Inflation Outlook

Carlos Hamilton Araújo

March 2014

2 2

I. Introduction

II. International Environment

III. Financial Conditions

IV. Activity

V. Inflation Developments

Index

3

I. Introduction

4

• Ensuring the stability of the purchase power of

the currency and a solid and efficient financial

system.

BCB’s Mission

5

Importance of this Mission

• The international experience and the economic

theory set low and stable inflation (stability of the

purchasing power of money) as a precondition to

sustainable growth.

• High inflation:

• It increases risk premiums, diminishes confidence,

shortens the planning horizon and depresses

investment;

• Reduces employment, income and consumption; and

• Increases the income concentration, diminishes the

economic growth and the society welfare.

6 Source: IBGE

The Brazilian Experience

Real GDP Growth Inflation

1980-1985 2.6 147.1

1986-1994 2.3 842.5

1995-2003 2.2 9.1

2004-2013 3.7 5.5

Annual Average (%) Period

7

Retrospective - Abroad

Since the last Report release :

• The risks to global financial stability remained high and, in

the US, the process of normalization of monetary conditions

was started;

• The scenario of more intense global activity was confirmed,

although the activity pace does not match the expectations

in important emerging economies;

• Localized prices pressures in the commodities markets and

volatility focuses in the currency markets; and

• In general terms, accommodative monetary policy stance, in

the emerging and mature economies.

8

Retrospective - Brazil

Since the last Report release:

• National accounts relative to the fourth quarter of 2013 confirm

gradual recovery of the Brazilian economy;

• In the market of factors: relatively stable ICU and narrow idleness

margin in the labor market;

• In the wholesale markets: prices pressures both in the agricultural

and in the industrial segments;

• The process of correction of relative prices advanced and there

were localized prices pressures in the food segment;

• High consumer inflation and still showing resistance slightly

above the one previously anticipated; and

• Continuation of the monetary conditions adjustment cycle.

9

Prospects – Abroad 2014-2015

• Still heightened risks for the global financial stability, in

particular, those deriving from changes in the slope of the

interest curve in important mature economies;

• Supported by positive data recently released, the prospects

indicate more intense global activity pace throughout the

relevant horizon for the monetary policy;

• Prospects of moderation in the dynamics of commodities prices,

albeit localized prices pressures observed at the margin;

• Tension and volatility focuses in the currency markets; and

• In the relevant horizon, prospects for the increase of global

inflation.

10

Prospects – Brazil 2014-2015

• Relatively stable activity expansion pace this year, compared to

2013;

• In the relevant horizon for the monetary policy, changes in the

composition of aggregate supply and demand are anticipated;

• Current accounts’ deficit tends to be essentially financed by

foreign direct investment;

• Moderate credit expansion (to consumption, especially);

• Moderation in wage gains; and

• Projections indicate high twelve-month inflation in the relevant

horizon, with retreating trend in the relevant horizon.

11

Prospects – Forecasts – 2014-2015

GDP Forecast:

• GDP growth in 2014 estimated at 2.0%.

Inflation forecasts:

• Baseline scenario: 6.1% for 2014; 5.5% for 2015; and

5.4% in twelve months up to the first quarter of 2016; and

• Market scenario: 6.2% for 2014; 5.5% for 2015; and 5.2%

in twelve months up to the first quarter of 2016.

12

Prospective Scenario – Monetary Policy

• The Copom highlights that, in moments such as the

current one, the monetary policy should remain especially

vigilant, in order to minimize risks that high inflation levels,

such as the one observed in the last twelve months,

persist in the relevant horizon for the monetary policy. At

the same time, the Committee considers that the effects of

monetary policy actions over inflation are cumulative and

occur with lags.

