For the third installment of BTCM Research's Emerging Market Series we will be focusing on Chile. I imagine Chile is a bit of an enigma for most people. There is not a continuous stream of news surrounding this smaller, South American country. If pressed, people might recall the situation with the trapped miners some years ago, or perhaps one of the large earthquakes that has occurred in recent decades. Fewer would remember the authoritarian regime of Augustus Pinochet between the years of 1973 and 1990. Even lesser known about Chile is it boasts the Human Development Index ranking (HDI) of all countries south of the United States, including the Caribbean. Chile also has the largest copper reserves and the highest volume of copper production in the world.
We will be taking a closer look at the Chilean Peso, which tends to be one of the more stable fiat currencies south of the United States. Considering Chile shares space on a continent with Venezuela and Argentina, the stability of its local currency is surprising. However, the future of that stability has come into question recently in this time of paradigm shifts. We will detail our findings below.
This chart is by far the most interesting of the three we look at today. The price of gold in terms of the Chilean Peso has gone parabolic in just that last 18 months, since the beginning of 2019. It took the Covid-19 Crisis to finally see a sharp pullback in March. We can safely say a pullback of that nature is typically due to a dollar funding shortage where assets are liquidated in order to fund dollar denominated liabilities. Gold was sold in order to access dollars to meet dollar denominated obligations. Below, we zoom in to see the price of gold in Peso terms has rebounded sharply to previous highs.
The Chilean Peso has weakened significantly against the US Dollar over the course of the last decade but the price action is much different than that of the Gold chart above. In this case, the depreciation of the Peso against the Dollar has been more gradual. Interesting to note, the two periods of significant devaluation, 2013-2016 and 2018-present, follow a similar slope or pace. When comparing the gold chart with the dollar chart one cannot help but wonder why gold went parabolic against the Peso but the dollar did not. More on that below.
At first glance, the bitcoin chart in Chilean Pesos looks somewhat normal. There is the 2017 top, the 2018 bottom, followed by a rally in 2019. However, when we look closely at the price action in 2020, some small details jump out at us. For starters, the March 2020 low did not come as near to the 2018 low as it did in the US Dollar for instance, and the rebound since has tested the 2019 highs in Pesos, while in dollars it is no where near the 2019 high of $14,000.
There is also a disconnect once again with gold priced in Pesos and bitcoin priced in Pesos. Gold has blown through its previous highs by 50% in just the last 18 months, while bitcoin and US Dollars continue to be muted. The explanation that comes to mind immediately is that Chileans have a cultural bias toward gold, much like we thinking of Indians or Chinese cultures. Chile does have a long history with gold, stretching back the 16th Century, but they do not have a deep cultural significance for the yellow metal. We believe the best explanation for this price distortion is the lack of access to other safe havens, like US Dollars and Bitcoin. Gold is well known and its distribution is widespread.
Access to US Dollar is limited not only by capital controls but whatever supply of US Dollars there is available in Chile is being soaked up by those firms with have dollar denominated debts. Access to bitcoin is even more limited. Chileans are not allowed to set up Coinbase accounts and there is no trustworthy domestic exchange. The explanation for why bitcoin is not following the same trajectory as gold in Chilean Pesos is the lack of market penetration. They have few ways to buy bitcoin.
The charts below shows a steady demand for Bitcoin in Chile through the website localbitcoins.com. However, of note is the lack of volume statistics from other large relatively newer retail OTC markets Paxful or Bisq.
Chilean Central Bank Monetary Policy
The Chilean economy was a bellwether for slowing trade in 2019. The US-China trade war disproportionately affected this copper exporting country. World growth was slowing and the copper price was sinking.
In 2019, the Chilean Central Bank continued cutting rates aggressively.
All of these factors combined with the ever-present increase in the CPI leading to the breakout of inflation riots in October 2019.
When analyzing the Peso against Gold, the Dollar, and Bitcoin since the beginning of 2019 an interesting storyline emerges. Protests in the streets of Santiago started in October 2019 fueled by the accelerating costs of living. Gold has gone parabolic against the Peso, the Dollar has steadily increased, and Bitcoin has essentially flat.
Since there is no demand for the Chilean Peso outside of Chile, their economy is extremely sensitive to global growth and trade. The result is monetary inflation from 2018-2019 was internalized and their CPI was affected more profoundly by falling commodities. Steady increases in the supply of Pesos, deep cuts in the benchmark interest rate, and the falling price of copper, seem to have been the catalyst for ongoing protests.
Chilean Laissez Faire Destination
Chile has been one of the top destinations for liberty minded individuals for the better part of the two decades. Freedom oriented projects such as: Sovereign Man, Fort Galt, and the now defunct Galt’s Gulch all have their roots in Chile. There are even opportunities to obtain a work visa if you establish your start up in Santiago. Chile appears to be a great opportunity for a Bitcoin startup in an underserved market. However, startups may be hesitant to set up shop due to the back and forth of bad economics and social unrest.
Monetary policy aside, there are two additional economic factors that need to be considered. The first issue is the high proportion of dollar denominated debt compared to Chilean dollar reserves. In the chart above, which we've used for other posts, Chile has the highest dollar debt to GDP. Significant dollar debt and a currency steadily weakening against the dollar, we anticipate further attempts to debase the domestic currency in order to pay down those debts. It is a common strategy that results in yet further depreciation of the local currency and increases in the cost of living for the common man. In Chile's case, it will also fan the flames of social unrest.
The second potential headwind for Chile is the bear market in commodities, specifically copper. If global demand continues to decrease and the world is gripped by deglobalization post the Covid-19 Crisis, Chile's economy will be hit very hard. Copper mining alone accounts for 10% of Chile’s GDP and duties on its export account for one third of government income. Weakening demand for copper production would hurt an already fragile economy and decrease access to dollars through exports. Downward pressure on the Chilean economy will almost certainly continue.
Chile has become the beacon of economic stability in Latin America, but its present and future are becoming less certain day by day. We anticipate strong results for investors holding gold, dollars, or bitcoin against the Chilean Peso in the next couple years, with much less volatility than against other currencies.
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