What Will be the Course of Monetary Policy?

BRAZIL ECONOMICS - Report 27 Jun 2016 by Affonso Pastore, Cristina Pinotti, Marcelo Gazzano and Caio Carbone

When on Tuesday (June 28th) the Central Bank releases the Inflation Report for the second quarter, Ilan Goldfajn has a good opportunity to analyze both the legacies received and the course corrections he intends to impose on monetary policy. The first legacy comes from the extremely expansionary fiscal policy practiced by the Rousseff administration, which despite a wide negative GDP gap, obliged the Central Bank to work with high real interest rates. The second comes from the increased inflationary inertia, produced by the expansionary fiscal policy combined with the Central Bank’s reluctant efforts to meet the target of 4.5%. The result was a high real interest rate alongside inflation rates persistently above the target. But fiscal policy is now shifting away from expansionism and will gradually become extremely contractionary, which alongside the reaffirmation of the commitment to the 4.5% target, will reduce inertia. Together with a large negative GDP gap, these are the ingredients for our expectation of a monetary easing cycle, whose starting date and intensity will depend on materialization of the conditions coming from the fiscal policy side.

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