Veritas: Brazil and an embarrassment of riches

You can have too much of a good thing. In Brazil’s case, excessive foreign currency inflows that have pushed the real up to levels that hurt the domestic economy and exporters.

This week’s surprise decision by Brazil’s central bank to cut its basic lending rate by 50 basis points to 12%, suggest that policy makers are worried about both domestic and global pressures.
The currency has been pushed upwards by Brazil’s high interest rate and the lure of a fast growing economy. But high interest rates have also “failed” to contain inflation now running at around 7%, well above the official target rate.

Just as Switzerland is discovering that the robust growth rates that helped send the Swiss franc soaring may endanger future growth, Brazil is struggling to find the right monetary policy mix. How to discourage speculative capital flows, maintain strong economic growth and reduce inflation.

Still, as some commentators noted, many policy makers would love to have Brazil’s or Switzerland’s problems.

No-one really knows what the impact of the slowdown in Europe and the US will be on the stronger emerging market economies, but Brazil’s central bank decided it needed to act.

Economic growth in Brazil this year is expected to be around 5%, down from 7.5% last year. Compared to the anemic growth rates in continental Europe and the UK which is hardly growing at all and with inflation at around 5%, Brazil’s problems take on a new perspective.

One analyst described the move as a potential huge mistake. But given the global uncertainties, the decision may simply be a precautionary one. It does leave the future direction of monetary policy unclear, but in a way that’s how it should be. Brazil’s policy makers still have plenty of room for manoeuvre.

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