Brazil leads the pace of interest rate hikes in 2021, with inflation among the top three

Although many economists question that the BCB (Central Bank of Brazil) took a long time to see the risk of inflation and start the cycle of rising interest rates, the Brazilian institution is highlighted among those that reacted more quickly to the scenario of rising interest rates. prices on a global scale.

According to data collected by the BIS, the central bank of central banks, the Brazilian BC is among the 14 authorities, out of a total of 32, which have already started to raise the basic interest rate to reverse part of the stimulus adopted during the pandemic.

Figures from the BIS and other international bodies also show that the rate of increase in Brazilian interest rates is the highest among all those analyzed and that Brazil is among the three economies with the highest inflation in 12 months (10.67%), behind only Argentina (52%) and Turkey (19.9%). The country also returned to lead the ranking of real interest rates.

BC do Brasil should be one of those that will put the rate at a higher level in 2022, given the decision of the federal government to abandon the spending ceiling to increase expenses in the election year, which generated additional depreciation of the exchange rate.

Next Wednesday (8), the BC’s Copom (Monetary Policy Committee) should raise the basic interest rate from the current 7.75% to at least 9.25%. In early 2021, it was at 2% . The projection is that it will be close to 12% next year.

The uncertainties caused by the pandemic led private sector economists and central banks to project a worse performance for activity and better for inflation in 2020 and 2021, which opened space for a strong worldwide movement to cut interest rates.

With that, they practiced a more stimulating monetary policy than necessary, according to economist José Márcio Camargo, professor at PUC-Rio and chief economist at Genial Investimentos. He points out that the Brazilian BC was one of the first to initiate this course correction.

José Júlio Senna, associate researcher at FGV Ibre, claims that he sees no exaggeration in the action of central banks during the pandemic. He says that inflation continues to be systematically undervalued, including by the private sector, which even endorsed the possibility that interest rates would fall even further in Brazil.

For him, the Brazilian BC could have been more prudent in cutting interest rates, but that would not avoid the problem of high inflation experienced today in the country.

The Brazilian basic interest rate (Selic) started to rise in March, in what is already the biggest monetary tightening in 2021 in the group of countries evaluated. The second highest occurred in Russia, where interest rates have gone from 4.25% to 7.50% per annum since March.

Before the decree of the pandemic, seven of these countries had higher interest rates than Brazil at the time (4.5% per year). Currently, only Argentina (38%) and Turkey (16%) have higher rates.

Considering the real interest, discounted the inflation projection for the next 12 months, Brazil was once again the world leader among the analyzed economies (5.96% per year), according to a survey by the institutions MoneYou and Infinity Asset Management carried out at the end of October. Today, it already exceeds 6% and could reach around 7% in 2022.

José Márcio Camargo states that virtually all countries implemented extremely aggressive monetary and fiscal policies in 2020, and demand dropped less than expected. This generated inflationary pressures that added to those caused by the combination of supply bottlenecks and commodity price shocks.

“Economists in general and monetary authorities around the world were wrong in their expectations for inflation and growth in 2020 and 2021”, says José Márcio Camargo. “You ended up generating above-target inflation practically all over the world, and the central banks started to chase it.”

José Júlio Senna states that the so-called “pandemic inflation” is a rare phenomenon and difficult to be predicted, which explains the constant projection errors, including the models of the BC and several other analysts showing, at the beginning of the year, that a lower interest rate would be able to put inflation on target.

“Did the Central Bank make a mistake? The market made a mistake together. Everyone made a mistake. Worldwide. Nobody predicted an inflation like that,” he says.

“It would be better to start the normalization of a higher interest rate, of 2.5% or 3%, but that is definitely not what is making the difference”, says the economist, who highlights the worsening in the fiscal risk that contributed to the worsening inflation expectations.

José Márcio Camargo, from Genial Investimentos, says that the Brazilian BC more quickly recognized that it had reduced interest rates beyond a sustainable level and started to return with a tougher monetary policy in March of this year. That same month, Russia and Turkey also reacted, according to BIS data.

He claims that current inflation is not just a supply shock. The increase in demand and the drop in the supply of goods generate pressures that should also be reversed through monetary policy action. The size of the tightening needed will depend on the federal government’s ability to regain credibility shaken by the change in the spending ceiling, which would help reduce the pressure generated by the exchange rate.

Failing to pursue the 3.5% inflation target in 2022 to avoid a further slowdown in activity, according to José Márcio, will lead Brazil to repeat the experience of the end of the Dilma Rousseff administration (2011-2016), when the country entered into one of the worst recessions in history.

“Validating an inflationary acceleration and an expansionary fiscal policy, at a time like this, is to contract a recession. The cost of such a policy is known, just look at recent history.”

José Júlio Senna says the BC needs to control expectations, but that an exaggerated tightening will have a very high cost for growth and a low gain in terms of inflation. For example, reaching more than 13% per year projected on the yield curve for 2022, above the 11.5% projection in the Focus survey with the market, would reduce inflation by around 0.20 percentage points.

He recalls that the real interest rate is already high, in a world where negative rates are still prevalent. In addition, the economy is already showing signs of stagnation and the Ibre forecasts a contraction in 2022. “Forcing the hand on interest now would be to gain little in inflation and lose a lot in activity.”

Despite expectations that the IPCA will fall from approximately 10% this year to around 5% next, the index will still be among the three largest globally, but closer to India and Russia, according to projections collected by the World Bank.

The US Central Bank and the European Central Bank are also already preparing the reduction of stimulus, which in these cases includes the purchase of assets to inject money into the economy.