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ECONOMY | 19-04-2023 21:06

Uruguay leads Latin America with first rate reduction

Uruguay becomes first inflation-targeting country in Latin America to start lowering borrowing costs after economy entered technical recession towards end of last year.

Uruguay became the first inflation-targeting country in Latin America to start lowering borrowing costs after the economy entered a technical recession in the second half of 2022.

The decision to cut its key rate a quarter point to 11.25 percent surprised market participants surveyed by the Central Bank who expected policymakers to leave the rate unchanged Wednesday.

The Central Bank had lifted its key rate 700 basis points to 11.5 percent between August 2021 and December 2022 as inflation accelerated to almost 10 percent last year. The monetary authority’s move marked its first rate cut since the Central Bank readopted a benchmark rate as its main policy tool in September 2020.

“This decision is consistent with the continuity of a contractive monetary policy and the objective of continuing efforts” to bring inflation and inflation expectations within the three to six percent target range, the Central Bank said in a statement.

Growth is being slowed after a drought hit the agriculture sector, one of Uruguay’s top exporters, leading the Central Bank to ease policy to stimulate the economy, Alberto Landeira, economist at brokerage Puente, said in an interview.

“The main reason the Central Bank started cutting rates before other countries is because we have a negative output gap,” Landeira said. “The drought is having a big impact on the economy.”

Major central banks across Latin America have kept interest rates at multi-year highs even as inflation gradually retreats after hitting double-digits in several countries during 2022. Policy-makers are concerned that premature easing might collide with an upsurge in consumer prices that would damage their credibility. In neighbouring Brazil, the economic fallout from high interest rates spurred President Luiz Inácio Lula da Silva to publicly chastise his central bank for strangling growth.

Uruguay’s Central Bank under the leadership of economist Diego Labat has come under fire from exporters who say high borrowing costs are contributing to an overvalued currency. The peso has appreciated 2.3 percent this year, after gaining about 12 percent in 2022.

A strong currency has helped curb inflation, which fell to a 20-month low of 7.3 percent in March. Even so, market participants are sceptical that policymakers will hit their target, with the Central Bank’s most recent monthly survey of analysts forecasting 6.95 percent inflation in December 2024.

by Ken Parks, Bloomberg

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