MNI POLICY: Brazil's Copom Split Over Potential Growth Spike

Brazilian central bank officials are divided over whether there has been an increase in the country’s potential growth rate that could allow deeper cuts in the benchmark Selic rate toward the end of its monetary easing cycle, MNI understands.

Economists and policymakers have been baffled by a recent rebound in growth that has not been accompanied by a pickup in inflation. GDP increased by around 3% in 2023, well above expectations that began the year at 0.78%, according to the Central Bank's Focus market survey.

After a string of positive surprises in activity without inflation pressure, the notion that potential growth had expanded after economic reforms gained supporters inside BCB's board, while other members oppose this view, saying it is too early to claim structural improvements. Current market estimates peg potential growth at 1.9%.

A higher potential growth rate could open the door to Copom cutting the Selic official rate further at the end of the cycle, although there is disagreement over whether a drop in government fixed investment will persist and thus challenge the higher potential scenario, MNI understands.

Brazil's interest rate is now at 11.75%, having peaked at 13.75%, and the market expects it to be 9.00% at the end of this year and 8.50% in 2025. (See MNI POLICY: Brazil's Copom Sticks To 50BP Cuts As Doves Fly)

Official GDP data for the last quarter of 2023 will be released in March, but economic output increased by 3.1% through the third quarter, driven mainly by the agricultural sector. At the same time, inflation continued to fall, ending the year at 4.62%, above the center of the target but within the range.

RANGE OF VIEWS

The governor of BCB, Roberto Campos Neto, has been vocal about the positive impacts of structural reforms made in the past few years, endorsing the idea of higher potential growth, which is also supported by Gabriel Galípolo, the current deputy of monetary policy expected to be the next governor.

In contrast, Diogo Guillen, the deputy for economic policy, has been more cautious and said at an event in December that the argument is "premature," although he conceded economic reforms in recent years may have boosted structural growth.

One point of unanimous agreement within Copom is that potential growth is an unobservable variable that is difficult to quantify. The government is optimistic about it, and the Ministry of Planning, Budget and Management updated its number in November to 2.5%, from around 1%.

ACTIVE DEBATE

The central bank's September meeting minutes made clear potential growth and the underlying issues surrounding that debate will be a key benchmark for policymakers.

"Copom discussed whether the potential growth would have increased over the last quarters, in view of regulatory reforms and institutional advances," the report said.

"Although judging it premature to reevaluate the potential growth at this moment, Copom argues that the persistence of resilient growth over the next quarters with no inflationary impact might, in the future, lead to the reevaluation of potential growth.”