Itaú BBA - COLOMBIA – Monetary Policy Meeting: Easing cycle extended, but likely concluded; FCL withdrawal anno

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COLOMBIA – Monetary Policy Meeting: Easing cycle extended, but likely concluded; FCL withdrawal anno

September 25, 2020

A split decision and capital flight concerns amid negative real interest rates suggest that the easing cycle likely ended.

A 4-3 split board decided to cut the policy rate by 25-bps to 1.75%, a historical low.The decision was in line with market expectations (Bloomberg market consensus was split 13 to 9), although we had expected a pause based on the fact that the policy rate at 2.0% was already low and several board members were concerned on the possibility of capital outflows being triggered by further monetary policy easing. We believe August inflation surprising the market to the downside and activity indicators from July reflecting a slowing recovery likely tilted the board towards another cut. The communique, along with comments from General Manager Echavarria that space for further easing is limited, and the split decision (with the minority favoring a stable rates) suggest that the easing cycle likely ended. 
The board noted that the financial system has lowered rates significantly, resulting in increased consumer and credit demand. External financing conditions remain favorable, and current account dynamics point to reduced financing needs. There are signs that the activity deterioration is moderating following the gradual removal of mobility restrictions, while the two-year inflation outlook is edging closer to the 3% target (2.05% from 1.56%). Additionally, the board communicated that it would rollover dollar forward operations scheduled to expire between now and the next policy meeting in late October.
In an unforeseen move, Colombia’s government received approval to expand the Flexible Credit Line by the IMF, with a portion likely to be utilized to finance budget needs. The IMF board agreed to increased Colombia’s Flexible Credit Line (FCL) from approximately USD 10.8 billion to USD 17.3 billion. According to the press release, the increased line aims to strengthen the country's international liquidity position in the context of the pandemic. Colombia qualifies for FCL augmentation approval by virtue of its very strong institutional policy frameworks and track record of economic performance. The Colombian government is considering drawing about USD 5.3 billion from the facility as part of its 2020 financing plan (though it still has to formally request the withdrawal from the IMF), with the remaining credit to be treated as precautionary. While the arrangement reflects well on Colombia’s institutional standing, being the first country (and the one with lowest sovereign rating) to ever draw on the line reflects the more concerning fiscal situation facing the country.

We cannot rule out further cuts ahead if the activity recovery underwhelms and inflation expectations retreat. Nevertheless, capital flight concerns amid negative real interest rates mean stable rates is our baseline scenario.

Miguel Ricaurte
Carolina Monzón

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