In recent years, more and more investors have thought about putting their money in Colombia. Investors have started flocking to emerging markets beyond the well-known “BRICs” (Brazil, Russia, India and China), which has drawn plenty of attention to the Andean country. Colombia now has the honor of being the “C” in CIVETS, another emerging market acronym for a set of countries with large young populations, prudent macroeconomic policies and comparatively deep financial systems.
Last year, thanks to rapid economic growth in Colombia and growing demand among investors for Latin America exposure beyond Brazil, funds like Global X’s Colombia ETF, which tracks the twenty most liquid stocks in the Colombian market, gained an impressive 52%. Wednesday, news emerged that Van Eck, a New York-based money manager, was planning to issue a new ETF focused on Colombian equities, offering investors yet another way to bet on the country’s continued growth. Big individual investors like billionaires Carlos Slim and Eike Batista have also signaled their intentions to expand their interests in the country.
All of this follows almost a decade of good news coming out of Colombia: decreasing crime rates, pro-business politicians, openness to trade, and so on. One could be forgiven for thinking that Colombia’s problems are a thing of the past, and that the only way forward is up. Once considered a risky place, the country is now associated with the government-promoted slogan “The only risk is wanting to stay.”
But, as anyone who follows Colombian politics will know, many risks remain. Last week, the Royal Bank of Canada released a report that ranked countries by the risk of social and political unrest. Political risk, always a key consideration for investors hoping to bet on emerging markets, has drawn even more attention in recent weeks as revolts in the Middle East in North Africa toppled two governments and threaten to spread even further.
Before I read the report, I already had some sense of what the rankings would look like. I imagined a list dominated by countries in the Arab world and sub-Saharan Africa. Off the top of my head, I could think of a few recent headlines pointing to Egypt, Libya, Iraq, Afghanistan, Cote d’Ivoire, Sudan, and a few other countries as formidable candidates for the top five riskiest places.
To my surprise, Colombia was in the top ten of the political risk index, though only just. No more than nine countries posed a higher risk of social and political unrest – all of them in the Middle East and Africa. A look at the corresponding “heat map” clearly shows that Colombia, in red coloring, is the only country in the Western Hemisphere with a high risk of unrest. Only a few of its neighbors – Ecuador, Venezuela and Argentina were considered to have medium levels of political risk.
Although this discrepancy in news about Colombia is puzzling, it is worth noting, that any financial trend or investment opportunity is bound to have pros and cons, promoters and naysayers. These days, it is just as fashionable to predict the bursting of a real estate bubble in China as it is to invest in the Middle Kingdom. Concerns about inflation and political instability have affected all emerging markets, not just those in the Middle East. Even regional giant Brazil has its fair share of doubters as it struggles to simultaneously fight high inflation and the appreciation of its currency.
But the notable thing about Colombia is that, as a destination for investment, it has tended to get only positive press coverage. Nearly every article about the broad investment outlook in the country is positive. It is only in quantitative indices and rankings like RBC’s that it does badly. So what is behind this discrepancy? As beyondbrics, a blog published by the Financial Times, points out, the RBC report is obviously vulnerable to criticism. Like all efforts to quantify such complex phenomena as political and social unrest, it yields a few strange results. To give just one example, China ranked right below Colombia at number eleven, above Tunisia, Libya, Lebanon and Bahrain.
So it is worth taking a closer look at the report’s methodology. The political and social unrest index takes into account six roughly equally weighted factors – income inequality, youth unemployment, inflation, income per capita, voice and accountability and political stability/absence of violence. Thus, sub-Saharan Africa, with relatively high rates of poverty, inequality and unemployment, accounts for many of the high-risk countries. The Arab world is still home to many authoritarian regimes, but the relative prosperity of countries like Libya and Lebanon help explain their surprisingly low rankings.
What about Colombia? On two of the measures, Colombia does very poorly: it has very high rates of income inequality and ranks among the world’s most violent countries. Interestingly, it seems that the political instability/absence of violence score gives more weight to political violence than to crime and homicide rates, because other high-crime countries like Brazil, Mexico and South Africa do much better than Colombia on this measure. Colombia was also given mediocre scores for youth unemployment and voice and accountability, likely due to persistent human rights problems and tensions between branches of government. Where Colombia does very well is its low rates of inflation and relatively high income per capita.
Overall, I think it is fair to say that Colombia is not nearly as unstable, at least in comparative terms, as the index suggests. The FARC and ELN remain active, but they inflict relatively little damage and have almost no support among the civilian population. Despite all its problems, few Colombians actually want to overthrow their government. As I wrote last week, political polarization and unrest has decreased significantly since the inauguration of President Juan Manuel Santos. With sky-high approval ratings, he is by far the most popular president of any country in the top ten of the RBC index.
Still, while the RBC’s methodology may have overestimated the potential for instability in Colombia, it would be naïve to completely discount the report. The fact that the country has many of the key ingredients of social unrest, even if only on paper, does not bode well for long-term stability. Only ten years ago, Colombia was crippled by corruption and drug-related violence. Even if homicide rates to not return to such levels, a significant increase in criminal activity could once again lead to a self-reinforcing vicious cycle of violence, corruption and mistrust. This would obviously severely hinder commerce in Colombia and, given the recent audacity of emerging drug gangs, is not entirely out of the question.
More broadly, the recent events in the Arab world show that conventional optimism often ignores underlying threats to political stability. In retrospect, it is easy to say that a popular struggle for political enfranchisement was inevitable in places like Egypt, Tunisia and Libya, but almost nobody actually anticipated a crisis of this magnitude. Indeed, Egypt, like Colombia, is one of the favored CIVETS countries. For all its apparent stability, Colombia’s high levels of inequality and unemployment may make it vulnerable to similarly unexpected moments of upheaval.
The good news is that, unlike in many other potentially unstable countries, the current Colombian government is taking many of these issues seriously. The authorities are certainly concerned with the re-emergence of drug-funded organized criminal groups. The unemployment rate has started to come down, and President Santos has taken significant steps to re-establish balance between the branches of government and strengthen Colombia’s democratic institutions.
But Colombia’s largest and most intractable problem is income inequality. Of the countries in the report with a GDP greater than $200 billion, only two others – Brazil and South Africa – equaled Colombia’s abysmal score in the inequality column. Given the recent success of Brazil’s social policies, in a few years Colombia may be one of only two large developing countries with such an unequal distribution of wealth. This, of course, has been common throughout the country’s history, but the combination of drug money, unemployment, urbanization and a large gap between rich and poor is a recipe for trouble anywhere.