(Bloomberg) -- Colombian traders appear to be betting on an excessive amount of monetary tightening next year, according to the governor of the nation’s central bank.
The market is pricing in a full percentage point rise in the policy rate next year, whereas the bank would probably need to see a jump in inflation expectations to contemplate such an increase, central bank Governor Juan Jose Echavarria said Friday. Even if changes in capital flows trigger a large peso devaluation, policy makers would likely hold fire until they could gauge the impact on inflation projections, he added.
“If the exchange rate stays at similar rates to today, we will increase rates slowly,” Echavarria said, in an interview in Bali, Indonesia, where he attending the annual International Monetary Fund meetings. “Maybe we will increase rates a little bit, but for 100 basis points I think you have to have a devaluation which impacts inflation expectations.”
Colombia has been relatively unscathed by the turmoil that has buffeted emerging market peers such as Argentina, Turkey and South Africa this year. The biggest risk to Latin America comes from a “disorderly” outflow of capital as the U.S. increases interest rates, Echavarria said.
Colombia has seen minimal outflows in recent months and last month actually saw inflows, he added. The central bank enjoys a high level of credibility after raising rates in 2015-16 to curb soaring consumer prices, which will help anchor inflation expectations near the target in the event of a peso drop, he said. Annual inflation has slowed to 3.2 percent last month, from 9 percent in July 2016.
“These days no one talks about inflation in Colombia,” since it is close to the 3 percent target, he said. Annual inflation will end the year at about 3.1 or 3.2 percent, and will be close to the 3 percent target next year, he said.
Echavarria’s comments on traders’ interest rate bets echo remarks he made in July, when he said he “doesn’t get” the market’s view. The most recent central bank survey of economists shows that analysts expect the bank to raise its policy rate to 4.5 percent in April, from 4.25 percent currently.
The bank last month said it would accumulate foreign reserves over the next two years, ahead of a possible reduction in the nation’s $11.4 billion flexible credit line with the IMF.
“We want to increase the buffer because we are going to have rough times in the world over the next two years, I’m afraid,” Echavarria said.
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