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Brazil Monetary Policy October 2020

Brazil: COPOM keeps rate on hold for second meeting straight in October

At its 27–28 October meeting, the Monetary Policy Committee (COPOM) of Brazil’s Central Bank unanimously decided to keep the benchmark SELIC interest rate unaltered at its record low of 2.00%. The move was widely expected by market analysts and marked the second hold in a row, following nine consecutive rate cuts since July 2019.

COPOM’s decision to hold fire came despite a backdrop of intensifying price pressures. Inflation surprised on the upside in September, coming in at 3.1%, which led the Bank to raise its projection for the end of this year to 3.0% from 1.9% previously. The Committee considers the rise to be a temporary shock, however, and only slightly raised its inflation forecast for end-2021 to 3.1% from 3.0% previously, while keeping its estimate for end-2022 at 3.3%, in a scenario based on market expectations. However, these forecasts are still below the Bank’s target of 4.00%, 3.75% and 3.50% for 2020, 2021 and 2022, respectively. Meanwhile, COPOM continues to see risks to the outlook in both directions: Downward pressure could stem from economic slack and ongoing uncertainty, while the extension of fiscal measures in response to the health crisis—which weigh on the country’s fiscal trajectory—coupled with setbacks to the reform agenda increasing risk premiums, could cause further upward pressure.

Turning to economic activity, the Bank noted that recent data indicates divergent paths in the recovery between sectors. While improving output in the goods sector is leading the recovery, activity in the services sector, the most directly affected by social distancing measures, seems to be lagging behind, despite the offsetting effects of government stimulus. As such, there is a high level of uncertainty surrounding the economic outlook, especially for the end of this year when the effects of the emergency aid will start to cool off.

Looking ahead, COPOM reiterated its stance from the previous meeting in its communiqué, stating that while the economic backdrop still calls for substantial monetary stimulus, the space for additional policy easing is slim due to prudential and fiscal stability reasons. Therefore, the Committee does not intend to reduce the degree of monetary stimulus as its conditions—well-anchored inflation expectations and Central Bank projections below the target for the relevant monetary policy horizon, and the maintenance of the current fiscal regime—still hold.

Commenting on the outlook for monetary policy, Carlos Pedroso, chief economist, and Mauricio Nakahodo, senior economist, at Banco MUFG Brasil S.A., reflected:

“[…] Considering our overall macroeconomic scenario of gradual and continuous recovery of economic activity, inflation below the central target for this year, and around the targets for next years, as well as assuming progress on the negotiation of tax and administrative reforms (with some dilution on their proposed content) at the Congress, we reinforce our baseline scenario that Selic policy rate might be on hold at 2% until July next year. We see scope for a gradual increase of policy rates starting in August next year, in times of economic recovery already on track, thus there would be no need to keep policy rate at current expansionist zone.”

Meanwhile, Alberto Ramos, economist at Goldman Sachs, also reflected on risks that could call for an earlier removal of the strong monetary stimulus currently in place:

“Overall, we expect the Copom to leave the Selic policy rate unchanged at 2.00% until 2H2021 and to then follow a gradual normalization path. […] [However], unresolved questions about medium-term fiscal sustainability [and] FX market dynamics/volatility and capital account flows, and broad financial risk management considerations could prompt the Copom to in the name of prudence remove part of the current exceptional level of monetary accommodation earlier and/or faster [than our] current forecasted path and beyond what the inflation and growth backdrop (as captured by a traditional Taylor Rule) would demand.”

The monetary policy meeting is scheduled for 8–9 December.

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