Colombia forecasts shift after rate hike surprise

Colombia forecasts shift after rate hike surprise

Economy & Policy

Banco de la República lifted Colombian interest rates 25bp, to 3.5%, on Friday, with increased capital inflows among the factors for the hike.

It made for an “unusual beginning” to a tightening cycle, because BanRep had not signaled the rise, and the decision was not unanimous, said Siobhan Morden, head of LatAm strategy at Jefferies.

Further rate rises could be “less aggressive”, however, given the bank had made an early start on the cycle, she said in a research note on Monday. That was supported by BanRep’s indication that a small adjustment now was prudent to cut the likelihood of sharper moves in the future.

Yet the surprise move has pushed some to re-evaluate their expectations on the direction of Colombia’s monetary policy.

The base rate could reach 4.25% by the end of 2014, Itaú-Unibanco analysts said in a research note published on Friday. Previously, they had forecast rates to sit at 3.75% by year-end. They also expect the peso to end the year on a stronger footing, at COP1,950, rather than COP2,000, to the dollar.

“A tighter than expected monetary policy will certainly contribute to attracting more inflows to Colombia, at a time when foreign participation in local market bonds is already increasing,” the bank’s analysts said.

Tightening spreads and rising currencies have hit emerging markets, but have been particularly sharp in Colombia, especially in sovereign debt, as inflows have grown, the central bank said on Friday. JPMorgan's decision to increase the weighting of Colombian peso-denominated sovereign bonds in two debt indices has driven a rush of cash into the country's capital markets in recent months.

BanRep also pointed to positive indicators on domestic growth and inflation, as well as signs of a global economic recovery in its decision to tighten monetary policy.

Inflation is likely to be a determinant factor in future rate hikes, Credicorp analysts said in a research note after the decision. The Andean investment bank expects Colombia's interest rates to reach 4.5% by year-end.

Markets were pricing in more than 150bp of rate hikes over the next 12 months, Bank of America Merrill Lynch analysts said on Monday. The US investment bank expects the rate to rise 100bp this year. LF