Horizon for the inflation target has already been adjusted by the Central Bank and change of term would not scare the market, say analysts By Reuters

2023-05-09 19:15:42

© Reuters. Real coins REUTERS/Bruno Domingos

By Fabrício de Castro

SÃO PAULO, May 8 (Reuters) – The possibility of the Central Bank pursuing a target of decoupling the calendar year, an idea explicitly defended by Finance Minister Fernando Haddad last week, is seen naturally by the market and tends to generate little impact on asset prices if adopted, evaluated professionals interviewed by Reuters.

While raising the target would risk raising expectations for inflation, making it difficult for prices to fall, the prevailing understanding is that the adoption of a moving horizon for its fulfillment would only make official the rule already adopted by the BC in practice and already in force in the big savings.

In June, the National Monetary Council (CMN) will define the inflation target for 2026 and the expectation is that it will be able to take the opportunity to also approve the change in the deadline. The change would give the Central Bank more time to put inflation on target, without necessarily having to hit the target each year. More than extending the term, the collegiate would transform the search for the goal into a permanent objective.

“It is a natural evolution for something that is already adopted in other countries. It does not weaken the system of targets and would not have to generate discomfort in the market. Furthermore, the change would not be a complete novelty for us, because the current BC has already been acting in line with this guideline”, commented Mauro Schneider, economist at MCM Consultores.

In August of last year, the BC led by Roberto Campos Neto started to emphasize in its communications the inflation projections for 18 months ahead and to cite the convergence of inflation to the target in the relevant horizon of the monetary policy — and not necessarily in the calendar year.

Target of harsh criticism from the Lula government, which is pressing for a reduction in interest rates, Campos Neto pointed out, at the end of March, that the BC had already been “softening” the price control process via Selic, currently at 13.75% per year. According to him, for the current year’s target (3.25%) to be met, the rate would need to be at 26.5% per year.

“Any of us know that BC extends the convergence period 18 months ahead. In fact, the institution is already looking to converge inflation to the target at some point in 2025. It seems to me that it is not chasing 2024, but 2025”, said economist Alexandre Schwartsman, former director of International Affairs at the BC.

For Schwartsman, the possible change in the deadline for achieving the goal does not change the current dynamics. “The horizon will be more or less where monetary policy is most operational: neither too short nor too long. Eighteen months seems reasonable.”

Schneider, from MCM Consultores, notes that the formal change in the horizon for meeting the target would, in principle, have little direct effect on monetary policy, but could open space for a fall in the Selic if the change is understood as the end of the possibility of expansion of the numerical value of the targets.

In February, the CMN meeting generated apprehension in the financial market amidst speculation that the collegiate — made up of the president of the Central Bank, the Minister of Finance and the Minister of Planning, Simone Tebet — could raise the inflation targets in view of the pressure from the government for an interest rate cut.

Currently, the BC pursues the inflation target of 3.25% for 2023 and 3.00% for 2024 and 2025, in all cases with a tolerance margin of 1.5 percentage points.

The idea of ​​changing the targets was set aside at the February CMN, despite President Luiz Inácio Lula da Silva continuing to defend it, but the damage to the markets was already done, with the price reaching 5.2736 reais and the rate futures contract for January 2027 hitting 13.129% at the height of market fears that month.

Last Monday, the dollar was already quoted at 5.015 reais, while the DI for January 2027 was 11.56%. Part of this decompression was due to the fact that, apparently, the market understood that the chances of the government changing the rules of the game halfway through, changing the value of the targets, decreased.

But Haddad defended last Friday that a “continuous target is much better than the calendar target”, fueling the perception that the CMN can promote this adjustment. Expectations were reinforced with the announcement, on Monday, of the appointment of Haddad’s executive secretary, Gabriel Galípolo, to the Central Bank’s Monetary Policy board.

Although it is not clear when Galípolo will be able to take over — his name still needs to be approved by the Senate –, the appointment of the economist, who has a direct line with President Lula and is quoted to be promoted to the BC presidency in the future, tends to reinforcing winds of change in the municipality, which has voted consensually in recent months to maintain interest rates.

In the minutes of the most recent Copom meeting, released this Tuesday, the Central Bank maintained the assessment made in March that the weakening of inflation expectations partly reflects the questioning of a possible change in targets.

Stress in the markets

Gustavo Menezes, manager of the macro area at AZ Quest, points out that changing the target or expanding its tolerance range would be worse for expectations than formalizing a longer period to reach the target.

“The institution already works with a moving horizon, between 12 and 18 months. If the deadline for meeting the target is 18 months, that would already mean a greater tolerance. As the deadline would become a mobile period, it would only be necessary to formalize how the procedure for assessing compliance with the goal will be”, evaluated Menezes.

Some professionals believe, however, that a simple change in the rules of the game, even if the current Central Bank does not consider the calendar year in its monetary policy, could once again stress the markets.

“The problem is not doing that. The problem is to do it now, when inflation expectations are unanchored”, pointed out Rafael Pacheco, economist at Guide Investimentos.

Currently, the median of market projections, collected in the Focus report, points to inflation of 6.02% for 2023, 4.16% for 2024 and 4.00% for 2025 — all percentages above the center of the targets pursued by the BC .

For Luciano Rostagno, chief strategist at Banco Mizuho (NYSE:), any change in current dynamics could jeopardize inflation control.

“Any change, whether raising the target or raising the deadline, tends to be seen as greater government leniency with inflation, although raising the target tends to have a greater impact,” he said. “If the debate comes to a head, there could be another round of deteriorating expectations.”

A dissonant voice among analysts, Órama’s chief economist, Alexandre Espirito Santo, argues that the CMN should change the inflation target, as well as the tolerance interval and deadline for meeting it.

“My opinion is that changes should be made together: increase the target from 3% to 4%, but narrow the tolerance interval to 1 percentage point, in addition to leaving the calendar year”, he said.

According to him, the expansion of the target would give more space for the BC to reduce the Selic, at the same time that the narrowing of the range would reduce concerns about a possible tolerance for inflation.