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COPOM Minutes: economic activity still consistent with base case

February 12, 2019

The minutes reinforce the case for stable Selic rate at the 6.5% in coming meetings, barring any significant shocks.

The Copom minutes show that the committee has apparently discussed more extensively the economic activity outlook, and concluded that, when taking into account the shocks that took place in 2018, recent developments are consistent with its base case scenario, of a gradual economic recovery. The committee also emphasized that the pace of economic recovery will depend crucially on a reduction of uncertainties regarding reforms, especially those of fiscal nature. Risks are still perceived as being asymmetric to the inflationary side, but have abated, especially due to the external outlook, which now contemplates a possible intensification of the global slowdown. The text also stressed the need for a cautious approach to monetary policy. In sum, the minutes reinforce the case for stable Selic rate at the 6.5% in coming meetings, barring any significant shocks, as well as the impact that reforms may have on monetary policy decisions down the road. The next event to monitor, on the policy communication front, is the tone and content of incoming governor Roberto Campos’ confirmation speech.

Recent economic developments and the baseline scenario

The Copom assesses that recent economic activity indicators continue to show a gradual recovery in Brazil. As in the post-meeting statement, the committee sees the external scenario as still challenging, but mentions that there was some relief and change in risk profile. On the one hand, the risks associated with the normalization of interest rates in the advanced economies decreased, while, on the other hand, the risks associated with a global slowdown increased, due to uncertainties regarding trade tensions and Brexit.

According to the committee, several underlying inflation measures remain at appropriate or comfortable levels, including the components that are most sensitive to the economic cycle and monetary policy.

The text then outlines the Copom's main assumptions and forecasts. Considering the expectations reported in the Focus survey for the BRL and interest rates, Copom’s forecasts remained around 3.9% for 2019 and increased to 3.8% for 2020 (from 3.6%). This scenario assumes interest rates that end 2019 at 6.50% and reach 8.00% in 2020, in addition to an exchange rate at 3.70 BRL in YE2019 and 3.75 BRL in YE2020. The regulated price inflation forecasts in this scenario are 5.1% for 2019 and 4.7% for 2020. In the reference scenario, with constant interest rates at 6.50% pa and a constant BRL at 3.70, the Copom’s forecasts retreated slightly to 3.9% for 2019 (from 4.0%) and remained at 4.0% for 2020. In this scenario, the forecasts for regulated price inflation are 5.1% for 2019 and 4.5% for 2020.

Risks 

The committee continues to describe the risks surrounding its prospective path for inflation as asymmetric, with greater weight on the upward risks, which are: a possible frustration of the expectations of reforms and a deterioration of the conditions for emerging economies. However, the monetary authority assesses that these risks have cooled down – especially those that concern the external environment.

Policy discussion

In paragraph 12, the Copom discussed evidences of some activity slowdown in the fourth quarter of 2018. However, in light of the shocks that hit the economy throughout 2018, they concluded that the evolution of economic activity is consistent with their gradual-recovery baseline scenario. In addition to that, the committee stressed in paragraph 13 that an acceleration of the recovery pace will depend on having less uncertainty regarding the reforms, mainly those of fiscal nature.

On the international environment, paragraph 14 shows that the Copom continues to see a challenging landscape, but with some reduction and alteration of the risk profile. In particular, the committee evaluated two distinct scenarios for the US economy: the first involves significant risks of an economic downturn, while the latter assumes a continuity of the recent momentum. The Copom concludes that, at least until it becomes clearer which of the two scenarios is most likely, the risks associated with the normalization of monetary policy in the US have been reduced, and the risks of a slowdown in the global economy have increased.

In paragraph 16, the committee members assessed that inflationary risks became less intense, especially those regarding the external scenario. However, they pointed out that, despite this reduction, the upside risks to inflation remain relevant and still have greater weight in their balance of risks. The Copom also discussed (paragraph 17) the best way of performing monetary policy in the face of uncertainties regarding economic scenarios. They concluded that the best way to keep the inflation path towards the targets is to act with caution, serenity and perseverance, even in moments of volatility.

Regarding the adequate magnitude of monetary stimulus present in the economy, the committee understands that the current level of ex-ante real interest rates has a stimulative effect, although estimates of the structural (or neutral) interest rate involve a high level of uncertainty. Copom members agreed that the degree of monetary stimulus depends on the economic scenario, and, in particular, that monetary stimulus requires an environment of anchored inflation expectations.

Policy decision

According to the committee, the decision to keep the policy rate stable is consistent with the convergence of inflation towards the target within the relevant policy horizon, which includes 2019 and, to a lesser-but-growing extent, 2020. The Copom affirmed once more that the economic scenario calls for stimulative monetary policy (lower-than-neutral rates), but also repeated the warning that the continuity of reforms and adjustments in the Brazilian economy is essential for sustainably-low inflation in the medium and long term. Following its recent practice, the committee maintained the flexibility to define its next steps according to the evolution of economic activity and the balance of risks, forecasts and expectations for inflation. In addition to that, they reinforced the assessment that caution, serenity and perseverance have been useful tools in guiding monetary policy decisions.

Interpretation

Therefore, the minutes show that the committee has apparently discussed more extensively the economic activity outlook, and concluded that, when taking into account the shocks that took place in 2018, recent developments are consistent with its base case scenario, of a gradual economic recovery. The committee also emphasized that the pace of economic recovery will depend crucially on a reduction of uncertainties regarding reforms, especially those of fiscal nature. Risks are still perceived as being asymmetric to the inflationary side, but have abated, especially due to the external outlook, which now contemplates a possible intensification of the global slowdown. The text also stressed the need for a cautious approach to monetary policy. In sum, the minutes reinforce the case for stable Selic rate at the 6.5% in coming meetings, barring any significant shocks, as well as the impact that reforms may have on monetary policy decisions down the road. The next event to monitor, on the policy communication front, is the tone and content of incoming Governor Roberto Campos’ confirmation speech.



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