Monetary Policy Rate Increases to 5.25%

Arguing that the predictions suggest that inflation in 2019 could be above the upper limit of the target range, the Central Bank of Costa Rica decided to raise the monetary policy rate from 5% to 5.25%.

Thursday, November 1, 2018

From the statement of the Central Bank of Costa Rica:

November 1st, 2018. The Board of Directors of the Central Bank of Costa Rica (BCCR), in the session of October 31st, 2018, decided to increase the monetary policy rate (TPM) by 25 basic points to 5.25% annually. The Board of Directors also agreed to increase the gross interest rate on one-day deposits (DON) by 19 basis points to 3.23% annually. Both increases are in effect from November 1st, 2018.

For TPM adjustment, the Board of Directors considered that although currently the inflation is low (the inter-annual variation up to September of the general and subjacent inflation was of 2.2% and 1.8%, in that order) and the economic activity rhythm has decelerated, the inflation forecast models of the Central Bank suggest that inflation in 2019 could be over the higher limit of the target range.

The main factors that have led to higher inflation forecasts are the transfer effect of the increase in the exchange rate on the price level and the acceleration of inflation expectations. Particularly, 12-month inflation expectations reached an average in October of 3.9% (3.6% the previous month), while their median and trend were 3.7% and 4.0%, respectively. This behavior, on the other hand, was influenced by the movements in the exchange rate and by the increase in the expectations of exchange variation.

In addition, the following considerations were taken into account by the Board of Directors:

1. That the main objective of the Central Bank is the maintenance of low and stable inflation, in accordance with Article 2 of its Organic Law.

2. That the Central Bank defined its mid-term inflation goal (measured by the interannual variation of the Consumer Price Index) in 3%, with a tolerance of ± one percentage point.

3. That the transmission mechanism of the monetary policy actions acts with a delay of one year or more, so the monetary policy decisions must be based on the forecast of future inflation.

4. That the main instrument used by the Central Bank to influence future inflation is its monetary policy interest rate.

Alongside the adjustment in the monetary policy rate and in the DON interest rate, the Central Bank increased the interest rates on its time deposits. The increases are larger for longer terms, reaching up to 170 basis points for 1800-day deposits (about 5 years). This increase in interest rates on the Central Bank's deposit instruments seeks to stimulate savings in colones, particularly in longer-term instruments, and mitigate pressures in the exchange market.

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