Brazil Swaps Rise on Bets Inflation Fight to Delay Rate Cuts

  • Central bank minutes cite potential for persistent inflation
  • Carry trade deal has returned 29% in 2016, best in the world

Brazil’s swap rates rose after the central bank said it sees no room to cut borrowing costs that are near a decade high as inflation hasn’t been moderating fast enough.

Swap rates on the contract maturing January 2018 rose 0.03 percentage point to 12.85 percent on Tuesday. They earlier reached 12.89 percent, the highest level on a closing basis since May 27. The real rose 0.3 percent to 3.2761 per dollar.

The central bank is taking a cautious stance while it waits for clarity on the implementation of spending cuts proposed by Finance Minister Henrique Meirelles. The central bank’s five board members all expressed concern about inflation expectations, according to the minutes published Tuesday from their first meeting under new bank chief Ilan Goldfajn.

"These new minutes show the central bank closely monitoring the 2017 projection before considering a rate cut," said Camila Abdelmalack, the chief economist at CM Capital Markets in Sao Paulo. "The monetary authority has been very clear in stating that the current scenario and risk balance don’t allow a more flexible policy for the very short period."

Economists expect inflation to slow to 7.21 percent this year and 5.29 percent next year, according to a central bank survey published on Monday. The central bank targets 4.5 percent, plus or minus two percentage points.

Brazilian assets have led world gains in 2016 on speculation that a new government would be able to pull Latin America’s largest economy from its deepest recession in a century and tame inflation that’s almost double the official target. By keeping the benchmark rate unchanged for an eighth straight meeting last week and signaling that prices could edge higher, the central bank indicated that monetary easing could come later than previously expected.

Brazil’s 14.25 percent benchmark interest rate is the highest among major central banks. Buying the real with borrowed dollars in a carry trade has returned 29 percent this year, the most among 42 currencies tracked by Bloomberg.

On Monday, Meirelles said that the tax burden would have to keep growing if the government fails to pass structural adjustments to its budget, including a comprehensive pension reform. He didn’t rule out temporary tax increases in the short term at a speech in Rio de Janeiro. Brazil estimates the central government will post a deficit before interest payments of 170.5 billion reais ($52 billion) this year, its worst in history.

All board members underscored that structural fiscal reforms are “fundamental to reducing the cost of the disinflation process.”

Before it's here, it's on the Bloomberg Terminal. LEARN MORE