CAEI

Centro Argentino
de Estudios
Internacionales

The Republic of Chile

Against the Gods:

a counter-cyclical country in Latin America
(Presented to the World Bank on April 16th 2009)

by María Belén Avellaneda Kantt

Dillon Cohen
Clara Martin

Working paper # 19
Programa de EconomíaTodos
Internacional 1
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Against the Gods:
A counter-cyclical country in Latin America
Por María Belén Avellaneda Kantt, Dillon Cohen y Clara Martin
Economía Internacional

Executive Summary
The paper’s focus is the description and analysis of the economic policy in the Republic of Chile,
together with a comparison against Ireland. It includes a country snapshot with the description of
main economic indicators, and a review of its fiscal policy, monetary policy and external balances.
We found that the country is still very vulnerable to the economic downturn given its dependence on
copper prices, the external sector and foreign sources of financing for the private sector. However,
the government is trying to apply a counter-cyclical policy to buffer the effects to the crisis. We
compared the case of Chile to the case of Ireland and conclude that both countries are exposed to
risks related to their high dependence on the foreign sector. Nonetheless, Chilean authorities have
managed their finances much better during the bonanza, which amplifies their margin of actions
towards policy options. The case of Ireland is extremely worrisome, particularly due to the position of
the banking sector, the direct exposure to the housing bubble and the mismanagement of
government finances. Our paper concludes with a brief analysis and some recommendations focused
on: (a) current risks associated to both countries; (b) the application of the counter-cyclical approach;
(c) some common risks associated to monetary expansion and fiscal expansion. The paper was
presented on April 16th to the World Bank. We departed from a logic that presented these countries
as “Heaven in Hell” (Chile) and “Hell in Heaven” (Ireland) to state that the first was located in a much
unstable region. However, the real conclusion after this analysis is that Latin American countries
have learned from the past, and therefore have improved their fiscal sustainability by prudent policy
making. On the other hand, the fiscal deterioration in Europe is extremely worrisome and can cause a
collapse of several economies if the financial crisis continues.

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 TABLE OF CONTENTS

CONCEPTUAL FRAMEWORK

COUNTRIES RATIONALE

SECTION 1: The Republic of Chile

1.a. COUNTRY SNAPSHOT

1.a.i MACROECONOMIC INDICATORS & TRENDS
1.b. RISK ANALYSIS
1.b.i FISCAL POLICY & DEBT DYNAMICS: The Counter-cyclical approach
1.b.ii. MONETARY POLICY & THE BANKING SECTOR
1.b.iii. THE EXTERNAL SECTOR & BALANCE SHEET

SECTION 2: Chile versus Ireland, comparing heaven in hell and hell in heaven

2. CHILE VERSUS IRELAND: Compared through economic indicators

2.a.i. GROSS DOMESTIC PRODUCT
2.a.ii. CAPITAL ACCOUNT AND CURRENT ACCOUNT
2.a.iii. FOREIGN INVESTMENT COMPOSITION
2.a.iv. GOVERNMENT FINANCE AND TAX POLICY
2.a.v. CHILE VERSUS IRELAND: BANKING SECTOR
2.b. MAIN EFFECTS OF THE CURRENT SHOCKS
2.b.i. COMMON EFFECTS OF THE SHOCK
2.b.ii. DISPARETE EFFECTS OF THE SHOCK
2.c. EURO PER VERSUS FLOATING CHILEAN PESO

SECTION 3
3. PUBLIC POLICIES TO BUFFER THE EFFECTS OF THE CRISIS

CONCLUSIONS
POLICY ANALYSIS AND RECOMMENDATIONS

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CONCEPTUAL FRAMEWORK

Latin America and emerging countries in general have been epicenters of several financial
crises associated with external factors and endogenous vulnerabilities. The current crisis, where the
strongest economy in the world is more an emerging country than ever, holds even further challenges
to policy makers. In a global environment characterized by uncertainty and volatility, some tools of
analysis may be helpful to foresee vulnerabilities and reduce the impacts of macroeconomic shocks.

The conceptual framework used in this paper helps us to focus on external threats such as
shrinking commodity prices (Reinhart and Reinhart, 2008), contagion (Calvo and Reinhart, 1996),
and sudden stops (Calvo, 1998); as well as on internal threats such as balance sheet vulnerabilities
(Allen et al, 2002; Calvo et al, 2002) that may lead to liquidity constraints and severe reductions in
output (IADB, 2005; Mendoza and Terrones, 2008). It also allows us to understand policy tools,
including inflation targeting (Frankel 2007) and fiscal management and debt (Reinhart and Reinhart,
2008, IADB, 2007) that may buffer the effects of global downturns.

COUNTRIES RATIONALE

During the past decade both Ireland’s and Chile’s economic models have been praised.
According to many economists they were among the most successful emerging economies. They
improved their institutions and opened their markets to globalization. Following this main stream
thought we tried to analyze what these countries have in common. However, we found that they have
more differences than commonalities. These distinctions have positioned both countries dissimilarly
to face an economic downturn. In this sense, their policy options diverge. In general, Chile’s
macroeconomic indicators and fiscal dynamics are in better shape than Ireland’s. Nonetheless we
believe that the most important threats for these economies are a decrease in exports (particularly in
the case of Chile given the lack of economic diversification and the strong dependence on copper)
and credit constraints. In the case of Ireland, we foresee further problems associated to the banking
system and portfolio investment outflows.

SECTION 1: The Republic of Chile

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 This section provides extensive data on the focus country, Chile. It gives a description of the
initial and current situations. Also, it addresses most relevant changes in fiscal and monetary policies.
Finally, the section presents a description of the shock in the external sector and the effects for the
economy. Most projections are based on Central Bank’s data.

1.a. COUNTRY SNAPSHOT

The Republic of Chile is located in South America. It is a small open economy with upper
middle income. The GNI per capita is $8,350, however the country’s income distribution is highly
unequal (Gini coefficient is 54.9). The total population is approximately 16.6 million. Chile’s main
export is copper (57% of total exports) and 40% of its imports come from oil, fuels and food. This
implies a high dependence on commodity markets (Figure 1). The economic diversification of the
country is meager. Even if there are policies oriented towards export diversification (like creating a
country brand) most export goods do not have relevant value added.

