April 11, 2013 / 10:16 PM / in 5 years

UPDATE 1-Chile central holds key rate steady, eyes strong peso

* Central bank says peso has further appreciated in
multilateral terms
    * Central bank, gov't met earlier Thursday to discuss peso
    * Currency at same level that triggered intervention in 2011

    By Anthony Esposito
    SANTIAGO, April 11 (Reuters) - Chile's central bank kept its
key rate steady at 5.0 percent on Thursday, as expected, and
underscored that the peso currency has continued appreciating
across the board and that domestic demand remains dynamic.
    It is the second meeting in a row the bank has referred to
the peso's appreciation in "multilateral" terms in its
post-meeting communique.
    The central bank also mentioned that commodities prices,
especially for copper - Chile's top export - have receded in
recent weeks.
    "The fact that the central bank mentioned copper prices are
falling yet the peso keeps appreciating reflects that the
monetary authority notices an uncoupling of the peso with its
fundamentals," said Alejandro Puente, economist at BBVA Chile.
    The peso typically moves in line with copper
prices, as higher prices mean more dollars entering the local
market due to sales of the red metal. The inverse is true of
lower prices.
    In a public display of unease with the matter, Finance
Minister Felipe Larrain met with Central Bank President Rodrigo
Vergara prior to the monetary policy meeting to discuss the
peso's strength.
    The local currency climbed to 465.50 per U.S. dollar on
Tuesday - the same level that had triggered a central bank
currency intervention in early 2011. 
    "We have a prior meeting with the president of the central
bank, where we will discuss in depth the issue of the peso and
other matters," Larrain told reporters earlier on Thursday.
    The central bank has kept its benchmark lending rate
 steady at 5.0 percent since a surprise cut in
January 2012, as buoyant growth, low inflation and a strong peso
- as well as persistent economic threats from abroad - keep its
hands tied.
    "The labor market is still tight and domestic demand remains
dynamic. Credit conditions are somewhat more restrictive," the
central bank said in its post-meeting statement.

    Analysts surveyed in the central bank's latest poll said
they saw the benchmark rate holding steady at least through
December before being hiked to 5.25 percent within 11 months. 
    The bank kept its monetary policy bias broadly neutral,
which in standard monetary policy parlance means it neither
spurs nor curbs economic growth.
    The peso has been buoyed by Chile's robust economy, an
attractive rate differential and healthy prices for copper.
So-called quantitative easing measures adopted in major
economies have also helped fuel the peso's appreciation.
    The peso was one of the strongest performers against the
U.S. dollar among 152 currencies tracked by Reuters after
appreciating 8.48 percent last year and has accumulated an
additional gain of around 2 percent in 2013.
    Though the peso "is likely to remain under strengthening
pressure from capital inflows charged by global liquidity and
attracted by solid fundamentals and high interest rates," there
is limited room for additional appreciation, as an exchange rate
closer to 460 per dollar increases the likelihood of
intervention, said RBS economist Felipe Hernandez.
    Chile's central bank deployed a dollar-purchasing program in
2011, increasing its foreign reserves by $12 billion, to curb
peso strength after it appreciated to 465.50 per dollar, then
its highest level in over 2-1/2 years.
    In recent weeks, the bank has said a currency market
intervention is one of the tools at its disposal, but it has
also highlighted the costs associated with such a move.
    The bank is also concerned with reining in robust domestic
demand, which has been growing faster than gross domestic
product, helping to fuel a widening current account deficit.
    Analysts have said the bank could raise its key rate to rein
in buoyant demand sooner than forecast, but it may have to incur
a currency intervention before a rate hike to avoid further
stoking the strong peso. 
    Over the weekend, bank board member Enrique Marshall said
the bank will act if the local economy maintains dynamism "above
what is reasonable," and interest rates are the best instrument
at the entity's disposal. 
    Sturdy domestic demand, an economy near full employment and
solid levels of investment have protected the world's No. 1
copper producer from a sharp slowdown on the back of global
economic woes, but many analysts are now worried about
    Those fears have not yet materialized in the form of
inflationary pressures. Chile's consumer price index 
posted a 0.4 percent rise in March, its fastest pace since
October, but the 12-month figure of 1.5 percent remained well
below the central bank's tolerance range of 2 percent to 4
    "Headline and core inflation measures are around 1 percent
and 2 percent year-on-year, while inflationary expectations in
the policy horizon remain around the target," the post-meeting
statement said.
    Elsewhere in the region, inflation in Brazil pierced the
government's target ceiling in March for the first time in over
a year. However, the rise was slightly less than expected,
fueling bets the country's central bank could wait until May to
start hiking interest rates. 
    In Mexico, the annual inflation rate also climbed above the
central bank's target ceiling in March, crimping policymakers'
ability to lower borrowing costs as the peso currency soared to
20-month highs. 
    Mexico's central bank cut its key rate to an all-time low of
4 percent in early March in what was seen as a bid to tamp down
its currency, but the peso has kept appreciating, and is up
about 6.8 percent so far this year.
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