Economic recovery and worsening fiscal risk press for more aggressive interest rate hike – Prime Time Zone


Central Bank raises the Selic to 5.25% per year and signals repeating the dose of 1 percentage point at the next meeting; financial market projects rate at 7% in 2021 and 2022

Adriano Machado/ReutersMonetary authority signaled to raise interest rates to above the neutral level, considered at 6.5% per year

The emergence of new inflationary pressures in the second half of 2021 with the recovery of the service sector and the return of fiscal risk pressures the central bank for a more aggressive movement in the conduction of interest. The hawkish posture, financial market jargon for more timely actions in monetary policy, exposed on Wednesday, 4, with the rise of the Selic to 5.25% per year, set the tone for the way the monetary authority will behave from now on. This attitude is corroborated by the signal of a new increase of 1 percentage point at the next meeting, at the end of September, increasing the Selic to 6.25%, the highest level since July 2019. “This change in posture is fully justifiable in the face of the inflation acceleration vectors that have been reproducing in recent months, and threaten to be repeated in the second half of the year,” says Nicola Tingas, chief economist at the National Association of Credit, Financing and Investment Institutions (Acrefi).

The Central Bank highlighted the resumption of the services sector, projected for the coming months with the advance of vaccination against the Covid-19, as one of the points for the deterioration of inflation expectations. The segment, the most impacted by social isolation measures, represents about 60% of the Bruno Internal Product (GDP) and has significant weight in the formulation of the Broad Consumer Price Index (IPCA), the official Brazilian inflation meter. “The Central Bank was concerned about the process of reopening the economy and how the impact on the services sector will be,” says the chief economist at Veedha Investimentos, Camila Abdelmalack.

The worsening fiscal scenario also weighed on Copom’s decision to adopt a more austere stance on monetary policy. Once again, the monetary authority cited the need for responsibility with public accounts for inflation control. The message was addressed mainly to the debts accumulated with the programs to mitigate the effects of the health crisis. “[…] Further extensions of fiscal policy responses to the pandemic that put pressure on aggregate demand and worsen the fiscal trajectory could raise the country’s risk premiums. Despite the recent improvement in public debt sustainability indicators, the high fiscal risk continues to create an upward asymmetry in the balance of risks, that is, with trajectories for inflation above that projected in the relevant horizon for monetary policy”. For Fernanda Consorte, chief economist at the bank Ourinvest, the position indicates that the BC wants to “kill in the chest” alone the control of inflationary pressures. “He makes it clear that he cannot count on the help of fiscal policy,” he says.

The pressure tends to intensify in the coming months, especially as the election year approaches. The government is studying a series of packages for the social area, with a focus on expanding the family allowance. Initial talks pointed to an increase of R$20 billion in the program’s budget next year, bringing the total to R$50 billion. The origin of the money, however, is still unclear. Although the government preaches that the initiative will be under the spending ceiling, President Jair Bolsonaro (no party) said that Brazil should go into debt so that the installments could be increased to up to R$400, compared to the average of R$190 paid. currently.

Changing the speech of the last meetings, the collegiate recognized that the increase cycle should surpass the neutral level of interest, when the rate neither stimulates nor harms the economy, considered at 6.5% by analysts. The move takes the monetary policy to close to the financial market projections of Selic at 7% per year in 2021 and 2022, according to data from the Focus Bulletin released this week. Consolidation, however, depends on the federal government’s next steps. “The Central Bank emphasized that if there is no progress in the reforms, there may be an impact on the structural rate. If the fiscal environment deteriorates next year, the monetary authority is already signaling that it will need to raise the rate, that is to say for interest rates above 7%”, says Tingas.