Bloomberg News

Mantega’s Spending Curb Bolsters Rate-Cut Bets: Brazil Credit

August 30, 2011

Aug. 30 (Bloomberg) -- Brazilian traders are assigning a more than 70 percent probability that the central bank will lower borrowing costs tomorrow for the first time in two years after the government said it will restrain spending.

The yield on interest-rate futures contracts due in October fell 17 basis points, or 0.17 percentage point, in the past month to 12.26 percent, indicating traders expect the central bank will reduce the benchmark Selic rate by a quarter- percentage point from 12.5 percent, according to data compiled by Bloomberg. The likelihood of a cut is up from 57 percent on Aug. 26 and 35 percent a week ago. In Mexico, traders are betting the central bank will wait until December to lower borrowing costs.

Speculation mounted that Brazilian policy makers will reduce rates after Finance Minister Guido Mantega unveiled plans yesterday to limit spending and curb inflation. While all 56 economists surveyed by Bloomberg forecast central bank President Alexandre Tombini will keep the Selic unchanged tomorrow, traders are betting he will take advantage of slowing global growth to lower the highest interest rate among major world economies.

The government is “taking pressure off the central bank, which will certainly give them room to cut rates at some point,” Pablo Cisilino, a portfolio manager at Stone Harbor Investment Partners in New York, said in a telephone interview. “Finally, they are moving in the right direction.”

Worldwide Rates

A cut would make Brazil the second of the Group of 20 Nations to lower interest rates in response to the faltering global recovery, after Turkey cut rates earlier this month. Developed economies such as the U.S., Japan and the U.K. already have interest rates close to zero.

Japan’s central bank expanded its asset-purchase fund this month, doubling the purchase of domestic bonds to 4 trillion yen ($51 billion) as it kept its benchmark interest unchanged. Federal Reserve Chairman Ben S. Bernanke said Aug. 26 during a speech that the economy isn’t deteriorating enough to warrant any immediate stimulus, defying speculation he would announce another round of so-called quantitative easing.

In South America, Chile, Peru and Colombia have halted cycles of interest rate increases, while Mexico signaled it may cut borrowing costs if the global or national outlook worsens.

Brazil raised its target for this year’s budget surplus before interest payments by about 10 billion reais ($6.3 billion) to 91 billion, Mantega said yesterday in Brasilia. The move follows a decision by President Dilma Rousseff to cut 50.7 billion reais from the 2011 budget two months after taking office in January.

Slower Growth

Annual inflation quickened to 7.1 percent in the year through mid-August, exceeding the government’s target range for a fourth straight month. The government targets inflation of 4.5 percent, plus or minus two percentage points.

Latin America’s largest economy is slowing as Tombini raised the benchmark interest rates five times this year. The economic activity shrank in June for the first time since December, 2008, while business confidence in the second quarter fell to its lowest level since 2009, government reports show.

The budget move “makes it viable in the medium- or long- term to cut interest rates,” Mantega said.

The increase in the so-called primary surplus target, which is equivalent to 0.28 percent of Brazil’s gross domestic product, may help reduce inflation by a half-percentage point, according to Alfredo Coutino, Latin America director at Moody’s Analytics, in West Chester, Pennsylvania. The decline in the inflation rate would allow the central bank to reduce the Selic by as much as 75 basis points by the end of the year to weather the global economic slowdown, he said.

‘Good Opportunity’

Rousseff is taking a different tack than her predecessor Luiz Inacio Lula da Silva, who increased spending by 49 percent in the two years since 2008 to lessen the impact of the global financial crisis on Brazil. The spending helped the economy expand 7.5 percent in 2010, the fastest pace in more than two decades, while stoking inflation.

Yesterday’s announcement “shows that the government understands that if we do have a crisis, it’s a good opportunity to move into loose monetary policy and tight fiscal policy, to do the rebalancing that they didn’t do in 2008,” Gustavo Rangel, chief Brazil economist for ING Financial Markets in New York, said in a telephone interview. “Fiscal policy has been the biggest surprise of the Rousseff administration. That’s where she made her mark.”

The central bank declined to comment.

Brazil needs to “treasure” its sound fiscal position “now more than ever,” Tombini told journalists on a conference call on Aug. 18.

Economist Forecasts

Zeina Latif, an economist at RBS Securities Inc. in Sao Paulo, said she’s keeping her forecast that the central bank will keep the benchmark rate at 12.5 percent tomorrow, in line with all 56 economists in the Bloomberg survey. Economists surveyed by the central bank forecast policy makers will stay on hold for the rest of the year.

The government fell short of announcing an outright spending cut and didn’t say what its primary target will be next year, when minimum wage is set to increase more than 13 percent, according to Latif.

“It’s important adjustment, but it’s not really ambitious,” Latif said in a telephone interview. “They need to do more.”

The extra yield investors demand to own Brazilian dollar bonds instead of U.S. Treasuries rose three basis points to 200 as of 9:08 a.m. New York time, according to JPMorgan Chase & Co.

Bonds Rally

The real fell 0.2 percent to 1.5947 per dollar.

Real-denominated bonds rallied yesterday. Yields on notes due in 2017 fell 29 basis points to 11.47 percent, the lowest level since October, according to data compiled by Bloomberg. The yields rose two basis points today to 11.49 percent.

The cost of protecting Brazilian bonds against default for five years fell six basis points yesterday to 158, according to data provider CMA, which is owned by CME Group Inc. and compiles prices quoted by dealers in the privately negotiated market. Credit-default swaps pay the buyer face value in exchange for the underlying securities or the cash equivalent if a government or company fails to adhere to its debt agreements.

“Any kind of crisis that will reduce growth overall, you have two ways to deal with that,” said Mauricio Junqueira, who helps manage about $300 million at Squanto Investimentos in Sao Paulo. “Either you increase your spending on the fiscal side or you can cut your rates, or both. But if you tighten the fiscal, you have a lot more room to cut rates.”

--With assistance from Ben Bain in New York and Josue Leonel and Fabio Iwabe in Sao Paulo. Editors: Lester Pimentel, David Papadopoulos

To contact the reporters on this story: Matthew Bristow in Brasilia at; Josue Leonel in Sao Paulo at

To contact the editor responsible for this story: David Papadopoulos at

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