Chile: IPoM – Life is Good, Why Change?

Chile: IPoM – Life is Good, Why Change?

Nader Nazmi - Market Economics
Latam Macro Snapshot | 02 Apr 2013 17:11 |

The Monetary Policy Report (IPoM) released today makes it clear that the central bank (BCCh) will remain on hold for the foreseeable future as it expects trend growth and on-target inflation. The base scenario is as good as it gets but the BCCh remains mindful of risks. Nothing lasts forever. The IPoM’s key conclusions are supportive of our view that BCCh will remain on hold this year.

The IPoM notes improved external conditions, especially in the US. It says that downside risks to growth from abroad have diminished while upside home-grown risks to growth have become more relevant. It highlights continued divergence between economic conditions in Chile and those abroad. Activity and domestic demand in Chile have been growing faster than expected mostly on the back of stepped-up investment spending.

Growth remains robust but likely to moderate this year - The economy expanded 5.6% in 2012, as Q4 growth surprised to the upside due to an outsized contribution by the mining sector. Outside the mining sector, growth has been stable at a near-trend pace of 5.5%.

The central bank raised its 2013 growth projection to 4.5%-5.5% from 4.25%-5.25% in December IPoM (Table 1). The central bank continues to expect a sizable moderation in domestic demand growth to 6.1% this year from 7.3% in 2012. This deceleration will be driven by softer investment spending in mining and energy projects.Inflation to remain low. Headline and core inflation have declined to about 1.0%, owing to transitory factors. They are expected to return to the 3.0% mid-point of the target range over the forecast horizon. Increased imports have also helped to keep inflation low despite rapid domestic demand growth. The bank lowered its 2013 inflation forecast to 2.8% from a previous 2.9%.

External accounts will be fine. The bank increased its projection for 2013 international copper prices to an average of USD 3.5/lb from a previous projection of USD 3.40/lb. It now expects a 0.4% deterioration in Chile’s terms-of-trade this year instead of 0.8% previously.

The current account deficit is expected to widen to 4.4% of GDP this year from 3.5% in 2012. But this is judged to be a transitory deterioration driven by high capital goods imports needed for mining and energy projects. In addition, the current account deficit is not considered as a serious risk factor because it is comfortably covered with abundant capital inflows, especially FDI.

The IPoM recognizes that In recent quarters the CLP has appreciated both in nominal and in real terms. However, the bank does not detect yet signs of misalignment that would require FX intervention. It notes that while a number of EMs have intervened in the FX market recently, a cost-benefit analysis of such policies does not justify their implementation in Chile at this time.