Brazil's Central Bank Cuts Selic Rate Another Percentage Point -- Update

By Paulo Trevisani and Paul Kiernan Features Dow Jones Newswires

BRASÍLIA -- Brazil's central bank cut borrowing costs to single-digit levels for the first time in nearly four years, as a sluggish economic recovery has kept a lid on consumer prices.

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The bank's monetary policy committee said Wednesday it cut the benchmark Selic rate to 9.25% from 10.25%, the third consecutive cut of a full percentage point.

In the postmeeting statement, the bank indicated further cuts remain likely but that their size will depend on economic indicators.

"The pace of easing will continue to depend on the evolution of economic activity, the balance of risks, possible reassessments of the extension of the cycle, and on inflation forecasts and expectations," the bank said.

The language is leading some pundits to believe another full-point cut is possible on Sept. 6 and that the central bank could trim rates more than they previously expected.

"They are now saying it will all depend on certain conditions," said Jankiel Santos, chief economist at Haitong bank. "This lets us imagine that they may keep the pace given slow activity and low inflation."

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Brazil's annual inflation fell to 2.78% in June, from 8.93% a year before. That was lower than the bank's target range of 4.5%, plus or minus 1.5 percentage points.

As a result, monetary easing is expected to continue. Economists polled weekly by the central bank forecast the Selic will end this year at 8%.

Lower rates, however, have done little to jump-start Brazil's economy, which is struggling to recover from its worst recession in more than a century of data. Brazil's output is projected to grow just 0.3% this year, after contracting 3.8% in 2015 and another 3.6% last year.

Economists say the potential benefits of reduced borrowing costs have been muddled by a large budget deficit. As of May, government spending was outstripping tax revenue at a pace equal to 9.2% of gross domestic product. Brasília is struggling to meet fiscal targets and tame public debt that stood in May at 72.5% of GDP, up from 67.7% a year earlier.

Most government spending is mandatory, leaving policy makers with few options to tackle the deficit aside from cutting public investments or raising the already high tax burden.

"The government is spending too much. But it is basically payments, not investment," said Paulo Nepomuceno, a fixed-income analyst at Coinvalores brokerage firm. He said public outlays are fueling demand while anemic activity can't boost supply, in a recipe for higher inflation. "A lot of taxpayer money is thrown on the economy and production can't keep up," he said.

Last week, the government raised fuel taxes to meet its already low fiscal targets. The measure is being challenged in court and criticized by economists who say it only worsens the economy.

President Michel Temer is pushing legislation meant to reduce mandatory public spending in a bid to free up funds for public investment. But the president's efforts are hampered by a 94% disapproval rating and charges that he took bribes as part of a massive corruption scandal, which he denies.

Economists worry that escalating public debt could lead to a currency devaluation that would pressure consumer prices upward. Those concerns haven't materialized so far, thanks mainly to tame conditions in international markets and high unemployment in Brazil.

Prices for raw materials like oil and some food items have been stable at relatively low levels since the commodity boom ended earlier this decade. Brazil's currency also has recovered ground over the past year or so.

"The international scenario has been benign for Brazil," said Fernando Gonçalves, a senior economist at Itaú Unibanco bank. Noting a 13.3% unemployment rate, he added that the labor market has been a "deflationary pressure."

Write to Paulo Trevisani at paulo.trevisani@wsj.com and Paul Kiernan at paul.kiernan@wsj.com

(END) Dow Jones Newswires

July 26, 2017 18:28 ET (22:28 GMT)