The Brazilian central bank has said that it will not hesitate to intervene further in foreign exchange markets to combat continued exchange rate volatility.
The real has suffered the largest depreciation against the dollar of any of the major emerging market currencies so far this month, which prompted the central bank to intervene on Thursday, selling $2.7 billion in foreign-exchange swap contracts in a bid to stem the fall.
Speaking in Washington on Friday, central bank president Alexandre Tombini said that he would not hesitate to intervene further to stem further depreciation.
“Every time we feel the need to enter the [currency] market, the central bank will do so,” Tombini said.
“We have strengthened instruments to make the market work adequately. The foreign exchange market will continue to work with tranquillity.”
The real has fallen by around 20% since the central bank announced a surprise rate cut in late August, despite the fact that inflation remains well above the bank’s target.
The sharp depreciation has reignited fears on the inflation front, as the consumer price index is also running well above the official target.
“A depreciation in the range of 20% can already have an impact on inflation and it was not the scenario that the central bank envisaged when it decided to cut interest rates [by 0.5 percentage point to 12% on August 31],” said Carlos Kawall, chief economist at Banco J. Safra.
“If you are hit by a shock, it cools the economy a bit, but the currency depreciation puts pressure on prices. So the credibility of the monetary anchor is very important, to avoid that depreciation from translating into inflation, and feeding back into depreciation,” said Nicolas Eyzaguirre, the Western hemisphere director of the International monetary fund.
But Tombini has sought to dispel fears of a pass through to inflation. “The real has reacted to risk aversion. But the impact of the exchange rate on inflation has been diminished over time,” he said.
“The situation is better than in 2008 in terms of the exposure of the real sector of the economy to exchange rate fluctuations. We have not seen a reduction in export financing, and dollar flows to the Brazilian economy continue to be robust.”
Critics say that the central bank is taking a risk by easing monetary policy and relying on government pledges to enact fiscal consolidation, as well as a global demand slowdown to cool prices, especially in light of recent currency depreciation.
“I know that its credibility has been eroded,” said Paulo Vieira da Cunha, a former director of the central bank who now runs a consultancy in New York. “To bet monetary policy on this type of fiscal policy is a bit complicated. ... It is risky to place bets for a central bank.”