Brazil's Central Bank Continues Rate Cuts Amid Political Uncertainty -- Update

By Paulo Trevisani and Jeffrey T. Lewis Features Dow Jones Newswires

BRASÍLIA -- Brazil's central bank continued its cycle of rate cuts Wednesday as a political crisis threatens to cripple a budding economic recovery.

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The bank cut its benchmark Selic rate to 10.25% from 11.25%, continuing a reduction in borrowing costs started in October. The move was spurred by Brazil's struggling economy and below-target inflation, according to the central bank's statement announcing the cut.

The bank said in its statement announcing the cut that the trend for inflation remains favorable, and that recent indicators point to a gradual economic recovery this year. Uncertainty regarding the progress of economic overhauls proposed by President Michel Temer nevertheless could hurt growth, the statement said.

The future of Mr. Temer's agenda was thrown into question two weeks ago, when the Supreme Court approved the opening of a probe into alleged graft by the president. The president has denied wrongdoing and said evidence against him is fraudulent, but the episode stirred up more opposition to the pension changes and put its supporters on the defensive.

"It's now clear the main risk is uncertainty about the [fiscal] reforms, " said Ignácio Crespo, an economist at São Paulo-based Guide Investimentos. The next rate cut, at the next meeting ending July 26, is more likely to be by three quarters of a point, he said.

Brazil's gross domestic product shrank for two consecutive years and is forecast by economists to expand no faster than 0.5% this year. The tepid activity has helped rein in inflation, which slowed to a 12-month pace of 4.1% in April, below the bank's 4.5% target.

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For months, the central bank has said public spending needs to drop dramatically to ensure economic growth without sparking faster price increases. But as of April, public debt was equal to 71.7% of GDP, a level likely to rise as the government struggles to make ends meet.

Mr. Temer last year successfully pushed a measure through Congress that imposed on the government an inflation-adjusted spending freeze that is meant to last at least a decade. The centerpiece of his austerity plan, though, is a proposal that would close loopholes allowing some Brazilians to retire in their 50s at a full salary for life, at great cost to taxpayers.

With fiscal overhauls facing increased risk after the opening of the graft probe, more analysts are curbing expectations of faster Selic cuts. But the easing is likely to continue, given the low inflation and dismal growth. Economists surveyed weekly by the central bank forecast year-end Selic at 8.5%.

"They're going to deliver 8.5 by the end of the year; they can do it faster or slower," said André Perfeito, economist at Gradual Investimentos brokerage. "At this moment it's wiser to go slower."

Write to Paulo Trevisani at paulo.trevisani@wsj.com and Jeffrey T. Lewis at jeffrey.lewis@wsj.com

(END) Dow Jones Newswires

May 31, 2017 18:10 ET (22:10 GMT)