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A gradual easing cycle process is expected.
2023/12/19 | Andrés Pérez M., Vittorio Peretti, Carolina Monzón & Juan Robayo

In a 5-2 split decision, BanRep started the easing cycle with a 25bp rate cut to 13.0%. The decision was in line with Bloomberg median estimate and asset prices, while surprising both us and the BanRep analyst’s survey that had the start of the easing cycle penciled in for January. The minority of the Board voted to hold rates. The decision is a reversal of Board’s position in the October meeting (5-2 decision to hold). The overall message from Governor Villar and Finance Minister Bonilla at the press conference announcing the decision was that inflation is on a downward path, supported mainly by food prices and exchange rate dynamics. Villar highlighted that the technical staff revised 2023 GDP growth down to 1.0% (1.2% previously expected). Importantly, BanRep's statement calls for caution in the minimum wage negotiation (to close by yearend).  Villar signaled future decision would be data dependent. One-year inflation expectations have recently increased, while longer term inflation expectations remained broadly stable but still above the 3% target. Following the decision, the one-year ex-ante real rate fell to 7.3% (using the monthly analyst survey; -21bps  from the previous meeting in October), still substantially above BanRep's neutral estimate of 2.4%.


Downplaying inflation risks. With the November CPI print already including the effect of the fuel prices increase and the health tax on ultra-processed foods, Bonilla highlighted the expectation of lower inflation ahead. Meanwhile, Villar affirmed that the reservoir levels are high, preventing a significant impact on energy prices if a strong El Niño scenario materialized. So far, there is no evidence of a significant impact on food prices. In the October monetary policy report, BanRep expected YE23 inflation at 9.8% and 4% for 2024.


Economic activity continued to slow, closing the output gap. Governor Villar confirmed that the technical staff now expects the economy to grow at 1.0% this year, down from the 1.2% previously forecast. Villar signaled that the output gap is likely to be closed amid a significant narrowing of the current account deficit, and these elements were taken into account in the decision to cut the interest rate.


The speed of rate cuts will be data dependent. The disinflationary process, inflation expectations, global financial conditions, the behavior of aggregate demand and the minimum wage outcome will be key in determining the next policy rate decisions.


A gradual easing cycle process is expected. With clearer signs that the domestic demand adjustment is unfolding more swiftly, the inflation convergence will likely advance despite still significant supply-side pressures. However, with inflation expectations still well above the target, a gradual rate cut pace is expected during 1Q24. On Friday, the minutes of today’s meeting will be released.