Peru Likely to Hold Key Rate as Inflation Outweighs GDP Concerns

Peru’s central bank will probably keep its benchmark interest rate unchanged for a seventh month today on expectations slower growth will bring the inflation rate down from a 31-month high.

Policy makers will leave the overnight rate at 4.25 percent, according to all 18 economists surveyed by Bloomberg. The seven-member board, led by central bank President Julio Velarde, will announce its decision at about 6 p.m. local time.

Annual inflation that reached a two-year high of 4.64 percent in November leaves little room for rate cuts to arrest a slowdown in investment that may worsen next year as social unrest thwarts mining investment, said Alejandro Arreaza, an analyst at Barclays Capital Inc.

“Though there are some downside risks for growth both from the domestic and external side, high inflation will keep the central bank from moving to more loose monetary policy,” Arreaza said in a phone interview from New York.

Peru’s outlook for growth, already weak since President Ollanta Humala took office June 5, deteriorated further after protesters caused Newmont Mining Corp. to halt a $4.8 billion expansion last month, said Ruben Loaiza, chief executive officer of AFP Prima, Peru’s biggest private pension fund.

“We saw 2012 as a year when investment could recover but these recent events makes one wonder if that will be the case,” Loaiza said in a Dec. 3 interview.

The government declared a state of emergency Dec. 4 to end local protests against the copper and gold mine that would be Peru’s largest-ever investment project.

Business Confidence

Though Humala has tried to allay concerns he would reverse economic policies that have fueled the fastest growth in Latin America over the past decade, business confidence remains below pre-election levels, said Arreaza.

Peru’s decision to leave rates unchanged contrasts with Brazil, which has cut borrowing costs three times since August. Policy makers in Mexico and Chile have signaled they may do the same as Europe’s debt crisis threatens to damp Latin America’s commodity-dependent growth.

The sol rose to 2.6960 per U.S. dollar yesterday, its highest level since April 2008, as investors bet the economy will withstand the global slowdown and the central bank will take measures to prevent swings in the currency. The yield on Peru’s benchmark sol-denominated bond due August 2020 has remained unchanged over the past month at 5.70 percent while the Lima General Index of stocks has gained 3.7 percent.

Growth Slowing

Peru’s economy has already showed signs of slowing in recent months. Annual private investment growth eased to 8.5 percent in the third quarter, down from 16 percent in the previous three months, the central bank said on Nov. 25. Import and export growth eased in October while expansion in credit was the slowest in a year on weaker demand for business loans.

Gross domestic product will rise almost 7 percent this year, before growth slows to 5 percent to 6 percent in 2012, according to Finance Minister Miguel Castilla. The government may expand a $3 billion spending program to offset a “prolonged” global slowdown, he said in a Dec. 3 interview. GDP climbed 8.8 percent last year, the second fastest pace in 16 years.

The central bank increased its benchmark rate five times between January and May, pushing it to a two-year high, to contain inflation expectations. The bank has kept rates on hold since June.

“The pause was initially due to concern that the political context affecting demand and also because of the international situation,” Velarde said in a Dec. 2 interview.

“Looking ahead, we don’t see any demand-related pressures nor any of these pressures from food” that would cause inflation to accelerate, he said. Inflation expectations are “well anchored” in the 1 percent to 3 percent range, he added.

Interest rates may remain on hold until inflation slows or Europe’s debt crisis has a clearer impact on the domestic economy, Arreaza said.

“The central bank’s pause will last longer than at first thought,” said Mario Guerrero, an economist at Scotiabank Peru in Lima. “It will have room to lower rates when inflation returns to the target range in the second half of next year.”

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