Brazil's Central Bank Cuts Key Rate, Signals It Will Stand Pat Next Meeting -- Update

02/07/18 04:39 PM EST
By Paulo Trevisani and Jeffrey T. Lewis 

BRASÍLIA -- Brazil's central bank trimmed its benchmark lending rate to a record low Wednesday amid volatility in world stock markets and growing concern about rising global inflation.

The bank's monetary-policy committee cut its benchmark Selic rate to 6.75%, from 7%, and indicated it would hold the Selic at that level at its next meeting.

"Provided the committee's baseline scenario evolves as expected, at this time the [committee] views the interruption of the monetary easing process as more appropriate," the bank said in its note announcing the cut, adding that even with recent market volatility, conditions are favorable for the Brazilian economy.

The inflation rate in Brazil remains below the central bank's 3% to 6% target range, at 2.9% in January, while unemployment remains high and the economy is just starting to recover from a two-year recession. That combination should permit the central bank to leave the Selic where it stands for months to come, analysts said.

Brazil's economic output is projected to have expanded 1% in 2017, and forecasts for 2018 are around 3%, a mark last hit in 2013. Joblessness is at 11.8%, but it has been declining for nine months, from a peak of 13.7% in March 2017.

"With the economy picking up, inflation will rise in the next few months, " so it makes sense to stop cutting rates, said Mauro Calil, an economist at Ourinvest bank.

Declining borrowing costs are already boosting the recovery, as companies use cheaper money to beef up their business.

"A few years ago, companies just closed the spigots on new investment. In the past few months, they've started reopening them," said Thiago Rocha, director of mergers and acquisitions for Senior Solution, a São Paulo-based financial software and services provider. He said even acquisitions are easier now.

"Lower interest rates mean I can make better offers" to buy companies, he said.

But the Brazilian government's gaping budget hole and shifting global forces could shorten the low-rate period, economists say.

The central bank's fight against inflation has benefited from years of near-zero interest rates in the developed world, as investors sought fatter yields in emerging markets and foreign investment supported the local currency, driving prices of imported goods lower.

Economists say this could change if the U.S. Federal Reserve and other major central banks speed up the pace of rate increases, a possibility reinforced last week by stronger-than-expected job growth in the U.S.

"When rates go up in the U.S., there is less money flowing to emerging markets," said Tony Volpon, chief economist at UBS in Brazil and a former central-bank deputy governor. "It's a historic relation."

Mr. Volpon said, however, that if the Fed sticks to its forecast of three rate increases this year, a selloff of Brazilian assets would be unlikely.

But the risk is worsened by troubled government finances. Brazil ended 2017 with a budget deficit equal to 7.8% of gross domestic product, and a debt-to-GDP ratio of 74%, both levels economists considered too high for an emerging market and a source of inflation.

"The fiscal fragility is enormous," Mr. Volpon said. "It's a mega-hole that markets have been financing." He added that financing could become more expensive if global investors ran away from emerging markets.

Write to Paulo Trevisani at paulo.trevisani@wsj.com and Jeffrey T. Lewis at jeffrey.lewis@wsj.com

 

(END) Dow Jones Newswires

February 07, 2018 16:39 ET (21:39 GMT)

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