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Colombia votes for continuity as Santos is reelected: implications for the economy and local markets

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June 16, 2014 (www.investorideas.com newswire) With 7,816,986 votes (50.95%) in the second round, Juan Manuel Santos was reelected for a second term (2014-2018), defeating Oscar Iván Zuluaga, Centro Democrático's candidate, who received 6,905,001 votes (45.0%).

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These results imply that the alliances formed by Santos after the first round with some leaders of the center, right, and left parties paid off. Hence, it must be recalled that Zuluaga won the first round of the electoral race with 29.25% of votes, followed by Santos with 25.69%.

As we mentioned in our flash note Presidential elections: the next task is to ‘seduce' the electorate published on 26-May, the winner would be defined by two major factors, namely, the alliances made by each candidate and the need to ‘seduce' the electorate into voting, as abstention stood near 60% during the first round.

Thus, it must be recalled that Santos made alliances after 25-May with leaders of the ‘Verdes' party (center), Progresistas (left) and Polo (left) while he received the support of roughly a half of the Conservador party (the other half supported Zuluaga). In general, these alliances were based on the support to the current peace talks and the expectation of reaching a final agreement with FARC after two years of negotiations, considering particularly that Zuluaga said that he would have restated the current negotiations with the guerrilla had he won.

On the other hand, we highlight that the abstentionism fell from 60% in the first round to 52% in the second one, which implied that 2.4 mn more voters went to the polls.

According to what we mentioned in previous notes, we do not expect a strong impact on the local markets as both candidates represented the continuity of market-friendly policies. The focus for Santos' administration during the next period will be to reach a peace agreement with FARC and possibly ELN, a guerrilla with which the government started ‘exploratory' conversations recently. Thus, the end of the internal armed conflict would be the base for the government to increase the available resources for social spending and other programs directed to foster economic growth. According to Santos, a peace agreement would represent two additional points of GDP growth in the long term (from 4.5% to 6.5%), equivalent to roughly USD 7bn per year, which would allow to increase the affiliates to the social security system in roughly 25 mn, to triple the resources directed to public universities and to build other 300,000 free-houses, according to Santos' campaign.

Although we agree with the potential benefits of reaching peace in Colombia, these would be observed in the longer term as it would be too difficult to reduce the spending in defense, particularly considering that it would be expected an increase in urban violence. Now, it is true that some resources of the private sector that are spent in security today would be redirected to investment, generating more economic growth and a better income distribution in the shorter term. However, it is also true that the peace process still has a hard road ahead with the remaining points in the agenda being victims' reparation and the end of the conflict; additionally, the peace agreement would have to be approved in a referendum.

Beyond a peace agreement and its potential benefits, undoubtedly the execution of the so-called 4G infrastructure projects will be a priority for the next four years in order to improve the competitiveness of the tradable sector (as of today, three road projects worth USD 2bn have been awarded). Additionally, Santos offered to build 1.2 mn houses, including 300,000 free-houses, maintain the mortgage interest rate subsidy, promote several sectors through the current program of productive transformation, invest in the modernization and formalization of small and medium enterprises, reduce both energy and logistics costs, eliminate the VAT for capital goods and attack the contraband.

In general terms, the economic model will remain virtually unchanged and based on five ‘locomotives': housing, infrastructure, oil-mining, agriculture and technology and innovation.

In his speech after knowing yesterday's results, Santos mentioned that he would make the necessary ‘corrections' and ‘adjustments' to achieve the goals set. In economic terms, we expect a new tax reform this year, which would keep the current financial transaction tax (4x1000) and the wealth tax, representing at least USD 4bn of revenues for the government per year. In any case, we do not rule out (in fact, we support) a structural tax reform that collects at least two additional points of GDP in order to finance the expected increase in spending from an eventual post-conflict phase and the increasing needs coming from the social security system amid a stringent fiscal rule.

Overall, we expect the positive sentiment by investors to continue amid a strong momentum of the economy, which grew close to 5.7% y/y in 1Q14 according to our estimates. Looking longer term, the expectation of a peace agreement with the FARC under Santos' Government could have a positive impact on local markets. In this sense, it must be recalled that Zuluaga had said that he would have restated the current negotiations with the guerrilla had he won.

On the other hand, as a particular case, Isagen's shares have been positively impacted today as anticipated (see our Andean Daily Report, June 16th) once it is expected that the sale process of the government's stake in the company will continue under Santos' administration. Isagen's shares had been negatively affected recently by Zuluaga's comments about a plan not to continue with the sale process in the case he had won.

In the case of the fixed income market, it must be recalled that the Minister of Finance has mentioned on several occasions that the goal is to allow for an increasing participation by foreign investors in the local debt market, which could imply a further reduction in the tax rate charged for them from the current 14% level in coming years. Should this scenario materialize, undoubtedly there would be a positive effect on the local rates in the long term.

Finally, we highlight that the governability may be a relevant challenge for Santos as Alvaro Uribe would be the main opponent in Senate amid the potential need for approval of other structural reforms such as pensions, health and justice, in addition to the necessary laws in the case of reaching a peace agreement. Thus, the coalition in the Senate will be roughly 60% in the Senate in the next four years (assuming that part of the Conservador party supports Santos) which compares to 74% in 2010-2014, with Uribe's party (Centro Democrático) representing 19% of the Senate. In fact, after knowing the results yesterday, Uribe launched hard words again Santos' government, which surely implies that the opposition in the Congress by him will be strong in coming years.

Regards,
Macro Research

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