U.S. Dollar Fluctuates Amid Warnings from Costa Rican Central Bank

On the Foreign Currency Market (Monex), the dollar reached ₡460.45 on October 1, which marks a rise of ₡13.65, or 3.1%, from the record low of ₡446.80 set on September 17. It then declined to ₡458.67 on October 2, ending a streak of five consecutive daily gains. The dollar averaged ₡457.03 on October 5, during a session with approximately $68.7 million traded.

In real terms, $1,000 exchanged at the previous Monex average was valued at about ₡457,030, which is roughly ₡10,230 more than the September low. This increase continues a dollar rebound that commenced in the latter half of September. BCCR President Róger Madrigal has highlighted the interest rate gap with the United States as a primary risk.

The Central Bank decreased its monetary policy rate from 3.25% to 3% in July and has maintained this rate since July 24, while the U.S. Federal Reserve raised its benchmark rate to a range of 3.75% to 4% in September. Madrigal mentioned that the difference between the two rates has broadened to between 75 and 100 basis points.

He elaborated that when returns favor one currency, demand increases for that currency while it decreases for others. If dollar-denominated assets continue to yield better returns, investors may shift their funds out of colones into dollars, potentially exerting upward pressure on the exchange rate.

Although such a significant shift has not yet materialized, Madrigal considers the widening differential a real risk. The next scheduled review of the BCCR's monetary policy is on November 26.

Economists have differing views on the situation. Fernando Rodríguez, an economist at the National University (UNA), noted that maintaining the policy rate at 3% would likely keep Costa Rica attractive to yield-seeking investors, which would sustain inflows of dollars into the country.

Conversely, seasonal factors could impact dollar demand negatively. Federico Quesada Chaves, director of the School of Administrative Sciences at the State Distance University (UNED), stated that the seasonal inflow of foreign currency due to aguinaldo payments, bonuses, and holiday spending from late October could increase downward pressure on the dollar.

Despite the recent rebound, the dollar remains significantly lower than at the beginning of the year. Monex averaged ₡497.07 on January 2, indicating a loss of approximately 8% in value against the colón in 2023. It is also about 34% below its peak of ₡696.76 in June 2022.

The strength of the colón has adversely affected exporters and tourism businesses that earn in dollars but incur expenses in colones. This situation has coincided with job cuts at major firms. For households, the exchange rate plays a crucial role in determining the local currency cost of dollar-denominated rents, loans, and imported goods.

The future trajectory of the dollar's value may hinge more on U.S. interest rates rather than local supply dynamics as the Central Bank approaches its November meeting.