The big news of the week had to do with, first, the rate hike by the Central Bank and, second, the publication of the September Monetary Policy Report, which provides a more comprehensive rationale for that decision.

In case you haven't seen it, here's a summary: The Issuing Entity raised its growth estimate for 2021 to the 10.5%–11.5% range, due to greater expansion in consumption (private and government), fueled by state aid, greater liquidity, and the lifting of lockdown restrictions. This, in a context of supply constraints, temporary depreciation of the exchange rate, and rising costs, also led to an adjustment in the inflation forecast from 4.4% to 5.7% by the end of the year. In response, the Council decided to raise the MPR by 75 bp to 1.5%, with further increases to follow in upcoming meetings in both 2021 and 2022.

I must admit that this surprised me. If you read my last column, you will have noticed this. But if we assume that the Central Bank's macroeconomic scenario is correct, it is difficult to argue against its decision and, above all, the tone it sets for the future trajectory of monetary policy. In June, household spending exceeded projections, which is compounded by the expansion of government aid and a higher-than-expected marginal propensity to consume (i.e., the percentage of income devoted to consumption) among the average population. If we add to this the high level of liquid balances, either in checking or demand deposit accounts, which has not been used to supplement other sources of savings, we can intuit that consumption will continue to be dynamic.

Additionally, the exchange rate has depreciated in circumstances where macroeconomic fundamentals would indicate that it should have appreciated. And we are not just talking about the dollar, as this should have happened multilaterally as well. Many suggest that this would be imported inflation, which is far from the truth. The exchange rate depreciation is, in the Central Bank's own words, idiosyncratic. I recognize the institution's courage, as it is very difficult to be so correct at a time when none of the other actors are (particularly certain sectors of parliament). The depreciation is due to local uncertainty, changes in the rules of the game, the decapitalization of the financial system, and the possibility that local political and economic institutions will end up collapsing. Is that international? I doubt it.

Given the above, approximately 75% of the reasons for higher inflation would be local. The other 25% would be international, but given their interaction, the percentages probably overlap considerably, considering that, for example, many supply-side inflationary pressures are often not passed on to final prices because demand does not provide the conditions to do so. A rise in costs is not always passed on to the consumer: it is absorbed by margins. A temporary increase in demand does not always lead to higher prices if inventories are high and there is strong competition between firms. Therefore, it is the overall context that is causing inflationary pressures, and this cannot be ignored.

Consequently, in accordance with its constitutional mandate and exercising its powers, the Council decided to raise the MPR by 75 basis points to 1.5%, sending a message of concern about the future and making it clear that further increases will be necessary. How much more? Quite a bit more. So much so that it is highly likely that in March 2022 the benchmark rate will be around its neutral level (3.25%) and then exceed this value for a few quarters.

Finally, warning signs. Given that some, who should stop looking at the speck in their neighbor's eye and see the log in their own, have acted outside their powers, the inflationary and financial situation could spiral out of control. A fourth withdrawal (or a total one), fiscal non-convergence, or other creative measures along these lines would cause imbalances that NO central bank in the world could compensate for. In the words of the same report, it is mentioned that "The Central Bank will act in accordance with its mandate to control inflation, a task that will be less costly for the economy to the extent that other actors contribute to restoring the macroeconomic balances that have been lost during the pandemic." We hope that the last bastion of economic sanity in the country can open the eyes of the rest.

Nathan Pincheira 

Chief Economist at Fynsa