Brazil's Central Bank Resumes Hiking as Inflation Remains High — Update

By Paulo Trevisani

Brazil's central bank raised interest rates for the first time in two years, just hours after the U.S. Federal Reserve joined a global cutting wave, as the victory over inflation that feels in reach in many parts of the world is looking uncertain in Latin America's largest economy.

The bank took its benchmark Selic rate to 10.75% from 10.5% on Wednesday, after keeping it on hold since May, when an easing cycle was interrupted.

The bank expressed concerns with domestic and global uncertainties and indicated that more hikes could be in store.

"The pace of future adjustments of the interest rate and the total magnitude of the cycle that just started will be determined by the firm commitment of reaching the inflation target," the bank said in the post-meeting statement. It added that "a credible fiscal policy…contributes to the anchoring of inflation expectations."

The decision showed that policymakers are focused on government spending keeping economic growth and inflation too hot.

"In their most important decision of the year, they made it very clear that they are concerned with domestic vectors," said Carla Argenta, chief economist at CM Capital. "So much so that they are going against the global trend."

The monetary tightening comes after the U.S. Federal Reserve launched its easing cycle with a bold half percentage point cut and a week after the European Central Bank cut rates for the second time this year. Monetary authorities in countries including the U.K., Canada, Mexico and Indonesia have cut rates in recent months, while others were waiting for the Fed to start.

This isn't the first time Brazil's central bank stands out among its peers. It was ahead of most of them in the post-pandemic fight against inflation, aggressively raising the Selic to 13.75% from 2% between March 2021 and August 2022.

As price increases slowed to single digits from their 2022 peak of 12%, the bank was among the first to lower borrowing costs, cutting by 3.25 percentage points between August 2023 and May 2024, even as inflation remained above its 3% target.

Annual inflation bottomed at 3.7% last April before accelerating to 4.2% in the 12 months through August.

Brazil's experience suggests that inflation can revive if borrowing costs are lowered quickly and the government overspends to stimulate the economy.

"There is an invisible line on the sand that gets crossed when markets start to doubt the credibility of fiscal policy," which eventually forces central banks to keep borrowing costs high, said Matthew McLennan, a portfolio manager at First Eagle Investments.

While forecasters in the U.S. are projecting confidence that the Fed will be able to drive inflation down to target, their Brazilian counterparts are more skeptical.

According to a central bank survey, analysts expect inflation to end this year at 4.35% and remain above target through 2027. The forecasts have been trending higher since earlier this year. Accordingly, they forecast the Selic to end 2024 at 11.25% and 2025 at 10.5%.

These expectations have been deteriorating since the administration of President Luiz Inácio Lula da Silva changed fiscal targets earlier this year.

"Fiscal policy explains the resistance in inflation expectations," said Maykon Douglas, an economist at brokerage firm Highpar. He expects the central bank to increase the pace of hiking in the next few months.

Another headwind is economic growth, which is running higher than the 2% some economists consider consistent with stable prices. In the latest central bank survey with analysts, gross domestic product was forecast to expand nearly 3% this year.

On top of that, central bank President Roberto Campos Neto's term ends in December and he will be replaced by Da Silva-appointed Gabriel Galípolo. The new chair has signaled he won't bend to political influence when making monetary-policy decisions, but this will be the first succession since central bank autonomy was signed into law in 2021 and Da Silva has been a critic of high interest rates, stoking uncertainty.

"Unmoored medium-term inflation expectations reflect a backdrop of an economy with no slack," Goldman Sachs economist Alberto Ramos said in a report earlier this week.

The BCB's next rate decision is scheduled for Nov. 6.

--Paul Hannon contributed to this article.

Write to Paulo Trevisani at paulo.trevisani@wsj.com

Corrections & Amplifications

This article was corrected at 0008 GMT to reflect that Highpar is a real-estate investment holding firm. The original article said it was a brokerage firm.

(END) Dow Jones Newswires

September 18, 2024 19:02 ET (23:02 GMT)

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