Chile has been a “star” in Latin America due to its credible institutions and the soundness of
both fiscal and monetary policies. However, the country has vulnerabilities to manage. In fact, “Chile
experienced a banking crisis from 1981-84 that in relative terms had a cost perhaps comparable to
that facing the United States today. The Chilean Central Bank acted quickly and decisively in three
ways to restore faith in the credit markets. It restructured firm and household loans, purchased
nonperforming loans temporarily, and facilitated the sale or liquidation of insolvent financial
institutions”1. In 1989 it suffered from a huge outflow of capital (two standard deviations from the
mean in monthly flows) that affected its GDP, in other words, a sudden stop. Annual growth fell to
3.2% in 1998 and then to -1% in 1999, a full 8% below the average growth rate of the previous 10
years.2 In that period, spreads for Chile increased 50% in 1998 and 100% in 1999.

The present global downturn represents new challenges to policy makers. Last year, the
global financial crisis created a dilemma for the current administration: they could either maintain the

1
CRS Report to Congress. The U.S. Financial Crisis: Lessons From Chile. J. F. Hornbeck. September 29th
2008.
2
Following the negative external shock, the Central Bank of Chile (CBCh) set out to minimize the nominal devaluation
and rein in the current account deficit, by implementing a contractionary monetary policy…At the same time, the CBCh
intervened in the foreign exchange market selling international reserves — which fell from US$18 billion in 1997 to close
to US$15 billion in 1999. This behavior is somewhat typical of economies that exhibit “fear-of-floating” — a reluctance
to let the exchange rate play the stabilizing role suggested by traditional open-economy models (see Haussman, Panizza
and Stein (2001), and Calvo and Reinhart (2002)). http://repec.org/esLATM04/up.13766.1081986571.pdf

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mandated fiscal surplus and the inflation targeting schedule or implement a more flexible fiscal policy
together with monetary easing. The government has chosen the latter option by executing a counter-
cyclical fiscal policy, which is new for Latin American countries.

1.a.i MACROECONOMIC INDICATORS & TRENDS

The Republic of Chile’s growth trends are consistent and highly correlated to global patterns
(Figure 2). During the bonanza the country experienced an increase in growth rates while in the
present downturn the country is suffering from a contraction of GDP and GDP’s main components,
particularly investment (Figure 3). Last November, Chile's economic activity index fell to its slowest
monthly pace in nearly 7 years (Figure 4). Consistent with trends in growth, unemployment is
increasing (Figure 5).

1.b. RISK ANALYSIS

1.b.i FISCAL POLICY & DEBT DYNAMICS: The Counter-cyclical approach

The fiscal policy framework is given by the “Fiscal Rule”3 (see Annex 2 Box 1). The rule was
established in 2000 by President Ricardo Lagos. It was originally based in providing a structural
surplus of 1% of GDP. Last year it was lowered to 0.5% of GDP. The continued savings from the
government and copper windfalls were accumulated in two Sovereign Wealth Funds created in 2006.
“These two funds, set up with the promulgation of the Fiscal Responsibility Law, are the Economic
and Social Stabilization Fund (ESSF), which is to provide funding for public education, health, and
housing initiatives; and the Pension Reserve Fund (PRF), which is to provide funding for the
government's pension obligations and help pay for the projected increase in the minimum pension
benefit and take-up rate.”4

Over the last years the government applied its fiscal policy and debt management
consistently (Figures 7, 8, 9 and 10). However, as a result of the severity of the crisis, particularly on
the private sector, which owes 80% of the total foreign debt, the administration has decided to
implement a robust Stimulus Package that implies a fiscal deficit of 2.9% of its GDP. The decision
3
See Frankel, Jeffrey. (2007)
4
http://www.imf.org/external/pubs/ft/survey/so/2007/car1126b.htm

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aims to (a) increase productive capacity by assisting the private sector whose dependence on
international financing sources increased during the past few years (Figure 7); (b) sustain
employment levels; and (c) strengthen domestic demand and help poorer families by a direct subsidy
of $40.000 Chilean pesos called Subsidio Único Familiar (SUF). The plan includes tax rebates,
subsidies and a $1 billion capitalization for state copper giant and No.1 global producer, Codelco5, to
underpin its investment plans. According to the announcement the financing will come from the
Economic and Social Stabilization Fund (ESSF). The Ministry of Economy estimated that the plan will
generate 100,000 jobs directly. In addition, the government is evaluating issuing a $1 billion
sovereign bond to set a reference for the private sector. It is possible that the government has
delayed this option as a consequence of the increase in spreads, particularly in light of Codelco’s
recent bond issuance.

1.b.ii. MONETARY POLICY & THE BANKING SECTOR

The monetary policy framework pillar is given by an inflation targeting scheme. The Central
Bank target was set at a 3% level of inflation and within a -/+ tolerance of a 1% band. Last years’
inflation pushed interest rates up to 8.25%. Amid the global crisis the Central Bank has slashed rates
by a surprising 600bps in just three months to 2.25%. The sharp economic slowdown will
dramatically decrease inflation this year (Figures 11, 12). Even if the Central Bank is “pumping”
money into the system, the policy seems consistent with the level of reserves and the decrease in
aggregate demand and credit (Figures 12, 13, 14).

It is important to notice that in Chile a traditional banking model with a commercial orientation
has prevailed, which has reduced the exposure of the banking sector to the crisis. Also as Glaeser et

5
Codelco: The Law Decree 1,350 of 1976 created the Corporación Nacional del Cobre de Chile, Codelco, conceived as a
mining, industrial and commercial company owned by the Chilean State. Seven members of its Board are named by the
President. The Board is chaired by the Secretary of mining. Workers also participate in the Board. CORFO supports the
goals of the company and provides guidance and help.

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al. suggest a greater elasticity of housing supply contributed to limit the increase in housing prices in
Chile, preventing the creation of a bubble. The ways in which mortgage loans and related collateral
securities are granted also contributed to avoid an unreal increase in prices which could have lead to
speculation. Notwithstanding, there are still credit constraints specifically related to access to foreign
financing.

Regarding non-performing loans, we found relatively satisfactory ratios, at least in most

important banks. The overall Non-Performing Loans (NPL) to Total Loans (TL) ratio for the banking
system is 3% (Figure 41). Chilean banks have started tightening lending policies in response to a
reduction in the amount of dollar credit being given by U.S. banks. Also, the export sector has been
affected by banks reducing the repayment periods on dollar-denominated loans. Local banks have
also tightened lending risk criteria and are seeking credit from new sources, like Asia. De Gregorio of
the BIS commented,: Last “September, liquidity tensions grew substantially around the world, as well
as in Chile. This led the Board to bring the reserve purchase program to an end when almost 6 billion
dollars had been accumulated, and the country had reached quite a comfortable international liquidity
position, which would enable it to mitigate any possible sudden stop of capital flows…in view of the
worsening of liquidity problems, the Bank announced the supply of liquidity in pesos and dollars
through repos and swaps. Later on, in October, the range of eligible collaterals was broadened and
the dollar swap program was extended for six months. Then, in December, an extension for all of
2009 was announced for the repos and swaps program, and the range of eligible collaterals was
broadened further. The purpose of these measures was to align market rates with the Monetary
Policy Rate and to alleviate foreign currency liquidity tensions”6.

