Brazil to Lift Rates as Inflation Pressure Grows: Decision Guide

Brazil’s central bank is set to deliver a third straight interest rate hike of 75 basis points while it considers whether a strengthening economic recovery and rising inflation expectations should prompt more forceful monetary tightening.

The bank will likely lift the benchmark Selic to 4.25% on Wednesday, as previously signaled by policy makers and expected by all analysts in a Bloomberg survey. There’s growing speculation board members will revamp their communication by altering -- or even scrapping -- pledges to keep part of their stimulus in place.

Brazil to Lift Rates as Inflation Pressure Grows: Decision Guide

Policy makers led by Roberto Campos Neto are confronting a deteriorating inflation outlook in Latin America’s largest economy. Demand is firming despite the coronavirus outbreak as the government extends emergency spending. Meanwhile, the worst drought in nearly a century is driving up electricity bills, compounding the pain from rising costs of raw materials.

Put together, analysts expect the central bank will have to raise borrowing costs more than previously thought to tame inflation that’s seen above target through 2022. Some traders are going as far as pricing in chances of a full percentage point rate boost at both this policy meeting and the next.

Wednesday’s decision will be published on the central bank’s website after 6:30 p.m. local time in Brasilia, together with a statement from the bank’s board. These are the most important points investors will be focusing on:

Rate Guidance

Until now, policy makers have stuck to plans for a “partial” normalization, meaning that rates will stay at a stimulative level. Given the consumer price outlook, some analysts are betting the bank will strike a more aggressive tone in its guidance, clearing the way for a longer tightening cycle.

What Bloomberg Economics Says

“They can change the language -- almost surely to a more hawkish tone -- in a number of ways. The most obvious one is dropping the reference to ‘partial normalization.’ They could go to full-hawk mode and explicitly say that they now see full normalization as the base case scenario. Meanwhile, the Brazilian real strengthened a lot since the previous meeting. This might help to keep the central bank’s 2022 forecast below the target.”

--Adriana Dupita, Latin America economist

Inflation Drivers

Campos Neto indicated greater unease on inflation this month, by saying shocks have been more persistent. Investors will look to see the way the bank acknowledges rising electricity costs and their impact on the cost of living. Service prices are also a point of increasing concern.

“The central bank should step up the tone of their communication and make it very clear that they will do whatever it takes to bring inflation back to the target,” said Cassiana Fernandez, economist at JPMorgan Chase & Co.

Growth Outlook

Since the last policy meeting in May, key indicators such as first-quarter gross domestic product and April retail sales topped market forecasts. Some private sector estimates now put 2021 GDP growth near 6%. If policy makers turn more upbeat on activity, it may be a sign of a longer tightening cycle.

“The economy is stronger than previously thought,” said David Beker, economist at Bank of America Securities Inc.

Brazil to Lift Rates as Inflation Pressure Grows: Decision Guide

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