Brazil's Inflation Unexpectedly Slows as Recession Bites

  • Consumer prices still rise beyond the official target range
  • Airfare costs jump 37%, weighing on December inflation

Brazilian inflation unexpectedly slowed last month, beating forecasts from all analysts surveyed by Bloomberg, as food prices rose less than in the previous month amid a deepening recession.

The benchmark IPCA inflation index moderated to 0.96 percent in December from 1.01 percent in November, the national statistics agency said Friday. That compares to the median 1.05 percent estimate from economists surveyed by Bloomberg. 

“It’s good news in the near-term, but not something that shows clearly that core prices will be trending down,” Carlos Kawall, chief economist at Banco Safra, said about slowing inflation. “The fact that it came mostly from food prices doesn’t show that we can celebrate this.” 

Brazil missed its 2015 target as annual inflation accelerated to 10.67 percent, the fastest for a full year since 2002 and more than double the midpoint of the official target range of 2.5 percent to 6.5 percent. As a result, central bank President Alexandre Tombini had to publish an open letter to the government explaining why he fell short.

Inflation isn’t expected to fall within range this year either, even as the deepening recession and higher borrowing costs chip away at Brazilians’ purchasing power. Leading economists forecast policy makers will redouble efforts to contain consumer prices by embarking on a new round of monetary policy tightening as early as this month.

Traders agree, as swap rates on the contract due in April 2016 rose 2 basis points to 14.66 percent on Friday. The real strengthened 0.5 percent to 4.0248 per U.S. dollar amid improved appetite for emerging-market assets. It dropped 33 percent last year, the worst performer among all 31 major currencies tracked by Bloomberg after the Argentine peso.

The real’s depreciation fueled inflation last year, as did the rising price of government-regulated items, Tombini wrote in his open letter to Finance Minister Nelson Barbosa. He reiterated his commitment to reach the 4.5 percent target in 2017, while Barbosa said in a statement that the government would contribute with fiscal policy and measures designed to boost productivity.

"No matter what happens with other policies, the central bank will adopt the measures needed to meet the target," Tombini wrote.

Banco Safra’s Kawall expects a 150 basis-point tightening cycle this year, starting in January. Higher interest rates would be a bitter medicine for an economy headed to a deep two-year recession, forecast to be the worst since at least 1901. Fearing more job losses, members of President Dilma Rousseff’s Workers’ Party have publicly opposed additional increases to borrowing costs. December data strengthens the case for holding off, according to Enestor dos Santos, principal economist at BBVA.

“We should be more patient and wait for more data, but in my view it takes some pressure off the central bank,” Dos Santos said. “Inflation peaked in December and it will start to decline from January. I think this would not be the best moment for the central bank to tighten monetary policy.”

Deeper Recession

The central bank has held the Selic rate at a nine-year high even as Brazil’s recession deepened. The slump contributed to slower price increases for food and beverages as well as housing. The biggest single contributor to inflation in the month was the price of airfare, a volatile component that rose 37.07 percent.

A rate increase at the January meeting of the monetary policy committee known as Copom isn’t a foregone conclusion, with banks including BBVA and Banco Fibra expecting no change. Higher borrowing costs would hurt investment more than contain inflation, and Brazil should instead consider raising its inflation target, Workers’ Party President Rui Falcao said in a Dec. 28 interview.

“Any dovish decisions in the next Copom meetings will spur market suspicion that the central bank is facing greater political interference, even if technical reasons for a more moderate approach exist,” Chris Garman, managing director at political consultancy Eurasia Group, wrote in a note before the release of the data.

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