Latam Weekly: Key Latam and G-20 Week

ECONOMIC OVERVIEW

• August is coming to an end with a full slate in Latam and key G-20 economies, amid global growth concerns and uncertainty over what September’s central bank decisions will deliver.

• In Mexico, the breakdown of Q2 GDP by expenditure, Banxico’s quarterly inflation report, and a collection of second-tier figures are on the docket, while polling for Morena’s presidential candidacy race will take place in the background starting on Monday. Overall, data have supported an on-hold Banxico through late-2023 (and possibly into 2024), and next week’s figures are unlikely to change this view.

• Chile’s macro data flood in the second half of the week will go a long way in refining expectations for the BCCh’s policy announcement on the 5^th, with markets and economists still unsure about the size of the bank’s next cut though recently eyeing a 75bps cut as more likely; we think 100bps.

• Our economists project that Peruvian inflation fell to the mid-5s in August, holding a downtrend that started most clearly in June and that in tandem with sluggish economic activity should prompt the first BCRP rate reduction of the cycle next month.

• Brazilian Q2 GDP should show a significant slowdown from Q1’s quarterly expansion that was supported by agricultural output. Unemployment data for Brazil and Colombia are also on tap. In today's report, our Colombia team focuses on liquidity issues in the country that may be exacerbating the economic impact of BanRep’s rate hikes.

PACIFIC ALLIANCE COUNTRY UPDATES

• We assess key insights from the last week, with highlights on the main issues to watch over the coming fortnight in the Pacific Alliance countries: Chile, Colombia, and Peru.

MARKET EVENTS & INDICATORS

• A comprehensive risk calendar with selected highlights for the period August 26–September 8 across the Pacific Alliance countries and Brazil.

Charts of the Week

ECONOMIC OVERVIEW: KEY LATAM AND G-20 WEEK

Juan Manuel Herrera, Senior Economist/Strategist
Scotiabank GBM
+44.207.826.5654
juanmanuel.herrera@scotiabank.com

• August is coming to an end with a full slate in Latam and key G-20 economies, amid global growth concerns and uncertainty over what September’s central bank decisions will deliver.

• In Mexico, the breakdown of Q2 GDP by expenditure, Banxico’s quarterly inflation report, and a collection of second-tier figures are on the docket, while polling for Morena’s presidential candidacy race will take place in the background starting on Monday. Overall, data have supported an on-hold Banxico through late-2023 (and possibly into 2024), and next week’s figures are unlikely to change this view.

• Chile’s macro data flood in the second half of the week will go a long way in refining expectations for the BCCh’s policy announcement on the 5^th, with markets and economists still unsure about the size of the bank’s next cut though recently eyeing a 75bps cut as more likely; we think 100bps.

• Our economists project that Peruvian inflation fell to the mid-5s in August, holding a downtrend that started most clearly in June and that in tandem with sluggish economic activity should prompt the first BCRP rate reduction of the cycle next month.

• Brazilian Q2 GDP should show a significant slowdown from Q1’s quarterly expansion that was supported by agricultural output. Unemployment data for Brazil and Colombia are also on tap. In today's report, our Colombia team focuses on liquidity issues in the country that may be exacerbating the economic impact of BanRep’s rate hikes.

It’s a full slate next week in Latam and key G-20 countries as we head into a new month with elevated uncertainty regarding the state of the global economy and the next steps that central bankers will take. Recent survey data and worrying news out of China (e.g. property developers, local government debt) have supported the case of those expecting a global ‘hard landing’.

So far, this remains mostly anecdotal and hard data have on the whole not yet shown a steep deceleration—or contraction—in economic activity, particularly in the US. The release of US nonfarm payrolls and PCE, Chinese PMIs, Eurozone CPIs, and Canadian GDP will be in focus from a global market standpoint next week, as we look ahead to September’s rate decisions by the Fed, ECB, and BoC—and some hope for concrete stimulus measures in China.

Again, Mexico’s schedule is among the busiest in our Latam coverage. Second quarter GDP revisions on Tuesday (3.7% y/y, 1% q/q) will now contain details on the breakdown for growth in the country. From Q4-19 pre-pandemic levels, private consumption is now 5.1% higher in data to Q1-23, helping support a 3.7% gain in aggregate GDP thanks to increased remittance flows but also a 7.5% increase in employment in the four years to July 2023. To boot, private investment has also risen to its highest levels since early-2019 and next week’s data could push it just below or even above its peak in 2018. Public spending may leave a bit to be desired, but few people can complain about this mix of growth.

On Wednesday, Banxico will publish its quarterly inflation report where it will lay out updated macroeconomic projections and views that will support its stance to not cut rates for a few more meetings (perhaps waiting until early-2024). With core inflation still seen ending the year above 5%, the bank is in no rush to change its tune on holding the policy rate at 11.25%. Banxico’s economists’ poll results out on Friday will likely show economists mostly aligned with this view.

