How long can the Central Bank’s interest rate crunch go – 06/21/2023 – Vinicius Torres Freire

The Central Bank has not given any sign that the Selic rate will be lowered on August 2nd, the date of the next decision on the basic interest rate. It removed the most bitter and expired cherries from the announcements of previous decisions, such as threats of extra hikes and the Selic maintained at 13.75% as far as the eye can see — it would be crazy exaggeration to maintain such words. Furthermore, he said that the arrocho show is not over yet.

In addition to stating that the situation still calls for “caution and parsimony”, BC management doubled the dose of tranquilizers, prescribing “patience and serenity”.

The BC’s inflation projection, also based on the behavior of the Selic estimated by the “market”, is 3.4% in 2024, for a target of 3%. At the tip of the pencil, it looks almost there.

And?

The BC can even cut the Selic in August. But from what its directors wrote in Wednesday’s statement, it’s unlikely. Judging by the BC’s risk analysis items, the probability of extra downside factors in prices and inflationary expectations is small, lower than that of upside risks.

If you decide to cut back in August, you should do it as you would test the temperature of baby bath water using the tip of your little finger: 0.25 point, to 13.5%. In itself, it does not refresh anything.

However, there may indeed be an IPCA lower than expected and, perhaps more importantly, by August, the government may decide that the inflation target for the coming years will remain at 3%. In this case, according to market people’s informed guesses, inflation expectations would drop by something between 0.3 and 0.5 points, practically reaching the 2024 target.

In other words, the BC may also be giving relevant weight to maintaining the target at the National Monetary Council meeting at the end of this month.

The Selic at 13.75% can have ambiguous effects, it is good to remember. It’s still tight, it still raises the cost of government funding, etc. But longer-term rates, those with maturities longer than one year, have been falling well, particularly since May, partly because of the said fiscal framework, partly because of inflation indices that were more behaved than expected, in part because of the low dollar (which also falls due to the high Selic rate).

Yes, the rentiers are earning a little less with the lower rates, although they are making money with the rise in the prices of longer bonds.

It’s not unlikely that long-term rates will decline further, all else being equal. These rates define the cost of financing the government’s debt (roughly speaking, the rates for the Direct Treasury, for example) and are the floor of the general cost of money.

For very short-term growth, the most important question is to know how fast the Selic rate is falling, which at 13.75% has already been contaminating the 2024 GDP for some months. For now, BC continues to say that things will be slow, if at all, and it will depend on the data. People want to see service inflation, close to 6%, and core inflation to go down well.

For medium-term growth, frankly, it makes no difference whether the Selic will be at 12.25% or a still horrible 11.75% in December.

The shouting at the BC will increase, of course. Construction, retail and industry are getting angrier. It remains to be seen how much more the government will complain and whether it will take any retaliatory action, the more unlikely.

Again, keeping the inflation target at 3% for 2024 and subsequent years would help to hold expectations. Achieving good results in government accounts as well. To do otherwise is a jerico idea. If Lula 3 follows the manual, from the final quarter of the year, the arrocho account becomes the responsibility of the Central Bank.

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