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Central
Bank hikes again citing inflation concerns
On 19 February, the Central Bank monetary policy committee (COPOM) decided
to raise the benchmark SELIC rate by 100 basis points to 26.5%, the
highest rate since May 1999. The February rate hike was the fifth
consecutive upward adjustment to the SELIC rate since October of last
year, when monetary authorities acted to stem rising inflationary
expectations prompted by a strong depreciation in the currency.
Simultaneously, monetary authorities decided to raise the reserve
requirements on demand deposits kept at the Central Bank from 45% to 60%.
The tightening of monetary reins was impelled by rising concerns that
regulated and monitored prices will continue to exert pressure on consumer
prices in general, given the likelihood for higher fuel prices this year.
Furthermore, Central Bank officials believe that the current spike in
inflation is the result of the strong currency depreciation last year,
which is still being passed through to domestic prices. Nevertheless,
greater currency stability is likely to exert a positive influence on
price developments this year. The February Central Bank tightening has
prompted participants to revise their first quarter forecasts upward but
interest rates are expected to come down from their current high levels
throughout the year to reach 20.8% by year-end – up 0.9 percentage points
from last month.
Currency strengthening subsides amid Iraq concerns
The real depreciated 1.0% in February. The currency weakening followed
upon four consecutive months of strengthening and occurred despite the
Central Bank’s mid-month tightening. Unlike last year, the current real
weakening reflects investor nervousness about a possible war in Iraq,
which is prompting a generalized sell-off in emerging market assets.
However, the Brazilian real is unlikely to experience the same extent of
deterioration currently observed in other regional currencies, whose
exposure to a potential US economic downturn is greater. Participants do
not anticipate a repeat of the deterioration in the exchange rate at the
same scale observed last year. In fact, the currency is expected to
depreciate 1.7% this year to close at 3.59 reais to the US$.
President garners governor support for social security and tax reform
On 23 February, the central government and the 27 state governors signed a
commitment to social security and tax reform. In the so-called “Brasilia
Letter”, governors support the government initiative to eliminate the
existing differentiated state sales tax system in favour of a national
value added tax system. Additionally, the state leaders endorsed the
federal government’s social security initiative currently being discussed
in the legislature, the reform of the Social Security System of Public
Servants, also called “PL-9 reform”. The PL-9 reform establishes new legal
conditions for future entrants into the social security system by setting
a minimum retirement age, harmonizing public and private benefit limits
and requiring public servants to pursue private pension plans. The
federal-state agreement is considered key to consolidating the
government’s support in the national legislature, as state governors can
exercise strong control over national legislator’s decision making. |
