Monetary and fiscal policy: What corrections are necessary?
While monetary policy is being rewarded by the sharp fall of inflation and clear anchoring of expectations, allowing the interest rate to be reduced to a level that stimulates economic recovery, the perspectives for fiscal policy are alarming. Granted, advances have been made, such as approval of the spending cap. Nevertheless, that ceiling will not be tenable unless, besides approval of the pension reform, the government manages to control growth of other primary expenditures. The debt control will also have to involve increases in revenues (recurring and non-recurring). The downgrade of Brazil’s credit rating by S&P is a consequence of the difficulties faced to win approval of the pension reform and other measures to guarantee meeting the primary deficit target in 2018. For the time being, monetary policy will continue to make a decisive contribution to economic recovery, but future success depends crucially on progress toward the fiscal adjustment.
We start by examining the results of monetary policy. Although initially receiving criticism that it should accept an intermediate target, which together with acceptance of a stronger appreciation of the real would allow faster easing of the interest rate, the Central Bank managed to “break the back” of inflation and firmly anchor expectations for several years ahead. With this, not only did it reestablish credibility in the execution of monetary policy, it created the conditions to put the interest rate at a level able to stimulate economic recovery, which has been happening, without running the risk of a resurgence of inflation.
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