Itaú BBA - Few movements in October, still expansionary

Global Monetary Policy Monitor

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Few movements in October, still expansionary

November 3, 2016

In October, there were monetary policy decisions in 17 of the 33 countries we monitor. The global trend remains expansionary.

In October, there were monetary policy decisions in 17 of the 33 countries we monitor. The global trend remains expansionary.  Two countries cut interest rates: India surprised the market with a 25-bp rate cut and Brazil reduced the Selic rate by 25 bps, its first cut since 2012. The Brazilian CB signaled its easing cycle will continue ahead and an acceleration in the pace will depend on the data.  The central banks in Colombia, Peru, Chile and Argentina remained on hold and did not signal any short-term movements.

In November, all eyes will be on the central banks in advanced economies.  In the US, the Fed signaled that conditions backing an interest rate hike continue to strengthen, but decided to await further progress.  In the UK, the central bank removed the looser bias in monetary policy and Japan is likely to maintain stimulus. 

In Latam, we expect the Brazilian Central Bank to accelerate the pace of interest cuts to 50bps and take the Selic to 13.5% . We expect the Argentinean central bank to resume rate cuts before the end of the year.  We also see lower interest rates in Chile and Colombia, but only next year. In Mexico, we believe the Banxico will mirror the Fed, raising rates again in December. However, a Trump victory in US elections could result in a faster and bigger rise in interest rates.


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  Copom: Beginning the cycle

The Monetary Policy Committee of the Brazilian Central Bank (Copom) cut, in an unanimous vote, the Selic rate by 25 bps, to 14 %, in its October meeting. It was the first rate cut since 2012.

In the post meeting statement and in the minutes of the meeting, the committee repeats that the magnitude of the cycle and a possible pace increase will depend on the behavior of the “combination” of some factors, in particular whether service-price inflation (which are more sensitive to the economic cycle and monetary policy) resume a downward trend and the rhythm of approval and implementation of needed (fiscal) adjustment.

In our view, the recent communication suggests that, if we had another Copom meeting in the short term, the committee would still opt for a 25bps cut, rather than accelerating to 50bps. Moreover, if the policy decision is indeed solely indexed to the marginal pace of service price disinflation, then the pace of easing would probably remain at 25bps per meeting until April 2017, as we do not see the underlying seasonally adjusted annualized inflation below 6% until next March.

There are, however, a number of factors, some hinted at in the text, suggesting that come November 30 the committee will opt to accelerate the pace of easing to 50bps. First, the government is likely to take measures to accelerate implementation of fiscal reform, especially of the social security system, after the end of the ongoing local election process. Second, the Copom notes that activity data for August was weaker than expected, but added that this was probably the usual volatility seen at this stage of the cycle. The authorities’ constructive view on the state of the recovery, will probably be tested if, as we expect, data on September also disappoints; and a wider output gap would presumably be more disinflationary. Third, even a partial cut in the committee´s assumption about administered prices, towards the market consensus, is likely to lead to lower inflation forecasts, in all scenarios, other factors remaining constant. Fourth, if one uses the current level of the BRL (around 3.12), inflation forecasts will also tend to be lower, automatically in a baseline scenario. Fifth, as time passes, the monetary policy transmission lag will induce the Copom to attach a heavier weight to inflation in 2018, rather than to 2017. That is why we still believe the Copom will take the Selic to 13.5% in the November meeting.


CHILE – On hold until the IPoM

As unanimously expected by the market, the central bank of Chile left its monetary policy rate unchanged at 3.5% at the October meeting. The decision follows an upside surprise in August activity, while September inflation recorded the largest downside surprise since November 2012. Moreover, the press release retained a neutral tone (for the third consecutive month), hinting that the central bank will likely wait until the December inflation report (IPoM) before engaging in a monetary loosening cycle.

On the international front, the central bank noted financial conditions are still favorable amid depressed long-term rates worldwide. The press release also highlighted the recovery of oil prices in the month.

September inflation surprised to the downside. In the meeting’s background brief, the central bank noted that the inflation print was the most significant development in the month. Following the data release, Governor Vergara acknowledged that inflation is returning to the target faster than forecasted in the September IPoM, which would likely lead to a revision in the inflation scenario in December. The press release highlighted surveys that show inflation expectations near the 3% target in the forecast horizon. The central bank sees activity in line with the September IPoM and the labor market recording a gradual adjustment.

We expect the central bank to remain on hold until the end of the year, and anticipate two 25-basis point rate cuts in 1Q17. We see the recent surprise in inflation as confirmation of a faster disinflation process ahead amid a more stable currency and a widening output gap. 


COLOMBIA – Unchanged rate and tone

The board of the central bank of Colombia unanimously voted to remain on hold at its October monetary policy meeting. This was the third month the board has left the policy rate unchanged at 7.75% after having implemented an extensive 325 basis points tightening cycle. The central bank retained a neutral stance as the press release continues to reflect a board that is in a wait-and-see mode.

In the meeting, the board continued to highlight the moderation in inflation and stable inflation expectations in September. Inflation expectations for the one and two-year horizons remained broadly stable at 4.23% and 3.65%, respectively (4.35% and 3.61% previously) following the downside inflation surprise last month. The unwinding inflationary pressures from supply-side shocks (namely El Niño and a truckers strike) alongside a stable currency are supporting the disinflationary process.

