The Central Bank of Chile last month dropped its tightening bias that it had maintained since December 2015 in favor of a neutral bias as inflation continued to decelerate.
The central bank raised its rate twice by a total of 50 basis points in October and December 2015 as inflation started to exceed its target range of 2 - 4 percent as the exchange rate of the peso depreciated in response to lower demand of copper from China.
The central bank noted today that Chile's inflation rate fell to 3.4 percent in August from 4.0 percent in July, as it had forecast.
This was the lowest inflation rate since February 2014 and the first time since November 2015 that inflation was below the central bank's upper limit.
The central bank said inflation was expected to remain at 3 percent two years ahead and partial data for the third quarter point to limited growth in output and demand, as it expected.
Confidence indicators remain in pessimistic territory and the labour market gradually worsened, with the unemployment rate rising to a 2016-high of 7.1 percent in July from June's 6.9 percent.
Chile's economy contracted by 0.4 percent in the second quarter from the first quarter, the first decline in Gross Domestic Product since 2010, as copper output was reduced. On an annual basis, GDP expanded by 1.5 percent in the second quarter, down from 2.2 percent in the first.
Chile's peso firmed from mid-January this year to Aug. 11 when the central bank dropped its previous tightening bias and shifted to a neutral stance, a move that may lead to rate cuts later this year, according to analysts.
Since the central bank's board meeting on Aug. 11, the peso has eased and was trading at 672.1 to the U.S. dollar today, down from 648.8 on Aug. 10. But compared with the start of this year, the peso is still up by 5.3 percent.
The Central Bank of Chile issued the following statement:
"In its monthly monetary policy meeting, the Board of the Central Bank of Chile decided to keep the monetary policy interest rate at 3.5%.
Internationally, the movements of the financial markets have been dominated by the prospect of what the Federal Reserve will do at its meeting next week. Anyway, despite some volatility, monetary and financial conditions are still favorable and long-term interest rates remain low. On the activity side, the weakness of recent indicators in the United States and the improvement of Chinese figures stand out. Beyond fluctuations, the prices of copper and oil are similar to those of a month ago.
On the domestic front, annual CPI inflation dropped to 3.4%, in line with forecasts. Expected inflation two years ahead remains at 3%. Partial third-quarter data point at limited growth in output and demand, consistent with the Monetary Policy Report’s baseline scenario. Confidence indicators are still in pessimistic territory. The labor market continues to reflect a gradual deterioration, with a slightly higher unemployment rate.
The Board reiterates its commitment to conduct monetary policy with flexibility, so that projected inflation stands at 3% over the policy horizon. Any future changes in the monetary policy rate will depend on the implications of domestic and external macroeconomic conditions on the inflationary outlook."