As part of efforts to induce a reduction in the Selic rate, currently at the level of 13.75% per year, the Federal Government is analyzing making the inflation targeting system more flexible so that a longer time horizon is adopted for meeting the objective, replacing the “calendar-year” parameter. Today the inflation target for 2023 is 3.25%, with the possibility of varying 1.5% more or less.
The idea defended by the Minister of Finance, Fernando Haddad, of a continuous inflation target establishes a long-term percentage, no longer defined from year to year. In this way, the BC (Central Bank) would try to bring the accumulated inflation in 12 months to the objective determined by the CMN (National Monetary Council) in a longer period.
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The idea, however, is seen with some distrust by the market because it generates uncertainty regarding the achievement of the target and the scenario of inflationary pressure still existing in the country.
“The change proposed by Minister Haddad may have a positive effect on reducing interest rates, but he faces a challenge, which is the context. Changing today in a scenario where inflation still has a component of high pressure could undermine the credibility of the Central Bank as guardian of the inflation target”, says Joelson Sampaio, economist at FGV EESP.
According to the expert, making the inflation target more flexible (having a tolerance for higher inflation) means that the Central Bank does not need such a high interest rate to reduce inflation to lower levels. “Today, for the Bank to reduce inflation to 3.25%, it needs to have an interest rate that takes inflation to that target, which takes interest to a very high level, which is the case with the current rate of 13.75% “, it says.
The professor of Economic Policies at Mackenzie Presbyterian University, Jefferson Prado, does not look favorably on the proposal and believes that it will not reduce interest rates.
“The measure will not cause the interest rate to drop because the proposal consists of extending the term and trying to change the way interest rates will react to the evolution of inflation. For interest rates to fall, a decision must be made regarding fiscal policy. For this, the government would need to manage more transparently and cheaply, propose a reduction in the tax burden along with the tax reform, and so far this has not been done”, he justifies.
According to Prado, even if the interest rate drops, this reduction would be superficial because interest rates reflect both external issues, such as the war in Ukraine and the recession in the US and Europe, and internal issues, such as Brazil’s indebtedness. “As long as the country does not have an austere, responsible fiscal policy that reduces the public debt, it is no use for the government to want to extend the target period and blame the BC. If the government is bothered by the interest rate, it needs to control fiscal spending because if it spends less it means that it takes on less debt and thus issues less bonds, contributing to a drop in interest rates”, he adds.
Other side
In a note sent to This Is Moneythe Ministry of Finance states that “the inflation target model measured in the calendar year is more rigid than other models such as the medium-term target and continuous target, more common in other countries, considering that possible exogenous shocks put pressure on policy money in the short run”.
Still according to the agency, “in the most modern models, the BC could use instruments available within the relevant horizon for monetary policy to direct expectations in a smoothed way. Another advantage is the more perennial nature of the target, which does not need to be established year after year. In a recent assessment of Brazilian economic policy pursuant to Article IV, the technical staff of the IMF (International Monetary Fund) indicates the superiority of an arrangement with targets that are not linked to the calendar year and that are achieved within the relevant horizon of the monetary policy”.
The Mackenzie professor, however, disagrees with the ministry’s assessment. “He justifies it by saying that this flexibility was adopted in some developed countries, but they are countries that are in another moment of the economy. Our economy is still suffering the impacts of Covid-19. We had a chronic supply and supply problem that generated inflation in the country, the effects of which are still being felt. Added to this is the fact that we have a government that delivered a fiscal framework that, although it made the market understand that at least now there is a target, nobody believes that the Executive will be able to fulfill what it is proposing”, he concludes.
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