economics Sanghani also noted that Chile's "really low" debt levels could help make the increased spending more digestible. "An increase in debt-to-GDP toward 50% in the next five years is not a major concern for Chile."
To that end, a rebound in copper prices might also support greater fiscal capacity and improved economic performance throughout 2021. The metal has risen on the back of Chinese recovery and will remain "fairly high" during the next year, Sanghani said.