Peru Likely to Keep 4.25% Rate Amid Drive to Stem Sol Advance

Peru’s central bank probably will keep borrowing costs unchanged today for a 21st consecutive month after bolstering efforts to restrain the sol’s rally.

The five-member board, led by bank President Julio Velarde, will leave the overnight rate at 4.25 percent, the lowest in Latin America after Colombia, according to all 13 economists surveyed by Bloomberg. The decision will be announced at about 6 p.m. in Lima.

Policy makers have toughened their stance on the sol’s appreciation after dollar inflows pushed the currency to a 16-year high last month. The monetary authority has raised dollar reserve requirements, let pension funds increase overseas investments and boosted purchases of greenbacks in the currency market. While Peru’s economy is posting the fastest growth in South America, inflation remains within policy makers’ 1 percent to 3 percent target range.

“It’s very unlikely the central bank will tighten monetary policy as long as it’s fighting currency appreciation and inflation is under control,” said Felipe Hernandez, an economist at Royal Bank of Scotland Group Plc., in a phone interview from Stamford, Connecticut. “There’s still room for them to wait.”

Peru’s economy is attracting capital inflows as local companies seek cheaper financing overseas and investors boost purchases of the country’s bonds. The sol rose to 2.5390 per dollar on Jan. 14, the strongest level since October 1996.

Bonds, Reserves

Peruvian companies raised $1 billion in the international capital markets last month, led by a $500 million bond sale by state mortgage lender Fondo Mivivienda SA. Banco Continental SA, Peru’s second-largest lender, sold $300 million and fishing company Pesquera Exalmar SAA issued $200 million.

The central bank increased the average reserve ratio for dollars by one percentage point from Feb. 1, the biggest of six increases since May, and for the first time cited taming the sol’s appreciation as its main goal. Banco Central de Reserva del Peru left requirements for soles unchanged.

The central bank bought $1.8 billion of U.S. currency last month, the most since April, and the Finance Ministry pledged to buy $4 billion this year. The bank bought $13.9 billion of U.S. currency last year, boosting Peru’s international reserves to a record $64 billion, equivalent to 32 percent of gross domestic product.

Sources of Inflows

Peru may need to at least match last year’s dollar purchases in 2013 to slow the pace of the sol’s appreciation, which policy makers see as a threat to an economy where 43 percent of all loans are in dollars, said Hedmond Rios, an economist at Celfin Capital SA.

Though the sol is down 0.9 percent this year, its 4.4 percent advance in the past year is the best performance among the six most-traded currencies tracked by Bloomberg.

The yield on Peru’s benchmark 7.84 percent sol-denominated bond due August 2020 has fallen 0.1 percentage point to 3.78 percent this year after dropping 1.87 percentage point in 2012. The Lima General Index has risen 5.3 percent this year after a 5.9 percent gain in 2012.

Lowering the central bank’s benchmark rate would ease inflows “a little bit” by narrowing the differential between borrowing costs in Peru and developed markets, Velarde said in a Jan. 30 interview. Still, foreign direct investment and long-term dollar loans are the main sources of inflows, he said.

Policy Balance

Annual inflation, which slowed to 2.87 percent last month from 4.74 percent at the end of 2011, remains near the top of the central bank’s target range.

“Cutting the rate could ease inflows but at what cost to inflation?” Rios said in a telephone interview from Santiago.

Construction activity, which has fueled growth in Peru’s $200 billion economy, is showing signs of slowing, with cement demand and capital goods imports both easing in December.

The pace of growth in bank lending to companies and households also eased to 15.6 percent in December, the slowest pace since May, according to the central bank.

Inflation will slow to about 2 percent this year, the bank said after its Jan. 10 meeting. It projects growth of 6.2 percent to 6.3 percent this year, which is below the economy’s potential and isn’t producing inflationary pressures, Velarde said.

“We don’t see a need for a dramatic change of rates now,” he said.

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