Chile's central bank surprises market with rate cut

The Central Bank of Chile surprised the market on Friday with a deep cut of the benchmark interest rate of 50 basis points. These are the reactions of market analysts:

Banchile Inversiones: At its meeting in June, unanimously and surprising the market and our expectations, the central bank cut the monetary policy rate by 50 basis points to 2.5%. With regard to the external scenario, the statement highlighted the upsurge in the US-China trade war, which has raised doubts about an intensification of the slowdown in the global economy. On the updating of the structural parameters, and as a result of the quantification of the effect of recent immigration, the trend growth for the period 2019-2028 was updated to a range between 3.25 and 3.75%.

The update of the parameters -and of the neutral rate to 4% added to the decrease in the activity of the first quarter- implied that the activity gap increased with respect to the previously anticipated. As a result of this re-assessment, the board considered it necessary to increase the level of expansion of the rate. Given the scenario of activity that we project (GDP growth for 2019 of 2.9% and for 2020 of 3.3%) we estimate that the rate will remain at the level of 2.5% for all of 2019 and 2020.

In this same line, we highlight that the statement mentions that "if the base scenario is given, this change in the MPR will be sufficient to ensure the convergence of inflation to the target in the policy horizon". Finally, the beginning of the normalization of the rate will be subject to how the labor market adjusts to the increase in the labor force and future developments of both the investment and the external scenario.

Banco Bci: At its June monetary policy meeting, the central bank board decided, unanimously, to cut the policy rate by 50 basis points, surprising the market which was expecting the rate to remain steady at 3.0% at this meeting. Among the reasons behind the decision, the statement referred to a weaker performance of the economy, increased capacity under-utilization and a lower neutral rate. The last factor stems from the re-assessment of unobservables outlined in the June monetary policy report.

In this re-assessment of the long-term variables, the growth potential of the economy is revised up to 3.4%, and trend growth is located within the 3.25-3.75% range. The above should be supported primarily by a stronger flow of migrants. In terms of the neutral rate, this is revised down 25 basis points, reflecting the fall in global neutral rates. With this new scenario an increase in capacity under-utilization is forecast, which could be behind this large cut in the policy rate, in order to recalibrate the monetary stimulus. The policy bias suggests that monetary normalization could resume, based on whether inflation converges to target, on an evaluation of the absorption of the migrant flow in the local market, how investment responds and on external developments.  

Capital Economics:

We think that the surprise decision by Chilean policymakers to cut the policy interest rate by 50bp on Friday night to 2.50% will prove to be a one off. Interest rates are likely to remain unchanged at their current level until the end of next year.

The decision came out of the blue. All economists surveyed by Bloomberg and Refinitiv (including ourselves) were expecting no change. We had thought that the latest activity data had weakened the case for cuts. And the Chilean central bank has given at least three months warning prior to the beginning of their last two loosening cycles.