## Policy Interest Rates in Latin America: Moving to Neutral?

_IMF Blog, November 19, 2012_

## Source details

**Canonical URL:** [Policy Interest Rates in Latin America: Moving to Neutral?](https://www.imf.org/en/blogs/articles/2012/11/19/policy-interest-rates-in-latin-america-moving-to-neutral)

## Other formats

- [Markdown version](/en/blogs/articles/2012/11/19/policy-interest-rates-in-latin-america-moving-to-neutral/index.md)
- [Structured JSON version](/en/blogs/articles/2012/11/19/policy-interest-rates-in-latin-america-moving-to-neutral/index.json)
- [Bundle manifest](/en/blogs/articles/2012/11/19/policy-interest-rates-in-latin-america-moving-to-neutral/bundle-manifest.json)

## Bibliographic details
- Authors: Nicolas Magud, Evridiki Tsounta
- Published: November 19, 2012

---

### Real interest rates and the neutral concept
- The neutral interest rate is defined as "the real interest rate consistent with the economy operating at full employment and stable inflation."
- Policy guidance: 
  - If the economy operates above potential and inflation is rising, policymakers should raise the policy interest rate above the neutral level.
  - If the economy operates below full employment, interest rates may need to be lowered below the neutral level.

### Estimating neutral rates
- Study scope and methods:
  - Neutral interest rates are unobservable; no single best method exists.
  - The study estimates neutral interest rates for 10 Latin American countries using several different methodologies to obtain a range of plausible values for each country.
- Sample composition:
  - Countries with full-fledged inflation targeting: Brazil, Chile, Colombia, Mexico, Peru, and Uruguay.
  - Countries that recently transitioned to inflation targeting: Costa Rica, the Dominican Republic, Guatemala, and Paraguay.
- Key empirical findings:
  - Financially developed economies with a longer history of inflation targeting typically have lower neutral interest rates.
  - These countries tend to have stronger economic fundamentals (for example, lower inflation uncertainty and sovereign risk premiums measured by JP Morgan’s Emerging Market Bond Index (EMBI) spreads).
  - Notable exception: Brazil has the neutral rate among the highest in emerging economies.
  - Stronger economic fundamentals and the easing of global financial conditions (reflected in lower federal funds rates) have produced a downward trend in neutral interest rates, with recent exceptions being Brazil and Uruguay.

### Comparing actual policy rates to estimated neutral rates
- Countries where current policy rates are close to neutral:
  - Chile
  - Colombia
  - Peru
- Countries where monetary policy remains stimulative (actual interest rates below neutral):
  - Brazil
  - Mexico
- Countries where actual interest rates are below estimated neutral levels (with caution due to data limitations and weaker transmission):
  - Costa Rica
  - The Dominican Republic
  - Guatemala
  - Paraguay
  - Uruguay

### Policy implications and challenges
- Monetary policy decisions are challenging owing to many unknowns such as:
  - The position of the economy in the business cycle.
  - Likely future economic shocks.
  - A volatile external environment.
- Reliable estimates of country-specific neutral rates can help central bankers in Latin America set the course for monetary policy.

*Nicolas Magud, Evridiki Tsounta — November 19, 2012*

---

## Content in this bundle

- **On Neutral Interest Rates in Latin America**
  - [On Neutral Interest Rates in Latin America (Markdown version)](/external/pubs/ft/reo/2012/whd/eng/pdf/wreo111912.pdf.md){rel="alternate" type="text/markdown"}
  - [On Neutral Interest Rates in Latin America (PDF)](/external/pubs/ft/reo/2012/whd/eng/pdf/wreo111912.pdf){rel="external" type="application/pdf"}
- **wp12243**
  - [wp12243 (Markdown version)](/external/pubs/ft/wp/2012/wp12243.pdf.md){rel="alternate" type="text/markdown"}
  - [wp12243 (PDF)](/external/pubs/ft/wp/2012/wp12243.pdf){rel="external" type="application/pdf"}

---

## References

- [inflation](http://www.imf.org/external/pubs/ft/fandd/basics/inflat.htm)
- [inflation target](http://www.imf.org/external/pubs/ft/fandd/basics/target.htm)
- [monetary policy](http://www.imf.org/external/pubs/ft/fandd/basics/monpol.htm)
- [https://www.imf.org/wp-content/uploads/2012/11/eng-neutral-int-rates-chart1.jpg](https://www.imf.org/wp-content/uploads/2012/11/eng-neutral-int-rates-chart1.jpg)
- [https://www.imf.org/wp-content/uploads/2012/11/eng-neutral-int-rates-chart2.jpg](https://www.imf.org/wp-content/uploads/2012/11/eng-neutral-int-rates-chart2.jpg)

_Source: https://www.imf.org/en/blogs/articles/2012/11/19/policy-interest-rates-in-latin-america-moving-to-neutral_