The Challenge of Guiding Inflation to The Target
The IPCA-15 for June, announced last week, increased the concern regarding unanchoring of expectations. All the core measures have continued to rise, and the annualized rates (quarterly and monthly) of the great majority of the disaggregated indexes are now higher than the cumulative rate over the preceding 12 months. It should be recalled that when the marginal rates exceed the cumulative rate over the past 12 months, this latter rate is still growing.
Additionally, we are unaware of any projections (other than that of the Central Bank itself) that with the SELIC rate held (“for an extended period”) at 13.25%, the IPCA will fall to 4% by the end of 2023. According to the Central Bank, that projection was made assuming an average exchange rate of R$4.90/US$ adjusted by PPP. Is this a realistic hypothesis? In the past few weeks, the numerous expressions of explicit populism by the government have caused the Real to weaken to R$5.20/US$, even against a backdrop of a differential of about 10 percentage points between the DI for 2 years and the yield of 2-year Treasuries, and the high cost of hedging via DI swaps for US$.
Because of the uncertainty about when inflation should reach the target, the ability to attract expectations for one year ahead has been lost, causing a gradual increase of inflationary inertia. This, together with the shocks coming from the fiscal relaxation, have increased doubts about the effectiveness of interest rate movements, in a self-fulfilling process that reduces the credibility of monetary policy.
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