Central Bank gets economic policy right, experts say

Central Bank gets economic policy right, experts say

If the Central Bank (BC) decides to reduce the Selic rate, as President Luiz Inácio Lula da Silva has repeatedly defended in his public appearances, the result could be a loss of control over prices and an increase in inflation, according to economists. consulted by CNN .

Since Lula started to question the high level at which the basic interest rate is found, a tension has been established against the president of the BC, Roberto Campos Neto, who has a mandate in the independent entity until 2024.

Lula’s recurring speeches about the impacts of high interest rates on the Brazilian economy want to pressure the Monetary Policy Committee (Copom) to reduce the basic rate at the next meeting, scheduled for March 21st and 22nd.

However, economists have pointed out CNN that the PT’s speeches could have the opposite effect, and the clash with Campos Neto could have an effect by raising future interest rates, which are long-term expectations. In addition, inflation could come back with more force if it is not fully controlled, something that Campos Neto and the BC team are trying to prevent from happening.

“I don’t see any condition for the Central Bank to respond to these emotional appeals and pressures from the government, because it would be a catastrophe – for the economy and for society”, said former finance minister Maílson da Nóbrega, founding partner of Tendência Consultoria .

Among the effects, Nóbrega explains that Campos Neto “lowering his head” and allowing a cut in interest rates before there are economic conditions for it would lead to a rapid worsening of expectations, which has an immediate effect on indicators such as future interest rates and the interest rate. exchange.

“The perception would be that the independence of the Central Bank is over. Future interest would rise sharply, impacting the cost of the National Treasury and credit in the economy, and this would further slow down growth. Capital flight would provoke a sharp depreciation of the exchange rate, which would increase the acceleration of inflation. In other words, a complete and perfect disaster”, evaluates the former minister.

Although the result, in this scenario, would be a Selic, with forceps, lower and earlier, economists explain that what matters for the real economy are long-term interest rates.

“When Lula talks about interest, he talks about the short term, the overnight”, explained Alexandre Chaia, a professor at Insper. “But no bank lends money at this rate, no businessperson takes out a short-term loan. So he should understand that the Central Bank is thinking about future interest rates, which rise more with each Lula attack.”

“The BC’s role is to worry about inflation, and inflation has to lose strength so that interest rates start to fall. But if the president insists on fighting with the Central Bank, expectations on interest rates will continue to rise,” added Chaia.

Farm x Central Bank

Signs from the government’s economic team, such as the commitments to some fiscal control signaled in the first announcements by the Minister of Finance, Fernando Haddad, help to take pressure off interest rates, but, in Maílson da Nóbrega’s view, it is not what will pave the way for lower interest now.

“It’s all just good intentions yet,” he said. Among the biggest milestones, Haddad announced at the beginning of the year a first major package of fine-tooth combing on government spending and, this week, also confirmed the partial return of federal fuel taxes.

Still for the next few months, he promises to deliver his proposal for the new fiscal rule that should replace the spending ceiling, in addition to opening the discussion for the awaited tax reform.

“The minister has taken an appropriate stance on the ideas he transmits, but nothing has been approved, Congress has to approve it”, said Nóbrega. “Until then, what we have today in Brazil is a situation in which the BC is stepping on the brakes and fiscal policy on the accelerator. This creates imbalance and reduces the effectiveness of monetary policy.”

“Offer Shock”

The chief economist at Ativa Investimentos, Étore Sanchez, who specializes in monetary policy, also refutes an argument that Lula and his supporters have frequently resorted to in this discussion: that the inflation experienced by Brazil is not caused by a heated demand, but, yes, due to supply shocks.

This, by reasoning, would render innocuous the action of any increase in interest rates, whose main effect is precisely to cool down credit and consumption.

“It is the role of the Central Bank to control inflation regardless of its origin, that is, regardless of whether it is supply or demand inflation,” says Sanchez.

“The only thing that changes with this is the channel the BC is currently on. Even if it is a supply shock, it is still up to the Central Bank to combat the secondary effects of this shock and for them to spill over into future inflation.” For this, he explains, the remedy is the same: interest.

Quick answer

The agility with which Brazil responded to the first signs of high inflation, still in 2021, is one of the points indicated by economists who also favored a faster relief in prices.

The Brazilian central bank was one of the first in the world, among the main economies, to start raising its basic interest rate, the Selic, after the global economic depression caused by the pandemic, in 2020, began to convert into an inflationary shock. that would reach the whole world, starting in 2021.

It was also the fastest interest rate hike in at least two decades in Brazil: the Selic rose from 2% in February 2021 to 13.75% in August 2022. Leading economies, such as the United States, and also similar emerging countries , such as Mexico, are others that would follow the same path later.

As a result, Brazil currently has one of the lowest inflation rates among the world’s major economies.

Agility is also what should allow the Brazilian Central Bank to start cutting interest rates earlier than others – if political conflicts and the fiscal scenario no longer mess up expectations and disrupt the route.

“The Central Bank of Brazil was one of the first to raise interest rates in the current cycle, and, on February 1st, opted for the fourth following meeting to maintain the rate”, said the risk rating agency Moody’s in a report in which it compares the monetary policy of Brazil and Mexico.

“In contrast, the central bank of Mexico (Banxico) raised its rate by 0.5 points, to 11%, on February 9, and remains open to the possibility of further hikes, as inflation only recently started to ease and the core inflation remains persistently high.”

By the February preview, Brazilian inflation is currently at 5.9% in 12 months. In Mexico, it is 7.8%.

“Cuts in interest rates in Brazil in the second half should only happen if there is solid evidence that inflation is converging towards the target. In Mexico, it is unlikely that there will be cuts in 2023”, completes Moody’s.

Chaia, from Insper, also explained the relationship between high interest rates and public debt, and why the Brazilian situation, which has a disproportionately higher public debt than that of other emerging peers, is different from that of other countries, such as Mexico, for example.

“In Mexico, most bonds are pre-fixed, while in Brazil we have many bonds pegged to the Selic rate. Therefore, if interest rates rise, the debt goes in that direction. But the impact of interest on public accounts is not the main problem, government spending is. We need to have a fiscal anchor as soon as possible,” he said.

Source: CNN Brasil