Jamaican Central Bank to Accelerate Tightening Cycle In Quarters Ahead Amid Above-Target Inflation

• Fitch Solutions expects the Bank of Jamaica (BOJ) to hike its benchmark interest rate to 2.0% by end-2021 and 2.75% by end-2022, from 1.50% currently, in response to above-target inflation. On September 30, the BOJ raised its policy rate by 100bps, the first change in its policy rate since August 2019. The recent hike was also the first interest rate increase since December 2008, as falling inflation allowed the BOJ to carry out a multi-year easing cycle that saw the central bank’s policy rate decline from 17.00% to 0.50%. 
• Inflation surged to 6.1% YoY in August, above the BOJ’s target of 4.0-6.0% and the highest rate since June 2020. The BOJ also cited rising private sector inflation expectations for its aggressive hike in its public statement following the September 30 meeting. 12-month ahead inflation in the BOJ’s Inflation Expectation Survey increased to 7.4% in July, the most recent survey, up from 7.0% in June. 
• Inflation will continue to climb in the quarters ahead, averaging 5.9% in Q421 and 6.0% in 2022. This view is underpinned by three dynamics. Firstly, tropical storms Grace and Ida have undercut agricultural supplies driving food prices up 7.1% in August, and will likely continue to impact food prices through end-2021. Second, energy prices will remain elevated in the quarters ahead. In addition to raising the price of gasoline, higher energy prices will also boost shipping costs, along with supply chain bottlenecks, which will filter through to higher prices for imported goods. Jamaica imported goods worth 29.2% of GDP in 2020. 
• Thirdly, it is expected that falling unemployment will increase demand in the quarters ahead, pushing up consumer prices. Unemployment is forecasted to average 7.9% in 2022, down from 12.6% in Q320, as the tourism industry rebounds. Core inflation averaged 7.2% in Q221, the latest period for which data are available, up from 2.9% in Q220, suggesting that headline inflation will increase as the economic recovery increases demand across goods and services categories. 
• In August and September, policymakers at the US Federal Reserve (Fed) and the European Central Bank (ECB) announced plans to rein in asset purchases in the quarters ahead. In the absence of additional hikes by the BOJ, tighter monetary conditions would undermine the relative attractiveness of Jamaican assets, weakening the Jamaican dollar (JMD) and raising the possibility of more significant pass-through inflation. 
• Risks to Fitch’s interest rate forecast are weighted to the upside. In its public statement following the September 30 meeting, the BOJ noted that inflation breached its inflation target earlier than expected. Should inflation continue surprising to the upside in the coming months, it is expected that the BOJ will respond with a more aggressive set of interest rate hikes than currently forecasted.

(Source: Fitch Solutions)