Chile: Fighting the Slowdown in Santiago

The Central Bank of Chile unexpectedly cut interest rates on Apr. 11, the fourth cut so far this year. But the efforts to prop up the ailing economy will run up against weak consumer spending and falling copper prices.

The central bank cut its target rate by a quarter-point, citing improvement in inflation pressures because of "slow growth of internal demand and a deceleration of the world economy." Consumer prices are rising at a yearly rate of just 2.5%, even though a weak peso is lifting import prices. Thanks in part to domestic interest rates that are now at their lowest level in 14 years, the peso hit a record low on Apr. 17.

The rate cut is designed to boost Chile's faltering economy. Consumer spending is weakening as joblessness remains high, hitting 8.4% in February. And the export sector is feeling the effects of slower global demand and falling prices for copper, Chile's main export.

Industrial production has been slipping since mid-2000 (chart), and industrial sales are struggling. For all of 2001, Chile's real gross domestic product is expected to grow less than 4%, after a 5.4% increase in 2000. Real GDP may only have grown at a 3% annual rate in the first quarter.

The Chilean government would like to see foreign trade add to growth. That was very much on the mind of President Ricardo Lagos when he visited President George W. Bush in Washington on Apr. 16. And on Apr. 17, the government eliminated its remaining controls on capital flows to help free up funds for small businesses and turn around the falloff in direct foreign investment.

A bilateral trade agreement with the U.S. will help in the long run, but Chile's economy could use a boost now. Unfortunately, the slowdown is raising the government deficit. It's expected be more than 0.5% of GDP in 2001, and the government has no plans right now to use fiscal stimulus to boost economic growth. That leaves monetary policy as the main lever to keep Chile growing. So further interest cuts seem a likely course of action in the months ahead.

By James C. Cooper & Kathleen Madigan

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