Colombian Central Bank Reduces Interest Rate by 25 Basis Points to 7.0%; Some Analysts Forecasted Larger Cut

At yesterday’s central bank meeting, the board of directors of Colombia’s Banco de la República agreed to cut the nation’s benchmark interest rate by 25 basis points to 7.0%. Though this marks the third 25-point reduction in the past four months, some analysts had projected a larger move to ease monetary policy by 50 basis points.

Colombia’s largest bank, Bancolombia, was among those forecasting a 50-point cut due to recent data that has “made evident the need for the bank to move monetary policy closer to neutral territory.” But while the Banco de la República largely agreed about the inflation trend and first-quarter economic indicators in its statement, the board members were not prepared to make as drastic of a reduction as Bancolombia expected.

The central bank says its primary reason for another 25-point cut was consumer inflation falling for a seventh straight month, dropping to 5.18% in February. This is yet another step down from the 16-year high of 8.97% seen last summer, and the bank’s analysts now expect inflation to retreat down to 4.49% by December, nearly in line with the target range of 2%–4%. The board is also now forecasting the rate to reach 3.6% in 2018 with the potential to get down to 3.0%.

“In this environment, the board considered that a 25-basis-point reduction is consistent with the risks balance, and also with the objective of reaching the inflation target of 3.0% in 2018,” said the Banco de la República in a statement. “Additional reductions will consider the risk balance between a slow convergence of inflation to its 3.0% target and an excessive slowdown of economic activity.”

The central bank also noted that recent economic indicators — including retail, industrial production, and consumer confidence — suggest that there has been a weakening of the economy in the first quarter of the year. This leaves a wide range for GDP expansion in 2017, with the technical staff predicting a growth rate of 2.0%, albeit with a downside of 0.7% and an upside of 2.7%

These factors led to a vote that was less uniform than previous meetings. Four members agreed on the 25-point decrease, while another was in favor of a 50-point cut and the final member voted for no change. “The message seems to be that the board as a whole is comfortable moving in 25 basis points moves for now,” said London-based research firm Capital Economics in a note to investors.

Capital Economics noted that the outcome was in line with its prediction, as well as the market consensus, and a 25-point cut was already “priced into the market.” But the research group says there it believes there is still room for a larger reduction in the months to come if the central bank members gain enough confidence. Overall, it continues to project Colombia’s interest rate to settle at 5.5% by the end of 2017.

“We suspect that policymakers are waiting for inflation expectations to fall,” wrote Capital Economics. “To a greater extent than most others in the region, Colombia’s central bank is extremely sensitive to market inflation expectations and tends to be reluctant to take big moves unless expectations are anchored within its target range for inflation. Inflation expectations are falling and we expect them to drop further over the coming months. For now, the Banco de la República is likely to continue to move in 25-basis-point steps, but we would not rule out an increase in the pace of easing towards the end of this quarter.”