An Impact Tale – A Country Challenged, a Citizenry Resilient: Part 1

Ed Lazar, President

I returned recently from my first up close impact investment trip to Ecuador. As a novice, I had the great fortune to travel with a group from Global Partnerships (GP), a Seattle-based enterprise that through a series of some 89 intermediary local partners spread across 14 countries, seeks to bring essential goods and services including microfinance lending, to underserved people and marginalized communities.

And what an eye-opening experience it truly was.

This is the first of two blogs I will write on the subject of what I will term a ‘country challenged’, a citizenry who refuses to quit when faced with adversity and precisely why Threshold Group is inspired to lead in the impact investing space.

First, a little context about the country I visited. Up until the last 18-24 months, Ecuador was a Latin American success story. Those living in poverty went from 37% to 22% of the population from 2007-2014. [1] New infrastructure projects and gleaming hospitals could be seen everywhere one looks in not only Quito, Ecuador’s capital, but also in remote rural areas of Ecuador. Quito itself has seen an almost 50% increase in its citizenry in the last 7 years, and quality housing supply has seemingly kept pace with demand. The growth was largely fueled by oil profits – 50% of Ecuador’s exports and 30% of government revenues come from this source.[2]

When oil prices dropped and stayed at under $40 per barrel during 2014 and 2015, the cost of producing and distributing a barrel of crude was actually greater than its sales price on the open market.[3] Adding to Ecuador’s woes, their use of the U.S. dollar as their currency made their other exports (including seafood, fruit and flowers) relatively more expensive versus other countries in similar economic circumstances. With the significant loss of export-related government revenue in a country where 70% of employment is public, something had to give. President Rafael Correa slashed government spending and increased taxes. Essentially shut out of public debt markets, Correa also resorted to borrowing billions of dollars in new loans from the Chinese government (the largest buyer of Ecuador’s crude) in order to continue spending programs. These loans required payment in crude oil, regardless of its market price or production cost. Unfortunately, the oil-for-debt repayment has forced Ecuador to expand its search for new sources of oil in lands that overlap Ecuador’s Amazon rainforest. As you might guess, President Correa is not winning new friends in Ecuador, nor in many other parts of the world, for a host of reasons.

As if all of this was not bad enough, on April 16 of this year, a 7.8 magnitude earthquake hit Ecuador’s northern coastal regions, killing over 650 people and destroying almost 20% of all buildings, including large swaths of critical roads and bridges. Tourism and shrimp production, the lifeblood of the coastal regions, has been severely disrupted. Additional emergency economic measures were instituted, including corporate and individual income, sales and inheritance tax increases, and even more indebtedness to China. All of these headwinds have begun to manifest in the form of weak economic growth. For GP and their Ecuadorian partners, it creates a very uncertain picture, at best. Focus Economics’ June consensus report sees Ecuador’s GDP contracting 2.9% for 2016 and growing a meager 0.2% in 2017.[4] Earthquake reconstruction costs represent approximately 3%[5] of Ecuador’s GDP, an amount that will be difficult to finance given Ecuador’s already-tight fiscal position. In short, there is no easy way out of this complex conundrum, and it puts the Ecuadorian “miracle” at extreme risk of being upended in the intermediate to longer term.

In the face of these challenges, a purely rational and financial return focused investor would likely cry “adios” to Ecuador and its residents. In the next installment of my blog, I will share with you a very different outcome.

[1] Lee, Brianna. (2015). Ecuador Protests: Correa’s Oil Crisis, Policies Could Spell End of Latin America Success StoryInternational Business Times.
[2] Ecuador. (2015)Euler Hermes.
[3] Krauss, Clifford. (2016). Oil Prices Explained: Signs of a Modest Revival. The New York Times.
[4] Ecuador Economic Outlook. (2016). Focus Economics.
[5] Kersting, Teresa. (2016). Fallout from Massive Earthquake will Restrain Economic Growth and Increase Fiscal PressuresFocus Economics.

©2016 Threshold Group is a registered investment adviser. The information presented herein is general in nature and for discussion purposes only. It is not intended to be investment advice or to convey any specific investment recommendations. Threshold Group and any third parties listed or identified herein are separate and unaffiliated and are not responsible for each other’s policies, products or services.

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