Bolivia’s Central Bank is withdrawing the equivalent of $700 million from the economy this year, and slowly increasing interest rates, to try to keep inflation between 4% and 6%.
“Inflation is our principal concern”, Central Bank President Marcelo Zabalaga told Emerging Markets. “We believe that the measures being adopted will be able to bring inflation down to 4%, which is our optimal level for 2011.”
Zabalaga said it is necessary to curb liquidity, because the government expects additional capital flows from mining and royalties from hydrocarbons.
“We need to withdraw excess currency from the economy if we are going to keep inflation low,” he said. “Diminishing liquidity will allow us to diminish inflation,” he said.
Interest rates will depend in large measure on the US once the second round of quantitative easing winds down. Zabalaga said interest rates would increase if the US ups its rates.
Analysts agree with the Bank’s moves – but are not keen on an unorthodox plan to use Bolivia’s foreign exchange reserves to invest in national companies that would produce or import basic goods that contribute to inflation, or build productive infrastructure.
While inflation was around 7% in 2010, it was closer to 20% for food items. Inflation in February was 1.66%, higher than the Central Bank’s initial projection. One of the most widely reported price spikes in Bolivia has been in sugar.
Napoleon Pacheco, head of the Millennium Foundation, a thinktank in La Paz, said the idea of controlling inflation by creating state enterprises will not work.
“We are in a process in which the state believes that it can resolve all problems. New state entities are created whenever there is a problem. This is not going to lead to anything good,” said Pacheco.
Zabalaga disagreed. Other countries in the region are taking advantage of high foreign reserves to protect themselves from future uncertainties, he said.
“Some governments are creating stabilization funds or sovereign wealth funds to invest in infrastructure or other national investment. Bolivia has decided to focus on productive investment,” he said.
Bolivia’s reserves are nearly 50% of GDP, the highest in South America.
Pacheco said the deployment of reserves need to be considered taking into account monetary emissions and the level of domestic and foreign debt. “Politicians talk about reserves as if they were freely available. The bank’s role is to tell them that this is not the case,” he said.
Pacheco said that inflation is at the heart of the protests that have erupted in Bolivia this year and the reason for President Evo Morales’s falling popularity. Polls show the president’s ratings are now in the low 40s, compared to 60%+ for most of his more than four years in office.
Bolivian workers’ unions have protested loudly against government-decreed wage hikes of 10-20% in early March. The Bolivian Workers’ Central (COB) said the increase was too low to keep up with inflation.