MNI INTERVIEW: BCB May Speed Up Hikes After Fiscal Package
MNI (BRASILIA) - Brazilian government spending cuts seen as potentially inadequate to control the budget deficit will make it harder for the central bank to combat inflation due to depreciation of the real, and could force it to accelerate the pace of rate hikes if inflation expectations deteriorate, Alexandre Andrade, director at the Independent Fiscal Institution (IFI) of Federal Senate, told MNI.
The Central Bank of Brazil has already boosted the size of its rate increases to a half point from a quarter point at its most recent meeting, leaving the Selic rate at 11.25%. But now, it looks like 50 basis points per meeting might not be enough. (See MNI INTERVIEW: BCB To Keep 50BP Pace in December -Goldenstein)
"The outlook may worsen for monetary policy, given concerns over the exchange rate and its impact on inflation. If expectations deteriorate further, the central bank may accelerate the pace of interest rate hikes," Andrade said in an interview. "It seems to us that the measures presented are insufficient for the government to achieve primary surpluses in the coming years." (See MNI INTERVIEW: BCB Hurt By Fiscal ‘Blunder’ - FGV’s Goncalves)
While it’s positive that the government included certain sets of expenses under the new fiscal framework that previously followed different rules, some of these do not translate into actual savings, he said.
"For example, the measure on filling and creating positions in public services refers to exams already held. The candidates simply haven’t been appointed yet, so there are no real savings there. The same logic applies to the DRU (Unlinking of Union Revenues). This mechanism already exists today, and the government is merely proposing to extend it. In practice, this also does not generate savings," he explained.
LIMITED SAVINGS
The government is proposing to limit real increases in the minimum wage to 2.5%, the cap set by the fiscal framework. (See MNI INTERVIEW: Brazil Risks Fiscal Dominance-Ex BCB Deputy)
"However, according to our long-term projections, GDP will grow at 2.2% starting in 2026, which we consider Brazil’s potential growth rate. Therefore, under the fiscal framework’s rule, the minimum wage could grow faster than GDP. In our view, any savings from this change would mainly occur in the short term when GDP growth exceeds 2.5%," Andrade warned.
On Wednesday, Brazilian Finance Minister Fernando Haddad announced BRL 70 billion in spending cuts over the next two years and an income tax exemption for individuals earning up to BRL 5,000 per month, an increase from the current limit of BRL 2,259.20.
He argued the measure will have a neutral fiscal impact because the income tax rate will increase for those earning more than BRL 50,000 per month, but many investors doubted whether the steps will be sufficient to prevent further budget deterioration given uncertain revenue estimates.
CONTRADICTORY COMMUNICATION
"In terms of communication, it seemed contradictory to offer an income tax exemption for those earning up to BRL 5,000, given the current need to boost revenue. This is a significant tax break. There is also a risk that Congress could modify the compensation measures proposed by the government," said Andrade.
"Additionally, it will be practically challenging to collect more taxes from individuals earning over BRL 50,000 per month, as these taxpayers often organize themselves as legal entities and engage in tax planning," he noted.