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Brazil Eases Bias Against Interest-Rate Hikes

By TOM MURPHY

SÃO PAULO—Brazil's central bank signaled on Wednesday night that it is ready to delve into detailed data on economic conditions in a review that could well result in a round of interest-rate increases later in the year.

After a regularly scheduled meeting, the central bank announced it was holding its Selic base rate steady at 7.25% for the fifth time in a row. The 7.25% level represents an all-time low for the base rate.

But the central bank significantly altered the language of its previous statements, this time eliminating the phrase "sufficiently prolonged period" for base rate stability. Instead, central bank policy makers emphasized, in a brief but unanimous statement, that they will "follow the evolution of the macroeconomic environment until the next meeting, to then define the next step in monetary policy strategy."

What the central bankers are likely to find as they review the data, analysts say, is bad news on the inflation front.

"Many analysts are saying there is no need to raise interest rates, since the economy is slowing down," said Paulo Faria-Tavares, managing partner of Sao Paulo's PTX Lending consultants. "But the problem is exactly the opposite. The economy is slowing down because prices are moving up. Either the central bank stops that process or we will move into stagflation."

Many would say Brazil is already there. Economic growth in 2012 was minimal at just 0.9%, but inflation ended the year at 5.84%. Inflation has since worsened and is now running at 6.2%, edging closer every month to the 6.5% outer limit of Brazil's inflation-targeting range for the year.

But other economists believe inflationary pressures may already be easing, making interest-rate hikes seem less urgent.

"February and March monthly inflation rates will already show a decline," said Heron do Carmo, a University of São Paulo economist. He cited prospects for a large grain and oilseeds harvest and new government regulations reducing electric utility rates.

The harvest typically begins in April, helping pull down food prices starting in May. Lower utility rates are already in force.

In trading Wednesday, investors seemed to agree with the more benign scenarios for inflation, but their optimism was guarded.

In Wednesday's session on the BM&FBovespa exchange, interest-rate futures, for both near-month and deferred-month contracts, showed slightly lower expectations for rates. The July 2013 contract closed at 7.22%, compared with 7.24% Tuesday. The January 2014 contract closed at 7.66%, down from 7.72% the day before.

Although market projections eased from Tuesday to Wednesday, the early 2014 contract would still indicate at least a modest interest rate increase at the end of 2013. Trading Thursday is likely to reflect higher expectations for a rise in rates amid the central bank's renewed worries about inflation.

Brazil's current base rate presents what many economists call a "structural" problem. "The real interest rate should be three to four points above inflation expectations," said Getulio Vargas Foundation economist Fernando de Holanda Barbosa. "Given inflation expectations for this year of about 5.5%, the Selic base rate should be at least 8.5%. The present rate of 7.25% is still expansionist for money supply."

Source: The Wall Street Journal - http://online.wsj.com/news/articles/SB10001424127887324128504578345030579769470

Last Updated on Monday, 17 March 2014 11:00

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