Itaú BBA - Less stimulus than expected

Global Monetary Policy Monitor

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Less stimulus than expected

August 2, 2016

Still expansionary bias globally, more neutral bias in Latam.

In July, there were monetary-policy decisions in 20 of the 31 countries we monitor. Three countries increased stimulus, but only one, Malaysia, cut the basic rate of interest by 0.25 pp. Turkey reduced the upper end of the interest-rate range, while the Central Bank of Japan (BOJ) disappointed the market by only increasing its ETF purchases. The market expected it to also increase purchases of government bonds and cut interest rates. The BoJ signaled that it will reassess stimulus at its next meeting in September.

Another central bank to disappoint the markets was the Bank of England, which held interest rates unchanged even after the Brexit. However, the BoE signaled that it might loosen policy in August.

The U.S. Fed held interest rates stable, as expected, but its statement recognized the improvement in recent data and a reduction in short-term risks. Despite this, we believe that the Fed will not raise interest rates again before the end of the year.

Latin American countries are taking a cautious approach as inflation remains under pressure. Colombia again raised interest rates by 0.25 pp, as expected. Brazil’s central bank held the Selic benchmark rate stable and signaled that there is no room for a short-term cut. However, as exchange rates stabilizes and while activity remains weak, the balance of risks for inflation is improving. In this context, we do not expect any additional interest-rate hikes in Latin America over the second half of 2016. Furthermore, we believe that the Brazilian central bank will start a gradual easing cycle in October.


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: New format, same message

In its July meeting, the Copom decided to leave the Selic unchanged at 14.25% pa, a unanimous decision. The committee decided to change the policy statement’s format and its minutes in a major way, which is in line with the best practices at other central banks. Both documents reinforce that monetary easing will probably not start before 4Q16.

The Copom’s inflation forecasts for the “relevant policy horizon” have fallen since the publication of June’s Quarterly Inflation Report (QIR). The committee clarifies that the relevant policy horizon is the time it takes for a policy decision to have its maximum effect on inflation – according to a text box in June 15’s QIR, this is 7-8 quarters, meaning that a policy decision taken in 3Q16 has its maximum impact on inflation in 2Q18 or 3Q18. Still, the current focus of policy is on 2017, and for this horizon the committee´s forecasts point to convergence in the baseline scenario (constant Selic and exchange rate), but 5.3% inflation in the market scenario. In sum, the Copom is envisaging disinflation, albeit at a slower pace than it wishes.

Regarding the balance of risks for the inflation outlook, the committee listed the recent foodstuff price increases, persistently high inflation and unanchored inflation expectations, and the need for economic (read fiscal) adjustment, while pointing out that each risk could evolve favorably or unfavorably. 

In our view, the central bank is unlikely to begin an easing cycle before its own forecasts converge to target on the relevant policy horizon. For now, the committee is focusing on 2017, and while we are unlikely to see expectations and forecasts converging to target by then, it makes sense to keep a hawkish stance for now, looking to minimize deviations from target in 2017, in order to ensure that inflation converges, or undershoots, the target in 2018.

Additionally, the Copom minutes suggests monetary policymakers will wait until the fiscal adjustment’s path and velocity become clearer, before it changes its monetary stance.

Looking forward, it seems the Copom could delay the shift of policy focus from 2017 to 2018, and could begin to cut rates aggressively early next year, or else implement this shift of focus in 4Q16, proceed cautiously and generally implement a smoother policy path. We reckon the second approach is more likely to be chosen, but whether or not that will happen depends on data, such as the behavior of short-term inflation, and on events, such as the pace of fiscal adjustment implementation.

We see the Copom starting to ease in October, with a 25-bps rate cut, to be followed by another in November, bringing the year-end rate to 13.5% pa.

CHILE – No rate moves anytime soon

As was expected throughout the market, the central bank of Chile held the policy rate at 3.5% at its July meeting. The decision was a unanimous one, as the board deemed holding the policy rate as the only “relevant option” at this meeting. The policy rate has been kept stable throughout 2016, following a short and discontinuous tightening cycle in 4Q15.

The central bank still kept the tightening bias in the statement, as inflation remains above the target range, but the minutes suggest that a rate move in the short term is unlikely. A board member noted that the time for the bias to be removed could be approaching.

According to the central bank, activity and inflation have evolved in line with the 2Q16 Inflation Report baseline scenario. However, if sustained the recent behavior of the exchange rate would imply a faster convergence of inflation to the target. Still, many board members highlighted the need for close monitoring of the actions from the FED, as a faster normalization of monetary policy compared to what the market was pricing in could quickly reverse the recent exchange-rate appreciation.

