Drop has not yet been able to positively contaminate projections for longer-term inflation
Central Bank’s building in Brasília — Foto: Jorge William/Agência O Globo
Inflation expectations for this year and next have dropped substantially last week, but there was no benefit, for now, in the time horizon that really counts for the conduct of monetary policy.
The market’s inflation forecast for 2023 declined to 5.33% from 5.38% last week. At this percentage, it exceeds both the center of the inflation target range pursued by the Central Bank (3.25%) and the top of the range (5%). But the drop represents an important improvement.
It is very likely that such a decline was caused by a slowdown in current inflation. Central Bank President Roberto Campos Neto predicted, in a statement last week, that the more favorable inflation rates in the short term could have positive effects on longer-term inflation expectations.
In fact, the inflation projection for this year has been receding strongly after the government cut taxes to lower fuel and other prices, and the price of oil fell on the international market.
As a result, the market’s inflation projection for this year went to 6.82% from 7.02%. The economic analysts that renewed their projections in the past five days already forecast even lower inflation, at 6.69%.
But this lower inflation has not yet been able to positively contaminate the inflation projections for the longer term. The inflation rate expected by the market for the 12-month period ending in March 2024 is at 4.47%. It is more or less stable compared to the 4.48% a week earlier when considering the monthly inflation projections of the period.
The market projection is well above the informal target for the period, of 3.18%, calculated from the interpolation of the 2023 (3.25%) and 2024 (3%) goals. The Central Bank, however, estimates inflation at 3.5%. Last week, Mr. Campos Neto said that this spread between the official projection and that of the market could be explained by the fact that the monetary authority estimates a stronger impact of the interest rate hikes made since March 2021 to lower the price index.
The Central Bank decided to focus more on the March 2024 target because, according to its reasoning, the deadline is distant enough to not be contaminated by the temporary tax-cut measures put in place by the government. Some of these are to be reviewed in the first quarter of 2023.
The government, however, is beginning to discuss extending tax cuts in early 2023 as well. Since these measures are being taken in a fiscally unsustainable manner, without the support of permanent revenue gains, the benefits may have to be revised again – which should increase uncertainty about inflation projections for 2024.
Some analysts, however, believe that the slowdown in short-term inflation could have permanent positive effects on longer-term expectations. According to this reasoning, expectations are very much influenced by what happens to current inflation, although the theory says that it should only be determined by the underlying inflation trend.
Inflation expectations for 2024 were steady at 4.41% last week, after rising from 3.3% the week before. Leading indicators are dubious about what might happen in the coming weeks.
The average of expectations (sum of projections, divided by the number of projections) is at 4.47%, above the median of projections (projection with the most central value), which is the official indicator of expectations. This suggests that projections may rise.
The median of the projections of the 78 analysts that renewed their estimates in the last five days fell to 4.3% from 4.42% last week. It is thus lower than the 4.41% median of the 116 analysts that updated their projections in the past 30 days, which is the official measure of expectations.
By Alex Ribeiro — São Paulo
Source: Valor International