1.b.iii. THE EXTERNAL SECTOR & BALANCE SHEET

During the bonanza Chile’s current account remained positive. However, in the present the
situation has been reverted and Chile has become a net borrower from the rest of the world (Figure
15). The current account deficit is expected to widen to 5% of GDP. There has been a positive
relationship between the price of copper and the increase in foreign reserves. This trend was
completely reversed by 2008 showing that the government wanted to accumulate more reserves to
cushion the drop in copper prices (Figure 16).

6
De Gregorio, José. BIS report: Chile and the global recession of 2009. March 2009

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 It is important to mention that the Chilean economy does not have many price distortions,
and therefore changes in international prices of goods and services are transmitted at very fast pace.
The terms of trade have worsened given that the price of exports has decreased relative to the value
of imports (Figures 17, 18). Nevertheless, the decrease in oils and fuels prices will aid to increase the
domestic production capacity. Despite the use of reserves, the FX has been depreciating; the actual
spot price is 623.01 pesos per USD (Figure 19). The latter has a dual effect in the economy; on the
one hand the depreciation will buttress exports. On the other hand, it may complicate the situation for
corporations with dollar denominated debts. Overall, “the stock of international reserves and assets
accrued in the economic and social stabilization fund (FEES) have permitted the Central Bank and
the State to take a number of measures intended to provide liquidity in foreign currency to local
agents, through a program of currency swaps and dollar deposits in domestic banks”7.

SECTION 2: Chile versus Ireland, comparing heaven in hell and hell in heaven

2. CHILE VERSUS IRELAND: Compared through economic indicators

This section compares most relevant macroeconomic indicators in both economies. It

provides data to show main threats as well as vulnerabilities. Also it addresses the common effects of
the current crisis such as decrease in exports and credit constraints, as well as dissimilar effects. The
lasts, include Chile’s dependency on copper prices and Ireland’s problems in the banking system, the
housing bubble and potential capital outflows.

2.a.i. GROSS DOMESTIC PRODUCT

In this section we discuss GDP in both countries in three terms: GDP Growth, GDP
dependence on the Foreign Sector and Composition of Internal Demand.

In terms of GDP growth both countries are strongly affected by the financial crisis’ being
transmitted to the real sector in Chile in the form of global demand contraction and in the form of
construction crash and deep banking crisis in Ireland.

7
Central Bank. Financial Stability Report. 2Q 2008

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 Chile’s GDP growth (% real change pa) is estimated to fall to 3.4%. In fact in the last quarter
of 2008 GDP growth was only 1.1% and is forecast to grow only 0.4%.in 2009. This decline in GDP
growth is basically due to: (i) The open nature of the Chilean Economy, where exports contracted
55.7% (mainly concentrated in copper). Although imports also declined 25.5% in 2008, it did not
occur until November due to the decrease in consumption and the depreciation of the Peso.
Consequently, the participation of Net Exports over the total GDP severely declined. (ii) The year-
over-year growth of the Internal Demand (ID) was stable in 2008, however Internal Demand
contribution to GDP growth is forecasted to decrease a 2.8% in 2009 mainly due to a contraction of
Fixed Investments around 14.4% (Figures 23 and 24).

Ireland is experiencing a very severe recession – GDP fell 2.7% in 2008 and a 6.2% decline
is expected in 2009. The economy has “fallen off a cliff” as the Irish Finance Minister said. The
decreased is mainly due to (i) the decline in Exports, which represents around 80% of GDP. Though
it is compensated with a decline in imports, the large percentage of dependence of GDP on exports
(around 80% versus 46% in Chile) make the country more vulnerable to the external sector – a
problem which has been compounded by the devaluation of sterling (the UK represents a 18% of
total exports in 2007) and the strengthening of the Euro versus the USD (the US represents 17.6% of
total exports in 2007). (ii) The crash of the construction sector is one of the main drivers of
decreasing internal demand, leading to a 5.1% decrease in Fixed Investment in 2008. (Figures 22, 23
and 24).

To conclude although both countries are affected by the crisis, Ireland, in terms of GDP
composition, is more vulnerable.

2.a.ii. CAPITAL ACCOUNT AND CURRENT ACCOUNT

Chile and Ireland profiles are absolutely opposite; Chile was a Net Lender country in 2007
(9% of Nominal GDP) with an estimated Current Account around zero in 2008, while Ireland runs
consistently negative Current Account balance from minus 0.8% to minus 7.88% from 2004 to 2007,
and estimated to be around minus 7% in 2008.

Both Chile and Ireland have positive Balances of Goods and Services (25% and 14% of GDP
respectively in 2007). They also have negative Net Income Balances of around 20%, but in the case

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of Ireland it is not compensated by the Net Balance of G&S turning up into a Balance of G&S and Net
Income around negative 6% of GDP in 2007 compared with a positive 5% in Chile (Figures 25, 26 &
27). The problem is more severe for Ireland given that the negative current account is financed by
mostly by debt.

2.a.iii. FOREIGN INVESTMENT COMPOSITION

Both countries receive great amounts of Foreign Investment (FI), but it is higher in Ireland,
not only in absolute terms but also in terms of GDP with 3.1 and 3.6 times GDP in 2006 and 2007,
while Chile was the recipient of 0.1 and 0.3 times GDP. (Figures 28 & 29). This difference is due to
greater portfolio investments, mostly in equity, received by Ireland, which represents from 2005 to
2007 around 60% of the total FI, adding around 30% of other investment in 2005 and 2007 in the
banking sector (this point should be subject to further study in following reports) (Figure 29). This high
concentration of portfolio investments, subject to easy runs of capital, makes Ireland more vulnerable
to liquidity shocks.

2.a.iv. GOVERNMENT FINANCE AND TAX POLICY

In terms of public debt, though Chile is in an extraordinarily good position, approximately 4%

of GDP, Ireland is not in a bad position, with 32% of GDP, particularly if compared with the average
of its European partners, 40%. Another mitigating factor is that most of both countries’ Public Debt is
in domestic currency.