We believe the central bank will likely remain on hold for at least the remainder of this year and the next. The labor market is loosening and activity remains fragile, which, alongside a better performance of the currency compared to last year, will support the convergence of inflation to the 3% target.

COLOMBIA – Concluding the tightening cycle

The central bank increased the policy rate by 25 basis points, as expected by Itaú and most in the market. This extends the tightening cycle to 325 basis points and takes the policy rate to 7.75%. In the press conference that followed the announcement, Governor Uribe said that the decision was not a unanimous one. Later, President Santos revealed that three (out of seven) board members voted to keep the policy rate unchanged, which is a contrast with the previous decision (when only one board member voted to leave the policy rate unchanged).

While the press release does not explicitly close the door on the continuation of the tightening cycle, the central bank downgraded its economic growth outlook for this year to 2.3% (in line with Itaú), from 2.5%, emphasized the transitory nature of the elevated inflation and lowered the forecasted current account deficit for 2016. This indicates the central bank sees diminished demand-side inflationary pressures and reduced vulnerability of the Colombian economy to external shocks. Meanwhile, although the central bank expects the recently concluded truck strike to lift headline inflation in July, it sees a quick reversal of this new shock to prices.

We expect no more rate hikes. Economic activity is weakening, and the ex-ante real interest rate (defined as the policy rate deflated by the 12-month inflation expectations) indicates that monetary policy is already tight. However, given the current levels of inflation and inflation expectations, we still think that the risks are skewed towards hikes in the near future.

PERU – BCRP stayed put in July, in a more comfortable position

The Central Bank of Peru (BCRP) decided to maintain its policy rate at 4.25% – in line with a unanimous market consensus – against the backdrop of lower headline inflation, lower inflation expectations, and firmer economic activity. The intermeeting period was muted in terms of verbal guidance – with the re-appointment of Chairman Velarde for a third 5-year term (confirmed by both President Kuczynski and Velarde himself, yet pending Congress approval) taking the headlines – but loaded with interesting macro data, such as: the fifth consecutive decrease of headline inflation (down to 3.3% in June), the further decrease of inflation expectations, and a strong increase of business confidence indicators. Three weeks later, the announcement that headline inflation dropped to 3% in July – after 16 months of hovering above the target range (1-3%) – leaves the central bank in an even more comfortable position.  

In fact, in the statement announcing July’s decision, the central bank highlighted that inflation expectations are decreasing gradually, temporary pressures (due to food, exchange-rate depreciation and higher electricity prices) on CPI are reverting, and GDP growth is close to potential. The tightening bias, introduced in August 2015, also remains in place.

As inflation follows a declining path and inflation expectations fall, further rate increases are unlikely. Although we believe Peru’s monetary policy is already shifting gears to a more neutral stance, the removal of the tightening bias from official communications might take some more time, as the board probably wants to maximize optionality in the face of global risks and the fact that inflation is still high relatively to the target center.

MEXICO – Decision to raise interest rates in June was unanimous

The minutes of June’s monetary policy meeting – when its board unanimously decided to increase the reference rate from 3.75% to 4.25% – stressed that the board is acting preemptively to avoid exchange rate depreciation from contaminating inflation expectations. 

The minutes, as well as the statement announcing June’s decision, indicate that policy makers see the monetary policy tightening as part of the steps necessary to preserve the country’s fundamentals. In this context, the board of the central bank continues to call for further fiscal consolidation measures.

In an interview with the Wall Street Journal, Governor Carstens rejected the view that Banxico’s decision implied a pro-cyclical stance, arguing that monetary policy operates with lags and that by being ahead of the curve Banxico is ensuring the anchorage of inflation expectations. Moreover, he claimed that the local yield curve flattened after June’s decision, making the short-end of the yield curve more attractive and the long-end less risky (due to lower inflation premium). In the same vein, the Mexican government expects fiscal discipline to yield benefits in the form of greater confidence from foreign investors, also contributing to reduce the risk premium in the pricing of Mexican assets.

Looking forward, considering that we see moderate economic growth, well-behaved inflation, and no hikes by the Fed this year, we do not expect additional interest rate increases in Mexico in 2016. Of course, as made clear by official communication of the central bank, the exchange rate will continue to be the critical variable driving monetary policy decisions. We believe the exchange rate is undervalued and that it will appreciate ahead, as oil prices rise and uncertainty over politics in the U.S. diminishes. Still, if the Peso continues to perform poorly, a new rate hike can’t be ruled out.


4. Calendar of monetary policy decisions in August



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