Peru’s central bank raised its key interest rate for the first time in 5-1/2 years, noting inflation and inflation expectations exceeded its target range, but added its monetary policy stance remains expansionary and the real policy interest rate is a historic lows.
The Central Reserve Bank of Peru (BCRP) raised its reference interest rate 25 basis points to 0.50 percent, the first change in interest rates since April last year and the first rate hike since February 2016.
The rate hike comes only days after the bank’s respected president, Julio Velarde, agreed to remain in his post for another 5-year term, easing some of the uncertainty in financial markets over the direction of economic and monetary policy under the country’s new presidency of Pedro Castillo.
Velarde has led Peru’s central bank since 2006 and provided a sense of stability to investors through the Global Financial Crises and the COVID-19 pandemic, with inflation largely steady and interventions in foreign exchange markets limited to reducing volatility.
The bank’s board said it considers it appropriate to maintain an expansive policy stance as long as the pandemic continues to have a negative impact on inflation.
Last year the central bank cut the rate twice by a total of 200 basis points to support the economy during the pandemic but began to prepare financial markets for a monetary tightening in June when it dropped its pledge to keep the rate at a rock-bottom 0.25 percent for a prolonged period.
Today the board said it would be attentive to new information about inflation expectations and the evolution of economic activity and if necessary modify its monetary policy.
Inflation in Peru has picked up speed in the last two months and rose to 3.81 percent in July from 3.25 percent in June, the highest since March 2017, and well above BCRP’s target range of 2.0 percent, plus/minus 1 percentage point.
The central bank said inflation was temporarily above its target range due to the rise in international prices of food, fuels as well as the impact of the exchange rate and inflation excluding food and energy was 2.14 percent in July.
But inflation expectations 12-month ahead rose to 3.0 percent in July from 2.6 percent in June.
BCRP still expects inflation to return to its target range in the next 12 months and then remain in that range for the rest of 2022 as transitory factors reverse and economic activity remains below its potential.
Peru’s economy expanded an annual 3.8 percent in the first quarter of this year, the first expansion since the fourth quarter of 2019, with the recovery picking up speed in recent months after the economy shrunk 11 percent in 2020.
The exchange rate of Peru’s sol has been declining steadily since March last year and remains close to all-time lows.
Today the sol was trading at 4.09 to the U.S. dollar, down 11.5 percent since the start of the year, but up 0.5 percent this week.