ACTIVITY TO COOL IN 2023.

After returning to its pre-COVID-19 level in 2022, GDP growth is set to lose momentum in 2023. Household consumption (59% of GDP) is expected to drive activity as inflationary pressures ease throughout the year and the job market remains relatively solid, notably amid a gradual rebound in tourism. This sector is a mainstay of the economy and accounted for 16.4% of GDP and 16.3% of employment in 2019, before the COVID-19 shock. However, weakening activity in neighboring Brazil and Argentina could negatively impact the tourism upturn. Meanwhile, foreign sales should start to bear the fruits of the new UPM plant (contributing to expanding pulp-related exports). In addition, the expansion of traditional exports (which includes beef, soybean, dairy, rice, and wood products and accounts for 16% of GDP) will decelerate from their strong showings in 2021 and 2022 as growth momentum in its main trade partners (China, Brazil, and the European Union) weakens, and assuming some softening of agriculture commodity prices during 2023. Moreover, the La Niña represents a downside risk to the 2022-2023 crop for the third consecutive year. Last, gross fixed investment growth should lose steam, weighed down by higher global borrowing costs and by the termination of large projects, such as the construction of the UPM pulp factory and the restoration of the theFerrocarrilCentralRailway (both expected for Q1 2023). Investments are expected to be primarily directed towards export-related industries, renewable energy (supplying over 90% of the country’s electrical grid, including hydroelectric), and improving road infrastructure.

CONTAINED CURRENT ACCOUNT DEFICIT & MINOR PROGRESS IN FISCAL CONSOLIDATION

The current account deficit will further narrow in 2023. The slowdown in domestic demand and the expected relatively minor decline in energy commodity prices should contribute to a milder import rise. This trend should outpace weaker export growth. In addition, the services balance, which switched back to a surplus in 2022, will continue to improve in 2023 as freight costs decline and travel revenues rebound. Finally, lower repatriation of foreign companies’ profits will also help shrink the primary income deficit. On the financing side, foreign direct investment will continue to cover the current account deficit comfortably. Moreover, as of August 2022, foreign currency reserves stood at USD 15.9 billion, covering roughly 14 months of imports. Finally, total external debt stood at 80% of GDP in Q2 2022, with the consolidated public sector’s share representing 45%.

Regarding the public account, the fiscal deficit should remain broadly stable in 2023. Weaker activity growth will limit the expansion of tax revenues, while the government´s fiscal consolidation efforts could be somewhat watered down by political and union opposition. Furthermore, the government continues to count on one of the lowest borrowing costs in Latin America. While public debt is large and increased because of the crisis, the authorities have gradually increased its share denominated in local currency (52.9% in Q2 2022, compared with barely 11.5% in 2005) and lengthened its average maturity, thereby reducing its vulnerability.

PRESIDENT LACALLE POU TRIES TO MOVE WITH REFORMS AMID DECENT (ALBEIT WEAKER) POPULAR SUPPORT

Luis Lacalle Pou of the center-right Partido Nacional (PN), who took office in March 2020, does not govern with an outright majority in the bicameral General Assembly. However, thanks to a “rainbow” coalition including the PN and four other parties ranging from the center-right (Partido Independiente) to the far-right (Cabildo Abierto), the ruling power governs with a simple legislative majority. In addition, an opposition-led referendum in March 2022 rejected the proposed repeal of 135 articles of the Urgent Consideration Act (LUC) law, representing a victory for the incumbent power. The LUC, enacted in July 2020, is a central pillar of the government agenda. It includes stricter sentences for crime, restricting the right to go on strike, education reforms, implementing fiscal constraints, and increasing the role of the private sector. Furthermore, in July 2022, a pension reform bill was presented, which aims to aggregate the current multiple pension schemes into one system and gradually raise the retirement age from 60 to 65. On balance, Lacalle Pou has maintained a decent approval rating (47% in August 2022), although it is slipping. For instance, rising inflation throughout 2022, resulting in eroding purchasing power, has sparked occasional protests since June 2022, which unions have primarily led. Moreover, his popularity could also be dented by the arrest of his personal security detail in late September 2022 for allegedly participating in a scheme to help Russians illegally obtain Uruguayan passports. Last, regarding Uruguay’s foreign trade policy, Lacalle Pou has argued that Mercosur countries should be able to negotiate free trade agreements separately from the other bloc members. In July 2022, the government announced it would launch formal trade negotiations with China.