The new emergency relief and monetary normalization
The first point we analyze in this report is the need for the new edition of the Emergency Relief program to be much less generous than in 2020, which had a price tag of 4% of GDP. In 2020 it expanded the retail sales and attenuated the GDP decline. But in face of the contagion acceleration and the slow progress in vaccination its extension to 2021 will not be enough to impede the first quarter GDP decline. We then evaluate the monetary policy perspectives. The worry over unanchoring of expectations will prompt the Central Bank to begin monetary normalization in the near future. In face of a new GDP decline that for some time attenuates inflation, the best (and most likely) course of action will be to start with a small hike of 25 basis points, observing how the exchange rate and expectations react to the fiscal policy to determine the next steps. But in the face of a very weak Real, should the Bank start the normalization with a more aggressive increase, attracting capital inflows to “force” appreciation of the exchange rate? In several previous reports we have shown that the depreciation of the Real in 2020 was predominantly due to the fiscal risk premium and was practically insensitive to the weakening of the dollar (increase of external liquidity). In this report we reiterate our arguments that increasing the interest rate would have a very small effect on the exchange rate. Starting with larger increases of the SELIC rate would mean trusting too much in the capacity of higher interest rates to attract capital and would give too little weight to the cost of monetary normalization on the real side of the economy.
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