Evening Edition – Argentine government eases inflation targets for 2018 and 2019

The central bank’s new targets are 15% for 2018 and 10% for 2019, versus the previous targets of 10 ± 2% and 5% ± 1.5%, respectively.

Talk of the Day
The central bank will target higher inflation in 2018. The central bank’s new targets are 15% for 2018 and 10% for 2019, versus the previous targets of 10 ± 2% and 5% ± 1.5%, respectively. For 2020, the target is 5%. None of these new targets include a tolerance range. The new goals were announced by Nicolás Dujovne (Minister of the Treasury), in a press conference with Marcos Peña (Chief of Cabinet of Ministers), Luis Caputo (Minister of Finance) and Federico Sturzenegger (President of the Central Bank). Sturzenegger added that current monetary policy was set based on a different inflation target for December 2018, suggesting that cuts in the reference rate (currently at 28.75%) are likely.
We think that the challenging inflation environment and an expected increase in inflation expectations leaves little room for a rapid and significant drop in interest rates. While the latest survey of expectations revealed that agents expect a 16.6% increase in consumer prices in 2018, we note that the chances of initiating a cycle of monetary easing in 1Q18 have increased markedly. High frequency indicators show that core inflation has not deteriorated in December (1.4% MoM in November), despite an expected acceleration in the headline reading to 2.5% MoM, up from 1.4% in the previous month. The last three-month moving average for core inflation stands at 18.4% annualized, down from 21.1% in September and 25.5% in April. We forecast inflation of 24% by December this year and 18% by end-2018.
** Full Story here.

Economic activity improved in October. The EMAE (official monthly GDP proxy) grew 5.2% YoY in October, following a downward revision to 3.2% in September (from 3.8%) and a 4.3% gain in August. At the margin, activity increased by 1.1% QoQ/SAAR, down from 3.5% in the quarter ending in September, reflecting a 0.2% MoM/SA expansion in October and a revised decline of 0.3% in the previous month (down from a 0.1% gain previously estimated by INDEC). The EMAE is 2.8% higher in the first ten months of 2017 than in the same period a year earlier.

We forecast growth of 2.9% this year and 3.5% in 2018. A positive statistical carry-over (0.6% as of October) and improved sentiment for investment will, in our view, likely help to sustain economic growth. The downward risks to our forecast depend on the impact of new rounds of hikes in regulated prices on consumer confidence and the high ex-ante real interest rates. ** Full Story here.

In its last session of the year, the Senate passed into law the 2018 budget and the tax reform bill. The budget sets a primary fiscal deficit of 3.2% of GDP (down from an estimated 4% this year). The tax reform bill seeks to reduce the tax burden and labor costs for companies, thereby encouraging them to invest. Its main changes include a gradual reduction in the corporate income tax rate (to 25% from 35%) starting in 2019, a cut in payroll taxes and the phasing out of the tax on financial transactions (use of checks) during the next five years. To partially offset the fiscal cost of the bill, the country will see increased levies on alcoholic and sweetened beverages and the introduction of a tax on earnings from financial assets (deposits, bonds) held by individuals. Still, the government estimates a fiscal cost of 1.5% of GDP in five years and is relying on a higher growth rate to compensate for this cost.

The package of legislations passed by the Congress during the last days includes the fiscal responsibility law, the fiscal pact between the Nation and the provinces, and the pension reform. The first law caps the real growth of provincial and federal primary expenditures at zero, while the fiscal pact reflects the agreement with provincial governors to cut provincial taxes and compensate the province of Buenos Aires after its role in a tax-sharing revenue dispute. The pension reform will likely permit the treasury to achieve savings in 2018 up to 0.4% of GDP in 2018 which will offset the estimated cost of the compensation to the Province of Buenos Aires (0.2% of GDP). The pension law establishes a new formula to adjust payments to pensioners, which will use now an index made up of the CPI (70%) and a wage index (30%) instead of the evolution of social security contributions and wages. Adjustments to pensions will now be made on a quarterly basis (it was previously done on a semi-annual basis). Among other things, the law permits workers to postpone their retirement until age 70. The option can be exercised every year after a person reaches the minimum age for retirement (65 for men and 60 for women). Under the previous legislation, companies could compel workers to retire.


The Central Bank of Mexico published the minutes of its last policy meeting – where the board decided to hike the reference rate by 25 bps (to 7.25%) – with an unequivocal hawkish message, signaling that a rate hike is highly likely in the next meeting. December’s statement was already pretty hawkish, as it added new phrases to the policy bias paragraph which indicate that Banxico is inclined to more hikes in the short-term. These phrases are: “the board is monitoring inflation with respect to the expected trajectory” and “vigilant to take actions as soon as necessary”. “Expected trajectory” is the key, considering that this reference was absent in previous statements and Banxico began publishing point estimates of the expected inflation trajectory in August’s quarterly report (an innovation in its communication framework). The issue is that, as revealed by the minutes, the majority of board members now see a slower convergence to the 3% inflation target compared to what they expected previously (November’s quarterly report) and all agree that the balance of risks for inflation has deteriorated. In fact, one board member – probably the one who dissented in December’s meeting (voting for a 50-bp hike, instead of 25 like the others) – argued that this balance is “overwhelmingly negative”.

