Interview with Sergio Recinos, President of the Central Bank of Guatemala

January 24, 2019

Why do some people call Guatemala the Germany of Central America?

Sergio Recinos: The comparison stems from the fact that Guatemala has largest economy and most macroeconomic strength of the region, much like Germany in Europe. The likes of the IMF and the ratings agencies recognise that Guatemala has enjoyed macroeconomic stability for the last 25 years. That is reflected in our economic growth, which averages 3.6% since 2010. That figure is impressive when you consider both the global context and the local scenario. Another positive indicator is that our inflation has been trending downwards since 1990. It’s been in single digits for the last 12 years and is currently stable at 4%. The exchange rate is also solid, hovering around an average of Q7.80 to the dollar for the last 30 years. We also have low debt levels and record international reserves of $12.2billion, which is enough to cover around 8 months of imports and cover any unexpected shock. Finally, there is our current account surplus that gives us a healthy external sector.

This stability stands out in contrast to our Central American peers. El Salvador had to adopt the dollar because it couldn’t control its currency, while Honduras and Nicaragua have seen extreme exchange rate fluctuations. As for Costa Rica, it may be more socially developed than Guatemala but it has a fiscal deficit of more than 6% that it is struggling to control. Our economic resilience is all the more impressive when you consider the political turbulence that we have experienced in recent years.

Yet the country’s strong macroeconomic performance contrasts sharply with the country’s poor social indicators.

SR: We are conscious that much of our macroeconomic economic strength is based on our growing population. We have annual population growth of 2.4%, which is relatively high, and means that our annual GDP growth per capita is about 1%, which is low. As the Central Bank, we have identified key areas that need investment to improve the country’s GDP per capita. Education, health, nutrition and security are all social challenges that are holding back the country’s development. If we can improve these areas we can unlock more of the potential of our human talent and create more wealth.

There are some ways to achieve these goals in partnership with international investors. We need to build more infrastructure in the country. That would help ease social problems, provide a catalyst for GDP growth and create opportunities for investors. Tourism is another interesting investment opportunity that can help drive the economy and fix social problems. Many tourist projects are in remote, rural areas where our social indicators are the lowest. Moreover, Guatemala’s combination of jungle, beach and Mayan ruins give it a potential for a world-class tourist industry.

Has the ongoing fight against corruption damaged the economy?

SR: The first thing we need to make clear about corruption is that nobody wants it. In Guatemala the country has had enough. Corruption is a means of diverting our scarce resources away from much-needed improvement in our country. I think that in this case if the fight against corruption could have been conducted in a more organised, coherent manner it would have reduced the impact on the economy. But the important thing is that we are fighting corruption. When you start to clean political structures that have not been touched for decades, you are always going to have uncertainty – and that impacts investment. In an uncertain environment, businesses find it difficult to make investment calculations so they tend to delay them. But, to be clear, that’s a result of the uncertainty, not a direct cause of fighting corruption.

In an uncertain environment, businesses find it difficult to make investment calculations so they tend to delay them…

In addition to the anti-corruption drive, there have been some decisions made by the Constitutional Court that have undermined judicial certainty. For example, Minera San Rafael had already completed a consultation with the community and been working the mine for several years before a court decided to revoke the license. That’s a terrible signal for any international investor because it suggests that legal decisions can be reversed retroactively. Hopefully now our judicial system can clarify that point of the regulatory framework so that international players can commit to making long-term foreign direct investments. Indeed, foreign direct investment fell in recent years, while local investment stagnated.

Are you optimistic about the economy’s growth prospects?

SR: There are some positive signs already that the economy is picking up speed. In 2017 credit to the private sector grew by just 3.8%. That metric, which is a key indicator of private-sector demand, grew by 6% in 2018 and we expect the rate of growth to pick up even more in 2019.

Overall, we expect growth of 3.4% for 2019, slightly above the 3.3% predicted by the IMF. Either figure is positive when you consider that 2017 GDP growth came in at 2.8% and 2018 is foreseen to close at 3.0%. There are elections this year, which creates uncertainty, however, we are positive about the 2019 budget, which includes a large capital expenditure component.