July international trade, unemployment rate, and PMI data released over the week round out the data calendar. In the background, starting from the 28^th until September 3^rd, pollsters commissioned by the Morena alliance will survey voters on who should represent the bloc in next year’s presidential elections. The winner of the (rather opaque) contest will be revealed on September 6^th, with former Mexico City mayor Sheinbaum and former foreign affairs secretary Ebrard the most likely victors.

Chile’s docket also presents a mountain of data to chew through to help us determine by how much the BCCh will cut its overnight rate the following week. On Wednesday, the appetizer. July’s unemployment rate will likely remain on the uptrend it’s held over the past year or so; in June, Chile’s jobless rate sat at 8.5%, rising from 7.8% twelve months prior. On Thursday, the main course. All at once, we’ll get retail sales, copper output, commercial activity, and industrial/manufacturing data, half an hour after the final BCCh pre-decision traders survey that last showed the median favouring a 75bps reduction—though the most common answer was a 100bps cut. Pushback from BCCh officials has somewhat increased the odds that officials do opt for a 75bps cut.

Thursday’s Chilean data flood should give us a good sense of how the economy performed in July, with Friday’s monthly economic activity figures the last data point to help us in our call for the BCCh’s rate announcement, when we anticipate a 100bps cut. In today’s weekly, the Santiago team discuss their read of Q2-GDP data that showed consumption remains sluggish at low levels, while their projected 0.5-1% y/y increase in monthly GDP in July mostly reflects a favourable base of comparison as the economy should still contract m/m.

In Peru, we forecast headline inflation falling to the mid-5s in August data due at the end of the week. After stubbornly remaining above and around 8% from April 2022 to as recently as May 2023, the last couple of prints have shown the clear deceleration that we had expected, coming in at 6.5% in June and 5.9% in July—from 8.7% in January. The path for core inflation has also clearly turned, from grazing the 6% level in March, to sit below 4% in July. With fast declines in inflation and in inflation expectations, our economists highlight in today’s weekly that the real policy rate (using expectations) has now risen to 4%+ and should climb further in coming months as forecasts adjust. Policy settings becoming more restrictive and an economy that is sluggish should warrant a September meeting cut by the BCRP, while maintaining some caution ahead of El Niño. Note that Peruvian markets are closed on Wednesday.

GDP data for the second quarter in Brazil out on Friday are expected to show a slowdown in growth from Q1’s agriculture-led expansion of 4%. The 2.7% pace of GDP growth projected by the median economist polled by Bloomberg is roughly in line with the 2.64% average year-on-year pace observed in April to June BCB economic activity data (4.2% y/y average in Q1). What may be more relevant for BCB-bet purposes is the q/q performance of the economy, where after a 1.9% q/q gain in Q1 economists now see a half-point-or-so quarterly increase in output amid weakness in retail sales and industrial production. The deceleration in Brazilian activity in combination with continued progress in inflation lines up with a steady path of rate cuts by the BCB over its remaining meetings of 2023.

Colombia’s calendar next week has unemployment rate data, industrial/retail confidence, and current account figures on tap, alongside BanRep’s non-rates-setting meeting on Thursday. Next week’s releases should not move local markets all that much, and traders will likely take their cue from developments abroad. In today’s Weekly, given the relatively quiet backdrop, our Bogota team centres its attention on liquidity conditions in the country as well as the lacklustre execution of public spending that are complicating the work of monetary policy; while BanRep is done hiking rates, since March, bank funding rates have continued their ascent, further dealing a blow to the economy. 

PACIFIC ALLIANCE COUNTRY UPDATES

Chile—Slight Y/Y GDP Growth Forecast for July But No Dynamism (Decline) at the Margin

Anibal Alarcón, Senior Economist
+56.2.2619.5465 (Chile)    
anibal.alarcon@scotiabank.cl

Recent BCCh GDP data for Q2-23 revealed a stabilization of consumption at low levels (see our Latam Daily), which was to be expected after the sharp drop observed in Q1, mainly in durable goods consumption. In Q2, durable goods consumption rebounded slightly from the previous quarter, although it remained at low levels. On the other hand, non-durable goods consumption (42% of total private consumption), continued to fall slowly, so private consumption did not show dynamism and stabilized at its lowest level since September 2020. Based on our high-frequency indicators, with information as of August 19^th, goods consumption continues to show no dynamism, both at the durable and non-durable goods levels (chart 1). 

On Friday, September 1^st, the BCCh will publish July GDP, for which we project a y/y growth between 0.5% and 1%, favoured by the basis of comparison, as it would show a drop when compared to the previous month. In this sense, the electricity sector would lead the monthly drop due to a normalization in hydroelectric generation, which experienced a strong GDP growth in June thanks to the rains (chart 2). On the other hand, services would show a null advance as would commerce, in line with our high frequency of debit card purchases data. We project a 12% y/y decline for retail sales in July.

Finally, we project a seasonal increase in the unemployment rate to 8.7%, which would be explained by a drop in employment in the context of a stable labour force. In this sense, construction and commerce would continue to show weak employment figures, reflecting the adjustment that consumption and private investment are experiencing this year.

