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Peru central bank chief: Rate cut helpful but cannot solve trade worries

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Peru central bank chief: Rate cut helpful but cannot solve trade worries

A rate cut from Peru's central bank "helps a little bit" but cannot clear up the uncertainties businesses face amid persistent trade disputes, Banco Central de Reserva del Perú Governor Julio Velarde told S&P Global Market Intelligence.

The central bank lowered its reference rate this month to 2.5% from 2.75%, saying an escalation in trade tensions has "exacerbated international financial volatility" and that risks to the global economy remain.

"It helps a little bit, but not so much as when there is confidence in the economy," Velarde said in an interview on the sidelines of the Federal Reserve Bank of Kansas City's annual conference in Jackson Hole, Wyo.

Velarde's comments reflect a widespread sentiment among central bankers, who worry that their easing of monetary policy cannot fully insulate their economies from the escalating trade war between the U.S. and China.

The trade war was one key reason why Peru's ministry of finance recently cut its GDP projection for 2019 to 3.0%, down from a prior forecast of 4.2%.

Growth in Peru, which is now on its 21st year without a recession, will likely continue to be at the higher end among its Latin American peers, Velarde said. But the risks surrounding the global economy have made some businesses apprehensive about future investments, he said.

Peru's rate cut marked the central bank's first since March 2018, when it had been on an easing cycle to bolster economic growth. In its statement, the central bank said the move "does not necessarily imply additional reductions in the policy rate."

The current policy rate of 2.5%, which is low among emerging market economies, is already "pretty expansionary" and providing support to the economy, Velarde said.

The central bank is not ruling out further policy easing, but "we have to recognize that in this environment, cutting [rates] is only of marginal support," the central bank chief said. Greater confidence in economic prospects, he stressed, will have a bigger impact.

Government spending has a significant role to play in that regard, Velarde said. Fiscal policy has "much more space" to support the economy given that Peru's public debt-to-GDP ratio is among the lowest in the region at roughly 25%, he said.

Public investment in Peru fell by 10.9% in the first quarter of the year, according to the central bank's semiannual inflation report in June. But public investment has since picked up and is expected to strengthen in the second half of the year, which Velarde said should support demand in the private sector. The central bank's inflation report projected public investment would grow by 1% this year, down from a 6.8% increase in 2018.

Inflation, meanwhile, was around 2.1% year over year in July, within the central bank's inflation target range of 1% to 3%. Inflation should be stable in the coming months but the risks are tilted to the downside, Velarde said, citing a global trend of muted inflation pressures and the potential for lower demand in Peru to hold down prices.

Worries over trade have helped lead to steady declines in the price of copper, Peru's largest export. Velarde said the drop in copper prices is in large part due to investor speculation that future demand for copper would fall because of weaker global growth.

But actual demand for copper from China has not dropped substantially, Velarde said, and so unless the world economy experiences a sharp drop in growth, copper prices likely will recover. Demand also is expected to be boosted by the rise of electric automobiles, which require more copper than conventional ones, he noted.

Political developments in Peru have also drawn some attention in recent weeks. The country's president, Martin Vizcarra, is proposing to move up the country's elections by a year, rather than waiting until their regularly scheduled date of 2021. The effort puts him at odds once again with opposition lawmakers who control Peru's Congress.

The two sides have battled over a set of measures that Vizcarra says would address corruption in Peru. The country's former president, Pedro Pablo Kuczynski, resigned in March 2018 ahead of an impeachment vote following allegations that he received bribes from Brazilian builder Odebrecht. Vizcarra, who was first vice president at the time, stepped into Kuczynski's role after his resignation.

Vizcarra's call for early elections "poses downside risks to growth" by prolonging political uncertainty, analysts at Moody's Investors Service wrote in an Aug. 7 report.

Velarde declined to comment on the debate over the scheduling of the next elections. But he noted that Peru's economy remained resilient in prior periods of political uncertainty, including Kuczynski's impeachment debate, with little movement in its bond prices or exchange rates.

"I believe it's because of [Peru's] strong macro fundamentals," he said.