Saturday, June 27, 2009

Are We At the End of the Monetary Easing Cycle?

Emerging market countries are facing a difficult choice: to continue or not the monetary easing. On the one hand, most EMs were not facing inflationary pressures 2009, mostly because of the absence of food prices (decrease in commodity prices). On the other hand, given the severity of the US financial crisis, most Central Banks abandoned (at least on a temporary basis) their inflation target regimes and decreased rates as a way of avoiding the crisis to become widespread worldwide. However, by June 2009, many countries had reached or neared the trough in their interest rate cycles. It may be the case that the pace of easing in most countries will slow from Q2 as central banks tune back in to inflation risks as growth bottoms out. Currency depreciation may also cause slowing in the pace of easing, especially among emerging markets dependent on offshore capital flows.

It seems that the Central Banks in Latin America are slowing down the pace of easing. The largest rate cuts in the world this year were seen in this region as rates started from a high base. Colombia kicked off the region's easing cycle with a 50bps rate cut in Dec 2008 and bottomed at 4.5%. Chile surprised with whopping 250bp cuts in Feb and Mar 2009. Mexico suggested in June that it's approaching the end of easing. Peru's easing is still going strong, with another 100bp cut in June and a dovish forward bias.

Another strong reason for slowing down the pace of monetary easing is due to the fact that approximately 20 emerging market economies are following an inflation targeting regime. Nearly every country is facing inflation figures above the center of the established target. Biggest gaps between actual and target inflation: Ghana, Guatemala, South Africa, Turkey, Romania, Philippines, Serbia, Chile, Czech Republic, Hungary, Poland, Slovakia, Israel, Colombia, Peru. We should also take into account that another barrier against easing: currency depreciation pass-through, tougher inflation-output trade-offs and pressure from public opinion and politicians. It is also true that most EMs are experiencing higher growth and inflation than the US. In Russia, India, China monetary policy remains expansionary.


  1. Hello,

    I hope you are well Vittoria. Would you believe I found the link to this in twitter. Yes you would :)

    Anyway, have a nice weekend, and keep up the good work. Bear in mind there is a huge difference between the Eastern European countries you mention (which are in the throes of a huge crisis) and places like Columbia, Peru, Chile, Philippines, Indonesia etc.

    Also, South Africa seems to be something of a special case, seems it seems to resemble what happened in New Zealand more and more with every passing day.


  2. Hi Vitoria,

    I read an article in the Economist about Brazil ("Ready to roll again" - just search it from problems copy/pasting here). They are really positive about Brazil's recovery. In reference to your article, the Economist mentions another caveat to easing further: the central bank policy rate, 9.25%, is nearing the fixed nominal rate of a national saving account (of sorts), 8-9% range. And if the policy rate falls further, the government is worried about the marketability of government bonds, as households increasingly put their money into this private saving account. Kind of interesting.


  3. Rebecca, Thanks for your comment. It is true about the problem regarding the savings. But next year, the savings rate will be lower than the Selic and the old connection that existed between the savings rate and the Selic will be over. THis is an important topic and i might touch on that further latter.