OECD Economic Outlook, Volume 2023 Issue 1

Colombia

GDP is expected to grow at moderate rates of 1.5% in 2023 and 1.8% in 2024, after a prolonged recovery that lifted output above its potential. Consumption and investment will remain subdued given tight macroeconomic policies and a fragile global economy, especially in 2023. Headline inflation started to decline in April and is projected to continue to decrease to the target by 2025. The main downside risk is tighter global financial conditions combined with pre-existing external imbalances.

Monetary policy will remain tight to bring down inflation and re-anchor inflation expectations. The planned fiscal consolidation is necessary to ensure compliance with fiscal rules. Building additional fiscal buffers would be prudent given risks. Meanwhile, recent tax reforms provide fiscal space for proposed pension and health reforms that address long-standing inequalities and low social protection coverage. Decreasing informality and promoting gender equality would put Colombia on a path towards more inclusive growth.

High inflation and macroeconomic tightening are slowing growth

Fiscal and monetary policy tightening have started to slow growth, with average year-on-year growth rates slowing to around 2.6% in the last two quarters from more than 10% in early 2022, and consumer and business confidence continuing to decrease. In April, inflation started to recede after having reached a plateau during the first three months of 2023, but still stands at 12.8%. Inflation expectations are already past their peak – at the policy-relevant horizon of two years ahead they stand at around 4%, the upper limit of the 2-4% target range – suggesting a re-anchoring of expectations is gradually taking place. High wage growth, including the 16% minimum wage increase in January 2023, and a still-resilient labour market cushion the effect of high inflation on purchasing power.

Colombia: Inflation and confidence indicators

Source: DANE; BanRep; CEIC; and Fedesarrollo.

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Colombia: Demand, output and prices

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Tighter external financial conditions have increased pressure on and volatility in Colombian asset prices. However, the strong depreciation of the peso in the second half of 2022 has now been reversed. Colombia relies heavily on foreign direct investment to finance its large current account deficit. High interest rates following policy tightening have contributed to rising debt service costs. Higher global oil prices would increase external and fiscal revenues, but fuel subsidies attenuate the net fiscal gains.

Fiscal and monetary policy will remain tight

The central bank is expected to have reached the end of its tightening cycle, in which it increased the policy rate to 13.25%. The policy rate is projected to start coming down in early 2024. After two successive years of significant fiscal tightening, the budget deficit is projected to reach 3.8% of GDP in 2023, slightly below the limit stipulated by the debt‑reduction path of the fiscal rule. Accumulated liabilities from untargeted fuel subsidies weigh on the deficit. The welcome ongoing gradual increase of regulated fuel prices will preserve scarce budget resources for future policy priorities while improving incentives to reduce energy use. Further fiscal buffers should be built in 2024 given downside risks. Meanwhile, two successive tax reforms are expected to permanently increase fiscal revenue from 16% in 2021 to 19% of GDP from 2023 onwards and provide space to finance additional social spending.

After a weak 2023, growth will partially recover in 2024

Growth will moderate considerably in 2023. Fiscal tightening, high interest rates, tighter credit standards, and still high inflation will weigh on investment and consumption. Exports will prop up growth and the current account balance, but goods exports are capped by a fragile global outlook. From early 2024, lower inflation, slower fiscal tightening, and the start of monetary easing will improve domestic demand. Employment is expected to remain relatively resilient, as firms were cautious in re‑building their workforces after the pandemic. Colombia’s large dual fiscal and current account deficits make the economy particularly vulnerable to tighter global financial conditions; planned deficit reductions would lower such risks. Additional financial tightening in advanced economies could put more pressure on the already volatile exchange rate. Higher global uncertainty or a resumption of domestic policy uncertainty could weigh on demand, especially private investment. Domestic financial risks seem contained as banks are well-capitalised, especially following the adoption of Basel III standards.

Proposed reforms reduce inequalities but are insufficient to tackle informality

Proposed ambitious health, pensions, labour, and energy reforms will help reduce high inequalities, amplify social protection coverage, improve working conditions, and steer the Colombian economy into the green transition. Careful sequencing of reform implementation, ensuring long-term fiscal sustainability, and a continued demonstrated commitment to the strong macroeconomic policy framework are needed. Labour, pension, and health reforms should bear in mind high informality, which has high non-wage labour costs and strict employment regulations among its causes. Further improving incentives for formal job creation together with increasing women’s opportunities in the labour market through affordable, good‑quality childcare and shared parental leave could foster both productivity and equity. Defining the details, explicit milestones, and actions of the outlined energy transition strategy would accelerate investments in green technologies.