BCB to lower interest rates in 2016 on stabilizing inflation, modest uptrend in USD/BRL likely

Inflation in Brazil has ultimately stabilized around the levels of 10% and is expected to decelerate in the following months because of base effects, according to Commerzbank. According to the Brazilian central bank, the recent appreciation of the Brazilian real and the rising unemployment will curb inflationary pressures in the remainder of 2016. Admittedly, the US Fed’s rate hiking cycle suggests that cases such as additional depreciation of the real have become unlikely, noted Commerzbank.

Subsequently, this should give the Central Bank of Brazil room to cut the Selic rate later in 2016. The central bank has stressed that they will keep the interest rate unchanged at 14.25% because of the uncertain external and domestic environment.  But this is possibly due to the current issues with the fiscal deficit and the political situation. If the central bank announces their plans to lower rates at this point, there is a risk to sending a wrong signal to the market, added Commerzbank.

However, the possibility of lowering rates is more as inflation is beginning to decelerate and due to an upbeat external financing conditions, according to Commerzbank.

“As such we think that cuts of at least 50 bps are achievable over the remainder of the year, albeit that BCB will want to see material and consecutively lower inflation prints before they do so. This means we can expect a loosening of policy towards the end of Q3 / beginning of Q4”, noted Commerzbank.

Meanwhile, the modest rate hiking cycle of the US Fed suggests that a considerable appreciation of the USD will no longer be a problem for emerging markets. Therefore, the USD-BRL forecast has been lowered based on the recent development in spot prices, added Commerzbank.

“However we do not forecast sustained BRL appreciation: on the contrary, we think that BCB rate cuts will diminish BRL’s appeal over time and we therefore forecast a modest uptrend in USD-BRL”, said Commerzbank.