Central Banker Maps Path for When Colombia Can Withdraw Stimulus

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Colombia’s inflation outlook has become “much more challenging” in recent months, according to a member of the central bank’s board, adding to pressure on the country to join the regional trend for higher interest rates.

As the economy rebounds from last year’s crash, policy makers are trying to gauge when to start withdrawing stimulus. Bank co-director Roberto Steiner says core inflation expectations are one of the key indicators to help decide when that time has come.

Central Banker Maps Path for When Colombia Can Withdraw Stimulus

“At some point we are going to have to start to diminish that momentum that comes from monetary policy and the board is constantly looking at the figures to see when the time is right,” Steiner said Tuesday in an interview. “I would believe that if expectations for this indicator increase a lot, it would probably be a strong argument to consider. But it would not be the only one.”

Inflation accelerated to 3.6% last month, its fastest rate since the pandemic hit Colombia. Part of that is caused by a narrowing “output gap”, as the recovery reduces excess capacity. Temporary factors, such as food shortages following anti-government protests in recent weeks and a rise in global commodities prices could also be a reason behind the move, Steiner said.

Colombia’s central bank held interest rates at a record low 1.75% at its June meeting, even as other major economies in the region are increasing borrowing costs to curb inflation.

Chile is forecast to raise its key interest rate from a record low on Wednesday, while Brazil and Mexico have already started withdrawing stimulus as growth recovers from the pandemic and inflationary pressure picks up. In Colombia’s case, Steiner said that he doesn’t anticipate a “brusque” change in policy.

The economy is still operating below capacity, inflation expectations remain “reasonably well-anchored”, and alarm bells aren’t ringing, he said.

“Although economic activity is recovering, we are still far from having the output that we had at the end of 2019,” Steiner said. “I believe that there is still the expectation that a fairly expansionary monetary policy is required to recover the economic activity that was lost.”

Economists surveyed by the central bank forecast that core inflation, which excludes volatile food prices, will be almost exactly in line with the 3% target at the end of 2022.

Bank’s Mandate

The central bank needs to ensure that temporary price rises don’t become baked in, including via the use of indexation, Steiner said.

Central Banker Maps Path for When Colombia Can Withdraw Stimulus

Steiner rejected the idea that the central bank should tolerate faster inflation for a sustained period while the economy is recovering from the pandemic. That contrasts with comments from fellow co-director Jaime Jaramillo who said in an interview in May that the bank could temporarily allow inflation to exceed its 3% target as it prioritizes the recovery.

“We have a mandate that is for prices and I would be concerned if inflation and inflation expectations consolidate at a level above 3%,” Steiner said. “If inflation were above the target for reasons that suggest it would stay there for a long time, I would view that with some concern.”

Unemployment Risks

Steiner said there’s a risk that when the economy returns to full capacity, the jobless rate will still be higher than it was before the pandemic.

“Unemployment has reacted much less than expected given the reaction of economic activity,” he said.

Central Banker Maps Path for When Colombia Can Withdraw Stimulus

In June, the central bank boosted its forecast for economic growth this year to 6.5% from 6%, citing the economy’s strong performance in April. That compares to last year’s 6.8% contraction.

The current jobless rate is very worrying, especially given recent social unrest in Colombia and elsewhere, he said. The pandemic may have brought structural changes to the labor market that still aren’t fully understood, he added.

Unemployment was 15.6% in May. That’s down sharply from a year ago, but still more than five percentage points higher than it was in the same month in 2019.

“I think there are signs that there have been significant increases in productivity in some sectors which, therefore, will translate into lower demand for labor,” he said.

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