Chile - Economic Briefing November 2003

Economy Gets a Lift from Global Rebound (continued)

Inflation drops to historic lows in October
In October, consumer prices dropped 0.16%. The decline in consumer prices came as a surprise since the market had anticipated prices to rise by 0.55%. According to the National Statistical Institute (INE), October’s price movement was the lowest registered for any October since 1966. Lower transportation costs constituted the main driver behind the October price decline but other factors, such as lower prices for food and household equipment also contributed to the decline. As a result of the unexpected drop, annual headline inflation fell a full percentage point, from 2.2% in September to 1.2% in October, the lowest rate since 1945. In the immediate future, the recently introduced 1.0% hike in the value-added tax (VAT) should exert some upward pressure on consumer prices but the effect is likely to be contrasted by lower prices for imported goods following on the strong appreciation of the peso observed in the past months. Therefore, the record low annual headline inflation rate registered in October is likely to mark the bottom, as moderate price hikes expected for November and December will be sufficient to lift the annual headline inflation rate beyond the 2.0% threshold by the end of the year. Currently, the Consensus expects inflation to reach 2.5% by the end of this year, below the 3.0% projected by the Central Bank. By the end of 2004, Consensus Forecast panellists expect headline inflation to rise to 2.8%, broadly in line with the 3.0% rate expected by monetary authorities.

Peso continues to strengthen in October amid favourable copper prices
In October the peso accelerated its appreciation trend observed since March this year, when the currency had reached a historic low at 758 pesos per US$. The currency appreciated another 5.9% nominally versus the US$ in October, compared to a 5.2% appreciation in September. With an exchange rate of 628 pesos per US$, the currency reached the highest level registered since June 2001. Compared to the end of last year, this represents a nominal appreciation of 13.4% to the US$. The recent strength of the peso is based on a more positive outlook for the Chilean economy and the rapid increase in copper prices in the past three months. As a result, Consensus Forecast panellists have substantially lowered their year-end exchange rate forecast from 693 pesos per US$ expected last month to the current 659 pesos per US$ and are likely to continue to revise their exchange rate forecasts if the underlying fundamentals – mainly a higher copper price – persist. Moreover, in 2004, the currency will hardly budge, with the current year-end Consensus at 666 pesos to the US$. The export sector already is beginning to complain about the strength of the currency and laments that the current appreciation trend may jeopardise the competitiveness of Chilean goods in international markets. Nevertheless, the Central Bank confirmed at the end of October the intention not to intervene in the foreign exchange market to slow the appreciation of the peso. Since 1999, the peso has been floating freely and the Central Bank has intervened only in exceptional cases in case of short-term turbulence, such as following the Argentine devaluation and Brazil's financial crisis last year.