The board highlighted the proposed tax reform is positive for the country's long-term fundamentals. By reinforcing fiscal sustainability, the board sees the ambitious plan would prop-up macroeconomic stability and aid in preserving the country's investment grade rating. No mention was made regards the potential impact on inflation arising from the proposed increases to the VAT rate and other sales taxes.

We expect the start of an easing cycle in the first quarter of 2017, bringing the policy rate to 6.0% by the end of next year. Inflation is converging to the target range, meanwhile activity remains fragile. However, the proposed tax reform poses a risk to inflation convergence to the range around the target by yearend 2017, a self-imposed goal by central bank. Therefore there is the risk that rate cuts come later and slower than we are currently expecting.


MEXICO – An uncomfortable policy response

The Central Bank of Mexico (Banxico) published the minutes of its September monetary policy meeting, which revealed that the board unanimously decided to hike rates by 50-bp (from 4.25% to 4.75%). In our view, the new informational content of the minutes, with respect to the statement, are the following: more awareness about the limits of hiking rates amid an economic slowdown and low inflation; contrasting views on whether Banxico should move in lockstep with the Fed (regardless of the exchange rate); previously unmentioned concerns about the inflation outlook; and further color on the implications of the U.S. election.

All board members defended the preemptive tightening of monetary policy, but nevertheless acknowledged that weak economic activity, low inflation, and stable inflation expectations make up a “complicated juncture” for hiking rates. As we have mentioned before, there is a limit to how much monetary tightening the central bank can deliver to support the peso without significantly damaging economic activity and deviating from textbook inflation targeting. In fact, one board member stressed the importance of communicating the public that Banxico is not targeting any exchange rate level, but instead committed to curbing the inflationary risk posed by exchange rate depreciation (something that was also highlighted in the statement announcing the decision).

There seems to be contrasting views on whether Banxico should follow the Fed’s next rate move, regardless of what happens with the peso. For instance, last week, speaking on local television, Governor Carstens stated that if the outcome of the U.S. presidential election was “good” (indirectly referring to a Clinton victory) then Banxico might not follow the Fed. However, in the minutes a board member argues that - looking beyond the volatility of the short-term - he expects Mexico’s reference rate to be influenced by the Fed funds rate, considering that a narrowing of this rate differential could have adverse effects on inflation and financial stability.

Our call is that Banxico will raise the policy rate by 25-bp in December, in tandem with a hike by the Fed. Our monetary policy rate forecasts for 2016 and 2017 are 5% and 5.5%, respectively (assuming the Fed delivers two 25-bp hikes in 2017). However, if the exchange-rate appreciates (as we expect) once a Trump defeat is confirmed, we can’t rule out that the board will opt to stay on-hold in December, even after a hike by the Fed. Evidently, new episodes of sharp currency depreciation could lead to further hikes in addition to those necessary to keep the interest rate differential with the U.S. unchanged.


PERU – Guidance is paving the way for fully neutral monetary policy stance

The Central Bank of Peru (BCRP) decided to maintain its reference at 4.25%, in line with a unanimous consensus. The decision was taken against the backdrop of stronger economic activity, a transitory increase of inflation above the 1%-3% target range (attributable to a base effect which will revert in 4Q16), and marginal depreciation pressure on the exchange rate. Notably, inflation expectations have decreased and are now standing within the target range for all surveyed years (2016, 2017, 2018) in what is deemed the “BCRP’s comfort zone”.

The communiqué was broadly unchanged, featuring most of the same views about the economy as before. Namely: inflation expectations decreasing, GDP growth close to potential, and mixed signals from the global economy. Perhaps the only relevant change is that October’s communiqué states that the temporary factors that drove inflation throughout 2016 (mainly El Niño and PEN depreciation) are “smaller”, rather than “reverting” (wording from September’s communiqué). This tweak probably refers to the depreciation of the PEN, which weakened 1.6% over the past three weeks. Anyway, Governor Velarde has recently talked down the depreciation of the exchange rate. 

More importantly, the intermeeting period was colored by the guidance of two influential BCRP policymakers - Chief Economist, Adrián Armas, and Deputy Governor, Renzo Rossini - who pretty much said that the reference rate will likely be kept at 4.25% in 2016 and 2017. On the day after September’s meeting, Armas told the media,“we’re expecting inflation to hover around the upper bound of the target range (3%), ending 2016 at 2.8% and then decreasing further in 2017. This would not require any [policy rate] response from the BCRP”. Likewise, speaking at a conference in Lima this week, Rossini was a bit more straightforward by arguing that monetary conditions will remain accommodative in 2016-2017, and only tighten marginally insofar as inflation expectations decrease. He literally said: “The idea is to keep the monetary stimulus. But it will reduce automatically without the Central Bank doing anything. This will happen because as expected inflation lowers, real rates will begin increasing”.

Our call on Peru’s monetary policy is unchanged: we expect the central bank to move entirely to a neutral stance soon, and maintain the reference rate at 4.25% throughout 2016 and 2017. The tightening bias, introduced in August 2015, remains in the communiqué. But at this point, it seems more like a decoration than an actual bias.



4. Calendar of monetary policy decisions in November



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