Latam: Previous Week
Last week, Mexico’s inflation data for Jan. 09 suggested that headline inflation continued normalizing while core CPI stayed somewhat sticky (please read our piece posted on February 10th). Moreover, Mexico’s growth indicators were not encouraging at all. Indeed, investment in Nov. 08 fell harder than expected (down 2% y/y), and economic activity indicators for Jan. 09, such as auto data (production down 51% y/y, exports down 57% y/y, and sales down 28%), collapsed. The latter suggests that industrial output continued on a severe slowdown at the beginning of the year. In Chile, trade dynamics in Jan. 09 deteriorated swiftly (exports plus imports down 35% y/y), pointing to harsh downside stress on economic activity, and the central bank delivered a massive cut of 250bps to 4.75% to stimulate an ailing economy. We expect Chile’s central bank to bring the MPR to 3.5% by cutting 125bps in the March meeting; however, a less aggressive approach cannot be ruled out (please read our Focus piece). Finally, in Peru, the trade surplus shrank rapidly to USD 47mn in Dec. 08 from USD 1.02bn in Dec. 07, indicating that the external shock (exports down 31% y/y vs. -4% y/y 3MMA) and slowing domestic demand (imports up 6% y/y vs. +36% y/y 3MMA) are taking their toll on overall economic activity.
Latam: Week Ahead
MEXICO—Industrial Production in Dec. 08 and Economic Activity in 4Q08 likely Contracted Swiftly. We expect Banxico to Cut the ON TIIE Rate by 50bps to 7.25%.
This week’s data will validate the fact that industrial production in Dec. 08 and GDP in 4Q08 suffered dearly from the external shock and fading domestic confidence. Moreover, albeit a weakening currency, we expect the CB committee to deliver another cut of 50bps to 7.25% during the Feb. 20th meeting.
On Tuesday February 17th, INEGI will report on industrial production for the month of December, which will likely print a sharp contraction of 6% y/y (-3.3% y/y 3MMA). If correct, this will bring the industrial sector’s output to a decline of 0.9% y/y in 2008 (1.9% y/y in 2007). In December, the ongoing recession in the US manufacturing sector (-9.5% y/y NSA), together with a decline in Mexico’s auto output (-3.2% y/y) and imports of intermediate goods (-16.5% y/y), likely kept manufacturing production in free fall (-7.3% y/y vs. -2.8% y/y 3MMA). Moreover, the enduring decline in oil output (-7.5% y/y) likely pressed down on mining (-4.1% y/y vs. -3.3% y/y 3MMA). Finally, waning consumer confidence and tightening credit conditions should have kept construction activity in the red (-5.1% y/y), while the overall economic slowdown likely weighted on the utilities sector (-1.1% y/y). The Bloomberg consensus expects a decline of 5.7% y/y.
On Friday Feb. 20th Banxico’s board will decide on the monetary policy rate. We expect the central bank to continue lowering the ON TIIE aggressively by 50bps to 7.25%, as the economy is contracting fast and the inflation outlook is improving. The possibility of a more sizable cut will likely be limited by FX pass-through concerns associated with a weakening currency. In our view, lower rates do not necessarily mean weakening pressures on the currency and, therefore, higher inflation risks, at this juncture. This is because the MXN is mainly responding to falling expectations about global and local economic activity, as well as higher risk aversion, rather than interest rates differentials; therefore, as long as the downside risk to economic activity is perceived to be larger than the inflation risk, the currency will remain under weakening pressures. On the contrary, aggressive rate cuts could help easing excessive recessionary concerns or increase the chances of a prompt recovery once conditions permit, and possibly support the local currency somewhat, as it has been experienced by the CLP. We expect Banxico to slash rates to 5.5% or 6% by mid-year. The Bloomberg consensus expects the CB to lower rates by 50bps this Friday.
Finally, on Friday, INEGI will release economic activity data (IGAE) for 4Q08. We anticipate GDP to have contracted by 2% y/y in 4Q08 (+4.3% y/y in 4Q07 and +2.3% y/y in 9M08), which implies that IGAE decelerated sharply to 1.2% y/y in 2008 from 3.2% y/y in 2007. A deepening recession in the US (-3.8% q/q SAAR in the 4Q08), along with deteriorating domestic and foreign financial conditions and waning consumer and business confidence, likely placed strong downward pressure on overall economic activity. Indeed, severe contraction in industrial production (-4.5% y/y vs. 3.1% y/y in 4Q07), as already reported by INEGI, and an expected decline in services (-1.2% y/y vs. 5.2% y/y in 4Q07) should have dragged economic activity down. The volatile agricultural sector likely expanded by 3.4% y/y (1.4% y/y in 4Q07). We expect economic activity to contract by 1.7% y/y in 2009 (-1.5% y/y to -2.5% y/y range). The Bloomberg consensus expects IGAE to print a decline of 1.5% y/y.
COLOMBIA—Industrial Production and Retail Sales likely continued Worsening
The CB committee will follow closely this week’s economic activity indicators, as well as the behavior of the COP, in order to determine the appropriate monetary policy response during the Feb. 27th meeting. So far, we expect BanRep to cut the ON Lending rate by at least 50bps to 8.5% by the end of the month, given that inflation and inflation expectations have improved and the economy is decelerating fast. A more stable or stronger COP could guarantee a deeper cut of 75bps or even 100bps.
