Yet, Brazil’s Central Bank will probably refrain from acting because of de-anchored expectations
03/17/2023
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Central Bank’s building in Brasília — Foto: Jorge William/Agência O Globo
The bank crisis in the United States and Europe may slow down inflation here, but Brazil’s Central Bank will have little room to cut interest rates as inflation expectations are still diverging from the targets.
In recent days, economic analysts have been redoing the math on the net result of the new global turmoil for next week’s meeting of the Central Bank’s Monetary Policy Committee (Copom). The conclusion is that the monetary authority is in a difficult situation and has little room to react unless there is a significant deterioration.
For the time being, experts have emphasized two main channels of transmission of the external shock to Brazil. One is economic activity, which tends to slow down, leading to greater slack in the global economy.
This channel lowers international prices of goods and services, in particular commodities, among which oil stands out. A barrel of Brent crude was priced at $74.72 Thursday morning, lower than the $82.84 of the February Copom meeting.
Another channel through which the external shock affects the Brazilian economy is the exchange rate. The greater aversion to risk naturally makes capital migrate to developed economies. This channel is partly attenuated by the revision of market forecasts on the cycle of interest rate increases in the United States and Europe.
The dollar has gained ground against the real, but not uncontrollably. The foreign exchange rate was at R$5.29 to the dollar on Thursday. In any case, it is at a higher level than the R$5.15 seen in the February Copom meeting, also driven by domestic uncertainties.
Considering these two channels, seasoned analysts told Valor that the net effect for Brazil is disinflationary. The problem is that all the other factors have not remained unchanged since the February Copom – most of them have worsened, especially inflation expectations.
In February, economists consulted by the Focus survey expected inflation to reach 3.9% in 2024, which is the most important year for monetary policy. Now they forecast 4.02%. Longer-term expectations for 2025 and 2026 have risen to 3.8% from the previously estimated 3.5%.
What is the net effect of all these factors on inflation? Economists who try to replicate the Central Bank’s forecasting models say the monetary authority will probably find higher inflation than the 2.8% estimated in February for the 12-month period to September 2024, which is currently the relevant monetary policy horizon.
This projection scenario, to which the Central Bank has given more visibility, is based on the assumption that interest rates will remain at the current 13.75% per year throughout the relevant monetary policy horizon. In other words, if the experts’ projection is correct, the Copom will have less room to signal a possible interest rate cut at next week’s meeting than at the February meeting.
This does not mean that the Copom will stand by and watch the banking crisis unfold in developed economies. An economist heard by Valor, who has worked for the Central Bank, says that it is time for the Copom to “keep the crisis in its pocket” so that, over time, it can measure its extension and impacts in Brazil.
In general, analysts acknowledge that if the crisis deepens, the disinflationary impact for Brazil could be huge and relevant to the point of producing a change in a scenario that would lead to cuts in the key interest rate Selic. A global risk aversion would have affected not only the world economic activity but also Brazil, increasing our level of slack.
Many analysts are betting that the Copom will recognize this in its statements. The balance of risks to inflation already mentions two factors related to the global economy that could cause inflation to be lower than projected: falling commodity prices in reais and a stronger-than-expected slowdown in global economic activity.
In the statement and the minutes, the Copom could add some words describing the worsening of this danger. It could also add concerns about the credit channel. It would also tend to acknowledge the progress made by Finance Minister Fernando Haddad on the fiscal agenda.
None of this would change the balance of risks to inflation, which would remain balanced between upside and downside risks. The direction of monetary policy would remain more or less the same, with no room for interest rate cuts in the short term. But there would be an indication that the Copom could react if the international situation deteriorated to the point of changing the inflation scenario.
*Por Alex Ribeiro — São Paulo
Source: Valor International