Corrugated City

Friday, 3 August 2007

Inflation and the mysterious UF

Everywhere you go in Chile you'll see 2 letters: UF. When i first arrived in this country way back in December 2003 (i can't believe it was so long ago) i just ignored it, thinking it was just some bizarre Chilean way of making things more complicated than strictly necessary. I still think the same but now i actually understand what the hell the UF is all about.

UF stands for Unidad de Fomento. It's an inflation index and once you get your head around it it's quite a useful tool when calculating how much things cost.

Let's have an example:

You want to buy a house. You look on an agent's website and see the price is listed at 1500 UF. Just what does that mean? Well, One UF is equivalent, today, to 18792.93 Chilean Pesos. So that means that the house is valued at 1500UF X 18792.93 which means 28,189,395 Pesos (or about us$54k).

The UF level is adjusted every day. Inflation in Chile runs to around 3-4% per year. Tomorrow's UF is expected to be around 6 Pesos higher, at 18798.36 Pesos. That means the same house tomorrow will cost: 18798.36 X 1500UF=28,197,540 or 8,145 pesos more than yesterday (about us$16).

If you're interested in property in Chile then please click Pacific Five, Real Estate Consulting, Chile

Pretty much all large scale purchases in Chile, such as cars and real estate, are valued in UF. Many services are also valued in this way. Retaining a lawyer on a monthly basis, for example, would be valued in UF. You would pay a fee every month of, let's say, 100UF. That fee in actual pesos would rise in line with inflation but the amount in UF stays the same. Insurance (health, car, home etc) is also valued in UF. In real terms, the cost doesn't increase, it only rises at the same rate as the Consumer Price Index. In some cases, you can freeze the UF to the level it was when you signed a contract. That means the cost of a service doesn't rise at all in line with inflation.

Chile's Central Bank pursues a policy of keeping inflation below 4% per year. A jump in consumer prices in July means that inflation is on course to come close to that 4% level by the end of the year. Last night there was a report on the news with worried Chileans wondering where it was all going to end. Short answer, it'll end with further increases in interest rates in Chile. Interest rates are currently at their highest levels for years, at 5.25% and are expected to be raised again to 5.5% in the near future. If the BC wants to keep inflation below 4% that's what needs to be done. (For anyone that doesn't understand the correlation between inflation and interest rates, a very basic explanation is that higher interest rates mean people have to spend more money re-paying loans and mortgages which, in turn, means they have less money to spend on consumer goods which reduces demand for goods and services which means prices don't rise as fast which means you can now breathe after a sentence involving lots of which).

Of course, raising interest rates has other effects. One of them is that the Peso will rise in value against other currencies (another basic explanation-higher interest rates mean that Chile is a nicer place to put your money for interest earnings so more people want to buy Pesos making them more expensive). Back in 2004 i was getting almost 1300 pesos to my Pound. Now i get 1050. The Dollar was around 750 Pesos, now it's 520. This has made Chileans goods more expensive. Chile is a major exporter and the higher price of the Peso has hit exporters hard. Further rises against foreign currencies won't help.

Anyway, whilst browsing Argentine daily, Clarin (a paper that somehow manages to be both tabloid and high-brow broadsheet at the same time), i came across yet another report about inflation in Argentinaa. Compared to their cousins across the mountains, Chileans really have nothing to worry about. I wrote about inflation in Argentina a while back, after my last visit there. It's really out of control. Again. Official figures are a lie. Friends still living in BA say that things are getting really expensive. Just read the articles linked-in some cases there have been 900% rises in the prices of basic fruit and veg. 900%!! That's absurd.

From being far and away the best tourism bargain in the world just a couple of years ago, Argentina is now, in many cases, more expensive than Chile. Supermarkets in Chile are now cheaper than in Argentina (and food is of a higher quality in Chile, with the exception of the unbeatable Argentine beef which can be bought here anywhere), eating out at a really decent restaurant is cheaper, hell even the price of a beer in a bar is less in Chile nowadays. And i'm not even including the fact that electrical goods and cars are 50-75% more expensive in Argentina due to ridiculously high import tariffs.

And it just has to get more expensive. Inflation will continue to gallop along at 12-40% a year (depending on who you believe) until the government drops its policy of maintaining the Argentine Peso below its true value (currently trading at around 3.12 to the Dollar). When this happen, prices in foreign currency will increase by up to 35% overnight. It should be around 2.1-2.3 to the Dollar. And prices in Pesos won't come down. So you'll have had 3-4 years of rampant inflation followed by a monetary adjustment of 35%. That'll make for one hell of a pricey country.

A lot of foreigners moved to Argentina because of it's great value real estate and extremely low cost of living. Both of those aspects of living have now been pretty much eroded. Property is over valued and the market is a big bubble waiting to burst. What's left is the cultural aspect of Argentina, something that far surpasses what Chile can offer (in terms of theatres, cinemas, film, art, literature, architecture). But i wonder how long all these foreigners who moved to Argentina for the cheap life will last as prices continue to rise?

What i've always found funny is the claim by numerous people involved in both tourism and real estate in Argentina (actually, both are very much linked as many foreigners have bought property there as a rent-to-tourist investment) that "Buenos Aires will be as expensive as Paris, New York and Madrid in a few years time. Invest in Buenos Aires property!!" This is ridiculous. BA tries to model itself as the Paris of the South. If the real Paris is no more expensive then i think i know where most foreigners will end up...especially as the flight is half the price...

Anyway, Argentina is still a pretty damn cool place to visit and i'm looking forward to my next trip back, probably sometime in the next couple of months. Nightlife is much more fun over there than here and i love going to a packed restaurant on a Tuesday night. In Chile restaurants aren't even packed on Saturday night. That enjoy life to the full attitude is something sorely missing in Chile. I guess it's a trade off between a stable economy and culture to the roller-coaster fun of Argentina. I love roller-coasters. But they make me feel sick after too many rides.

1 comment:

luna said...

excellent commentary on the fate of the Argentine economy....