Chilean Central Bank is still all-in on easing

Summary

Recent activity and inflation data in Chile have surprised to the upside, introducing the possibility that the Chilean Central Bank (BCCh) could slow the pace of monetary easing at its April meeting. While a downshift is possible, we believe policymakers are more likely to deliver another 100 bps cut in April. In fact, we believe BCCh policymakers will maintain an aggressive easing cycle into May and only make a concerted effort to ease monetary policy more gradually by the middle of this year. Our outlook for the Chilean Central Bank is more dovish relative to peer economists, which if aggressive rate cuts are indeed delivered, should keep depreciation pressure on the Chilean peso in the short term. Longer-term, we are more optimistic on the currency as Chile's central bank should end its easing cycle as the Fed is cutting rates, while local politics could also become a source of stability/strength for the currency in the second half of 2025.

BCCh's pedal is to the metal

Since July of last year, the Chilean Central Bank (BCCh) has cut policy rates 400 bps and has delivered one of the most aggressive easing cycles in the world. With inflation converging toward the central bank's target and economic activity sluggish, the quick pace of BCCh easing has been justified. However, recent activity and inflation data have been stronger than expected, while the Chilean peso has struggled to find its footing, introducing the idea that Chilean policymakers may need to slow the pace of easing going forward. On the activity side, January retail sales beat consensus expectations by a wide margin, and the broader January economic activity index also beat economist forecasts. As far as inflation, January CPI missed estimates to the upside, while the February inflation rose more than expected. Chilean peso depreciation has also gathered momentum in 2024. The currency has weakened ~6.5% against the dollar year-to-date, one of the worst performing major emerging market currencies this year. Stronger activity and inflation, combined with a weaker currency, would certainly suggest policymakers may need to consider a slower pace of rate cuts to defend against renewed inflation pressures. But, as of now, we do not believe the Chilean Central Bank will slow easing, and we look for another 100 bps rate cut in April. In fact, we believe there is a decent probability policymakers will speed up the pace of easing at the next meeting, and only around the middle of this year, make a concerted effort to take a more gradual approach to easing monetary policy.

Following the Chilean Central Bank's January meeting, we felt policymakers would shift in a more dovish direction and lower policy rates 125 bps in April. In the official statement and meeting minutes, policymakers communicated inflation was converging toward target faster than initially expected, and while the peso had come under pressure, pass-through to price growth was limited. Policymakers also stated that interest rates are likely to hit neutral—which the BCCh estimates to be 4%—by the second half of this year, implying the central bank would continue with large rate cuts through the first half of 2024. However, with January and February inflation surprising to the upside, along with resilient activity to start this year, we believe BCCh policymakers are now more likely to maintain the current 100 bps pace of easing in April as opposed to cutting 125 bps. With that said, we believe a 125 bps cut is still possible and the probability has not diminished completely. To that point, February inflation data were based off a new CPI basket. A new methodology could be viewed as slightly distorted and policymakers could opt to look through February CPI data as a one-off surprise. Also, since the release of February inflation, rhetoric has been unequivocally dovish. Finance Minister Marcel, who granted is not a BCCh voting member, commented that March inflation is likely to surprise to the downside and convergence to the central bank's inflation target is still on track despite the February upside surprise. Claudio Soto, who is a voting member, also, in our view, leaned dovish in a recent interview. Soto highlighted that the recent upside inflation surprise had been concentrated in select components of the index and may not be reflective of the overall price trend. We interpret Soto's comments as him still being supportive of at least a 100 bps rate cut, possibly more if upcoming data shows activity is starting to decelerate again. Data releases over the coming weeks should provide insight into the size of easing ultimately delivered by policymakers. February retail sales, industrial and manufacturing production, and the economic activity index will be published at the end of March and early April, and should all be important inputs into policymaker decisions. Unless all data surprise to the upside, which is possible, we will maintain our view for a 100 bps cut in April. Further upside surprises could see policymakers revert to a 75 bps cut.

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