However, Ireland’s property bubble has caused a collapse in tax revenues (highly dependent
on stamp duty on property sales) and the budget has gone from balance in 2007 to 8% deficit in 2008
and a forecast of 12% deficit for 2009. Moreover the cost of bailing out the financial system put in
greater danger the government budget, as a consequence the spread over the German Bond
reached 282 bps in March 2009.

On the other side, Chile showed a 5.3% surplus in 2008, in spite of private mining taxes’
decline of 65.9%. However the forecast 2009 deficit of 3% is to be financed by ESSF and new debt.
As a consequence, while Chile will be able to run a 2.8% of GDP stimulus package in 2009, Ireland is
set to introduce an emergency budget in April 7 to reduce the deficit by 6.1 Billion USD, or 2% of

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GDP – mainly by increasing taxes. To conclude, Chile is in one of the most privileged positions to
face the financial crisis while Ireland will have to focus its efforts on the financial sector bail out while
pushing the real economy (Figure 30). Also, Chile’s fiscal management in the past few years has
allowed the implementation of a counter-cyclical policy that should buffer the crisis, while Ireland will
apply a pro-cyclical policy by increasing taxes and cutting spending. Finally, even if the fiscal situation
for Ireland seems to be manageable in the short run it becomes less sustainable on a long term
basis.

2.a.v. CHILE VERSUS IRELAND: BANKING SECTOR

The greater vulnerability of the Irish Central Bank is shown in figure 31. Though Irish
Reserves have slightly increased in 2008, M2 has dramatically increased in the last 5 years, while
Chile has maintained a stable ratio M2/R due to great increase in Reserves in the last few years.

The Banking systems clearly differentiate these countries, while Ireland faces a banking
system collapse, (having guaranteed the liabilities of the main commercial banks, nationalized one
and agree to recapitalize others). The Chilean Central Bank had a conservative policy whose
minimum requirements capitalization levels are significantly above the statutory minimum (Basel II)
and tend to exceed levels in other countries.

Regarding foreign liabilities in the banking system, both countries demonstrate a good hedge
with foreign assets and not an extreme currency risk (Figure 32). Besides, though the credit to the
private sector grew at double digit until 2007 for both countries, it has drastically decreased in 2008,
showing the effect of the liquidity crisis (Figure 33).

2.b. MAIN EFFECTS OF THE CURRENT SHOCKS

2.b.i. COMMON EFFECTS OF THE SHOCK

As discussed above in 2.a., we explored the effects the shock was having on GDP growth in
Chile and Ireland. In both countries, the shock has had a severe impact on GDP growth, driving it
from 4.2% to 1.1% in Chile and Ireland’s “falling off a cliff” with -2.7% contraction in 2008 and an

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estimated -6.2% contraction forecast for 2009. The main commonality between both economies is the
contraction of the export sector. As we will explain we believe that Chile’s high dependence on
copper makes it very vulnerable to decreases in global demand and commodity prices. In the case of
Ireland we focus our attention on the risks associated to capital outflows and financial distress.

2.b.ii. DISPARETE EFFECTS OF THE SHOCK

Chilean Sensitivity to Copper Prices

Prior to the shock, the Chilean economy relied on copper for 57% of its GDP. The global
economic shock caused simultaneous decrease in demand worldwide and copper prices went from a
high of $4.00/lb to $1.20/lb. between July 2008 and January 2009. This is illustrated in figures 34
and 35, one and five year copper prices respectively. From the five year chart, it is clear that Chile
has had to manage volatile copper prices in the recent past, but not as volatile as seen in the second
half of 2008. As a result, the value of Chilean exports dropped 24.4% in December 2008 year-over-
year. This was the largest drop in exports in over a decade.

As mentioned above, Chile had planned ahead for this event with the Copper Stabilization
Fund, now transformed into the Economic and Social Stabilization Fund. As a stabilization fund, its
goal is to smooth government spending when copper revenues go down. (Figures 34, 35)

Ireland and the Collapse of the Housing Bubble

The collapse of Ireland’s housing bubble has left a €18 billion structural gap in the budget –
due to the loss of the stamp duty on property taxes. According to some estimates, Irish housing
prices fell 9.7% - not quite as much as in the U.S., where prices fell 19% in January year-over-year.
Irish residential loan growth fell to 4.9% in February 2009, a 23 year low.

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 The dangers of the Irish housing bubble were foreseen by the Central Bank, which warned in
2006 that private sector lending was overheating, led by the growth in the housing market.

2.c. EURO PER VERSUS FLOATING CHILEAN PESO

Chile presents a quasi-perfect correlation between the nominal exchange rate and the real
effective exchange rate (appreciated both at 30% since 2000), maintaining Terms of Trade (ToT)
relatively stable in the last years (Figure 40). On the other hand, Ireland is suffering the
consequences of an overly strong Euro. While Euro has appreciated 37% since 2000 in nominal
terms, in terms of effective real exchange rate, it has depreciated 41%. This fact is producing a
growing ToT and negatively affecting the competitiveness of Ireland. The fact that 36% of exports are
to the US and the UK, both with depreciated currency is running against Ireland, whose dependency
on non-Euro Countries is greater than many of European countries (Figure 41).

The FX results are extremely important when balancing export competition and debt
dynamics. Some people have claimed that Ireland should leave the Euro and let the Irish pound
depreciate in order to increase its competition through exports. However, we have to consider that
Irish external debt is mostly denominated in Euros. Hence, if there were a depreciation of the
currency, dollarized liabilities would become unsustainable which might lead to a default. The latter
will create a further crisis in confidence and probably a speculative attack on the currency which
again will weaken the fiscal situation. 8

2.d.ii.a. THE CENTRAL BANK OF CHILE VERSUS THE EUROPEAN

CENTRAL BANK

The Central Bank of Chile has two main tenets: to set monetary policy in a countercyclical
fashion, in order to reduce output volatility, and to maintain an inflation targeting regime, with a 3%
inflation target for the CPI with allowances of plus or minus 1%.

8
See Calvo, Izquierdo and Talvi on DLD (2002)

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 The European Central Bank (ECB) has at the center of its behavior a goal of fighting
inflation, but it does not have an inflation target. It balances inflation-fighting against a philosophy to
maintain output in situations such as today, when Europe faces a global credit crisis and crisis of
demand. (Figures 37, 38, 39)

SECTION 3

This section describes most relevant policies to buffer the effects of the crisis. It covers:
monetary policy, fiscal policy and measures related to the banking system.

