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‘Ugly’ Inflation Puts Chile Central Bank in a Bind on Rates

Chile Rate Cut Bets Put at Risk After ‘Ugly’ Inflation Surge

(Bloomberg) -- Chile’s inflation surged more than all analysts expected in February, challenging bets that the central bank will cut its interest rate this month to stimulate an economy damaged by protests and a global downturn.

Consumer prices rose 3.9% from a year prior, just shy of the 4% upper limit of the central bank’s target range and also the fastest clip since July 2016. From January, prices increased 0.4%, the national statistics institute reported on Friday.

‘Ugly’ Inflation Puts Chile Central Bank in a Bind on Rates

The results stand to complicate the central bank’s outlook as it prepares to hold its next rate-setting meeting on March 31. On one hand, it faces pressure to boost an economy that’s been battered by months of anti-government protests and may suffer further from the coronavirus outbreak. On the other, policy makers should not rush to cut rates following the February inflation surprise, according to former central bank President Roberto Zahler.

“I don’t think it would be reasonable for the central bank to lower the interest rate,” Zahler said in an interview with Pauta Bloomberg radio, saying that a cut may fan price pressures by prompting the peso to weaken further. “A more expansive fiscal policy would be more adequate.”

Chile’s peso swap rates rose on the consumer price data, as traders pared back bets of a quarter-point borrowing cost cut this month.

Biggest Decline

President Sebastian Pinera’s administration is grappling with a resurgence in social unrest that started out as demonstrations against a metro fare increase in October before ballooning into a larger social movement. Complicating matters further, the coronavirus outbreak has crippled demand in China, which is Chile’s top trading partner and a key buyer of its copper exports.

‘Ugly’ Inflation Puts Chile Central Bank in a Bind on Rates

Amid the upheaval, Chile’s peso has dropped by about 14% in the past six months, the biggest decline among the 24 emerging market currencies tracked by Bloomberg. A weaker currency can fuel inflation by making imports more expensive.

Transportation costs surged 1.3% on the month in February, while food and non-alcoholic beverages rose by 0.7%, according to the statistics agency. Core inflation, which doesn’t include volatile food and fuel prices, stood at 0.4% month-on-month.

Finance Minister Ignacio Briones told reporters later on Friday that the pick-up in inflation was expected in the aftermath of the peso’s sharp decline.

“It’s worth highlighting that this type of effect is temporary,” he said. “Inflation expectations are anchored and are also in line with central bank forecasts.”

Ease Back

The central bank sees annual inflation peaking at around 4% in the middle of the year, and both traders and economists expect it to ease back toward the 3% target by December. Factors such as weak economic growth and high unemployment are expected to help keep a lid on prices.

What Our Economist Says

“Non-core prices, which explained most of the high headline inflation through February, will likely start falling in March and provide some relief. Resilient services inflation, despite increasing economic slack, and rising goods inflation, in line with accumulated peso depreciation, are likely to be a constraint.

--Felipe Hernandez, Latin America economist, Bloomberg Economics

Read more here

Even amid the backdrop of weak demand, the “ugly” inflation numbers in February mean any rate cuts will have to wait, according to Andres Abadia, senior international economist at Pantheon Macroeconomics.

“Overall, this is a bad inflation report with both headline and core measure subject to upward pressure due to the lagged effect of social unrest and the peso’s sell-off in recent months,” Abadia wrote in a research report. “Interest rates will stay on hold through the second quarter. We expect two 25bp rate cuts in the second half of the year.”

To contact the reporters on this story: Eduardo Thomson in Santiago at ethomson1@bloomberg.net;Valentina Fuentes in Santiago at vfuentes8@bloomberg.net

To contact the editors responsible for this story: Juan Pablo Spinetto at jspinetto@bloomberg.net, ;Walter Brandimarte at wbrandimarte@bloomberg.net, Matthew Malinowski, Philip Sanders

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