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Understand how the rise of the dollar impacts inflation in Brazil

Inflation reached 10.25% in the last 12 months until September, according to the Extended Consumer Price Index (IPCA), and one of the culprits behind the rise in prices is the appreciation of the dollar against the real, which has already gone up around 8% here in 2021.

But, after all, how the rise of the US currency against the real causes prices to rise in Brazil?

According to experts heard by CNN Brasil Business, the country depends on imported raw material for its production chain of the most varied items. Thus, when the dollar rises, these inputs become more expensive, which, later, ends up being passed on to the final consumer.

According to Simone Pasianotto, chief economist at Reag Investimentos, in addition to the increase in the cost of inputs, with a stronger exchange rate, industries that can choose between selling locally or exporting their products choose to export them in order to increase their profits. This reduces the supply of products for domestic consumption, which on the supply side also impacts on price increases.

“This law of supply and demand causes goods to be inflated in the domestic market, raising prices and making the daily lives of Brazilians more expensive. In other words, the more dependent our production chains are on imports, the greater the impact of the exchange rate on prices, as well as the more attractive it is to export to sell locally, the greater the impact on prices,” he said.

Paulo Dutra, professor of economics at FAAP, exemplifies the impact of the dollar on Brazilian inflation in food production. According to him, even the soy planted in the country –and widely used as animal feed in cattle raising–, is impacted by the rise of the US currency and ends up making the entire chain more expensive for Brazilians. In the end, exporting the product also turns out to be more profitable than selling it on the local market.

“We produce soy. Much of the seed comes from Brazil, but we also buy seeds from abroad, priced in dollars, and this seed becomes more expensive with the devaluation of the real. In addition, machines and equipment have a large amount of imported components and become more expensive. So, only in food production do we have a product that ends up being dollarized and as there is a devaluation of the real against the dollar, this directly affects inflation,” he says.

According to experts consulted by the CNN Brasil Business, the dollar may increase against the real for some reasons, including the deficit in the trade balance, when the country imports more products than it exports, the increase in spending by Brazilian tourists abroad and when the US interest rate also starts. to increase — all these factors cause dollars to leave Brazil, increasing the price of the US currency.

In addition, the country has a floating exchange rate regime, that is, the dollar exchange rate can vary freely following market demand and supply flows, without necessarily undergoing State control.

What to do?

As a way to hold the rise in prices, the Central Bank started a cycle to increase the basic interest rate, the Selic, which reached 7.75%. With higher interest rates, Brazil, in theory, is more attractive to foreign capital, as it pays better investors who bring money here, holding back the flow of dollars within the country. Thus, with more dollars circulating in Brazil, the tendency is for the US currency to depreciate against the real.

The problem is that the high Selic rate also reduces economic activity, as it discourages business investment and reduces people’s consumption, as credit is also more expensive.

According to Paulo Dutra, the rise in interest rates is not the only way to contain the impact of the dollar on inflation. Therefore, the country needs to gain credibility with market agents.

“We would have to have a more efficient fiscal policy, avoiding breaking the spending ceiling, as this brings a lack of credibility to the economic policy, causing distrust. The solution today is for them to maintain the fiscal anchorage to generate credibility, and the next step would be the natural appreciation of the currency against the dollar, causing the price of imported products to fall, then moving to a fall in inflation.” he said.

In addition, for Simone Pasianotto, Brazil could also initiate industrial policies for strategic sectors of the economy, despite its implementation difficulty.

“There is also the possibility of adopting industrial and sectorial policies aimed at reducing the exchange rate impact on production chains inserted in the global environment, which is possible, but difficult to be carried out depending on sectorial political interests and depending on their weight in the takings. of global decisions”, he stated.

Who benefits?

It is clear that, despite high inflation, some sectors should benefit from the appreciation of the dollar against the real. Therefore, investors can also take the opportunity to analyze whether such companies can be investment opportunities.

According to Priscila Araújo, manager of Macro Capital, the companies that tend to benefit from a stronger dollar are those that have their revenues in dollars and costs in reais, either because they have a significant portion of their revenues earmarked for export, because they have prices of its products established in hard currency or by having relevant operations outside the country.

“The main example of this are companies that produce commodities, such as Vale, which allocates a large part of their production for export, or steel companies, which even though they target a large part of their products for the local market, have their reference prices in dollar,” he said.

Reference: CNN Brasil

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