Copom: interest rate setting requires patience and serenity

The Monetary Policy Committee (Copom) of the Central Bank (BC) stated that the conduct of monetary policy – defining the economy’s basic interest rates to curb inflation – calls for “patience and serenity”. Once again, the agency reinforced the possibility of raising the Selic rate, “despite being a less likely scenario”.

For the Copom, the approval of the fiscal framework can help balance public accounts, which have an impact on inflation expectations.

“The materialization of a scenario with a solid and credible fiscal framework can lead to a more benign disinflationary process through its effect on the expectations channel, by reducing inflation expectations, uncertainty in the economy, the risk premium associated with domestic assets and, consequently, the committee’s projections”, says the minutes of the last Copom meeting, released this Tuesday (9).

“The behavior of expectations is a fundamental aspect of the inflationary process, since it serves as a guide for defining current and future price and salary adjustments. Thus, with the rise in expectations, there is a greater rise in prices in the current period and the inflationary process is fueled by these expectations”, explained the Central Bank.

Meeting

The Copom meeting took place last week and, on the occasion, the collegiate maintained the Selic rate at 13.75% per annum, for the sixth consecutive time. The rate has been at this level since August last year and is the highest since January 2017, when it was also at this level.

Previously, the Copom had raised the Selic rate 12 times in a row, in a cycle that began amid rising food, energy and fuel prices in May 2021. With the decision, the BC expects inflation to converge around the target for next year.

Inflation control

The basic interest rate is the Central Bank’s main instrument to keep inflation under control. On the other hand, a high Selic rate leads to a slowdown in the economy, with more expensive credit and a reduction in investments, and, therefore, the BC’s decision has been criticized by the federal government.

“The Committee reinforces that it will persevere until it consolidates not only the disinflation process but also the anchoring of expectations around its targets. The Copom emphasizes that, despite being a less likely scenario, it will not hesitate to resume the adjustment cycle if the disinflation process does not go as expected”, says the minutes.

The Copom also discussed the impacts of fiscal policy (which takes care of revenue and public spending) on ​​inflation and assessed that the presentation of the fiscal framework reduced uncertainty about extreme scenarios for public debt growth. On the other hand, he emphasized that there is no mechanical relationship between the convergence of inflation and the approval of the text, as the inflationary trajectory reacts to inflation expectations, public debt projections and asset prices.

“The committee assesses that the probability of the most extreme scenarios for the public debt trajectory has been reduced, but it also noted that there was no relevant change in inflation projections since expectations did not change significantly”, says the minutes.

risk balance

For the agency, the basic scenario for inflation involves risk factors in both directions. Among the upside risks, in addition to uncertainty about the final design of the fiscal framework to be approved by Congress, is a greater persistence of global inflationary pressures and a greater, or more lasting, weakening of inflation expectations for longer terms.

Among the downside risks, the Copom highlights the additional fall in the prices of commodities (primary products, with international quotation) in local currency; deceleration of global economic activity more accentuated than projected in particular due to adverse conditions in the global financial system; and a deceleration in domestic lending greater than would be compatible with the current stage of the monetary policy cycle.

“On the one hand, the increase in fuel prices and, mainly, the presentation of a proposal for a fiscal framework reduced part of the uncertainty arising from fiscal policy. On the other hand, the situation, characterized by a stage in which the disinflationary process tends to be slower in an environment of unanchored inflation expectations, demands greater attention in the conduct of monetary policy”, says the minutes.

The Copom informed that the international environment remains adverse, with banks in the United States and Europe with problems and with persistent inflation in most countries. “The episodes involving banks abroad have heightened uncertainty, but with limited contagion on financial conditions so far, requiring continued monitoring,” the minutes say. “The majority signal among monetary authorities is for a prolonged period of high interest rates to combat inflationary pressures, which requires greater caution in the conduct of economic policies by emerging countries as well,” added the BC.

Domestically, the gradual slowdown of the economy continues, as expected, and inflation expectations remain above the target ceiling. There is also a slowdown in the credit market in some modalities. The labor market, “which surprised positively throughout 2022”, has remained resilient, with a net increase in jobs and relative stability in the unemployment rate.

“The activity data in Brazil indicate a moderate pace of growth at the margin, with emphasis on the support given by consumption, from the demand point of view, and by the agricultural sector, on the supply side. The Copom anticipates more vigorous growth in the release of GDP (Gross Domestic Product – sum of goods and services) for the first quarter of the year, especially as a result of agricultural production, followed by moderation in economic activity in an environment marked by resilience in the credit market. work”, says the minutes.

inflation targets

The BC points out that consumer inflation remains high. “With regard to service inflation and core inflation (a measure that seeks to capture the price trend, disregarding the effects of temporary shocks) of inflation, greater resilience and slower disinflation speed can be observed in the latest releases, in line with the non-linear process that the committee already anticipated. In addition, inflation expectations remain unanchored, partly related to the questioning of a possible change in future inflation targets”, explains the document.

The possibility of changes in inflation targets, to force a reduction in interest rates, became the subject of a meeting, at the beginning of the year, between the Ministers of Finance, Fernando Haddad, of Planning, Simone Tebet, and the president of BC, Roberto Campos Neto, members of the National Monetary Council (CMN), which defines the goals.

In later statements, they stated that the change in the inflation target is not on the agenda of the CMN. According to Campos Neto, even though the inflation targets were not met at times, the Brazil follows a path similar to that of other countries, remaining “most of the time within the band”. According to him, the country registered “seven explosions in 24 years”.

Defined by the CMN, the inflation target is 3.25% for this year, with a tolerance interval of 1.5 percentage points up or down. That is, the lower limit is 1.75% and the upper limit is 4.75%.

Copom’s inflation projections are 5.8% for 2023 and 3.6% for 2024.

Projections for inflation of administered prices (such as electricity, gasoline, gas and public transport) are 10.8% for 2023 and 5.2% for 2024. The Copom adopted the “green” tariff flag hypothesis in December 2023 and 2024, in addition to the exchange rate starting at R$5.05 and the oil price following the upward curve for the next six months and increasing 2% per year afterwards to make these projections.

The Central Bank’s estimate for the 2024 inflation is also above the center of the forecast target – 3%, but still within the tolerance intervals of 1.5 percentage points.

Inflation

In March, the inflation decelerated for all income brackets. Even so, driven by the increase in fuel prices, the IPCA stood at 0.71%, according to the Brazilian Institute of Geography and Statistics (IBGE). The result is lower than the February rate: 0.84%. In 12 months, the indicator accumulates 4.65%, below 5% for the first time in two years.

For April, the Extended National Consumer Price Index 15 (IPCA-15) – preview of official inflation – stood at 0.57%. The rate is lower compared to March 2023 (0.69%) and April 2022 (1.73%). The IPCA for April will be released by the IBGE next Friday (12).

The committee assesses that the dynamics of disinflation follows in two distinct stages: the first, already ended and with a greater speed of disinflation, had a greater effect on administered prices and an indirect effect on market prices; the second, with less speed, respond more to aggregate demand and interest rate policy.

“The most recent inflationary data corroborate the view of a slower disinflation process, in line with the view of inflation driven by excess demand, particularly in the services sector,” says the minutes.