MercoPress. South Atlantic News Agency

Uruguay forecasted to fall 0.8% this year and expand 1.5% in 2010

“Dollarization” and “rigidities” remain specific challenges for Uruguay’s economy.

Uruguay is forecasted to contract 0.8% in 2009 and rebound 1.5% next year according to chief economist for South America from the Spanish banking group BBVA, Joaquín Vial

During a conference this week on Uruguay and the region’s position in addressing the global recession, Vial said that the fall in imports by a higher percentage than with exports reveals “a contraction in consumption and investment” because of a souring of expectations in Uruguay.

“People became scared too fast and companies cut production faster than the fall in sales” which led to an “unnecessary contraction of GDP”. This is expected to revert in the coming months as expectations return to a more optimistic outlook.

Although the leading economist for South America of the Spanish bank acknowledged the effectiveness of fiscal and monetary policies implemented by the Uruguayan government, he also cautioned that the country will face short, medium and long term challenges for which it must be prepared.

Vial first mentioned that the Central bank must reinforce its credibility by effectively reducing inflation to lower and more tolerable percentages. Uruguayan inflation remains in the range of 7% with monetary restrictive policies while world wide deflation has become more of a challenge that an increase in consumer prices.

Another challenge is the excessive “dollarization” of the Uruguayan economy, which Vial described as an ingrained weakness of the system. A majority of Uruguayans mistrust their currency, hold deposits in US dollars and most prices are in dollars. Similarly overall low rates of investment and the “rigidities” of government spending, particularly regarding social security commitments and foreign debt interest and capital payments.

Uruguay’s debt to GDP ratio in spite of five years of sustained growth remains above 65%. Similarly primary deficit targets have been met, but not so fiscal deficits which mean that a slower growing economy could be in for surprises.