Banco de la República reiterates the 3.0% Inflation Target and reduces the Benchmark Interest Rate by 25 bp to 4.75%

The Board of Directors of the Central Bank of Colombia reiterates the 3.0% inflation target, in a range of 2.0% to 4.0%. The monetary policy action will continue to be directed to reaching the 3.0% target. The inflation result may oscillate around this level depending on macroeconomic or sectorial shocks and on the dynamics of the inflationary process.

The Board, at today’s meeting, decided to reduce the benchmark interest rate by 25 bp to 4.75%. For this decision, the Board mainly took into account the following aspects:

• In October, inflation increased, reaching 4.05%. The acceleration of inflation was mainly explained by the behavior of the food CPI. The average of core inflation indicators continued descending, standing at 4.5%.
• The observed inflation continued to be inferior to the expected by the market and by the Central Bank´s technical staff, mainly because of the good behavior of the groups of food, and tradable goods excluding food and regulated items. Inflation expectations recorded slight changes. Those by analysts to December 2017 and 2018 decreased and stand, on average, at 3.95% and 3.49%, respectively. Those embedded in public debt bonds remain above 3.0%.
• The direct effects of the strong transitory supply shocks that deviated yearly inflation from its target have faded. The effects of the indexation of prices and of the increases in indirect taxes at the beginning of the year are expected to reduce, and with this, that inflation and core inflation measures converge to the target.
• In Colombia, the output growth of the third quarter (2.0%) was lower than the forecast by the technical staff of the Central Bank (2.3%). The dynamics of the domestic demand was weaker than expected. The behavior of exports contributed to the growth. These figures confirm the persistence of economic growth below its potential; for this reason, the underuse of the installed capacity of the economy is expected to continue expanding.
• External demand continues recovering, driven mainly by developed economies. Oil prices increased, and the terms of trade are expected to end the year above the average level recorded in 2016. In the United States, the Federal Reserve is likely to increase its policy rate during the rest of the year. The exchange rate has been volatile and, on average, the peso has depreciated vis-à-vis the US dollar in the last month.

Based on this information, the Board considered the following factors for its decision:

• The lower level of inflation versus the forecast from the last months and the lower projections of the technical staff in the policy horizon. This behavior has been registered in several of the sub-groups of the CPI, especially food and tradable goods excluding food and regulated items. These results suggest that convergence of inflation to its 3.0% target could be faster, although uncertainty in this regard remains high.

• A weaker-than-expected economic activity and the risk of a slowdown beyond what is compatible with the deterioration in the income dynamics due to the fall in oil prices. Recent indicators point to larger excesses of capacity of the economy, although the uncertainty in terms of their size is high.
• Although the orderly adjustment of the current account deficit is expected to continue, there are risks in the international environment that may affect such adjustment.

In this context, given the greater weakness of the economic activity and the lower inflation forecasts for 2018, the Board of Directors deemed appropriate the reduction of the benchmark interest rate by 25 bp. However, the international environment poses risks that limit the countercyclical capacity of monetary policy in the future. Therefore, new reductions will depend on the speed of the convergence of inflation to its target, on the evolution of the excess of productive capacity, and on the behavior of external variables.

The decision to reduce the benchmark interest rate was approved by five (5) members of the Board. The two (2) remaining Board Members voted to maintain the policy rate at 5.0%.

Bogotá,