Latam Daily: BanRep Preview, 100bps Likelier

• Colombia: Monetary Policy Preview: Is a 100bps hike enough for the markets?

A rebound in US yields is driving the dollar higher across the board while a mixed-to-weaker commodities backdrop and disappointing results contribute to a soft risk backdrop. The focus of global markets for today’s session will be the ECB’s policy decision at 8.15ET (where we expect a 75bps increase) followed by the US Q3 GDP release at 8.30ET (consensus at 2.4% q/q annualized). Copper and iron ore prices continue on a negative trend as Chinese economic pessimism lingers.

Mexico’s INEGI reported a larger than expected decline in the country’s unemployment rate as well as a narrower trade deficit in data for September published this morning. The country’s non-seasonally-adjusted jobless rate decline to 3.34% against a median forecast of 3.50%; this compares to a 4.18% rate in September 2021. INEGI’s seasonally–adjusted figures saw the unemployment rate fall to 3.14% its lowest level since April 2022 (3.08%). Mexico’s trade deficit sharply narrowed to USD895mn last month from a USD5.5bn previously and against a median forecast of a USD4.53bn deficit, thanks to a strong increase in exports against a sizable decline in imports. Auto exports reached a new record high of USD16.1bn (a 42% y/y increase).

Brazil’s CB left its Selic policy rate unchanged, as expected, at its policy announcement yesterday evening. With headline inflation showing signs of cresting—despite continuing momentum in core baskets, and some of this decline partly driven by a temporary removal of gas taxes—and the runoff election ahead, the central bank left its statement practically unchanged. This notably includes an unchanged rates guidance pointing to its willingness to resume the hiking cycle if inflationary pressures warrant it. On that note, the BCB lifted its end-2023 inflation forecast to 4.8% from 4.6% in its previous iteration.

The minutes to the most recent BCCh decision were published this morning, reiterating the bank’s neutral approach. The minutes also indicated that policymakers discussed a 25bps hike in addition to the 50bps that was actually delivered. The bank has clearly communicated that they have reached the maximum level in their hiking cycle. On the other hand, continued concerns about inflation and no obvious language on possibly policy easing mean the bank is not ready to tee up a rate reduction in early-2023—as is our Santiago economists’ expectation (100bps cut in January).

BCRP Chief Velarde said yesterday that Peruvian inflation will decline without a recession, noting that if the bank succeeds at keeping inflation expectations anchored then it will be successful in reaching its inflation target. With the BCRP also expecting to reduce its public investment estimate for this year, that lessens positive output gap pressures on inflation.

It is a quiet day ahead in our core footprint ahead of BanRep’s policy decision tomorrow, where we now see a 100bps increase (see below).

—Juan Manuel Herrera

COLOMBIA: MONETARY POLICY PREVIEW: IS A 100BPS HIKE ENOUGH FOR THE MARKETS?

Tomorrow, BanRep will hold its seventh monetary policy meeting of the year. The central bank is expected to hike its monetary policy rate by 100bps again, however, the main question is if this hike will be enough for markets given the recent volatility in Colombian assets.

As noted in last week’s Latam weekly, the backdrop for Friday’s meeting is challenging. Some Board members continue to be worried about a potential downturn in economic activity ahead of 2023. But, given recent market moves, the Board could decide to be more hawkish this time around. 

Our initial call was of a 50bps hike including an intervention program, assuming that the concerns about economic growth remain. However, after the market’s reaction to the latest meeting, we think BanRep sees this dovish stance as a bad decision against on-edge markets. We therefore now see a higher probability of a 100bps move. Even a full-point hike may not be enough to meet financial markets’ expectations, but in our mind it would be notable as it would affirm the independence of the central bank, as a strong institution in Colombia.

After Friday’s meeting, Colombia’s monetary policy rate will be at its highest point since the beginning of the inflation-targeting regime in 1999. This meeting will be also of particular importance as the staff is expected to present the monetary policy report to the Board, which includes a new macro scenario and balance of risks that are key to determining how close the bank is to the end of the hiking cycle. 

The rates curve averaging a 13.5% rate is showing a decent discount based on domestic and international risks. That said, a decision by the central bank teeing up the end of the hiking cycle would motivate further gains (falling yields) in the short-end and belly of the curve. However, in the FX market, it may not be enough to take the currency to the levels prevailing prior to the president’s tweets that impacted sentiment in Colombian assets.

The IBR market is pricing in a 125bps move and a terminal rate of 12.75% by March 2023 (chart 1). We disagree with the market’s opinion as we expect BanRep to end its hiking cycle sooner, and at a lower level.

In the case of the Colombian peso, we see the possibility that BanRep announces a program to control the volatility of the exchange rate via options or NDFs. And we totally discard the possibility of an intervention through direct sales of USDs.

Key points ahead of Friday’s BanRep vote:

• At September’s meeting, we had a split vote of 6 vs 1. The dissenting vote for a 50bps hike argued that the main risk now is a strong economic deceleration. That said, this Board member said that increasing rates aggressively place labour markets at risk and that a large move would not be effective inflation control.
• A split vote usually signals a change of stance in forthcoming meetings. Had the market reaction in recent weeks been more benign, BanRep would have settled on a 50bps increase tomorrow. However, given recent bearish market volatility, the fact that inflation continues surprising to the upside, and the economy is showing still robust signals, the Board will likely deliver a 100bps hike while maintaining a data-dependent approach. We think that markets would be more comfortable with a more aggressive move from BanRep. However, we do not see 125bps or higher move as our base case since the Board remains concerned about next year’s economic activity while still seeing easing headline inflation in the coming months. 
• Inflation expectations deviated further from BanRep’s target according to recent surveys. In BanRep’s latest survey, one- and two-year ahead inflation expectations sat at 7.38% and 4.70%, with end-2022 and end-2023 forecasts at 11.90% and 6.93%, respectively. This shows that there is no hope among economists that the bank will see inflation fall within the target range in the medium term, though this is in line with BanRep’s own expectations.
• As always, it will be relevant to monitor signals that the hiking cycle is reaching a terminal phase. At this week’s meeting, the staff will release a fresh set of macroeconomic projections that could signal an impending rates pause.
• On the FX side, the COP remains under pressure, and this time it is not only due to international broad-dollar factors but also idiosyncratic (political) issues. Governor Villar emphasized that the floating exchange regime is appropriate, however, there is some space to see a central bank intervention program to reduce the FX volatility. 

All in all, we now expect 100bps that leaves the policy rate at 11.00%, with a potential split dovish vote that sees one or more voting for a smaller increase.

The yield curve recently showed easing pressures and BanRep signaling a pause would contribute to the market positioning in a more medium-term perspective. However, even if we reach the terminal rate, a discussion about future cuts would take time, which would make it difficult to anticipate a stronger rally in Colombian debt. In terms of the FX, a 100bps move could be insufficient to reverse the recent depreciation trend, which is why we expect BanRep to announce also a measure to control the FX volatility. The data-dependent approach should continue, but we expect signs of a potential pause to emerge sooner rather than later.

—Sergio Olarte, María (Tatiana) Mejía & Jackeline Piraján