3. PUBLIC POLICIES TO BUFFER THE EFFECTS OF THE CRISIS

Policy Chile Ireland

Monetary Expansionary Monetary Strategy:

- Consistently decreased interest
rates since December 2008. The total
decrease in rate was 6.25%, from
8.25% to 2%.
European Central Bank (ECB) responds
slowly to the crisis, at first concerned about
the inflation of spring and summer 2008.
Later, realizing the seriousness of the credit
crunch, rates were lowered, albeit slower
than the Fed.

Fiscal Expansionary Government Position on Fiscal

-Announced a $4 billion stimulus
package, financed by windfalls from
copper revenues and government
savings accumulated in SWF.
-The counter-cyclical package is
equivalent to 2.8% of GDP and
includes direct support to low income
families, investment in public
infrastructure, tax cuts and incentives
to the private sector.
-The Government is analyzing the
possibility of borrowing $1 billion from
the capital markets by issuing bonds.
The idea is also setting a parameter
for corporate sector borrowing. It is
believed that the government will tap
the international markets soon,
specially after Codelco (Corporación
Situation:
Taoiseach Bran Cowen claims he will
submit a budget “as close as possible” to a
deficit of 9.5% of GDP. Outside analysts
foresee a deficit of at least 10.9% of GDP.
Government Pensions:
The Taoiseach imposed an unpopular
pension levy on public-service workers, who
had refused to accept the tax. This
represented the end of a thirty-year social
partnership between the government and
labor.
Ratings Downgrade:
On 30 March 2009, S & P downgraded
Ireland’s debt from AAA, the highest rating,
to AA+, the next notch down. This will
inevitably lead to higher borrowing costs,
exacerbating the fiscal deficit. Ireland

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 Nacional del Cobre de Chile) priced a reached AAA status in 2001.
$600 million 10 year bond. The
S & P noted that the fiscal situation will
transaction was priced 537.5bps over
“require a number of years of sustained
US Treasuries, which implies a slight
effort to repair, on a scale greater than
increase in the cost of capital.
factored into the government’s current
plans.”

The measures to ease the pressure

Banking Large Bank Accused of Fraud:
on the banking system include the
System abolition of stamp duties paid on Anglo-Irish bank was raided in March and
loans. This tax stands at 1.2% of the the Irish Financial Regulator is poring over
Measures the boxes of records it confiscated. The
principal and represents a loss in
revenue for the government of almost Regulator is considering expanding to better
$700 million. monitor Ireland’s banks.
The banking system will be Ireland Shores Up Two Banks with €7
particularly hard hit with asset and billion :
credit growth likely to fall both on the
back of rising external borrowing Irish Banks are hurting due to their
costs and declining domestic demand exposure to the housing sector, and the
for new loans. However, Chile’s Taoiseach is leading a €7 billion bailout of
banking sector remains strong the two largest banks, Bank of Ireland and
relative to other LATAM countries. Allied Irish, with purchases of preferred
The direct exposure to the housing stock almost exclusively from funds from
bubble and toxic assets has been Ireland’s National Pension Reserve Fund, a
low. The sector is not as €19 billion entity created to protect Ireland
sophisticated as the European or from the problems of an aging population.
American banking systems, hence The banks are expected to pay an 8-9%
the use of derivatives and structured dividend.
products such as Mortgage-Backed
Securities was fairly limited.
Deposits per-capita in Chile are also
the highest in the region and as such
are vulnerable to a slowdown.
In local currency terms, total assets,
total loans and total deposits
increased by 22%, 21% and 18%
respectively in 2008. The
loan/deposit and loan/GDP ratios
rose until 2Q of 2008.

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 POLICY ANALYSIS AND RECOMMENDATIONS

This policy analysis focuses: (a) current risks associated to both countries; (b) the application
of the counter-cyclical approach; (c) some common risks associated with monetary expansion and
fiscal expansion.

(a) Both economies are highly integrated into the international economic system. As a
consequence their domestic growth is correlated to global trends. In this context GDP is likely to
contract in Chile and Ireland. Chile’s decline in GDP will be driven by a substantial decrease in
exports (since trading partner’s demand is likely to shrink), a decline in fixed investments due to an
increase in the cost of capital and the reduction of liquidity. The government is trying to buffer the
decline in GDP by a stimulus package that targets both production and demand. Given Chile’s
dependence on the external sector the most important effect and threat of this crisis will be a
contraction in export together with a decrease in copper prices.

Chile’s Current Account position has been positive throughout the last couple of years and
government debts have been reduced. In the case of Ireland, the contraction of GDP is also
associated with a decrease in exports and also the burst of the housing bubble which has
dramatically affected the construction sector. Unlike Chile, Ireland’s debts have increased
exponentially and its current account deficit has been financed by debt instruments. It is interesting to
notice that few years ago Ireland’s unrestricted opening to foreign capital outflows was praised by the
public opinion and international officials. However, what used to be a blessing now appears to be a
curse. Liquidity is draining and capital outflows are increasing in a context in which the ratio Reserves
to M2 shows a very vulnerable position. According to our data Ireland is much more vulnerable than
Chile to a sudden stop or a banking crisis.

(b) Chile’s counter-cyclical approach appears to be an anomaly within Latin America. Hopefully,
the recent package will help to buffer the most negative effects of the crisis. It is important to highlight
that the package targets both demand and supply. On the demand side they have basically helped
directly most poor families with a subsidy; the latter will buttress consumption given that the
propensity to consume for low income families is higher than the propensity to save, since they need

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17
 to spend their income in basic goods. On the supply side, they have helped the banking system
through tax rebates and also given assistance to small and medium companies. Despite of the
general crisis, Chilean companies that have suffered energy constraints last years will be able to
increase their production since the prices of oils and fuels have gone down. Moreover, Chile is one of
the few Latin American countries that can afford a counter-cyclical package by itself and has the
institutional framework to “control” expansionary instruments. Unlike other countries that have build
reserves only as a consequence of the bonanza, Chile has a determined policy making and the
selected approach is consistent with its long term strategies. However, most government’s policies
are biased towards assisting the export sector. We understand that this strategy is logic due to the
revenues that the sector provides to the whole economy. But we believe that the effects of credits
constraints suffered by small and medium enterprises are being undermined by the authorities.
These companies actually provide employment to the majority of the population. Therefore,
supporting their proper operations by providing small lines of credits will diminish social pressures
and job losses. A possible vehicle to provide liquidity could be Banco de Estado.

