Latin America's central banks poised to join global rate cut party

With inflation subdued in Latin America and its top economies flirting with recession, central banks are gearing up to join emerging market peers from Asia to Africa in cutting interest rates.

Brazil is expected to reduce borrowing costs next week for the first time in over a year, after yet another inflation reading surprised economists to the downside. A slowdown in Mexico’s annual consumer price index on Wednesday reinforced the outlook for monetary easing, whether sooner or later, and Peru said it’s considering the same.

Elsewhere in the region, Chile already delivered a stunning 50 basis points cut last month, and has said it could ease its policy further this year. And even Paraguay this week reduced its key rate to an eight-year low as below-target inflation allowed policy makers to stimulate a weakening economy.

“The stars have aligned for rate cuts in Latin America,” said Alberto Ramos, chief Latin America economist for Goldman Sachs.

Expectations that the US Federal Reserve will soon lower interest rates are encouraging Latin American central banks to do the same. Besides that, falling inflation rates are a sign of widespread economic weakness in the region that, according to the International Monetary Fund, will grow just 0.6 percent this year – the worst in three years. That is heavily dragged down by growth of less than one percent in Brazil and Mexico, its two largest economies.

To be sure, benchmark interest rates have limited impact in many Latin American countries given that informality often saps the strength of monetary policy decisions.

Brazil’s reform

Domestic reasons are also playing their part in the outlook for lower rates. Brazil’s Central Bank has signalled that advance of a crucial proposal to overhaul the country’s pension system is essential for a rate cut. The bill passed its first and biggest legislative hurdle this month and, after economists revised down their 2019 growth estimates for five straight months, even former policy makers began calling for meaningful monetary easing.

“Brazil’s economy is not growing and the Central Bank’s balance of risks have shifted in a way that allows for rate cuts right at the next meeting,” said Bloomberg Latin America economist Adriana Dupita. “Now the debate is about how intense the easing cycle will be, how much can they cut and for how long.”

Mexico’s slowdown

The withering growth outlook for Latin America’s second-largest economy puts monetary easing in the cards, possibly as soon as August, according to Capital Economics. A rate cut may become even more likely after the Fed reduces its policy rate later in the year. Changes to the board of Mexico’s Central Bank may also have an impact, but those are unlikely to happen before 2021.

“Mexico will eventually cut rates dramatically,” Edwin Gutiérrez, head of emerging-market sovereign debt at Aberdeen Asset Management, said in an email. “In the meantime, they have to deal with the fact that they still have three hawks on the board. That’s going to change next year.”

Last week policy makers in Chile cited slow inflation and weak growth as signs that further monetary stimulus may be needed, while Peruvian counterparts likewise floated the possibility of an easing cycle.

Colombia may take longer but will eventually “join in on the fun,” Gutiérrez said. For now, expectations for steady growth and accelerating inflation give Colombian policy makers less room to cut rates.

The real outlier among the region’s major economies is Argentina. Its benchmark interest rate remains the world’s highest above 58 pecent even after dropping more than 15 percentage points since May.

The Central Bank has kept a super tight monetary policy, with strict controls over the amount of pesos in circulation, as it seeks to prevent a currency rout in the run-up to the October presidential election.