By Jeffrey T. Lewis and Paulo Trevisani
SÃO PAULO--Brazil's central bank kept its benchmark Selic interest rate unchanged as the inflation outlook deteriorates while the country struggles with the economic impact of Covid-19.
The bank as expected Wednesday left the Selic at a record low of 2% for the fourth straight meeting. The bank removed its previous forward guidance, saying some of the conditions set to maintain no longer hold, in a sign policy makers want to have flexibility to raise rates if necessary in coming months.
"Inflation expectations, as well as inflation projections in its basic scenario, are sufficiently close to the inflation target for the relevant monetary policy horizon. As a consequence, the forward guidance ceases to exist and the conduct of monetary policy will henceforth follow the usual analysis of the balance of risks for prospective inflation," the bank said in its statement.
The bank added that the end of the guidance doesn't mean a rate increase will be automatic because higher-than-normal monetary stimulus is still justified.
By withdrawing its forward guidance, the bank shows it's paying attention to inflationary forces and leaves the door open to raise rates as soon as in the next meeting, said Credit Suisse Brazil Chief Economist Solange Srour, adding she believes the bank will hold off on raising the Selic for at least one more meeting.
"It's a wise move, because we've been worried about inflation," she said. "Rising inflation expectations can only be contained by a central bank that shows it's alert."
The bank's policy makers normally focus on the outlook for inflation when making their rate decisions, but this year they face other unpredictable situations that also require close monitoring. The bank first issued the forward guidance in August, the last time the bank cut the Selic, saying at the time it wanted to clarify policy makers' intentions amid heightened uncertainty.
The bank in August outlined criteria for maintaining the guidance: the outlook for inflation, the continued anchoring of inflation expectations and the government maintaining fiscal responsibility. The bank said that while the forward guidance was in place, rate cuts could occur but not rate increases.
"Looking at the bank's checklist, I don't necessarily see reasons to drop the forward guidance now," said Roberto Secemski, an economist at Barclays in New York who expects the bank to start raising the Selic in August. "But I do understand the possible preference the central bank might have for adding flexibility for future decisions by removing the restraints of the forward guidance."
With the 12-month inflation rate rising in recent months as food prices surged, the bank in December warned that the conditions for keeping the forward guidance could end soon. Consumer prices rose 4.52% during 2020, above the 4% central point of the bank's target for the year, but still within the 1.5-percentage-point tolerance range in either direction.
Many economists expect inflation to continue to accelerate in coming months, then to slow in the second half of the year. The median forecast of economists polled by the central bank is for consumer prices to rise 3.43% over the course of 2021, less than the target for the year of 3.75%, and to increase 3.5% over 2022, in line with the target for that year.
For the moment, at least, the government appears to be ready to rein in spending this year after shelling out tens of billions of reais in 2020 to help the economy through the coronavirus pandemic. One measure alone, monthly payments that were about equal to the minimum wage to the country's poorest residents, temporarily lifted millions out of poverty, boosted retail sales, put additional pressure on food prices and sent government debt levels higher.
The aid payments ended after December, and though there has been talk of extending them, so far any moves in that direction are on hold while Brazil's Congress elects new leadership. Analysts differ on whether the government will resume the payments, but mostly agree that it would send a bad signal to investors who want to see debt levels decline.
"The damage would be greater than the damage from cutting spending," said Étore Sanchez, chief economist at the Ativa Investimentos brokerage, who expects the bank to hold the Selic at 2% through the end of this year. "It would likely lead to a restrictive monetary policy that would result in a bigger loss to the economy than the reduced spending."
Brazil's economy contracted more than 4% last year and should expand about 3.5% this year, according to a weekly central bank survey. The end of the aid payments is expected to slow the economy's recovery, take some pressure off prices and push unemployment higher as people who had been staying at home return to the job market.
The need to spur job growth this year should encourage the central bank to keep rates low, as should uncertainty about the evolution of the pandemic, Ativa's Mr. Sanchez said. Vaccination programs have begun in the country, which has suffered more than 200,000 deaths from Covid-19, but the outbreak has taken a turn for the worse in recent weeks.
"As the vaccination program advances, people will start looking for work again," Mr. Sanchez said. "The central bank needs to look at maximizing employment."
Write to Jeffrey T. Lewis at jeffrey.lewis@wsj.com
(END) Dow Jones Newswires
01-20-21 1739ET
