Political Risk Latin America Blog @PolRiskLatam

Guest post: Brazil – prepare for devaluation

Posted in News and Articles, Political Risk by politicalrisklatam on May 16, 2011

by Thierry Apoteker, CEO and chief economist at TAC for Financial Times, Beyond Brics, May 16th, 2011.

Brazil faces some difficult choices ahead, with the end game likely to be a substantial cut in interest rates and a sharp depreciation of the currency.

Brazilian policy makers have pushed up interest rates consistently since the first quarter of 2010, bringing the benchmark Selic rate from 8.75 per cent a year in April 2010 to 12 per cent after the latest 25bp increase on April 20 2011, by far the highest real rate among large emerging economies. Higher rates are weighing down on investment spending but not money supply and credit expansion, and inflation is still accelerating: at 6.51 per cent year-on-year in April, a shade above the central bank’s targeted ceiling.

At the same time, the very large interest rate differential with US rates is attracting large capital inflows driven by the positive carry, and notwithstanding new taxes on short-term capital. Capital inflows have pushed the exchange rate to the point that it has become a major handicap for non-commodity exporters, while market interventions by the central bank to limit appreciation applies upward pressure on domestic money supply and counteracts the effect of high interest rates. The bottom line is that currency appreciation has progressively become the only substantial counterweight to inflation. (continue reading… )


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