Brazil's benchmark rate expected to remain high for a while yet

Brazil’s central bank has signaled it is likely to keep the benchmark Selic rate high for a prolonged period as it still sees risks associated with inflation despite the recent slowdown in price rises.

"The interest rate will tend to remain at current high levels at least until August 2023, and with the easing cycle during the second half of next year, the Selic will trend down to end next year at 11.75%," Luis Otavio Leal, chief economist at Banco Alfa, told BNamericas. 

The monetary authority kept the Selic unchanged at 13.75% on Wednesday night.

"The [central bank policy] committee will remain vigilant, assessing whether the strategy of maintaining the base interest rate for a sufficiently long period will be able to ensure the convergence of inflation," it said in a statement.

"The committee reinforces that it will persevere until not only the disinflation process is consolidated, but also the anchoring of expectations around its goals. The committee emphasizes that future monetary policy steps may be adjusted and it will not hesitate to resume the adjustment cycle if the disinflation process does not proceed as expected."

At the beginning of 2021, the Selic was at 2%, the lowest in history, but the central bank has been forced to increase the rate aggressively since then to contain inflation, which at the beginning of this year was in double digits, well above the monetary authority's target.

Although inflationary pressure has eased in recent months, neither the central bank nor market agents are convinced that this will be sustained in the medium term, since the recent drop in inflation was due to measures adopted by the Jair Bolsonaro government to reduce taxes and contain the increase in fuel prices in an attempt to be reelected in a runoff to take place this Sunday.

Both candidates in the election, right-winger Bolsonaro and former leftist president Luiz Inácio Lula da Silva, have said during campaigning that they will maintain social programs for low-income families next year, which will tend to increase public spending and generate additional inflationary pressure.

"The central bank sent an indirect message to whoever takes over the presidency from January 2023 that if there is more government spending, it will not hesitate to keep interest rates at high levels, or even increase the benchmark," said Leal.

The 12-month inflation rate as of mid-October was 6.85%, well above the central bank’s target of 3.5% for this year.

Even industrial leaders, who are normally critical of the central bank's stance on high interest rates, recognize it is important for the government to send a clear signal regarding fiscal control to avoid fueling inflation.

"To allow for a more intense reduction in the interest rate, it is important to control public spending and make a commitment to fiscal balance," said Robson Braga de Andrade, head of industries association CNI, in a statement.