After hiking interest rates seven times in eleven months, Brazil now faces the most dreaded of economic scenarios: stagflation.
Inflation in Latin America’s two largest economies, Brazil and Mexico, keeps rising despite repeated interest rate hikes by their respective central banks. In Brazil, interest rates have risen faster than in any other major economy this year, yet with little apparent impact on consumer price inflation or producer prices.
On Wednesday (Dec. 8), the Central Bank of Brazil raised the Selic rate by a whopping 150 basis points to 9.25%. It was the second 150-basis point rise since Octoberand the seventh consecutive interest rate hike in 2021. Since March borrowing costs in Brazil have surged by a whopping 725 basis points, the most among major economies. But consumer price inflation and producer prices keep rising. The central bank has pledged that the tightening cycle won’t end until rising inflation estimates return to the central bank target (3.75%).
“It is appropriate to advance the process of monetary tightening significantly into the restrictive territory,” the central bank wrote in a statement accompanying its decision. “The committee will persist in its strategy until the disinflation process and the expectation anchoring around its targets consolidate.”
Brazil now faces the most dreaded of economic scenarios: stagflation. A portmanteau of “stagnation” and “inflation”, stagflation is a situation in which prices don’t stop rising in a sluggish, shrinking economy. As shown in the graph below (courtesy of Trading Economics) inflation has been on a constant upward trajectory since December 2020. In October it hit an almost six-year high of 10.67%, nearly triple the central bank’s target.
The economy is also in recession, having contracted by 0.4% in the second quarter of 2021 and 0.1% in the third.
Despite slowing economic activity, the central bank has slammed on the monetary policy brakes in an attempt to tame inflation. But it also risks squeezing yet more life out of the economy by making it even harder for heavily indebted businesses and consumers to service their debts. As prices and borrowing costs rise simultaneously, hurting consumers and businesses even more than before. The National Confederation of Commerce’s family consumption intention index dropped in November, as higher inflation and interest rates choked household spending, as The Brazilian Report reports:
The findings corroborate results from a survey by consumer protection service Procon, which highlighted that 70 percent of consumers in São Paulo claim to have lost revenue during the pandemic. Over 90 percent say that essential goods such as food, electricity and fuel have eaten up a massive chunk of their household budgets.
Interest rate hikes appear to be having a muted impact on inflation in Brazil in any case. This should hardly comes as a surprise given that today’s inflationary pressures are a result of myriad factors, many of them global in nature and as such beyond the control of Brazil’s central bank. They include extreme weather events such as the once-in-a-century drought Brazil suffered this summer (Brazil’s winter), which fuelled rising prices not only of food but also energy, as Brazil depends on hydroelectric power for around two-thirds of the electricity it consumes. Given the highly interconnected nature of the global economy, extreme weather events in other parts of world could also end up feeding into higher prices in Brazil.
Another key factor driving prices higher is the global supply chain crisis, which shows little sign of letting up any time soon. The monetary stimulus programs in more advanced economies are also likely to be exacerbating global price rises, though it’s impossible to tell just how much. It is probably the confluence of these two factors — a sharply limited global supply of many vital products at a time of surging money supply (although this trend now appears to be slowing) — that is truly damaging.
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