(c) Finally, we want to underline that even if we agree that stimulus packages are very
necessary in the present situation these tools should not be abused. If fiscal policy is not
accompanied by monetary policy a Crowding-out Effect may take place. A rise in interest rates
caused by the government’s increased borrowing in the money market and a resulting decrease in
planned investment. However, an expansionary monetary policy will mitigate that effect in the short
run. In the long run, an expansion of liquidity may lead to inflation. At the same time, fiscal
expansions may pressure towards the appreciation of the local currency which will damage exports
competitiveness. It is crucial for multilateral institutions to have an active and coordinated role to face
this crisis. Not only as lenders of last resort but as agents with the capability to monitor economic
policies and channel them towards long run sustainability.

BIBLIOGRAPHY

ALLEN, MARK, CHRISTOPH B. ROSENBERG, CHRISTINA KELLER, BRAD SETSSER AND

NOURIEL RUBINI, (2002) “A Balance Sheet Approach to Financial Crisis”, IMF Working
paper WB/02/210. December 2002.

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18
CALVO, GUILLERMO A. (1998). “Capital Flows and Capital-Market Crises: The Simple Economics of
Sudden Stops,” Journal of Applied Economics (CEMA), 1(1): 35-54.Reprinted in Guillermo A.
Calvo, Emerging Capital Markets in Turmoil: Bad Luck or Bad Policy, Cambridge, MA: MIT
Press, 2005.
CALVO GUILLERMO A., ALEJANDRO IZQUIERDO, and ERNESTO TALVI (2002). “Sudden Stops,
the Real Exchange Rate and Fiscal Sustainability: Argentina’s Lessons”, NBER Working
Paper No. 9828. Reprinted in Guillermo A. Calvo, Emerging Capital Markets in Turmoil: Bad
Luck or Bad Policy, Cambridge, MA: MIT Press, 2005.
CALVO GUILLERMO A. AND CARMEN REINHART, 2002, “Fear of Floating” Quarterly Journal of
Economics, 117, no. 2, May, 379-408.
CALVO GUILLERMO, ALEJANDRO IZQUIERDO, and ERNESTO TALVI Systemic sudden stops: the
relevance of balance-sheet effects and financial integration. Working Paper 14026.
http://www.nber.org/papers/w14026. May 2008.
CALVO, SARA AND CARMEN REINHART, 1996, Capital Flows to Latin America: Is there Contagion
Effects? in Private Capital Flows to Emerging Markets, ed. Guillermo Calvo, Morris
GOLDSTEIN AND EDUARD HOCHREITER, eds. Institute of International Economics,
Washington, DC. http://mpra.ub.uni-muenchen.de/7124/1/MPRA_paper_7124.pdf
CENTRAL BANK. Financial Stability Report. 2Q 2008
DE GREGORIO, JOSÉ. BIS report: Chile and the global recession of 2009. March 2009
DESORMEAUX, JORGE, KAROL FERNÁNDEZ AND PABLO GARCÍA Financial implications of
capital outflows in Chile: 1998–2008
FRANKEL, JEFFREY, and ANDREW ROSE (1996). “Currency Crashes in Emerging Markets: An
Empirical Treatment,” Journal of International Economics, 41(3/4): 351-66.
----------------------------, 1995, "The Stabilizing Properties of a Nominal GNP Rule," JMCB vol.27, 2,
May 1995, 318-34. “Experience of and Lessons from Exchange Rate Regimes in Emerging
Economies,” Monetary and Financial Integration in East Asia: The Way Ahead, Asian
Development Bank, (Palgrave Press) 2004, vol. 2, 91-138.
-----------------------------, CID, Harvard University. Making Inflation Targeting Appropriately Flexible
South African Treasury, Pretoria, Jan. 16 &. Stellenbosh University, Jan. 18, 2007
INTER-AMERICAN DEVELOPMENT BANK. 2005. “Unlocking Credit”. IPES.
----------------------------------------------------------, 2007. “Living with Debt”. IPES
MENDOZA, ENRIQUE G. AND MARCO E. TERRONES. An Anatomy of Credit Booms: Evidence
From Macro Aggregates and Micro Data. IMF Working Paper 08/226; September 1, 2008
REINHART, CARMEN AND VINCENT REINHART, Capital Flows Bonanzas: An Encompassing View
of the Past and Present, mimeo, June 2008. http://www.nber.org/papers/w14321.pdf .
RODRIK, DANI, AND ANDRES VELASCO (1999), “Short-term Capital Flows”, NBER Working Paper
7364 (also published in Annual World Bank Conference on Development Economics 1999).

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19
ANNEX: GRAPHS AND TABLES

Figure 1 ________________________________________________________________

General Information
Population 16.6M
GNI per capita is $8,350.00
Gini coefficient 54.9
% of Exports from Copper 57%
% of Exports from oils, fuels, food 40%
Unemployment 7.80%
Main Potential Vulnerabilities Decrese in Exports
Further decrease in Copper Prices
Energy management
Private Sector Indebtness
Unequal Income Distribution
Capital Outflows
Banking Sector Crisis
Abuse of fiscal & Monetary policies
Credit Constrainst
Political Environment: coming elections
FX variability
Main Strenghts Credible Institutions
Fiscal & Monetary policies soundness
Relatively low cost of capital
Investment grade rating

Figure 2________________________________________________________________

World Growth Chile's Growth

7
6
5
4
3
%

2
1
0
-1 0 2 4 6 8 10
-2
Correlation Coefficient= 0.934 & R^2=0.873
Source: elaborated with World Bank's data

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Figure 3________________________________________________________________

Real GDP Growth

Growth in real private Consumption
Growth in real fixed investment

25
20
15
%

10
5
0
2001 2002 2003 2004 2005 2006 2007 2008 2009
-5
Source: Central Bank of Chile, IFS, Credit Suisse

Figure 4________________________________________________________________

Monthly Indicator of Economic Activity (IMACEC)

8.0
7.0
6.0
5.0
4.0
3.0
2.0
1.0
0.0
r

r
b

b
ve t

ve t

ve t

ve t

ve t

ve t
ay

ay

ay

ay

ay

ay
be

be

be

be

be

be
No gus

No us

No us

No us

No us
Fe

Fe

Fe

Fe

Fe

Fe
u
M

M
m

m
Ag

Ag

Ag

Ag

Ag
A

No

Source: Central Bank of Chile

Figure 5________________________________________________________________

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 Unemployment Rate
12.0%

10.0%
8.0%
6.0%

4.0%
2.0%

0.0%
2001 2002 2003 2004 2005 2006 2007 2008 2009

Source: Central Bank of Chile

Figure 6________________________________________________________________

General government fiscal balance (% of GDP)

Central government primary fiscal balance (% of GDP)
12
10
8
6
%

4
2
0
2002 2003 2004 2005 2006 2007 2008 '2009F 2010F
-2
-4
Source: Central Bank of Chile, Credit Suisse, EIU

