Tombini Defies Traders by Signaling Brazil Key Rate on Hold

  • He says inflation outlook shows strategy in right direction
  • Swap rates pared increases after Tombini's speech to Congress

Central bank President Alexandre Tombini said keeping interest rates on hold for now is enough to tame Brazil’s above-target inflation, a view that clashes with traders’ bets.

The inflation outlook “shows that the monetary policy strategy is in the right direction,” Tombini told lawmakers in Brasilia Tuesday. “Keeping the benchmark interest rate at the current level for a sufficiently prolonged time is a necessary condition for inflation to converge to target in the end of 2016.”

Traders increased bets Tombini will be forced to resume rate increases next month after Standard & Poor’s cut Brazil’s sovereign-debt rating to junk and spurred a currency rout. A weaker real and a wider-than-forecast budget deficit have undermined Tombini’s plan of bringing inflation back to the 4.5 percent target next year from 9.53 percent in August.

Increased Risks

While S&P’s decision to cut Brazil’s rating turned the political and economic crisis “more challenging,” the increased risks to the central bank’s goal of taming inflation are already in line with the delayed effects of current monetary policy, Tombini said.

Tombini “signaled that for now the most adequate strategy for the central bank is to keep interest rates at the current level,” Jankiel Santos,chief economist at Haitong, said in an interview from Sao Paulo.

Swap rates maturing January 2017 pared earlier increases after Tombini’s speech and rose nine basis points to 15.02 percent at 1:04 p.m. local time. The real weakened 1.2 percent to 3.8613 per U.S. dollar as traders bet the government will fail to approve tax increases and spending cuts to shore up fiscal accounts next year and avoid further downgrades. Fitch and Moody’s still consider Brazil’s debt investment grade.

Traders are betting the central bank will increase rates in the next four meetings, pushing the benchmark rate to at least 15.25 percent, swap rates show.

The central bank kept the benchmark rate unchanged at 14.25 percent this month, after raising it for seven straight meetings. The inflation outlook for 2016 has increased for six straight weeks to 5.64 percent, according to a central bank survey published Monday.

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