MNI POLICY: Brazil's Copom Muddles Signal About Terminal Rate

The Central Bank of Brazil's decision to slow the pace of interest rate cuts appears to have sent a confusing signal to investors about how soon policymakers intend to stop reducing borrowing costs, raising concerns about how to better communicate policymakers' future intentions, MNI understands.

The pricing out of additional rate reductions seems to be the opposite result that was expected through the previous communication strategy, which indicated officials saw a slowing of the pace of cuts as a way to lengthen the rate-cutting cycle. (See MNI POLICY: Copom Dissenters Feared Reaction Function Misstep)

Dissenting members at last week's meeting argued that, according to BCB models, there was no difference between a 25bp or 50bp cut for inflation forecasts, and only the terminal rate could affect the variable. Thus, it makes little sense to believe that Copom calculations currently point to a 10.50% terminal rate, unless there is unexpected discord over where to end the easing cycle, which is not likely, MNI understands.

The minutes of the meeting, released Tuesday, were interpreted as hawkish and analysts are moving their forecasts for a higher terminal rate, shorting the easing cycle. Some are even expecting that the last was the final reduction and the cycle could end at the current level, at 10.50%.

"They noted that inflation projections were more affected by the determination of the terminal interest rate and that the reduction of 0.50 percentage points would keep monetary policy sufficiently contractionary," minutes from the May meeting said.

DIFFERENT MESSAGE

The market's quickness to embrace a possible end to rate cuts in Brazil runs directly against the message delivered by several Copom members, who had been saying that slowing the pace of cuts could lengthen the easing cycle. Governor Roberto Campos Neto said in March policymakers were discussing the best way to take the easing cycle further with greater certainty.

Deputy Governor for International Affairs Paulo Picchetti said in an interview with Broadcast/Estadao newspaper in April that "maybe it's better to go slower to go further with the Selic."

A hawkish Fed and a worrisome change in the fiscal target for 2025 underpinned the Copom majority's decision to reduce its Selic official rate by 25bp, disregarding March guidance for another half point reduction. The split decision with four votes for a 50bp cut, however, raised suspicions of possible political overtones given that all of President Luis Inacio Lula da Silva's appointees voted for a dovish result. (See MNI INTERVIEW: Split BCB Vote Sends Political Message-Velho)

Governor Roberto Campos Neto said Wednesday the majority of Copom members who voted in favor of 25 bp believed it "was clear" that the changes in the economic backdrop "had been significant" and required a less aggressive loosening of policy. "The debate was centered on technical criteria, and all arguments were taken into consideration," Campos Neto told at the BCB's annual conference in Brasilia.