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Brazil fiscal fears spur more aggressive 150 bps interest rate hike

10/27/2021 | 05:55pm EST

BRASILIA, Oct 27 (Reuters) - Brazil's central bank on Wednesday raised interest rates by 150 basis points and signaled another such hike this year, stepping up the world's most aggressive tightening cycle after the government moved to loosen its constitutional spending limit.

The bank's rate-setting committee, known as Copom, decided unanimously to raise its benchmark Selic interest rate to 7.75% as only three of the 36 economists polled by Reuters forecast. Most had expected a third-straight increase of a full percentage point, while fresh fiscal concerns last week led five economists to project a 125-basis-point hike. (Poll data reuters://realtime/verb=Open/url=cpurl%253A%252F%252Fapps.cp.%252FApps%252Fcb-polls%253FRIC%253DBRCBMP%25253DECI)

The larger increase shows Brazil, even after raising rates sharply from 2.00% at the start of the year, is still scrambling to handle double-digit inflation and President Jair Bolsonaro's vows to boost welfare spending ahead of next year's election.

"Recent questioning regarding the fiscal framework increased the risk of deanchoring inflation expectations," wrote Copom in the statement https://www.bcb.gov.br/en/pressdetail/2418/nota accompanying Wednesday's rate decision.

The committee forecast another increase of 150 basis points for the benchmark rate at its next meeting in December, adding that its baseline scenario now called for pushing rates "even further" into restrictive territory.

Last week, Bolsonaro promised https://www.reuters.com/world/americas/brazil-stocks-currency-plunge-rate-futures-rise-fiscal-fears-2021-10-21 to expand a cash transfer program through next year as congressional allies proposed a constitutional amendment making space for nearly 100 billion reais ($18 billion) of additional spending in 2022.

Some economists have warned a spending spree could backfire on the government by forcing the central bank, whose formal autonomy was written into law https://www.reuters.com/business/finance/brazils-top-court-upholds-central-bank-autonomy-amid-rising-inflation-2021-08-26 this year, to hike rates more sharply, tipping the economy into recession next year https://www.reuters.com/article/brazil-economy-forecast/itau-forecasts-brazil-downturn-in-2022-idUSL1N2RL2ME.

"Given recent events in fiscal policy ... our evaluation is that this rate increase won't be very effective at avoiding an even greater deterioration of inflation expectations in 2022, 2023 and 2024," said Jose Marcio Camargo, chief economist at Genial Investimentos.

A weaker currency, severe drought and rising fuel prices helped to push consumer prices 10.3% higher in the 12 months through September. That is the hottest inflation among G20 countries except for Argentina https://www.reuters.com/world/americas/argentina-inflation-spikes-sharply-despite-battle-curb-prices-2021-10-14, which has left interest rates unchanged in 2021, and Turkey https://www.reuters.com/world/middle-east/turkish-central-bank-surprises-by-slashing-rates-200-pts-16-2021-10-21, which shocked markets by slashing rates in recent months after raising them early this year.

($1 = 5.5365 reais) (Reporting by Marcela Ayres Writing by Brad Haynes Editing by Stephen Eisenhammer and Sonya Hepinstall)

ę Reuters 2021
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