Brazil Signals Selic On Hold Until 2011 as Inflation Risks Keep Falling

Brazil´s central bank, after leaving its benchmark interest rate unchanged, signaled it may keep borrowing costs steady for the rest of the year as inflationary risks subside.

Policy makers voted unanimously to leave the Selic rate at 10.75 percent late yesterday, matching the median forecast of analysts surveyed by Bloomberg. The decision came after increases at the bank’s three previous meetings.

Inflationary risks continue to abate and the current rate “at this moment” is adequate to ensure inflation will meet the 4.5 percent target, the bank said in a statement. Economists are split on whether domestic demand next year will offset the threat of deflation from slower world growth, said Roberto Padovani, chief economist at Banco WestLB do Brasil SA.

“The market is still pricing in some tightening next year, and that’s not how the central bank sees it,” said Virgilio Castro Cunha, head of fixed income strategy at Bank of America in Sao Paulo. “Those analysts who expected further tightening down the road are going to have to admit that they are seeing a scenario different from the bank.”

Traders expect the central bank to raise interest rates to 12 percent after July 2011, according to Bloomberg estimates based on interest rate futures contracts.

Yields fell across the board, with the contract maturing January 2011, the most traded today, falling two basis points to 10.67 percent at 8:27 a.m. New York time. The real gained 0.2 percent to 1.7422 per dollar.

Deflation Surprise

Brazil’s consumer prices unexpectedly fell last month as evidence mounts that Latin America’s biggest economy is cooling after growing at the fastest pace in 15 years during the first quarter. The annual inflation rate through mid-August slowed to 4.44 percent, below the government’s target for the first time since January.

Even as inflation slows, forecasts for next year have risen to 4.87 percent, from 4.8 percent four weeks ago, according to a central bank survey of about 100 economists published this week.

The bank’s board “does not expect the inflation levels registered in recent months to remain in the near future,” yesterday’s statement said.

With the move, policy makers reiterated that they see a “benign” outlook for inflation stemming from both domestic and international factors, Newton Rosa, chief economist for SulAmerica Investimentos, said in a phone interview from Sao Paulo.

“Given our models, the rate would have to go up to 12 percent to bring inflation expectations down,” Rosa said. “The outlook of slower global growth that the central bank is counting on may not happen.”

Cunha said he expects the bank to hold the Selic at the current level for all of 2011, and that a cut is more likely than another increase given the weak global economy.

Sustainable Growth

According to the minutes of the central bank’s July meeting, the economy is expanding at a pace closer to a “sustainable” level, after growing 2.7 percent in the first quarter over the final three months of 2009.

Economists expect Latin America’s biggest economy expanded 0.7 percent in the second quarter, according to the median estimate in a Bloomberg survey of 40 analysts. Brazil’s national statistics agency will release its second quarter gross domestic product report tomorrow.

Central bank President Henrique Meirelles said Aug. 18 that he expects growth to recover in the third quarter.

World Rates

There is a political risk premium on bonds maturing after 2010, due to uncertainty among traders about whether a government led by Dilma Rousseff might tolerate higher levels of inflation, saidPadovani.

Rousseff, former Cabinet chief and President Luiz Inacio Lula da Silva’s chosen successor, has a 24 percentage point lead over opposition candidate Jose Serra, according to an Ibope poll published Aug. 28.

Rousseff, on the campaign trail, said she wouldn’t reduce the government’s inflation target if elected. In an interview this week with TV Globo, she said it was a “crime” to defend spending cuts.

Meirelles, who has served as the bank’s president since 2003, has vowed to step down when a new government takes office Jan. 1.

“The central bank is leaving the door open to different alternatives in case the scenario changes,” Padovani said.

To contact the reporter on this story: Matthew Bristow in Brasilia at mbristow5@bloomberg.net; Andre Soliani in Brasilia at asoliani@bloomberg.net

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