What is the Selic rate, at the center of the fight between Lula and the Central Bank

The Central Bank’s Copom (Monetary Policy Committee) meets throughout the year to define the basic interest rate, known as the Selic.

Between August 2020 and March 2021, it was at its lowest level in history, at 2% per year. However, since then, it has undergone successive increases. It is currently parked at 13.75% —a percentage considered high by President Luiz Inácio Lula da Silva (PT), who has criticized the BC’s performance.

To understand what Selic is and what is its impact on people’s lives, the Magnifying glass consulted the Central Bank and spoke with experts to answer the main questions on this topic.

What is SELIC?

Selic is the economy’s basic interest rate. This means that it is a reference value for setting the interest charged by financial institutions. The real value is not exactly the same as that set by the Central Bank, and may be higher or lower.

Its name comes from the initials Selic (Special Liquidation and Custody System). This system is a Central Bank platform where purchase and sale operations of federal government bonds are carried out. The offer of these securities is as if the State were borrowing from investors (which can be individuals, companies or banks) to pay its debts. The average interest rate charged by the government for money borrowed corresponds to the Selic rate.

According to the Central Bank, this is its main tool for controlling inflation. This is because it directly interferes with borrowing or using credit. If interest rates are high, it becomes more expensive to borrow money and, therefore, there is pressure to reduce consumption. With a decrease in demand for the acquisition of goods and services, the tendency is for inflation to fall or stagnate.

The effect on inflation, however, is not immediate. According to Juliana Inhasz, professor and coordinator of undergraduate economics at Insper, and Joelson Sampaio, professor of economics at FGV EESP, the result begins to be perceived in a period between six and eight months after the determination of the new Selic target.

Juliana Inhasz, a professor at Insper, points out that the index set by Copom is a target. Therefore, it is not only the announcement of the new value that promotes the reduction of inflation, there are other factors that are necessary for this to occur: such as the reactivation of the economy, reduction of unemployment and the attraction of money to the public coffers.

How is the Selic defined?

The Selic rate is set by Copom, which is made up of the president (currently Roberto Campos Neto) and eight directors of the Central Bank. The committee meets every 45 days to discuss the economic situation and decide whether to change the current Selic rate.

The experts consulted by Magnifying glass assess that the factor that most influences the setting of the Selic is inflation. But other issues interfere with its definition, such as the generation of jobs, productivity and economic activity. As a rule, internal factors impact its value more than external ones (dollar value, oil price, etc).

“Basically, the BC considers two factors: economic activity and inflation. When we have high inflation, the interest rate is increased to try to cool down inflation. This is the criterion”, says Joelson Sampaio, professor of economics at FGV. “The reverse logic also happens: in the first year of the pandemic, when we had very low economic activity and relatively low inflation, the BC lowered the Selic rate to stimulate consumption”, he explains.

Why did Selic increase?

According to the announcements made by BC, the Selic was increased mainly to combat domestic inflation. In addition, the monetary authority took into account other factors, such as the risks that Covid generated for economic activity and the situation abroad — the US, for example, also increased its interest rates, which impacts the real and, consequently, domestic prices.

Currently, the rate is parked at 13.75% — it has been maintained at this level for four meetings. The BC’s justification for keeping interest rates at that level is, above all, the fiscal risks, a consequence of higher public spending, and the worsening of inflation expectations.

Is it true that, recently, the Selic rate was at the lowest level in history?

Yes. The Selic rate reached 2% per year between August 2020 and March 2021. Between July 2015 and August 2016 it was 14.25%, the highest level since 2006. After that period, it gradually dropped until reaching the level of 2%. The current model for defining nominal interest rates by the Copom began in March 1999.

Does the Selic rate affect Brazilian public accounts? As?

Yes. The interest paid by the government to investors who bought federal public securities is fixed by the Selic rate. The sale of these papers is like loans taken by the State to finance its debts. As with loans, the Union must pay, with interest rates, the money borrowed after a specified period. That way, if the Selic rate is high, the amount owed to market agents is higher — that is, the higher the rate, the higher the interest paid by the government.

On the other hand, government bonds become more advantageous for investors. This triggers the entry of money into public coffers. “Investors have two options: they can stay here or take their money abroad. The increase in interest rates makes Brazil more attractive as an investment option for foreign market agents”, says Juliana Inhasz, professor of economics at the Insper. An inflow of foreign resources can have a positive impact on economic activity due to its effect on the exchange rate, which also affects public accounts.

How does this affect the lives of ordinary people?

For ordinary people, the immediate effect is on access to credit and borrowing. In situations where the Selic is high, borrowing money becomes more expensive, because the interest that banks pay on transactions with each other becomes more expensive — and financial institutions pass this increase on to the common consumer.

Insper professor Juliana Inhasz explains that borrowing money from financial institutions is commonplace. On days when there is a greater outflow of money from banks than inflows, they trigger their peers to take out short-term loans so as not to close their cash registers in the red.

A daily interest rate is charged for this transaction, which, when annualized, corresponds to the Selic rate. Therefore, if the interest rate is high, these interbank operations also become more expensive. “The bank transfers this cost to the customer”, he says. “It is the same relationship that governs a manufacturer of consumer goods, which raises the price of its product when the costs to produce it increase”, he concludes.

The idea is that with higher interest rates, people are discouraged from consuming —because loans and credit are more expensive. On the other hand, there is an incentive for the consumer to save money, since savings start to yield more and the purchase of federal public securities also becomes more advantageous. Therefore, the expectation is that the reduction in demand will put pressure on prices and, therefore, inflation. This impact, however, is not immediate.