Wednesday, July 18, 2012

Brazil Continues Lowering Rates

Last week, Brazil lowered its interest rate from 8.5% to 8%.  This is yet another cut in a long series of cuts as shown in this chart:

To explain the move, let's first look at overall GDP:

This is the chart that is sending the overall warning signal to the to central bank.  Overall growth continues to move lower.  This courttrend has been in place for over two years, now standing near 0%.  Simply put, this is a chart that requires action.

Bolstering the urgency of the GDP chart is the overall, year-over-year decline in industrial production.  This trend is strongly lower, and has been in place for the last half year.

Also consider this information:
The Economic Activity Index of the BCB (IBC-Br) incorporates estimates for the monthly production of the three sectors of the economy, as well as for taxes on products, and constitutes an important coincident indicator of economic activity. Considering seasonally adjusted data, the IBC-Br decreased by 0.4% in March, the same change observed in February, after a fall of 0.3% in January. Thus, the indicator increased 0.15% in the first quarter of 2012, quarter-over-quarter, and increased 1.1% year-over-year. In twelve months, the growth rate has been slowing since November 2010, and reached 1.8% in March. On its turn, the Consumer Confidence Index (ICC), from Getúlio Vargas Foundation (FGV), recorded slight decline in May, after reaching, in April,  the highest level of the series started in September 2005. The Confidence Index Sector Services (ICS) decreased in April, after recording increases in February and March
Let's next look at the inflation excerpts the most recently released central bank policy minutes from the May 29th meeting.  Remember that in looking at these, we have about a month and half's worth of information missing.  I'll fill in the blanks wherever possible.
Monthly inflation measured by the Extended Consumer Price Index (IPCA) reached 0.64% in April (0.21% in March and 0.45% in February), resulting in the seventh consecutive retreat of twelve-month trailing inflation,
which moved from 5.24% in March to 5.10% in April (6.51% in April 2011). Market prices inflation increased 5.63% in the twelve months through April (6.84% in April 2011), while regulated prices inflation reached 3.73%
(5.73% in April 2011). Regarding market prices, it bears highlighting that tradable goods inflation increased 3.36% in the twelve months through April, while inflation related to non-tradable goods increased 7.69%, compared to 6.03% and 7.55% in the same period of 2011, respectively. Specifically on services, inflation in this segment reached 0.77% in April, after rising 0.52% in March, totaling 8.00% in the twelve months through April (down from 8.57% registered in April 2011). In short, despite the fact that services inflation still remains at high levels, the set of available information suggests a declining trend of inflation on a twelve-month accumulated basis towards the inflation target.
Here is a chart of overall inflation rate:

This chart is essentially giving the central bank permission to lower rates.  Notice the continued and strong decline starting in mid-2011 and continuing until now.  Brazil was long plagued by high rates, which explains why they have some of the highest rates in the world.

Brazil's policy dilemma is best explained by the following quote from the Financial Times:
After the first decade of the century, in which everything seemed to fall into place for Brazil, policy makers are now abruptly being forced to rethink the country’s strategic direction. The issue at stake: what kind of economy does Brazil want and how big the role of the state should be?

“We want to consume like US consumers, we want to have the public services of the Europeans but we want to grow like an emerging market, so something has to give,” said Ilan Goldfajn, chief economist at Itaú, Brazil’s largest private sector bank.

It is a question troubling not just Brazil but all emerging markets. With the European, US and Japanese models looking battered, there are few global gold standards left to guide policy makers through the gathering storm clouds. Indeed, the next few years will be critical for the direction of the world economy as each of the Bric nations – Brazil, Russia, India and China – is tempted to revert to old socialist or statist habits to protect jobs and markets.