13

II. International Environment

14

Activity – Expectations

Sources: Bloomberg and Focus – last available day of each month

GDP

2014 GDP (%)

2013 2014

Jun Sep Dec Mar

US 2.7 2.7 2.6 2.7

Euro Area 1.0 1.0 1.0 1.1

Japan 1.5 1.6 1.6 1.4

U. Kingdom 1.6 2.0 2.4 2.7

China 7.6 7.4 7.5 7.4

India 5.8 5.2 4.8 4.8

Brazil 3.0 2.2 2.0 1.7

2015 GDP (%)

2013 2014

Jun Sep Dec Mar

US 3.0 3.0 3.0 3.0

Euro Area 1.3 1.4 1.4 1.5

Japan 1.1 1.3 1.2 1.3

U. Kingdom 2.1 2.4 2.4 2.5

China 7.5 7.2 7.2 7.2

India 6.5 6.0 5.5 5.3

Brazil 3.0 2.5 2.5 2.0

% o

f re

al g

row

th

2.1 1.9

-0.4

5.6

2.4 2.8 2.7

1.1

5.5

2.4 3.1 3.0

1.5

5.6

3.1

-2

0

2

4

6

8

Wo

rld

US

Eu

ro A

rea

BR

ICS

Latin A

merica

2013 2014 2015

15

Prices – Expectations

Inflation

2014 Inflation (%)

2013 2014

Jun Sep Dec Mar

US 1.9 1.9 1.7 1.7

Euro Area 1.6 1.5 1.2 1.0

Japan 2.0 2.3 2.4 2.5

U. Kingdom 2.4 2.3 2.2 2.0

China 3.2 3.1 3.1 2.8

India 8.6 8.7 9.2 9.6

Brazil 5.9 6.0 6.0 6.3

2015 Inflation (%)

2013

Jun Sep Dec Mar

US 2.2 2.2 2.0 2.0

Euro Area 1.7 1.5 1.5 1.4

Japan 1.6 1.6 1.8 1.8

U. Kingdom 2.2 2.1 2.2 2.0

China 3.0 3.0 3.2 3.2

India 7.9 7.5 8.0 8.2

Brazil 5.5 5.5 5.5 5.8

%

Sources: Bloomberg and Focus – last available day of each month

2.5 1.5 1.4

4.7

7.6

2.7 1.7

1.0

4.4

9.9

2.8 2.0

1.4

4.4

8.9

0

2

4

6

8

10

12

Wo

rld

US

Eu

ro A

rea

BR

ICS

Latin A

merica

2013 2014 2015

16 Sources: BCB and Bloomberg

Commodities, Volatility and Risk Aversion

ba

sis

po

ints

VIX

CDS

CDS

ba

sis

po

ints

CRB

po

ints

data up to 3/21

10

20

30

40

50

Sep

10

De

c 1

0

Ma

r 11

Ma

y 1

1

Aug

11

No

v 1

1

Feb 1

2

Apr

12

Ju

l 12

Oct 1

2

Ja

n 1

3

Apr

13

Ju

n 1

3

Sep

13

Dec 1

3

Ma

r 14

0

200

400

600

800

1,000

1,200

1,400

1,600

Sep

10

Dec 1

0

Ma

r 11

Ma

y 1

1

Aug

11

Nov 1

1

Feb 1

2

Apr

12

Ju

l 12

Oct 1

2

Ja

n 1

3

Apr

13

Ju

n 1

3

Sep

13

Dec 1

3

Ma

r 14

SpainPortugalItaly

75

125

175

225

275

325

375

Sep

10

Dec 1

0

Ma

r 11

Ma

y 1

1

Aug

11

Nov 1

1

Feb 1

2

Apr

12

Ju

l 12

Oct 1

2

Ja

n 1

3

Apr

13

Ju

n 1

3

Sep

13

Dec 1

3

Ma

r 1

4

BrazilTurkeyRussiaSouth Africa

260

280

300

320

340

360

380S

ep

10

Dec 1

0

Ma

r 11

Ma

y 1

1

Aug

11

Nov 1

1

Fe

b 1

2

Apr

12

Ju

l 12

Oct 1

2

Ja

n 1

3

Apr

13

Ju

n 1

3

Sep

13

Dec 1

3

Ma

r 14

17

III. Financial Conditions

18

0

50

100

150

200

250

200

0

200

