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Saturday, July 12, 2008

Brazil Monthly Inflation Falls Back (Slightly) In June

Brazil's monthly inflation rate slowed slightly in June from May, though prices still registered their second-biggest rise of 2008. On an annual basis inflation rose at the fastest pace since November 2005, underscoring central bank concern about price pressures.

The benchmark IPCA consumer price index was up 0.74 percent in June, down slightly from the 0.79 percent increase registered in May, according to the statistics agency IBGE. Annual inflation in June rose to a 31-month high of 6.06 percent.

Slowing inflation may give the the central bank - which the Economist wryly refers to as the new Bundesbank - room to pause on the current pace of rate increases which have seen policy makers push up the so-called Selic rate from a record low 11.25 percent to 12.25 percent this year.

Food and beverage prices jumped 2.11 percent in June after a 1.95 percent increase the May and there was a generalised gain in most items surveyed. Prices of staple foods, such as rice and black beans, surged last month, rising 9.9 percent and 7.54 percent, respectively. Clothing prices rose 0.42 percent in June, slowing from a 0.98percent monthly rate in May, while personal spending costs climbed 0.54 percent after a 1.11 percent rise in May, helping the slowdown in the month-on-month IPCA data.

Brazil's annual inflation rate has been running above the 4.5 percent midpoint of the central bank's annual target range throughout 2008.

Despite the strong commitment from the central bank to fighting inflation, my feeling is that the bank will now be more cautious about raising rates too fast. Interest rate hikes need time to have an impact - The central bank estimates that the impact of interest rates starts to be felt on real GDP with a lag of about one quarter - and there are now accumulating signs that Brazil's economy is slowing.

Retail sales growth eased up in April, rising by 8.7 percent from April 2007, was down from the 11 percent increase registered in March.

Also Brazil's industrial output expanded less than most economists expected in May, and this again may well reduce the appetite at the central bank to press ahead rapidly with interest-rate increases. Industrial production rose a mere 2.4 percent on a year on year basis, down considerably on the revised 10 percent increase in April.

The trade surplus was also down in May, and again I think there will be nervousness about any move which can push the real further upward and make exporting for nascent industries more difficult. In addition the finance ministry is now busy tightening fiscal policy, raising its target for the primary surplus (ie, before debt payments) from 3.8% of GDP to 4.3%. The increase represents 14.2 billion reais ($8.83 billion) in savings, and these could be used to further plans to build a sovereign wealth fund, according to Brazil's Planning and Budget Minister Paulo Bernardo Again this fiscal claw-back will tend to slow the economy yet further, and this may well be a more effective way of doing so - ie weakening demand-pull pressure for inflation pass-through - than raising interest rates excessively and in the process further raising the real making exports more difficult, especially since the yield differential only attracts additional funds which simply add to demand side pressures and make the upward move in interest rates counterproductive.

Brazil received $37.2 billion of foreign direct investment in the 12 months through April, a record annual inflow, and foreign exchange reserves were up to $195 billion in March 2008.

Despite the fact that Brazil's Planning and Budget Minister Paulo Bernardo is constantly stressing that the government will take ``all necessary measures'' to curb inflation I would be cautious about any overly rapid judgement that central bank President Henrique Meirelles and his team are about to raise rates for a third time in 2008 when the Monetary Policy Committe meets on July 22-23 next.

Interestingly Morgan Stanley's Marcello Carvalho in a recent piece for the GEF comes down on the side of upside (and not downside) risks on the rate hike front. While he accepts growth is slowing, he still feels:

Risks for rates seem biased to the upside. In all, recent inflation data, trends in expectations and policy signs consolidate the notion that the Copom could have to hike for longer than it originally envisaged. Our forecast continues to assume a full hiking cycle of 300bp, to 14.25%, by end-2008. But risks around our call remain biased to the upside. Depending on how inflation expectations evolve, our econometric work suggests that the hiking cycle could prove to be in the range of 400-500bp (see “Brazil: Taylor-Made Monetary Policy”, This Week in Latin America, June 2, 2008).

Basically Cavalho is skeptical that the potential non-inflationary growth rate is as high as many imagine, and I suspect this is the difference between my view and his.

To keep things in perspective, 3% real GDP growth in 2009 should be interpreted as a sign of success for Brazil, given a darkening global outlook and Brazil’s own lackluster average growth performance in recent decades − not to mention outright recessions during previous downturns....Estimates for potential growth in Brazil may well be revised down, as a consequence. Most estimates would appear to put Brazil’s real GDP growth potential currently in the 4-4.5% range. We would not be surprised to see a downgrade in such estimates to the 3-4% range by the end of next year.
Marcello Carvalho

I think capacity growth in Brazil is now higher than many imagine, and I also think that the slowdown in growth in the developed economies (and possibly China at some point) will take a lot of the sharp sting out of upward pressure on global commodity prices a lot sooner than pergaps many imagine. Remember energy and food prices remaining comparatively HIGH is not the same thing as inflation (which is the rate of increase) remaining high. Absent second round effects inflation in those economies which are not pushing capacity limits (and Brazil would be the locus classicus here) can susbside as rapidly as it surged up. Indeed only yesterday Societe Generale SA's Albert Edwards - the analyst who predicted the Asian currency crisis a decade ago - was out there warning central bankers that deflation may soon overtake surging prices as the biggest risk to the world economy.

1 comment:

Anonymous said...

Still too much money coming into the country. You have the lure of 12% returns on the currency, coupled with the momentum vs. the dollar. Were it not for the residency requirement, I would also be sending my dollars there, directly to the banks.

Also, "these could be used to further plans to build a sovereign wealth fund." One has to wonder, what, exactly, are all of these SWFs going to do with all of their money? Buy US treasuries? Keep taking incremental stakes in large global corps? I'm trying to decide whether or not this phenomenon will ultimately prove inflationary (with the inevitable future spending to come from them).