Chile's 4.5% policy rate and labor market slack signal prolonged easing cycle

The context

Chile operates a flexible inflation-targeting framework where the central bank's policy rate serves as the primary transmission mechanism for managing price stability and output gaps. With inflation currently at 4.2%—within striking distance of most inflation-targeting bands—and GDP growth at 2.5%, the economy displays characteristics of incomplete recovery from previous tightening cycles. The labour market reveals considerable slack, with headline unemployment at 9% and youth unemployment reaching 21.6%, suggesting aggregate demand remains below potential. This configuration typically creates scope for accommodative monetary policy, as the Phillips curve relationship implies limited wage-price spiral risks when employment gaps persist. Meanwhile, Chile's extensive trade openness at 65% of GDP means exchange rate movements transmit rapidly into domestic prices, complicating the central bank's reaction function.