On Wednesday February 18th, DANE will report on industrial production and real retail sales for December, which will likely indicate that the economy experienced a severe deceleration in 4Q08. The ongoing contraction in industrial output probably deepened swiftly in December by falling 15.3% y/y (+8.7% y/y in Dec 07; -8.1% y/y 3MMA), and real retails sales dynamics likely worsened by dropping 3.7% y/y (7.3% y/y; -1.5% y/y 3MMA). Overall, slower domestic and external demand, tighter credit conditions, and fading business and consumer confidence should have continued dragging both activities down. Certainly, auto sales fell by 32% y/y in December from an increase of 26% y/y a year earlier (-17% y/y 3MMA), and energy demand from the manufacturing sector declined by 9% y/y.
PERU—Deteriorated External Conditions likely limited Economic Expansion in December
This week’s data will likely show that unfriendly global economic and financial conditions continued taking their toll on Peru’s economy. Moreover, a cyclical domestic deceleration that will be exacerbated by a high statistical base in 1H08 (GDP grew 10.4% y/y) will likely keep growth subdued during 1H09 (GDP around 3% to 4% y/y). Finally, INEI will report unemployment data for the Nov-Dec-Jan period and we expect it to be about 9.1% (Bloomberg consensus 8.7%). On Friday February the 13th, INEI will disclose economic activity data for December, which will likely print a sharp deceleration to 4.7% y/y (10% y/y in Dec 08 and 8% y/y 3MMA). Overall, poor external conditions and slowing domestic demand, the latter exacerbated by an elevated statistical base, should have weighted on economic activity in December. In fact, expected slow growth in manufacturing (1.2% y/y), other services (3.6% y/y), and commerce (7.5% y/y vs. 12% y/y 3MMA) likely overpowered healthy growth in construction (11.7% y/y) and import taxes (9.7% y/y). Moreover, INEI’s advance report on economic conditions indicated that mining (3.4% y/y vs. 7.4% y/y 3MMA) and utilities (2.9% y/y vs. 5.8% y/y 3MMA) slowed down sharply. The Bloomberg consensus expects GDP to expand by 4.9% y/y.
FOCUS:CHILE—The Central Bank Lowered the MPR Aggressively by 250bps to 4.75% and Signals More Cuts to Come
Unexpectedly, the central bank slashed the monetary policy rate (MPR) by 250bps to 4.75% last Thursday, thus, so far this year, the CB has reduced the MPR by 350bps. We, along with the Bloomberg and Reuters analysts, were expecting a cut of 100bps (max of 150bps). In the communiqué, the bank stated that it lowered the MPR aggressively because it foresees a significant decline in inflation and expects the MPR will converge to a level coherent with the current macroeconomic environment and its risks.
The monetary authority remains concerned about the global economy as it is experiencing a much worse than expected deceleration in the1Q09, there is still high uncertainty about when the global financial crisis will be resolved, and commodity prices remain low.
Locally, the board indicated that available information on economic activity and demand for the 4Q08 and 1Q09 signals a much faster widening of the output gap than what it considered in the last monetary policy report (IPoM). Employment creation has decelerated and credit conditions have tightened, the CB added.
The committee regarded inflation in January as better than expected mainly due to methodological changes with respect to seasonal adjustments in the new CPI series. However, inflation is expected to decline towards the central target (3% +- 1%) anyways. Furthermore, the bank views inflation expectations descending and salaries continuing to adjust according to historical patterns.
Finally, according to the board, the most likely scenario is that the MPR will remain in a descending trend and below what was considered in the last IPoM. Moreover, it expects the MPR to converge in the short term with levels comparable to those implicit in the current prices of financial instruments for mid-year. Overall, the CB reaffirmed its commitment to conduct monetary policy in a manner so that inflation expectations stay around the 3% within the policy horizon.
In our view, further recent evidence of the sharp widening of the output gap, coupled with swift falling of inflation and inflation expectations, prompted the central bank to act dramatically. The strengthening of the local currency and the fact that market participants have come to expect aggressive countercyclical macroeconomic policies will bear fruit in assisting growth, added impetus to a dovish committee. Considering the aforementioned factors, and the fact that the CB is in a forceful easing cycle and financial instruments (CLP Swap – Camara Curve) currently point to rates as low as 3.3% for 1yr horizon and 4.2% for 6mth, we expect the CB to bring the MPR to 3.5% by cutting 125bps in March. However, we do not discard the possibility that a more gradual combination might be put in place. Previously, we expected the CB to bring the MPR to 4.5% by mid-year and 4% by the 3Q09.
The aggressiveness of Chile’s central bank is unlikely to be matched by any other major LatAm country. However, since markets are noticeably more worried about downside growth risks than inflation, and the currencies of those countries with a more aggressive easing cycle are being rewarded (CLP appreciated 2.5% on Friday), it opens the possibility that some central banks might slash rates faster than initially anticipated.
ARGENTINA—Narrower Primary Fiscal Surplus in January
This week, the finance ministry will release fiscal data for Jan. 09. We expect the primary fiscal surplus to have declined by 30% y/y to ARS 2.38bn, which means a surplus of around 3% of GDP on a 12-month rolling basis (3.15% of GDP in Dec. 08). The government already reported that tax revenues decelerated sharply in January (11% y/y vs. 25% y/y 3MMA), driven by a slowing economy and lower international prices of soft commodities, and despite higher revenues deriving from the nationalized pension system. In parallel, government spending likely continued growing at a strong pace (60% y/y vs. 34% y/y 3MMA), in order to aid an ailing economy. The central bank consensus expects a primary fiscal surplus of ARS 2.5bn in January.