Itaú BBA - COLOMBIA – Monetary Policy Report: Faster recovery expected, but stimulus to stay

Macro Latam

< Back

COLOMBIA – Monetary Policy Report: Faster recovery expected, but stimulus to stay

May 4, 2021

The central bank noted that fiscal consolidation is key to maintain risk premia under control and guarantee capital inflows.

The central bank’s technical staff expects a swifter economic recovery ahead, yet the still significant negative output gap would keep core inflation contained. Along with still elevated levels of uncertainty, the historic monetary impulse is likely to be sustained for some time, but the baseline scenario of the central bank implies a policy rate path above that expected by the market (last survey, finalized prior to the strong February activity number, saw stable rates at 1.75% until 4Q21, and reaching 3.0% in two years).

The Colombian economy is seen growing 6.0% this year (6.8% fall last year; Itaú: 5.0%), a 1.5pp upside revision from the previous report published a quarter ago. Improving consumer and industrial sentiment (likely supported by the vaccine developments), monetary and fiscal stimulus, and better global environment would support the recovery. Given the new activity forecast and a lower potential growth forecast for this year (2.2% vs. 2.4%), the estimated negative output gap narrowed by 1.6pp, to 2.8%. Nevertheless, activity is seen returning to pre-pandemic levels only around 2Q22.

Inflation is seen ending this year near the 3.0% target (forecast range of 2.0%-3.5%). The forecast was upwardly revised from the 1.5%-3.0% range, with a point estimate of 2.1%, outlined in the previous report. For 2022, the yearend projection also ticked up 10bps to 2.8%, while the forecast range moved to 2.0% - 4.0% (from 2.0% to 3.5% range in January). Stronger domestic demand, expiring subsidies, the consolidation of energy prices at an elevated level, and higher food prices will support a swifter convergence towards the target. Depreciation of the Colombian peso also plays some role in the higher inflation (although passthrough to consumers is estimated to be less than 10%). Core inflationary pressures (excluding food and regulated prices) ticked up 0.2pp to a yearend expectation of 2.3%.

On the global front, higher interest rates could tighten external financing conditions amid higher Colombia’s risk premia. This development has been reflected in the depreciation of the Colombian peso. The current account deficit is seen at 3.8% of GDP this year, compared to the 3.6% envisioned previously (3.4% last year). Increasing imports amid the consolidation of the internal demand and higher-income deficit would drive the result. Meanwhile, despite less favorable financing conditions, Colombia’s external imbalances are expected to be well-financed through FDI and government international financing in a scenario of abundant global liquidity. However, the technical staff noted that fiscal consolidation is a key condition to maintain risk premia under control and guarantee capital inflows. We note that this conclusion is shared by board members, according to the discussion presented in the minutes of last week’s meeting.

Overall, the technical staff’s baseline scenario for key macroeconomic variables is broadly consistent with our expectations. Under such a scenario, we see stable rates at 1.75% for the remainder of the year, given the wide output gap. However, Colombia’s wide twin deficits in an environment of rising U.S. treasury yields may call for some removal of monetary stimulus before we currently expect, especially considering the setbacks on the tax reform. As the next monetary policy decision will take place on June 28, advances in the fiscal front are likely play a key roll in the board’s assessment of the balance of risks.

Miguel Ricaurte
Carolina Monzón

< Back