Figure 7________________________________________________________________

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 External Debt as % of GDP

2002

Gross ED
2004
Public
Private
2006

2008

0 20 40 60 80 100 120 140

Source: Central Bank of Chile

Figure 8________________________________________________________________

Central government expenditure (% of GDP)

Gross central government debt (% of GDP, end-year)
Net central government debt (% of GDP, end-year)
30

20

10
%

0
2002 2003 2004 2005 2006 2007 2008 '2009F 2010F
-10

-20
Source: Central Bank of Chile, Credit Suisse

Figure 9________________________________________________________________

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 Spreads

500
400 Chile Corporate Bond
300
200 Chile Embi Global
100 Sovereign Bond

0
Chile Embi Global
Nov-00
Jan-99

Jul-04
Jun-05
Dec-99

Oct-01
Sep-02
Aug-03

May-06
Apr-07
Mar-08
Sovereign Bond Chile
Ex-Codelco

Source: Data Stream - Bloomberg

Figure 10_______________________________________________________________

Sovereign Spreads
(basis points)
05.Sep.08
Clasificación Sovereign Latin Other
Moody's Spread Investment
American Chile
LT/FC Basic Points Grade
(CSDR) Economies Economies
Argentina Argentina (B3)Argentina (B3)Argentina B3 713 713
Brasil Brasil (Ba1) Brazil (Ba1) Brazil Ba1 261 261
Colombia Colombia (Ba1)Colombia (Ba1)Colombia Ba1 242 242
Perú Perú (Ba1) Peru (Ba1) Peru Ba1 225 225
México México (Baa1)Mexico (Baa1)Mexico Baa1 218 218
Chile Chile (A2) Chile (A2) Chile A2 171 171
China China (A2) China (A2) China A2 128 128
Malasia Malasia (A2) Malaysia (A2) Malaysia A2 156 156
Hungría Hungría (A3) Hungary (A3) Hungary A3 162 162
Polonia Polonia (A1) Poland (A1) Poland A1 173 173
Rusia Rusia (Baa1) Russia (Baa1)Russia Baa1 254 254
Sudáfrica Sudáfrica (Baa1)
South Africa (Baa1)
South Africa Baa1 264 264
Source: Central Bank of Chile

Figure 11_______________________________________________________________

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 CPI inflation (% , December over December)
CPI inflation (% change in average index for the year)
Monetary policy reference rate (end-year, % )
10
9
8
7
6
%

5
4
3
2
1
0
2002 2003 2004 2005 2006 2007 2008 '2009F 2010F
Source: Central Bank of Chile and Credit Suisse

Figure 12_______________________________________________________________

Broad money supply (M2, % of GDP)

Domestic credit (% of GDP)
80
70
60
50
%

40
30
20
10
0
2002 2003 2004 2005 2006 2007 2008 '2009F 2010F
Source: Central Bank of Chile, Credit Suisse

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Figure 139_______________________________________________________________

Reserves to M2 ratio
%

5
4

3
2

1
0
2001 2002 2003 2004 2005 2006 2007 2008
Soruce: Central Bank of Chile and IFS

Figure 14_______________________________________________________________

PRIVATE MONETARY AGGREGATES February 1-15, 2009

(Monthly average in billions of pesos)
Currency in circulation 2503.56
M1 10702.35
Monetary base 4165.58
Central Government and private loans:
Domestic Currency 56969.5
Foreign Currency 13989.7
Source: Central Bank of Chile

9
The higher the ratio of R/M2 is, the worse the situation, becomes and so the greater the vulnerability. In other words: if
M2 is too high you have printed more money than the amount you may back up with reserves in case of a downturn in
your financial account

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Figure 15_______________________________________________________________

Balance of Payments
5000
4000
3000
2000
1000
M

0
III.01

III.02

III.03

III.04

III.05

III.06

III.07

III.08
I.01

I.02

I.03

I.04

I.05

I.06

I.07

I.08
-1000
-2000
-3000

Current Account Capital Account

Figure 16_______________________________________________________________

Gross FX Reserves $ Price of Copper

30 9000
8000
25
7000
20 6000
5000
15
4000
10 3000
2000
5
1000
0 0
2001 2002 2003 2004 2005 2006 2007 2008 2009

Source: Central Bank of Chile, Data Stream-Bloomberg, Credit Suisse

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Figure 17_______________________________________________________________

Terms of trade

180
160 Total
140
120
100
80
Without
60 copper
40 price
20 effect
0
2001 2002 2003 2004 2005 2006 2007 2008 2009
Source: Central Bank of Chile

Figure 18_______________________________________________________________

Exports (goods and nonfactor services, % increase in $ value)

Imports (goods and nonfactor services, % increase in $ value)

50
40
30
20
10
%

0
-10 2002 2003 2004 2005 2006 2007 2008 2009F 2010F

-20
-30
-40
Source: Central Bank of Chile, INE, Credit Suisse

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Figure 19_______________________________________________________________

REER (% year-on-year change, annual average)

Exchange rate (CLP per USD, end-year)

6 800
4 700
2 600
500
0
%

400
-2

F
02

03

04

05

06

07

08

F
300

09

10
20

20

20

20

20

20

20

0
20
-4

'2
200
-6 100
-8 0
Source: Central Bank of Chile, Credit Suisse

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Figure 20______________________________________________________________

IMF
I. Official reserve II. Predetermined short-term net drains on foreign currency assets (nominal value) MEMOITEMS
assets and
other foreign currency d) securities lent and
(approximate market
onrepo15 461.94
value) 4 Maturity breakdown (residual maturity)
Jan-09
More than 1 More than 3
A. Official reserve Up to 1 and up to 3 months and —lent or repoed and
assets 23,453.57 Total month months up to 1 year includedinSectionI -3,981.35
1. Foreign currency loans, securities, and
deposits 6 -1,701.94 -1,061.65 -484.1 -156.2 —lent or repoed but
not includedinSection
(1) Foreign currency —outflows (-) Principal -1,573.64 -1,061.65 -459.6 -52.4 I 0
reserves (in convertible Interest -128.3 0 -24.5 -103.8
foreign currencies) 23,161.17 —inflows (+) Principal 0 0 0 0
—borrowed or
Interest 0 0 0 0
acquiredandincluded
(a) Securities 17,322.31
inSectionI 0

2. Aggregate short and long positions in

forwards and futures in foreign currencies —borrowed or
of which: issuer vis-à-vis the domestic currency (including acquiredbut not
headquartered in the forward leg of currency swaps) 7 includedinSectionI 4,443.29
reporting country but (a) Short positions ( - ) 0 0 0 0
located abroad (b) Long positions (+) 390 215 0 175
3. Other (specify) -4.83 -4.83