Colombia—Liquidity and Budget Execution 

Sergio Olarte, Head Economist, Colombia
+57.601.745.6300 Ext. 9166 (Colombia)                                    
sergio.olarte@scotiabankcolpatria.com 

Jackeline Piraján, Senior Economist
+57.601.745.6300 Ext. 9400 (Colombia)
jackeline.pirajan@scotiabankcolpatria.com

Santiago Moreno, Economist
+57.601.745.6300 Ext. 1875 (Colombia)
santiago1.moreno@scotiabankcolpatria.com

Although BanRep finished its hiking cycle in March, banking funding rates have continued pointing north. In fact, while in February one year, the time deposit rate was around 12%, currently, those rates are hovering at about 15%, making more difficult monetary policy and economic activity recovery. What is behind this extraordinary increment in liquidity rates? In our opinion, there are two main reasons.

The first one is related to the Colombian Financial System (CFS) transition to Basel III and the Net Stable Funding Ratio regulation, which caused the CFS to demand longer tenure deposits to comply with the new regulation and reduce the structural risk of lower deposit duration against higher credit loans duration. We think this new regulation increased time deposit rates structurally last year, making the spread with COLTES a bit higher than before the pandemic. In 2019, the regular spread between the short-run COLTES curve and time deposits was around 90bps, while after Basel III incorporation, this spread increased to around 120–150bps (chart 3).

The second reason behind the increment in funding rates is associated with the significant poor budget implementation from the government. Up to July, government budget execution was at 43.5% (payments/budget excluding debt service), below the average historical execution for a YTD up to July ~49%. At the same time, tax collection is above expectation, which results in a situation in which the MoF is collecting taxes but is not using those resources. Instead, this excess of liquidity is going to BanRep accounts. This dynamic reduces the monetary base and the public multiplier, representing pressure on banking funding. In fact, treasury deposits in BanRep have been close to COP40tr since May this year, while historically, it should be half of this amount (chart 4). 

This situation produces that permanent liquidity in the economy be lower than normal since BanRep replaces most of this structural liquidity with short-run liquidity that is not useful for economic activity due to the fact that banks cannot use repos to lend in the longer term. Therefore, banks feel a shortage in liquidity, which ends up in a higher funding cost. Only once the government speeds up budget execution, we think funding rates will not return to the new normal, which should be around 120bps above short-run COLTES rates (currently about 9.8% to 10.3%).

All in all, despite the fact that we think CFS funding rates structurally can be a bit higher due to a healthier financing structure, in the short run, poor execution of the public budget has affected liquidity rates significantly (more than 300bps), which additionally is affecting corporate funding and private investment decisions, which can in the end, reduce potential output, or at least reduce 2023 growth. We expect 2H-2023 to have better executions due to regional elections and higher seasonality in terms of public expenditure.

Earlier this week, the country’s banks asked that BanRep address liquidity issues in the system, proposing a series of measures out of which the body (Asobancaria) highlights: “(i) permitting foreigners to buy term deposit certificates (CDTs) in the primary market, (ii) the purchase of dollars in the spot market accompanied by sales in the forward market, (iii) offer repos guaranteed with private debt or portfolio with terms between 6 and 18 months and (iv) reducing bank reserves“. We’ll monitor whether in coming days, government officials and/or BanRep discuss possible solutions to this matter.

Peru—We Expect Inflation to Continue Declining in August 

Guillermo Arbe, Head Economist, Peru
+51.1.211.6052 (Peru)
guillermo.arbe@scotiabank.com.pe

August inflation figures will be released on September 1^st. We expect the downtrend that inflation has been following this year to continue. Inflation has fallen from 8.7% in January to 5.9% in July. The preliminary key prices data that we follow point to monthly inflation of 0.3% in August, which would take the twelve-month figure to 5.5% (chart 5).

Inflation of 5.5% would be over two full percentage points below the BCRP reference rate for the first time in recent memory. The trend is also helpful. The decline in inflation since May has been precipitous. We expect inflation to continue declining in future months, if at a milder pace.

This, of course, bodes in favour of our expectation that the BCRP will lower its reference rate in September. The BCRP prefers to look at the real interest rates as measured against inflation expectations when deciding on policy. The latest real interest rate reading is 4.2%, which is high for an inflation that is trending down. Inflation expectations (twelve months out from July), are currently at 3.57% and likely to decline further when the August figure is released in September, making it ever more difficult for the BCRP to justify not lowering the reference rate.

There is really only one reason that the BCRP might hesitate in its intentions to begin lowering the reference rate, although it’s a rather large one: El Niño. The likelihood is high that an El Niño event of at least moderate strength will emerge towards year-end. This is why we maintain our inflation figure for the year at 5.0%, despite the strong downward trend of recent months. This is also why we expect the BCRP to be rather slow and cautious in its policy rate decisions even after it takes the first step in reducing its reference rate.