Itaú BBA - Copom: acknowledging a weaker economy, but no imminent reaction

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Copom: acknowledging a weaker economy, but no imminent reaction

May 8, 2019

The post-meeting statement suggests that the authorities are less sanguine on the state of economic recovery

The Copom left the Selic rate unchanged, at 6.5% pa, in a widely anticipated decision. Changes in the policy statement suggest that the authorities are (rightly in our view) less sanguine on the state of the recovery. While still stressing the need to wait for more clarity on the reform front, the authorities seem to be inclined to reassess the adequacy of the stimulus its current stance injects in the economy, in case activity fails to strengthen in the coming months. We believe that downside risks to inflation tend to dominate once the pension reform is approved, leading the monetary authority to resume cutting rates, but not before September. We will learn more about the authorities’ thinking with the release of the Copom minutes on Tuesday, May 14, at 08:00 Brasília time.
 

Details

In the statement, the committee noted that recent economic activity indicators suggest that the weaker performance of end-2018 has continued in the beginning of 2019 (before, the economy was described as being in a gradual recovery, albeit at a slower-than-expected pace). Faced with this deterioration, the Copom states that its scenario contemplates the resumption of the process of gradual recovery of economic activity.

The external scenario remains challenging, with lower short and medium term risks associated with the normalization of interest rates in the advanced economies, but, on the other hand, with the continuation of the risks associated with a global slowdown.

The committee assesses that underlying inflation measures are at appropriate levels, including the components most sensitive to the economic cycle and monetary policy.

The Focus survey inflation expectations rose to 4.0% from 3.9% in 2019 and remained at 4.0% and 3.75% for 2020 and 2021, respectively.

With regard to Copom's own forecasts, in the scenario with constant interest at 6.50% pa and a constant exchange rate of BRL 3.95 (rounded average of the five business days to the Friday before the meeting), forecasts increased to 4.3% (from 4.1%) for 2019 and remained at 4.0% for 2020. In the scenario with trajectories for interest and exchange rates extracted from the Focus survey, Copom projections rose to 4.1% in 2019 (from 3.9%) and remained at 3.8 % for 2020. This scenario assumes an interest rate trajectory ending 2019 at 6.50% pa and reaching 7.50% in 2020, in addition to an exchange rate ending 2019 at BRL 3.75 and 2020 at BRL 3.80.

The balance of risks for inflation continued to be described as symmetrical. However, the committee now assesses that the risk associated with the slack of production factors rose at the margin. There was no change in the assessment of risks of higher inflation, which refer to the possibility of frustration of expectations about the continuity of reforms and to a deterioration of the scenario for emerging market economies.

As in recent statements, the Copom repeated that the continuity of the necessary reforms and adjustments in the Brazilian economy is essential for the maintenance of low inflation in the medium and long term, for lower structural interest rates and for the sustainable recovery of the economy. The perception about the continuity of this agenda affects, according to the committee, current macroeconomic expectations and forecasts. It was also reiterated that the economic situation prescribes stimulative monetary policy, that is, with interest rates below the neutral level.

The next monetary policy steps are described as conditional on the evolution of economic activity, the balance of risks and the forecasts and expectations for inflation. The committee reaffirmed that it is important to observe the behavior of the Brazilian economy over time, in the absence of the remaining effects of the shocks observed in 2018 and also (now with more emphasis) with a reduction of the degree of uncertainty to which the economy is still exposed. The Copom considers that this evaluation is takes time and should not be completed in the short term. 

Therefore, the Copom left the Selic rate unchanged, at 6.5% pa, in a widely anticipated decision. Changes in the policy statement suggest that the authorities are (rightly in our view) less sanguine on the state of the recovery. While still stressing the need to wait for more clarity on the reform front, the authorities seem to be inclined to reassess the adequacy of the stimulus its current stance injects in the economy, in case activity fails to strengthen in the coming months. We believe that downside risks to inflation tend to dominate once the pension reform is approved, leading the monetary authority to resume cutting rates, but not before September. We will learn more about the authorities’ thinking with the release of the Copom minutes on Tuesday, May 14, at 08:00 Brasília time.



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