Itaú BBA - Divergence among developed countries, less stimulus in Latin America

Global Monetary Policy Monitor

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Divergence among developed countries, less stimulus in Latin America

January 5, 2016

The highlight was the divergence between the interest rate hike in the US and the additional stimulus in the euro zone.

In December, 26 of the countries we follow made monetary policy decisions. Five central banks hiked interest rates, while three lowered them. The highlight is the divergence between the interest rate hike in the United States and the additional, albeit less-intense-than-expected, stimulus in the euro zone. Besides Europe, Taiwan and New Zealand also lowered rates – both as expected.

In Latin America, the tendency is for rate hikes, leading to less expansionary monetary policy. As economic activity in the region remains weak, the tightening cycle will probably not be long. In Chile, Colombia and Peru, countries where inflation is still pressured, there were rate hikes of 0.25 pp in December. In Mexico, the central bank initiated a cycle of rate hikes, even though inflation remains below the midpoint target, in response to the rate hike in the U.S. In Brazil, the central bank has kept rates stable after a long cycle of rate hikes. Recent signals, however, indicate that new hikes could happen in the beginning of 2016.



1. Policy rates: Historical table

*Blank places mean absence of monetary policy decision for the month.

** Numbers in red indicate rate cuts, in green rate hikes and in grey another monetary policy change different from interest rates.


2. Charts


3. Monetary policy in LatAm


BRAZIL – Inflation Report: Interest-rate hike becomes more likely

There was no monetary policy decision in Brazil in December. The highlight was the  4Q Inflation Report (IR) published by the Brazilian central bank’s Monetary Policy Committee (Copom).The document reinforced the signal that the balance of risks for inflation deteriorated, due to higher current inflation, relative prices adjustments (exchange rate, regulated prices), and “mainly due to uncertainties regarding the pace of recovery in fiscal results and their composition.” Inflation forecasts increased compared to the previous IR and lie above the target center for 2016 and 2017. In this context, the odds of an increase in the benchmark Selic rate in January have increased. However, the recession may continue to surprise to the downside: the decline in GDP in 2016 will probably be sharper than the Copom is forecasting.

Regarding the international context, the Report describes a trend of moderate global economic activity, particularly in emerging economies, with falling commodity prices. The Copom understands that depreciation of the real contributes to make external demand more favorable to economic growth in Brazil going forward.

Domestically, the committee predicts that activity growth will be below potential. However, the IR highlights that market inflation expectations have increased in 2016, and also in 2017 and 2018, although to a lesser extent.

According to the Copom, expectations were pressured by “high current inflation, by the dispersion of price increases, by ongoing relative prices adjustments and, mainly, by uncertainties regarding the pace of the recovery of fiscal results and their composition.”

Uncertainties surrounding fiscal policy, in particular, are mentioned in several parts of the report, as a relevant and important risk for monetary policy.

The deterioration in the balance of risks is also seen in the inflation forecasts. The forecast in the reference scenario (stable exchange rates and interest rates) climbed to 6.2% by the end of 2016 (vs. 5.3% in the previous IR). For the third quarter of 2017, the estimate rose to 5.3% from 4.0%. The forecast for the fourth quarter of 2017 (presented for the first time in today’s document) stands at 4.8%, above the mid-point target. The forecast for the market’s scenario (interest rates and exchange rates according to the median of market expectations) depicted a similar deterioration.

Hence, We acknowledge that the odds for SELIC rate hikes in 2016 have increased substantially. According to our calculations, a 100bp-hike will be needed in order for the Copom model to forecast a 4.5% inflation target in 2017.

However, economic activity may continue to surprise to the downside. The committee anticipates GDP contraction of 1.9% in 2016, while the median of market estimates is around 3.0%. The perception of a sharper-than-expected recession may lead the Copom to keep interest rates unchanged next year.

For now, we maintain our forecast of a stable Selic rate at 14.25% in 2016.

CHILE – Further tightening on the cards

The central bank of Chile increased its policy rate by 25 basis points to 3.50% in December, surprising most market participants. The decision followed in spite of softer inflation and activity readings, and came after the Federal Reserve began the normalization of its monetary policy the previous day.

Later in the month, the central bank updated its monetary policy guidance in the 4Q15 Inflation Report. The central bank is signaling that the gradual removal of monetary stimulus is likely to continue over the next 24-month period with hikes totaling 50-75 basis points. According to this guidance, the monetary policy rate would go from the current 3.5% to either 3.75% or 4.0% by the end of 2016 and to either 4.0% or 4.25% in a two-year horizon. The end point of the tightening cycle does not differ noticeably from the previous baseline scenario. The central bank sees monetary policy remaining expansionary throughout the forecast horizon, thereby still providing support for the economy.

