BCB likely to maintain pace of easing in July with some downside risk - SocGen

Analysts at Societe Generale suggest that given the sharp decline in inflation and still-high level of real interest rates, the BCB will likely maintain the pace of easing (-100bp) at today’s Copom meeting taking the Selic rate to 9.25%.

Key Quotes

“Inflation has fallen below the BCB’s target range IPCA inflation fell to 3.0% yoy in June and the IPCA-15 series showed inflation falling further and below the BCB’s target range by mid-July. At the current pace, inflation could well slide to slightly above 2% by August, after which it is likely to rise moderately over the rest of the year. Given the considerable output gap and the labour market weakness, inflation is likely to remain at around or below the BCB’s target for most of 2018 as well. Food price movement is the key risk to the near- and medium-term inflation outlook while the fiscal-led pressure on sentiment and the BRL are the key medium-to-upside risks to inflation trajectory.”

“The fiscal situation and political developments will continue to be the major driver of confidence and the BRL over the longer term and the government’s ability to achieve fiscal and debt sustainability will be the most critical factor for inflation expectations. However, given the sharp decline in inflation and still-high level of real interest rates, the BCB will likely maintain the pace of easing (-100bp) at this week’s Copom meeting taking the Selic rate to 9.25%. We also see some downside risk of the BCB opting for a steeper rate cut of 125bp at the July meeting. In fact, with the economy remaining very weak and food prices still moderating, there is a clear case for additional monetary accommodation in this easing cycle, beyond our terminal rate call of 9.0% for this cycle, despite the fiscal risks and uncertainty surrounding the equilibrium level of long-term interest rates.”​​​​​

"It is difficult to see the BCB expressing any clear concern in its communication regarding the possibility of Congress approving the pension bill this year. Fortunately, steep inflation deceleration has made rate easing prospects relatively immune to what happens on the legislative front – at least in the near term. Beyond the next couple of meetings, the prospect of easing will be incrementally linked to fiscal reforms, which will be tied to the evolving political situation.”