Chile Tempers Monetary Easing and Signals Cautious Interest Rate Cuts Ahead

(Bloomberg) -- Chile’s central bank slowed the pace of interest rate cuts and left its options open for the size of future reductions, signaling caution in the face of inflation risks from stronger economic activity and a weaker peso.

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Policymakers cut their interest rate by three quarters of a percentage point to 6.5% on Tuesday, as expected by nearly all analysts in a Bloomberg survey. In a statement, they wrote borrowing costs will continue to fall, and that the easing cycle will consider the evolution of the economy and effects on inflation.

“Rising inflation figures at the beginning of the year and higher imported cost pressures emphasize the need to continue closely monitoring its evolution,” they wrote. “To the extent that the shocks that affect inflation are transitory, the monetary policy framework based on a two-year target allows them to be accommodated” without putting inflationary convergence at risk.

Policymakers are recalibrating the pace of easing as they guide inflation back to the 3% target amid a rebound in some sectors including manufacturing and retail. Chile’s economy picked up at the start of the year after barely growing in 2023 as restrictive rates and political uncertainty weighed on demand. Consumer prices also rose more than expected in January and February.

Read more: Chile Economy Grows for Second Month as Recovery Gains Steam

What Bloomberg Economics Says

“A smaller rate cut and revised forward guidance on Tuesday show Chilean policymakers are more cautious after inflation surprises early in 2024. We expect smaller cuts at coming meetings. The less dovish outlook on Tuesday should provide some support for the peso.”

— Felipe Hernandez, Latin America economist

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In a subsequent release early Wednesday, Chile’s central bank raised its 2024 year-end inflation estimate to 3.8% from 2.9%. Policymakers also raised this year’s economic growth forecast to between 2% and 3%, up from the prior forecast of between 1.25% and 2.25%.

The peso gained 0.6% to 969.35 per dollar in Wednesday morning trading, the biggest gain among emerging market currencies.

Exchange Rate

Policymakers wrote in Tuesday’s statement that recent data “show a contrast between somewhat better-than-expected activity and weaker demand.” While supply factors and services have helped drive overall growth, unemployment remains above historical averages, they wrote.

“The statement is more open-ended,” said Nathan Pincheira, chief economist at Fynsa in Santiago. “There’s a dose of uncertainty due to a lack of conviction that recent data will become more permanent.”

Consumer prices jumped 0.6% in February, tripling the median estimate from economists in a Bloomberg survey. Annual inflation as measured by the chained series accelerated to 4.5%.

Central bankers attributed faster inflation at the start of 2024 to a weaker peso, global cost increases and also the adjustment of some local prices.

The peso has tumbled the most among emerging market currencies this year, potentially stoking rises in import prices over the coming months.

Unlike before, central bankers refrained from indicating when borrowing costs will fall to a neutral level that neither stimulates nor restrains the economy.

“The rush to cut has ended,” Jorge Selaive, chief economist at Scotiabank Chile, wrote on the social media platform X.

Both economists and traders surveyed by the central bank see annual inflation on target next year.

US Resilience

Central bankers also signaled vigilance on the international economy. In their statement, board members warned of risks to global inflation, including transportation, fuels and services.

Global financial markets expect the Federal Reserve to delay the start of easing as policymakers in the world’s largest economy turn more cautious, Chilean central bankers wrote.

“The U.S. stands out, whose inflation has been somewhat above what was expected in recent months, along with an economy that has remained resilient, supported by a strong labor market and robust private consumption,” they wrote.

In their prior rate-setting meeting in January, Chile central bankers whet bets for aggressive easing by delivering a full percentage point cut while also saying one member wanted to mull a reduction of as much as 1.5 percentage points.

“In our view, the BCCh reads more cautious than before, moderating the extreme dovishness seen in the January meeting,” Credicorp Capital analysts Daniel Velandia and Samuel Carrasco wrote in a note on Tuesday.

--With assistance from Giovanna Serafim and Rafael Gayol.

(Updates with new central bank estimates in sixth paragraph, peso move in seventh)

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