Brazil’s Central Bank is the world’s most hawkish. So why do inflation expectations keep rising?

By the end of this year, Brazil’s Central Bank will have jacked up the Selic benchmark interest rate by at least 7 percentage points — more than practically any of its peers around the world. Even considering that the Selic started from a record-low 2 percent a year baseline, this tightening process is huge — and is widely expected to continue into early 2022. 

According to market expectations, Brazil will end 2022 with short-term real interest rates (i.e. expected policy rate minus expected inflation) north of 7 percent, considerably more than any other emerging economy. Russia comes in second, with a little more than 2 percent.

But despite this, Brazil’s inflation forecasts continue to rise. While this would not be so much of a problem if it was restricted to the near future — considering the myriad shocks affecting prices this year — projections from the market and top-rated analysts are showing pernicious contamination over a longer period of time.

For the last 18 weeks, the Central Bank’s Focus Report survey has posted increasing expectations for 2022 inflation. The year hasn’t even begun and analysts are foreseeing 4.96 inflation — just 0.04 points below the upper limit of the government’s target.

More recently, economists also started to mark up their 2023 and 2024 inflation expectations, now sitting a few basis points above their respective target midpoints.

Central Bank trying to shoot the moon

The most common reading of this trend is that Brazil’s Central Bank is “losing the inflation anchor.” The process of fiscal deterioration triggered by the ongoing revision of federal spending cap rules and an...