The balance of risks for inflation is tilted to the downside

As widely expected by the market, the central bank of Chile held the policy rate at 2.5% in October.However, building on the downside inflation surprise in September, the press release now includes an easing bias. This means the probability that additional easing occurs in the short-term has increased, and the likelihood of this event will hinge on incoming inflation prints.

The short-term risks to inflation outlined in the 3Q Inflation Report (IPoM) have become more likely. The central bank sees inflation in the short-term below expectations, which could affect the trajectory to the 3% target over the relevant 2-year horizon. Hence, the evolution of inflation will receive special focus and ultimately determine whether a looser monetary policy is required. Meanwhile, the board is content that activity is unfolding as outlined in the IPoM.

Despite highlighting the September inflation surprise, the board downplayed its impact on inflation expectations. The press release noted the significant downward adjustments to short-term inflation expectations, however indicated the change to the longer-term outlook was more “contained”. We note, that the two year inflation forecasts from the central bank’s trader survey dipped 0.1pp (to 2.6%) from last month, while asset prices fell between 0.1 and 0.2pp for a 2-10 year horizon following the publication of the inflation figure. The board’s stance is in line with a cautious approach to not commit to additional easing before further information (mainly on inflation) is gathered, and its analysis convinces the board the inflation trajectory has materially departed from the IPoM’s baseline scenario.

We still see the board leaving the policy rate at 2.5% for an extended period as our base case. This is in line with our expectation of a 0.2%-0.3% October monthly inflation (0.2% one year ago; -0.2% in September). Nevertheless, a strong currency and inertia from indexation mechanisms will keep the balance of risks for inflation tilted to the downside. Hence, new rate cuts will likely come if additional downside inflation surprises materialize.