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Humala’s election presenting risks to Peru’s investment climate – Maplecroft political risk briefing

16/06/2011

Image courtesy of Gobierno de Chile - flickr

The appointment of Ollanta Humala in the second-round of Peru’s presidential elections, held on 5 June 2011, may pose significant risk to the stability and favourability of Peru’s investment climate. The markets have reacted unfavourably to his election, particularly attributed to doubt regarding the sincerity of his dramatic sway from radical left-wing politics to a more moderate centre-left. Humala’s platform in the 2006 presidential campaign was anti-capitalistic and closely aligned to the socialist ideology espoused by Venezuela’s President Hugo Chavez. Whilst Humala garnered significant support in 2006, the threat to economic growth that he posed due to his commitment to re-write the constitution and rescind on Free Trade Agreements allowed current market-friendly President Garcia to prevail.

However, Humala’s apparent sway to the centre-left in 2011 and the pursuit of social-democratic moderate policies in line with former Brazilian president Luiz Inacio Lula da Silva may signify Humala’s intent to pragmatically pursue fiscal change to ensure fairer redistribution of revenue. For businesses, this could mean increased taxes and royalties on windfall profits as well as restrictions on exports. However, significant risks to business will be mitigated due to Humala’s Allianza Gana Peru party failing to hold a majority in Congress. Businesses with investments in Peru should be aware of how the recent election of Humala may impact their operations. Humala’s election could be an opportunity for responsible business to contribute to the development of the country.

Key risks:

• Risks related to respect for property rights can be expected to increase. Throughout the election period Humala stated his intention to pursue increased state control over the economy to include stricter regulation of strategic sectors such as oil, gas and mining. It is likely that Humala will pursue some changes to current contractual relations, such as increasing taxes, in order to advance his economic model. Whilst Humala rescinded on his most radical proposals – such as renegotiating Peru’s Free Trade Agreements (FTAs) - it is likely that a legal renegotiation of individual contracts will be pursued, particularly since many contracts in the extractive industries are due to expire in 2011 and 2012. However, Humala has pledged to pursue change pragmatically in the moderate model of former Brazilian President Lula, rejecting Chavez’s socialist aim of nationalisation.
• Humala may attempt to prioritise domestic consumption over exports. Whilst Humala has reigned in his initial anti-capitalistic rhetoric he continues to highlight the necessity of boosting internal markets and discontinue the prioritisation of exports. One of his proposed pledges is to ensure that domestic energy demands are satisfied before natural gas at the Camisea fields can be exported. However, radical change that will significantly impact foreign investment will unlikely pass through Congress as, although Humala’s Allianza Gana Peru party has the most seats in Congress, 47/130, it does not have a majority.
• Failure to address the economic polarisation within the country will likely result in continued unrest. The economic disparity between the urban wealthy elite and rural indigenous communities mired in poverty was highlighted in the electorate split. Support for Humala, who proposed changes to fiscal policy to ensure greater revenue redistribution, was greatest amongst the latter group, while support for his main rival, Fujimori, who intended to continue the current economic model, was greatest amongst the urban wealthy elite. Peru’s central bank notes that GDP expanded by 8.8% in 2010, but poverty and inequality remain high in rural areas where an estimated 70% of the population live below the rural poverty line. Throughout the election period Humala has claimed that he will attempt to remedy the inequitable distribution of growth that has created significant polarisation. It is likely that he will do so by raising taxes and royalties and windfall profits primarily in the extractive industry. Humala will, however, face significant challenges in establishing a development model that reconciles demands from social and indigenous movements whilst promoting economic growth.
• Government policy may be influenced by social unrest. Intense social disputes have proliferated under President Garcia’s push to bring foreign investment into the country’s extractive sector without prior consultation with local communities. The government’s failure to address the socio-economic and environmental concerns of local communities has resulted in violent clashes between protestors and government security forces. Such protests have influenced key government decisions, such as the closure of Mexican-owned, Southern Copper’s Tia Maria mine in April 2011 following months of violent protests culminating in dozens of injuries and 3 deaths. A month long protest in Puno region starting on 10 May 2011 resumed on 10 June following suspension over the election period. Initial government negotiations were unsuccessful despite the offer of a 12 month ban on regional mining operations. The protestors are demanding complete cessation of extractive operations in the region. Despite Humala’s pledge to support local communities, it seems unlikely that he will be able to meet their full needs due to economic restraint. However, greater revenue redistribution may stem the level of social unrest. Social unrest could come to influence government policy destabilising the investment climate, particularly in the extractive sector.

• Social unrest could become violent, resulting in damage and losses to company assets, infrastructure and personnel. Increased social unrest may lead to further violent clashes between protestors and government security forces. Demonstrators are also increasingly using violent means such as burning government buildings to draw attention to their protests. This could extend into the destruction of company property. Additionally, in the context of greater social unrest, companies should also be aware of the potential risk of complicity in human rights violations if government security forces employed to disperse demonstrators resort to violence on company premises or in relation to company facilities
• Changes in key government posts poses a number of potential risks to the Peruvian economy. President Garcia’s administration, while criticised for exacerbating the economic polarisation of the country is nevertheless credited with astute management of the economy and years of growth. Humala will likely attempt to nullify the potential risk in the short-term by extending the posts of key figures despite party allegiance or political ideology. However, it is unclear whether Humala intends to pursue this method in the longer-term.
• A fragmented parliament suggests a slow legislative process under Humala. No party has a majority in Congress which will likely result in lengthy debates and delays on key decisions regarding policy amendments. Humala’s Allianza Gana Peru secured 47/130 seats whilst closest rival Fujimori secured 37/130 seats. Support for either Humala or Fujimori in the second-round of elections from other parties with seats in Congress was not based on similarity of policy orientation and, therefore alliances within Congress will be difficult to forge and sustain.

Key opportunities:

• Pledges to reduce endemic corruption may be given a boost. Humala identified corruption as a significant issue throughout the election campaign. The president-elect stated his intent to enhance transparency and eliminate the prevalence of corruption in the government, a particular problem under President Garcia’s tenure. The World Economic Forum’s ‘Public Trust of Politicians Index’ scores Peru 120 out of a total of 139 countries. Humala claims that eliminating corrupt practices in government will free-up funds to improve social welfare. If fulfilled, greater transparency and accountability will reduce the risks businesses face in terms of engaging in unethical and corrupt practices with impunity.

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