Bloomberg News

Brazil to Hold Key Rate as Inflation Quickens Amid Slow Growth

January 16, 2013

Brazil’s central bank signaled it will keep borrowing costs at a record low this year as it tries to manage faster inflation amid a slower than expected recovery.

The central bank board, led by Alexandre Tombini, kept the benchmark interest rate at 7.25 percent for the second straight meeting yesterday, matching the forecast of all 56 analysts surveyed by Bloomberg. In the statement accompanying the unanimous decision, policy makers reiterated that the best strategy is to keep monetary policy conditions unchanged for a “prolonged period.”

While inflation is slowing in Mexico and Chile, price pressures are building in Brazil as the government pumps demand by reducing taxes and expanding credit amid record low unemployment. At the same time, a contraction in investment and industrial output is complicating President Dilma Rousseff’s efforts to revive the slowest growth in three years.

The Selic rate “will stay unchanged the whole year,” Andre Perfeito, the chief economist at Gradual Investimentos, said by phone from Sao Paulo. “The bank doesn’t have much room to maneuver between a slow economy and rising inflation.”

Inflation in December accelerated more than economists’ estimates for the sixth straight month and ended 2012 at 5.84 percent, higher than the bank’s 4.5 percent target for the third straight year.

The central bank ended the steepest rate-cutting cycle among Group of 20 nations in November after adverse climate in the U.S. and Brazil led to a jump in food prices.

Stagflation?

Policy makers forecast the world’s biggest emerging market after China expanded 1 percent in 2012 or about half the pace of the U.S and Japan, according to Bloomberg surveys.

The bank, in its statement, said that the balance of risks for inflation worsened in the short term at the same time that a domestic recovery was “less intense” than expected.

“We have stagflation,” John Welch, a strategist at CIBC World Markets in Toronto, said after the decision. “They dug themselves into a deep hole. Monetary policy doesn’t work when you have expansive credit and fiscal policy.”

While Welch forecasts Tombini will be forced to raise interest rates later this year, Fernando Fix, chief economist at Votorantim Asset Management in Sao Paulo, agrees with Perfeito that the bank won’t lift borrowing costs this year.

“It’s important that they signaled that inflation is only worsening in the near term,” said Fix in a phone interview. “That means they have no intentions of moving interest rates.”

Other Tools

With Tombini focused on keeping rates stable, policy makers may use other tools to ease price pressures, said Gustavo Rangel, chief Latin America economist for ING Bank NV. One option is to allow the real to appreciate, he said, to avoid a repeat of what happened last year when a 9 percent drop against the dollar fueled inflation by boosting the cost of imports.

The real is the best-performing major currency in the past six weeks, gaining 4.6 percent since the start of December.

Officials last month announced a new round of stimulus measures, including lower reserve requirements for banks that provide credit for investment in capital goods and a payroll tax cut extension to several labor-intensive industries. In an end- of-the-year speech, Rousseff urged businesses to take advantage of the measures and boost investment.

Still, government actions have not yet won over investors, and the lack of momentum from 2012 will hamper growth this year.

One bright spot is consumer demand, underpinned by record low unemployment, though that plank is showing signs of weakness too. Retail sales in November expanded 8.4 percent on an annual basis, slower than the previous month.

Cia. Brasileira de Distribuicao Grupo Pao de Acucar, the country’s biggest retailer, is among companies that have seen sales falter. Its shares fell the most in two months on Jan. 11 after the company reported slower fourth quarter sales at supermarkets open at least a year.

“The backdrop to all this is that the economy is still not doing all that well,” Neil Shearing, chief emerging markets economist at Capital Economics Ltd, said in a telephone interview from London before yesterday’s decision. “Brazil is going to need relatively difficult reforms to rebalance the economy rather than just a bit of fiscal stimulus here, a few interest rate cuts there.”

To contact the reporters on this story: Matthew Malinowski in Santiago at mmalinowski@bloomberg.net; Raymond Colitt in Brasilia Newsroom at rcolitt@bloomberg.net

To contact the editor responsible for this story: Andre Soliani at asoliani@bloomberg.net


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