Chile Becomes Third Latin American Nation to Resume Rate Cuts

Chile became the third Latin American nation in two months to resume interest rate cuts after inflation slowed and the economy grew at the slowest pace in four years.

Central bank policy makers, led by President Rodrigo Vergara, reduced the benchmark interest rate by a quarter-point to 3.75 percent yesterday, as forecast by 14 of 24 economists surveyed by Bloomberg. Ten analysts expected rates to be left unchanged.

Chile resumed rate cuts after a three-month pause, joining Peru and Mexico in easing monetary policy as economic growth in the three countries misses economist forecasts. A smaller-than-expected increase in prices in June also eased the way to yesterday’s reduction, with inflation slowing for the first time in eight months.

“Slow growth and more controlled inflation pushed the bank to cut,” said Felipe Alarcon, chief economist at EuroAmerica in Santiago. “They put a greater weighting on the economic deceleration than on inflation.”

The government reduced its growth forecast for 2014 to 3.2 percent on July 14, compared with the 4.9 percent estimate included in the budget plan for this year. The economy expanded 2.3 percent in May from the year earlier, below the 2.9 percent median estimate of analysts polled by Bloomberg.

Cuts Considered

“Local economic indicators show that the pace of expansion of output and demand has slowed further,” the central bank said in a statement accompanying yesterday’s rate decision. “The board will consider the possibility of making additional cuts.”

Annual inflation slowed to 4.3 percent last month from a year earlier, compared with the 4.5 percent average forecast of analysts polled by Bloomberg and 4.7 percent in May. Inflation had exceeded analysts’ forecasts in each of the previous four months.

The central bank targets inflation of 2 percent to 4 percent.

“Last month´s inflation number definitely gave the central bank an opportunity to consider cutting rates soon,” Rafael de la Fuente, an economist at UBS in Stamford, Connecticut, said before yesterday’s decision. “The bank´s intention to cut as soon as inflation eased was clear.”

Regional Policies

Peru and Mexico have both cut interest rates in the past two months as economic growth disappoints. Peru’s economy expanded 1.8 percent in May from the year earlier, compared with the 3.1 percent median estimate of analysts surveyed by Bloomberg. Mexico’s gross domestic product grew 1.8 percent in the first quarter, below analyst estimates of 2.1 percent.

Colombia and Brazil are the only Latin American nations raising interest rates this year. Colombia’s economy expanded 6.4 percent in the first quarter while Brazil inflation has breached the upper limit of policy makers’ target range.

Chile’s central bank has cut the benchmark rate five times since October as a drop in investment began to push up unemployment and damp consumer demand.

Investment fell 5 percent in the first quarter from the year earlier after slumping 12.3 percent in the previous three months. The jobless rate climbed to 6.3 percent in the three months through May from 5.7 percent at the end of last year.

With investment falling and consumer demand beginning to weaken, gross domestic product rose 2.6 percent in the first quarter, down from 2.7 percent in the previous three months and 5 percent in the third quarter.

Half Pace

“The economy is running close to half of its potential and as a result we continue to expect growth momentum to be modest at best,” said Dev Ashish, Latin American strategist at Societe General in Bangalore, who forecasts the key rate will drop to 3.25 percent. “Economic activity disappointed in April and May.”

Policy makers cut their growth forecast for this year on June 16 for the third consecutive quarter to between 2.5 percent and 3.5 percent from a previous estimate of 3 percent to 4 percent. They cited a continued slowdown in activity, weaker consumer demand and a drop in investment, which a cyclical decline in the mining industry didn´t fully explain.

Domestic demand will expand 1.8 percent this year, significantly less than the government´s previous forecast of 5.4 percent, Budget Office Director Sergio Granados told lawmakers in Congress on July 14.

Economists expect GDP to grow 2.9 percent in 2014, according to a survey released by the central bank last week.

“The economic recovery hasn´t happened, and we are seeing factors that could delay that scenario and deepen the downward cycle,” said Ruben Catalan, an economist at Banco de Credito e Inversiones in Santiago, who sees growth of 2.4 percent to 2.8 percent this year.

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