MNI BCB WATCH: Rates Headed Above 14%, Destination Unclear
MNI (BRASILIA) - The Central Bank of Brazil indicated a further 200 basis points increase in its official Selic rate after a 100 basis-point hike to 12.25% Wednesday, though it did not specify whether 14.25% would be the terminal level of the cycle.
Alongside the hawkish decision and forward guidance, which exceeded market expectations for a 75bp hike, the statement highlighted other points that investors could interpret as signaling the rate might go even higher next year.
"In light of a more adverse scenario for inflation convergence, the Committee anticipates further adjustments of the same magnitude in the next two meetings, if the scenario evolves as expected," the statement said.
The move follows a disappointing fiscal package announced by the government seen as inadequate to control the budget deficit and significant currency depreciation. Recently, analysts have been questioning whether Brazil is close to a fiscal dominance situation.
HIGHER INFLATION FORECASTS
The Monetary Policy Committee (Copom) raised its inflation forecasts to 4% over its stated policy horizon, set for the second quarter of 2026. This is above the 3% target and higher than the previous projection of 3.6%.
Additionally, the board said some of the risks on its radar have already materialized, making the outlook less uncertain and more adverse than in the previous meeting, with the balance of risks remaining to the upside of inflation. For instance, a stronger-than-expected GDP suggests a further widening of the output gap.
"The current scenario is marked by additional deanchoring of inflation expectations, an increase in inflation projections, stronger-than-expected economic activity, and further widening of the output gap, which requires an even more contractionary monetary policy," the Copom said.
FISCAL WARNINGS
The central bank said it has been closely monitoring how recent developments on the fiscal side affect monetary policy and financial assets.
"The perception of agents about the recent fiscal announcement has significantly impacted asset prices and expectations, especially the risk premium, inflation expectations, and the exchange rate. The Committee judges that these impacts contribute to a more adverse inflation dynamic," the document said.
Former Treasury Secretary Jeferson Bittencourt told MNI in an interview that the negative market reaction to the fiscal package was partly driven by the perception that the government is unwilling to use its political capital to address the economy’s imbalances. (See MNI INTERVIEW: Copom To Accelerate Rate Hike Pace To 100BP)
FX DEPRECIATION
The real has fallen to around BRL6 to the dollar from BRL5.81 since Finance Minister Fernando Haddad announced in late November a package that includes BRL70 billion in spending cuts over the next two years, together with an increase in the tax threshold for lower earners, which he said was balanced by higher rates for the wealthier.
In this context, the BCB will likely keep interest rates higher for longer, said Fundação Getúlio Vargas professor Robson Gonçalves, a former central bank economist and researcher, adding that the budget announcement was seen as clumsy by both the public and investors. (See MNI INTERVIEW: BCB Hurt By Fiscal ‘Blunder’ - FGV’s Goncalves)
Alexandre Andrade, director at the Independent Fiscal Institution of the Federal Senate, told MNI the fiscal measures will make it harder for the central bank to combat inflation due to the depreciation of the real. (See MNI INTERVIEW: BCB May Speed Up Hikes After Fiscal Package)