A high inflation forecast next year justifies more rate hikes. The central bank raised the 2016 inflation forecast to 3.8% (3.7% in the 3Q15 report; Itaú: 3.5%), with the expectation that it would return to 3% only in the 4Q of 2017. Core inflation is expected to end next year at 3.7% (3.5% previously).

As the exchange-rate stabilizes, easing pressure on inflation, and the economy remains weak, we expect no additional rate hikes in 2016. Still, the latest Inflation Report puts an upward bias to our call for interest rates.

COLOMBIA - A continuous tightening cycle

The central bank of Colombia increased its policy rate by 25 basis points to 5.75% in its December meeting. The decision was widely expected and is the fourth consecutive rate hike.

The central bank highlighted that the November inflation print (6.39% year over year) surprised the central bank to the upside and that inflation expectations remain elevated. The central bank’s December survey showed that inflation expectations rose at all forecast horizons, in spite of the previous rate hikes. The relevant two-year horizon inflation expectation increased to 3.8%, from 3.5% previously. The central bank notes that higher-than- expected food inflation and additional weakening of the currency, related largely to lower oil prices, have resulted in new inflationary pressures. Meanwhile, it also sees GDP growth near 3.0% this year and considers the risk that internal demand slows beyond what is consistent with the fall in national income has moderated. So, the 25-bp rate hike was deemed necessary to ensure that inflation converges to the 3% target over a two year horizon.

The minutes from the meeting did not signal a near-term end to the tightening cycle. Most board members indicated that a path of 25-bp rate increases would last as long as necessary to reach the inflation target next year. With the high inflation in mind and the increased risk of additional supply-shocks, the other members of the board viewed a larger 50-basis point increase as the appropriate monetary policy response. In this group’s view, a smaller hike could be insufficient to anchor inflation expectations and may result in the need for further rate hikes in the future, which could coincide with a sharp deceleration in spending and output.

We expect a final rate hike in January, ending this tightening cycle at 6.0%.  However, as the inflation and inflation expectations are yet to cool, there is a growing risk that the central bank will see the need to embark on a larger tightening cycle.

PERU - Expected rate hike, more to come

As widely expected, the central bank of Peru increased its policy rate by 25 basis points to 3.75% in December. This is the second hike of a similar magnitude in a tightening cycle that started in September.

Rising inflation and high inflation expectations were important factors behind the latest hike. The central bank’s chief economist had suggested shortly after November’s meeting that a rate hike could be implemented if there was a surprise in November’s CPI. This turned out to be the case, with inflation accelerating from 3.7% to 4.2% - the highest reading since March 2012. Additionally, the bank’s general manager emphasized the importance of ensuring inflation expectations are anchored for monetary policy to remain effective. The central bank’s latest survey shows inflation expectations for 2016 remain above the 1%-3% target range at 3.2%, while those for 2017 sit on the 3% upper bound (2.8% previously). In our view, the high probability of a Fed hike in December (Peru’s latest monetary policy decision took place before the Fed’s) also led the central bank to raise its policy rate.

The press release announcing the decision kept a tightening bias. The board indicated that they are attentively monitoring inflation and inflation expectations to evaluate the necessity of additional rate adjustments. We see inflation moderating in 2016 as temporary shocks wear off, and thereby we expect only one additional 25-bp rate hike in 1Q16. As a result, the current hiking cycle would end with the policy rate at 4.0%.

MEXICO - Central Bank Follows the Fed and Raises Rate

Mexico's central bank raised the policy rate by 25 basis points, to 3.25%, in the first hike since 2008. As the activity recovery is still incipient and inflation is at record low levels, the Fed’s recent rate hike, and its potential impact on the Mexican peso, was the main driver behind the decision.

The board noted that the balance of risks for activity has improved since the previous policy decision. Third quarter GDP growth was higher than expected, influenced by the solid growth in private consumption and better investment dynamics. On the negative side, the export sector remained stagnant due to the low oil prices and sluggish U.S. industrial production. The board noted that the output gap has been narrowing gradually.

The short-term balance of risks for inflation has improved, but remains unchanged for the medium term. The board expects headline inflation to end 2015 at 2% and at 3% in 2016. The upside risk for inflation include the deterioration of international financial markets (weakening the currency) and higher-than-expected growth. The downside risks include further reductions in telecom and energy prices.

The minutes of the meeting did not clarify whether the central bank is unwilling to decouple from the Fed in the future. Although in 2016, policy decisions in Mexico will not take place immediately after the Fed’s (as it was the case in the second part of 2015), only one board member said in the minutes that Mexico’s central bank could detach from the Fed in the future, if market anxiety over the monetary policy in the U.S. diminishes. 

We expect the policy rate to end next year at 4.0%. As the Fed continues to raise its policy rate and Mexico’s economy recovers, the central bank will likely continue to remove the monetary stimulus in place.


4. Calendar of monetary policy decisions in January

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