Remittances are very important for Guatemala; is that a good thing?

SR: From a macroeconomic point of view, remittances are a healthy, reliable source of export earnings for the Guatemalan economy. Unlike commodities, such as oil, they don’t fluctuate or cause Dutch Disease. Moreover, they are a growing source of income for the country. Remittances have increased steadily since 2001. For the first decade of the century they were increasing at an average of 7.5% per year, but in 2015 that rate of growth jumped up to 13.5% and in 2017 remittances grew by a record 14.4%. Remittances are now worth $9.1billion dollars, or 11.4% of GDP, and have been an important factor in the country’s steady economic growth. Indeed, remittances are by far the country’s most important export. For example, textiles, which is the second, is worth just $1billion, while sugar accounts for just $900million. Overall, remittances make up 75% of Guatemala’s total annual exports.

Of course, while some economists classify remittances as an export, they also reflect a social problem. It is not good for the social fabric of Guatemala that so many feel compelled to leave and work in another country. Moreover, in the long term it’s not good for the economy that we are exporting our workers. Guatemala is in the middle of a demographic boom that is expanding the labour force. We should be developing our human talent to get the most out of this opportunity. However, I would reject the criticism of some local businesses that the remittances are bad because they push up the exchange rate. If you look at the distribution of the remittances it mainly goes to poor people, so it has an important social component. Also, you can see an interesting trend in recent years where the amount of remittances being used for local investment has increased to about 20%. Often its low-income families using the money to build an extra floor on their house, which is beneficial as it is improving the country’s housing stock.

Exporters complain that the quetzal is too high; are they right?

SR: No – they are not. It is true that in 2016 and 2017 we saw an appreciation of the quetzal. This was caused by the influx of remittances and a reduction in imports, which was caused by the falling price of petrol. Oil and its derivatives accounts for 20% of Guatemalan imports, so when the price of crude falls it improves our balance of trade. The two factors combined to give us a strong current account surplus that pushed up the value of the quetzal for two years in a row. But in the last year imports began to grow more quickly than remittances, which pushed the quetzal down again. At present the market values the quetzal at 7.70 to the dollar, which is very close to the 20-year average of 7.80. We don’t have a specific target for the quetzal but we like it to be relatively stable and we think that neither importers nor exporters can complain too much when it is close to historical levels. Moreover, when exporters complain about the quetzal hitting their competitiveness, they should also consider that their real problem is falling global prices for their commodities. For example, sugar prices are very low at present.

we think that neither importers nor exporters can complain too much when it is close to historical levels…

We have a floating exchange rate that responds to supply and demand. We think that’s the best method because it avoids economic distortions and doesn’t favour one sector of the economy over another. However, Guatemala is a small market so the Central Bank has to be involved in the exchange market to reduce volatility. Our mechanism is well understood in the market. We use a 5-day average of the exchange rate with a margin added for fluctuation. Essentially, we respect the trend of the exchange rate, which reflects market sentiment and economic realities but we smooth out the volatility.

Guatemala has a low debt-to-GDP ratio; should it be higher?

SR: The country’s sovereign debt is 24.6% of GDP, which is the lowest level among countries with the same investment rating. It has been around that mark for 15 years. Perhaps, given the early stage of our development and our poor performance in social indicators, we should borrow more money. Indeed, the current fiscal deficit is 1.6% – in previous years it was slightly lower – and the Central Bank believes that could easily increase to 2% and maintain a prudent overall debt to GDP ratio. With a fiscal deficit of 2% the country’s total debt would gradually rise to 30% in a very controlled manner. That would still be prudent as the ratings agency limit for countries with our investment grade is 40% of debt to GDP.

Of course, it is easy to borrow more money, the challenge is to do spend it wisely. The extra debt needs to be used for capital spending. So the challenge for the finance ministry, is to create the mechanisms for extra money to be spend appropriately and for ministries to execute their budgets in an efficient and transparent manner. Moreover, we shouldn’t just look to borrowing. We have a weak fiscal system that gives us the lowest tax take in Latin America after Haiti, and that needs to be improved.