Brazil Hikes Reserve Requirements, Policy Rate Hike Seen In January

by Win Thin

Brazil hiked bank reserve requirements on time deposits to 20% from 15% and on cash deposits to 12% from 8%. Measures will take effect December 13 and an estimated BRL61 bln will be removed from the system. Central bank chief Meirelles said that this will help slow inflation, and we think this action makes a December rate hike unlikely. We do, however, believe that incoming central bank chief Tombini will hike the SELIC policy rate at his first meeting January 18/19. As we have seen during the past year, central banks have often been using reserve requirements as the first step down the tightening path, and such hikes have almost universally been followed by policy rate hikes as well. Weekly central bank survey shows market is now looking for an end-2011 policy rate of 12.25%, up from 12.0% last week and 11.75% last month. However, we continue to think that the rate could go as high as 12.75% next year from 10.75% currently.

USD/BRL is testing the bottom of its recent 1.70-1.75 range for a second straight day. Some in the market are speculating that the heightened need for monetary tightening may lead Brazil policy-makers to accept more currency strength as a way of taming price pressures. That is possible, but we need to see how they react on this current move below 1.70 and whether other FX measures will be rolled out on any significant break towards 1.65. Of course, higher rates will tend to encourage more foreign inflows and may require another IOF adjustment if 1.70 remains the line in the sand. For now, we think that the year’s low around 1.6440 is unlikely to be tested anytime soon but await more clarity on the government’s FX stance.

Brazilcapitalcurrenciesinterest ratesmonetary policy