Itaú BBA - CHILE – Monetary Policy Meeting Minutes: A September cut

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CHILE – Monetary Policy Meeting Minutes: A September cut

agosto 2, 2019

The likelihood of a larger 50-bp cut in September has increased following recent developments

The minutes of the split decision in July to hold the policy rate at 2.5% solidify the expectation of a 25bp rate cut at the September meeting, while further analysis is needed before determining the magnitude of the cycle. Since the June meeting, risks about the timely convergence of inflation to the target (mainly due to service disinflation) increased, while activity will probably underwhelm amid the complexities of the global economy. Apart from Pablo Garcia, who already voted for a rate cut, other board members were dissuaded to act now due to the potential communicational risks, rather than the evaluation that lower rates are not necessary. 

Inflation dynamics was the key factor since the June meeting that led to a policy stance change favoring opening doors for more easing. Board members considered a 25-bp rate cut or staying on hold but with an easing bias as the appropriate policy options. Core service inflation, which reached historical lows in June, was the trigger for board members to adopt an easing bias as it reflects reduced demand-side inflationary pressures amid weak demand. The board discussed the impact that immigration could be having on wages. Additionally, the board noted that inflation expectations fell despite the 50-bp cut implemented in the previous meeting. 

Meanwhile, in a bid to understand the magnitude of the expected additional easing ahead, the board called for a thorough study of activity and output gap. An important factor behind the central bank’s expected inflation convergence path to the target was the anticipation of an activity acceleration in 2H19. Yet, global developments along with deteriorating consumer confidence, weakening imports and soft construction data raised doubts that the output gap would begin closing this year. The headwinds from the external front remain (the meeting was held before the intensification of the trade conflict). The board noted that the effects on Chile could already be seen with unfavorable developments for exports and capital inflows. The activity weakening in the region was also highlighted as a factor behind the debilitating export performance. 

Regarding the path ahead, one board member stated that the size of the easing cycle should not be less than the 50-bps that the market is pricing in. One member, likely Garcia, stated the communicational risks of implementing a rate cut in July were minor as the market was already expecting rate cuts ahead, so the difference between July or September was negligible. Another noted that given the 50-bp cut in June, there was some breathing room for the bank to wait and update it scenario before acting. Some board members believed that the available data did not support a rate cut at this particular meeting, preferring to accumulate more information. What was key for them was to see how consumption excluding vehicle sales performed ahead. If favorable, it could sustain the inflation convergence path. Alternatively, acting at this meeting amid a mistaken assessment of the economic weakness could demand signaling a sharp normalization path in upcoming months.

We expect a 25-bp rate cut in the September meeting (no meeting in August), but the likelihood of a larger 50-bp cut has increased following recent developments. We see room for two 25-bp rate cuts before yearend, with the rate remaining at 2% for a prolonged period thereafter. 

Miguel Ricaurte
Vittorio Peretti

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