Brazil - Economic Briefing August 2004

Growth Accelerates Rapidly but Inflation Concerns Overshadow Sustainability (continued)

Consumer prices continue on upward trend
In July, the consumer price index (IBGE-IPCA 15), which covers monthly price increases up to the 15th of every month, increased 0.93%.  The July figure was well ahead of the 0.56% increase observed in the prior month.  Rising food prices resulting from the inter-harvest period and pronounced increases in electric energy tariffs accounted for the strong July reading.  Electricity tariffs rose 0.67%, which virtually doubled the rate observed the prior month, while food prices were up 0.90% over the prior month.  The July price increase raised the annual inflation rate from 5.4% in June to 6.5% in July.  As a result, the annual inflation is now well above the Central Bank’s 5.5% inflation target for this year.  Consensus Forecast participants expect the acceleration in economic activity, rising fuel prices and higher currency depreciation to feed through to higher inflation this year.  As a result, annual inflation is anticipated to reach 7.0%.  This month’s figure was revised upward by 0.3 percentage points over last month, amid the rising inflationary expectations.  Thus, the likelihood that monetary authorities overshoot the target for the fourth consecutive year is considered probable.  This month’s forecast, however, still is within the +/- 2.5% tolerance margin set by the Central Bank.  Panellists also anticipate that monetary authorities will overshoot the annual inflation target next year, as the 5.7% Consensus Forecast estimate is on the upper end of the +/- 2.5% range around the central target of 4.5% set for 2005.

Central Bank holds rates steady and voices concerns about inflation
Following its monthly monetary policy meeting on 21 July, the Central Bank decided to maintain the benchmark SELIC interest rate unchanged at 16.0%.  The July move represented the third consecutive month that monetary authorities have decided to maintain interest rates at their current levels.  However, for the first time in several months the Central Bank indicated that interest rates could rise if the current inflation trend persists.  Consensus Forecast participants, however, still believe that officials will cut interest rates further this year to bolster the economic recovery.  As a result, the SELIC rate is seen dropping to 15.2% by the end of this year, which is up 0.3 percentage points from last month’s forecast.  Lower inflation next year should enable monetary authorities to lower the SELIC rate further to 13.9%.  This month’s interest rate estimate was revised upward 0.6 percentage points amid lingering concerns that authorities may be forced to maintain tighter monetary policy, as activity remains robust and inflationary pressures persist.

IMF fiscal target surpassed in first half of year
The public sector registered a fiscal surplus of 46.2 billion reais (US$ 15.5 billion or 5.8% of GDP) in the first half of this year, which was well ahead of the 32.6 billion reais (US$ 10.9 billion) fiscal surplus agreed to with the International Monetary Fund (IMF) under the terms of the US$ 40.1 billion stand-by agreement.  The first half figure puts public accounts on track to meeting the fiscal surplus of 71.5 billion reais (4.25% of GDP) figure for this year.  Rising tax income and government imposed spending cuts significantly bolstered public accounts.  As a result, the nominal public sector deficit dropped to 3.8% of GDP from 4.1% of GDP in May.  Consensus Forecast participants are confident that the government will maintain the current fiscal discipline, as the fiscal deficit is seen as narrowing further to reach 3.0% of GDP by the end of the year, as the acceleration in economic growth is likely to help bolster tax proceeds further.  This month’s figure was revised downward from the 3.2% of GDP estimate last month.  Next year, the fiscal deficit is anticipated to narrow further to 2.2% of GDP – down 0.2 percentage points from last month.