While rate cuts in January seem likely (around 150bps), it will be hard to ease the monetary policy afterwards
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Analysts increased their inflation forecasts for this year in the latest Central Bank survey of expectations.We note that the survey took place before the unexpected announcement of higher inflation targets for 2018 (15% without tolerance range versus 10±2%, previously) and 2019 (10% without tolerance range versus 5±1.5%), suggesting that further increases in inflation expectations are likely to be shown in the next survey to be published in early February. Inflation expectations for 2018 increased to 17.4% from 16.6% in the November survey. This is the eight consecutive revision since March when participants expected 14% inflation for this year. The reading is still above the new inflation target. Analysts also now expect higher inflation in 2019. The survey showed an increase to 11.6% from 11.3% in the November poll.
In our view, these results illustrate the limits to reduce dramatically the reference rate. In the press conference announcing the target changes last week, Governor Sturzenegger suggested that the new (higher) targets leave room for lower interest rates. In fact, on the very day of the announcement, the central bank started to supply its short-term sterilization bills (Lebac’s) at lower rates. We think the decision to increase inflation targets will likely turn disinflation even harder as inflation expectations will likely continue to increase amid the key wage bargaining season. Consequently, while rate cuts in January seem likely (around 150bps), it will be hard to ease the monetary policy afterwards. In particular, we expect unfavorable inflation data on December and January.
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Peru’s statistics institute (INEI) published the full set of coincident indicators for November’s economic activity. The highlight is the pick-up of metallic mining output, which accelerated to 5% year-over-over (after falling by 1.6% in October, due to a base effect). Given this result, we estimate that natural resource sectors expanded 0.9% year-over-year in November (from a 1.3% contraction in October), in spite of the delay in the second fishing season (which is reflected in the 45.6% year-over-year contraction of fishing output in November). In fact, the delay of the fishing season is what is holding back manufacturing (specifically through the processing of fishing goods), considering the part of manufacturing unrelated to natural resource sectors is actually gaining traction. In fact, the purchase orders indicator (Peruvian PMI) reported in the Central Bank’s survey and non-commodity exports are firming up. On the contrary, construction likely lost a little steam in November (after a very strong October) as indicated by somewhat slower cement consumption and public investment. We believe that non-natural resource sectors expanded 3.6% year-over-year in November. This re-balancing of growth sources (in favor of the more labor intensive non-natural resource sectors, and away from the volatile natural resource sectors) will likely have positive implications for the labor market in coming quarters. All things considered, our forecast for November’s GDP growth is 3.1% year-over-year, which would lift the three-month moving average growth rate to 3.1% year-over-year (from 2.9% in October).
The business confidence index ended 2017 on a slump. Icare’s index completed 45 consecutive months in pessimistic territory and moderated its gain over the 12-month period. Part of the explanation may come from some political uncertainty during the month of December ahead of the runoff vote (December 17), but cooling mining production is also behind the print. Headline business confidence gained 2.5 points from the end of 2016, moderating from the 6.0 point average increase in the previous three months. Yet, total confidence came in at 44.0, the highest December recording since 2013 (50.9). The mining sub-index returned to pessimistic territory for the first time this year, in spite of elevated copper prices. Mining confidence fell to 39.7 points from 52.2 one year ago and 50.7 in November. While the performance of copper prices would pull mining confidence up going forward, pessimistic expectations regarding future expansions of production could hamper gains. The confidence index excluding mining is at 45.0, 6 points up from December 2016. Commercial confidence is still in optimistic territory at 56.4 points (from 49.0 one year ago and 53.9 in the previous month). Meanwhile, industrial confidence increased 2.5 points over the twelve-month period to 42.6 points (45.5 in November) and construction confidence rose 11.1 points to 34.4 points. Elevated copper prices, a change in the political cycle, low interest rates and a favorable global environment will likely boost confidence in 2018 and aid a meaningful activity recovery from the 1.5% estimated for 2017 (1.6% for 2016).
Tomorrow, the central bank will publish the GDP proxy (Imacec) for the month of November at 9:30 AM (SP time). In the month, mining production increased 4.2% as production operates near capacity and manufacturing posted some improvement. We also expect durable sales to have stayed firm. We expect the GDP proxy IMACEC to grow 2.6% year-over-year (consensus: 2.5%). Later, at 10:00 AM (SP time), INE will publish nominal wage growth for November. As the labor market remains fragile and inflation low, nominal wage growth would remain contained.