—outflows related to repos (-)

(b) total currency and
deposits with: 5,838.86 —inflows related to reverse repos (+)
—trade credit (-)
—trade credit (+)
(i) other national
central banks, BIS and —other accounts payable (-) -4.83 -4.83
IMF 10.3
—other accounts receivable (+)

(ii) banks
headquartered in the
reporting country

of which: located
abroad

(iii) banks
headquartered outside
the reporting country 5,828.56

of which: located in the

reporting country

(2) IMF reserve

position 161.92
(3) SDRs 55.13

(4) gold (including gold

deposits and, if
appropriate, gold
swapped)5 7.08

—volume in millions of
fine troy ounces 0.01

(5) other reserve

assets (specify) 68.27

—financial derivatives

Figure 21_______________________________________________________________

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 FOREIGN LIABILITIES FOREIGN ASSETS

300.000 16000.000
250.000 14000.000
12000.000
200.000 10000.000
150.000 8000.000
100.000 6000.000
4000.000
50.000 2000.000
0.000 0.000
98
99
00
01
02

03
04
05
06
07
08
19
19
20
20
20

20
20
20
20
20
20
Source: Central Bank of Chile

Figure 22_______________________________________________________________

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CHILE: GDP COMPOSITION IN %

Source: Central Bank, forcasted based on Central Bank’s data

IRELAND: GDP COMPOSITION IN %

Source: European Central Bank

Figure 23_______________________________________________________________

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CHILE: Internal Demand Composition in %.

Source: Central Bank of Chile

IRELAND: Internal Demand Composition in %.

Source: European Central Bank

Figure 24_______________________________________________________________

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CHILE: GDP Growth yoy

Source: Central Bank of Chile

IRELAND: GDP Growth yoy

Source: European Central Bank

Figure 25_______________________________________________________________

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CHILE. Capital and Financial Accounts and Change in Reserves. MM USD

Source: Central Bank of Chile

IRELAND: Capital and Financial Accounts and Change in Reserves. MM USD

Source: European Central Bank

Figure 26_______________________________________________________________

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CHILE and Ireland CA over Nominal GDP

Source: Central Banks

Figure 27_______________________________________________________________

CHILE and Ireland Balance of Payment Composition in 2007 over GDP

Sources: Central Banks, IFS

Figure 28_______________________________________________________________

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.
CHILE and Ireland New FI times Nominal GDP

Source: IFS

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Figure 29_______________________________________________________________

CHILE. FI (MM USD)

Source: Central Bank of Chile

IRELAND. FI (MM USD)

Source: European Central Bank

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Figure 30_______________________________________________________________

CHILE and Ireland Deficit % over GDP and Total Debt % over GDP

Source: IFS

Figure 31_______________________________________________________________

CHILE and Ireland : M2 and Reserves

Source: IFS

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Figure 32_______________________________________________________________

CHILE and Ireland: Foreign Liabilities in the Bank Sector

Source: IFS

Figure 33_______________________________________________________________

CHILE and Ireland: Claims of the Banking sector over the Private sector

Source: IFS

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Figure 34_______________________________________________________________

S
ource: Kitco.

Figure 35_______________________________________________________________

Source: Kitco

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Figure 36_______________________________________________________________

Irish versus German 10 Year Bond Yields

Source: EIU
Figure 37_______________________________________________________________

Spread between Irish and German 10 Year Bonds

Source: EIU

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Figure 38_______________________________________________________________

Chilean and U.S. 10 Year Bond Yields

Source: EIU

Figure 39_______________________________________________________________

Spread Between Chilean and U.S. 10 Year Bonds

Source: EIU

Figure 40_______________________________________________________________

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CHILE: Nominal Exchange Rate versus Real Efective Exchange Rate and ToT

Source: Central Bank of Chile

Figure 41_______________________________________________________________

IRELAND: Nominal Exchange Rate versus Real Efective Exchange Rate ans ToT

Source: European Central Bank

Figure 42_______________________________________________________________

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 No-Performing
Total Loans Loans (90>days) NPL/TL
Banks in Chile 60,230,176 1,146,458 2%
Bice 2,035,227 18,818 1%
Bilbao Vizcaya Argentaria, Chile 5,172,746 120,735 2%
Corpbanca 4,902,129 97,379 2%
De Crédito e Inversiones 9,206,394 195,127 2%
De Chile 13,480,840 180,899 1%
Deutsche Bank (Chile) 0 0
Falabella 604,470 17,153 3%
HSBC Bank (Chile) 276,218 0 0%
Internacional 317,466 4,602 1%
Itaú Chile 2,318,064 36,999 2%
Monex 17,064 805 5%
Paris 203,066 11,159 5%
Penta 0 0
Rabobank Chile 197,062 2,258 1%
Ripley 227,354 15,661 7%
Santander-Chile 14,465,485 392,959 3%
Scotiabank Sud Americano (1) 4,598,289 26,901 1%
Security 1,963,793 24,904 1%
The Royal Bank of Scotland (Chile) 244,509 101 0%

Banks of the Republic of Chile 9,348,966 466,883 5%

Foreign Banks Branches* 67,112 0 0%

De la Nación Argentina 4,973 0 0%
DnB NOR Bank ASA 0 0
Do Brasil S.A. 21,272 0 0%
JP Morgan Chase Bank, N.A. 19,622 0 0%
Of Tokyo-Mitsubishi UFJ, Ltd. 21,245 0 0%

Sistema Bancario 69,646,254 1,793,769 3%

Del Desarrollo (5) 2,570,128 180,428 7%

*Representative offices only
Source: Superintendencia de Bancos e Intituciones Financieras de Chile

ANNEX 2

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BOX 1 – Fiscal Rule: Structural and Observed fiscal balances

Source: Columbia University, Prof. Sara Calvo, class material from Izquierdo, Ottonello and Talvi
(forthcoming).

Chile’s cyclically adjusted fiscal rule

The rule was designed as a means of constraining the pressure to spend the high expected
revenues or to break the pro-cyclical behavior of fiscal policy (high copper prices, expanding
economy).

The rule: the cyclically adjusted budget surplus to be no less than 1 percent of GDP. The
adjustment is with respect to the price of copper.

Chile’s Cyclically-Adjusted Fiscal Balance = observed Fiscal Balance – (term involving projections of
labor, investment and factor productivity to estimate potential output using a production function +
projections of copper prices)

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