Considering the looming risks related to NAFTA, U.S. policies (monetary and fiscal), and Mexican presidential elections – and, of course, the clear hawkish tweak in recent communications – we expect a 25-bp rate hike in February. Previously our scenario penciled-in one additional rate hike, after the likely Fed rate increase in March. While we continue to expect the policy rate to peak at 7.5% next year, the risks are clearly tilted towards more rate hikes. The recent economic data are also supportive of this view. Annual inflation surprised to the upside in the first half of December, almost matching the peak recorded in the second half of August, and volatility in the FX market has increased significantly, forcing the Foreign Exchange Commission to step in by increasing the utilized capacity of its FX swap facility (to 28%, from 25%) at the beginning of this week.
** Full Story here.

The Ministry of Finance will announce November’s fiscal balance tomorrow at 6:30 PM (SP time). We expect the fiscal deficit indicators to continue narrowing, as fiscal consolidation makes headway. Moreover, the increase of oil prices likely boosted government revenues in November.


The consolidated public sector posted a small primary deficit of BRL 0.9 billion in November, better than our forecast (-5.3 billion) and market consensus (-6.0 billion). The consolidated primary deficit accumulated over 12 months reached 2.3% of GDP. The central government’s result, as published by the National Treasury, was a surplus of BRL 1.3 billion (our estimate: -3.8 billion; Central Bank methodology: -0.4 billion). The surprise was caused by lower discretionary expenses, which were not yet affected by the BRL 25 billion in announced budget unfreezes since September. Hence, this line of spending is expected to accelerate sharply in December and the primary budget result will probably be a large deficit. In November, regional governments and state-owned companies posted a deficit of 0.8 billion and a surplus of BRL 0.2 billion, respectively (while we anticipated zero and a surplus of 0.2 billion). With positive surprises in terms of recurring and extraordinary revenues, mandatory expenses below the budget, and better results from regional governments and state-owned enterprises, the primary result for 2017 will be at least BRL 15 billion (0.25% of GDP) better than the target of BRL 162 billion (-2.5% of GDP) set for the consolidated public sector.

Notwithstanding the latest figures, fiscal readings remain in a structural trend of deterioration. The nominal deficit remains high (at 8.6% of GDP over 12 months, excluding the Central Bank’s gains on FX swap transactions) and the general government’s gross debt reached 74.4% of GDP, reinforcing the extreme importance of reforms (particularly the pension reform) to correct the nation’s fiscal imbalance. ** Full Story here.

According to FGV’s latest industry survey, business confidence in the industrial sector (FGV) rose 1.3% mom sa in December to 99.6. The final reading came in well above the preview, which showed stable confidence. The confidence breakdown shows improvement in both expectations (1.4%) and the current situation index (1.3%). Capacity utilization rose 0.3 pp to 74.5, meaning 1.6 pp upside in the annual comparison. Inventories fell to 4.1% from 4.7%, reaching the lowest level since 3Q13. All in all, the surveys continue to show a gradual recovery is underway, providing a rosier view than hard data released in recent weeks.

The nationwide unemployment rate for November will come out tomorrow at 9:00 AM (SP time) – we forecast it to reach 12.1% (consensus: 12.0%). Using our seasonal adjustment, the unemployment rate would stay unchanged at 12.5%.


The board of the central bank adopted a more cautious approach to monetary policy in December as November inflation surprised to the upside, while the average core measure halted its decline. The decision to stay on hold at 4.75% in December had the full support of the board, compared to the 5-2 split to cut the policy rate by 25-bp in November. Even though the board notes the muted reaction, at the time, of risk measures, yields and exchange rate to the decision by S&P to downgrade the sovereign credit rating to one notch above investment grade (BBB-, stable outlook), we believe the pronouncement likely supported the adoption of the data-watch mode. Although, the board acknowledges that the margin for further easing is limited, there are indications that the cycle still has some room to run. Nevertheless, the board felt it opportune to obtain additional data on inflation, activity and the exchange rate before implementing another rate cut.

We expect the central bank to resume its easing cycle in 2018. Still weak activity, a fragile labor market, the improving external imbalance and well-behaved inflation expectations support more easing. Hence, provided external financial conditions for emerging markets remain benign, we see the policy rate being lowered to 4.0%.


Tomorrow, the national statistics agency (INE) will publish the industrial activity indicators for the month of November at 10:00 AM (SP time). We expect manufacturing production to decrease 0.8% from last year, in line with the consensus. INE will also release tomorrow the national unemployment rate for the quarter ending in November at 10:00 (SP time). We see the unemployment rate reaching 6.5%, up 0.3 pp from one year ago and in line with the Bloomberg market consensus.

All LatAm

Market Conditions Index: Slight improvement in Brazil’s market conditions. LatAm financial conditions declined at the margin to 0.07 (from 0.24 in November) in December, amid receding financial conditions in most countries tracked. As a result, the three-month moving average declined to 0.22 from 0.50 in the previous month. Financial conditions in Mexico (influenced by a weakening exchange rate), Chile (falling stock market) and Peru (stock market losses and exchange rate depreciation) contributed to the slowdown during the month. On the other hand, financial conditions improved in Colombia (exchange rate appreciation and rising stock market). Brazil had a slight improvement during the month, as the commodity component advanced, despite declines in some financial variables.
** Full Story here.

Fuente: ITAU

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