Chile’s central bank held borrowing costs unchanged in an unexpected split vote and lowered their inflation forecasts, sending swap rates tumbling as policymakers indicated the start of an easing cycle was imminent.
Board members voted three-to-two to keep the benchmark interest rate at 11.25%, the highest in over two decades, for the fifth straight meeting late on Monday. The decision was expected by all analysts in a Bloomberg survey except for one who forecast a 25 basis-point cut. Two board members voted for a half-point reduction.
Central bankers then lowered their 2023 year-end inflation forecast to 4.2% from 4.6%, according to their quarterly monetary policy report published early Tuesday. They also trimmed the 2024 estimate to 2.9% from 3%.
Central bankers on Monday dropped guidance that they were waiting for the slowdown in inflation to be consolidated before cutting rates, saying instead that the economy was moving in the right direction. Activity was unchanged on the month in April after falling in the prior two readings, according to the most recent data. Two-year swap rates tumbled as much as 30 basis points on Tuesday morning as traders adjusted their positions to the new outlook for the key rate.
“The Board believes that the most recent evolution of the economy points in the required direction,” policymakers wrote in a statement published with the rate decision. If these trends continue, the key rate “will start a downward process in the short term. The magnitude and timing of its reduction will consider the evolution of the macroeconomic scenario and its implications for the inflation trajectory.”
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Central bankers are getting a hold on inflation that was driven initially by over $50 billion in early pension fund withdrawals as well as public transfers that reached 90% of households during the pandemic. Russia’s invasion of Ukraine and the subsequent commodity cost surge in 2022 came as an additional shock.
“This statement increases the probability that rate cuts begin in July, as long as there’s no inflation surprise,” said Arturo Claro, an economist at Econsult in Santiago. “There is a more dovish tone.”
Inflation Expectations
Chile’s headline inflation slowed past all estimates to 8.7% in May, helped by a monthly drop in transportation costs. Still, a measure that excludes volatile items was 9.9%, more than triple the 3% target rate.
In the statement, policymakers wrote both headline and core inflation have declined in line with expectations. At the same time, surveys of traders and economists show consumer price increases at the target in two year’s time.
“The monetary policy rate has been kept contractionary for several quarters, which has contributed significantly to bring down inflation,” board members wrote. “While inflationary risks persist, they have been balancing out.”
Regarding activity, the board highlighted changes in private consumption, “with a significant drop in its durable component.” Investment has been stagnant for several quarters, and the labor market shows less strength, they wrote.
Globally, first-quarter activity came in better than expected in China, which is Chile’s top trading partner, central bankers wrote. At the same time, the international growth outlook for this year and next remains weak.
Put together, the prospects of declining inflation and sub-par growth have fueled investor bets in recent weeks that easing could be near in countries including Chile, as well as Peru and Brazil.
“The next move will be a cut of no less than 50 basis points,” Jorge Selaive, chief economist at Scotiabank Chile, wrote on Twitter. “The economy is showing clear signs of fatigue.”
–With assistance from Giovanna Serafim, Rafael Gayol, Eduardo Thomson and Valentina Fuentes.
(Updates to add central bank’s new inflation estimates in third paragraph)
©2023 Bloomberg L.P.