1

200

2

20

03

200

4

200

5

200

6

200

7

200

8

200

9

201

0

201

1

201

2

201

3

201

4*

stocks debentures others

Sources: CVM and BCB

Primary Issues

Capital Market Domestic Operations R

$ b

illio

n in 1

2 m

onth

s

*12 months through Feb/14

2000-04 average

2005-09 average

2010-14 average

19 Source: BCB

Non-Earmarked Credit: Cost, Delinquency and Arrears %

p.y

.

Corporates

Individuals

%

%

Interest Rate

6.5

6.2

6.0

6.5

7.0

7.5

8.0

8.5

Apr

12

Ju

n 1

2

Aug

12

Oct 1

2

De

c 1

2

Fe

b 1

3

Apr

13

Ju

n 1

3

Aug

13

Oct 1

3

De

c 1

3

Fe

b 1

4

delinquency15 to 90 days in arrears

3.3

2.4

2.0

2.5

3.0

3.5

4.0

Apr

12

Ju

n 1

2

Aug

12

Oct 1

2

De

c 1

2

Fe

b 1

3

Apr

13

Ju

n 1

3

Aug

13

Oct 1

3

De

c 1

3

Feb 1

4

delinquency15 to 90 days in arrears

39.4 41.2

22.2 23.1

15

20

25

30

35

40

45

Ap

r 1

2

Ju

n 1

2

Au

g 1

2

Oct

12

De

c 1

2

Fe

b 1

3

Ap

r 1

3

Ju

n 1

3

Au

g 1

3

Oct 13

De

c 1

3

Fe

b 1

4

individualscorporates

20 Source: BCB

Household Debt and Provisions of the System %

%

45.5

21.6

1520253035404550

Aug

1

0

Dec 1

0

Apr

11

Aug

11

Dec 1

1

Apr

12

Aug

12

Dec 1

2

Apr

13

Aug

13

De

c 1

3

Debt Debt Service, s.a.

5.8

3.4

2

3

4

5

6

7

8

Aug

10

Dec 1

0

Apr

11

Aug

11

Dec 1

1

Apr

12

Aug

12

Dec 1

2

Apr

13

Aug

13

Dec 1

3

Provisions made 12m agoCredits written off as losses in the last 12m

21.6

21.8

18

19

20

21

22

23

24

Aug

10

Dec 1

0

Apr

11

Aug

11

Dec 1

1

Apr

12

Aug

12

Dec 1

2

Apr

13

Aug

13

Dec 1

3

Debt Service, s.a. 3m Debt Service

29.7

19.8

16

20

24

28

32

Aug

10

Dec 1

0

Apr

11

Aug

11

Dec 1

1

Apr

12

Aug

12

Dec 1

2

Apr

13

Aug

13

Dec 1

3

Debt ex-housingDebt Service ex-housing, s.a.

21

Box

Recent Evolution of Delinquency in Credit to Individuals

• After elevation in the 2010/12 period, the delinquency of credit to individuals

retreated:

• In great part, it was due to the change in the composition of the portfolio,

with greater share of housing and payroll-deducted loans, modalities that

are characterized by better colaterals and, as a consequence, lower

interest rates and relatively modest delinquency rates.

22

IV. Activity

23

6.3

-10

-5

0

5

10

15

20

25

4Q

09

2Q

10

4Q

10

2Q

11

4Q

11

2Q

12

4Q

12

2Q

13

4Q

13

4.9

-3

0

3

6

9

12

Oct 1

0

Fe

b 1

1

Ju

n 1

1

Oct 1

1

Fe

b 1

2

Ju

n 1

2

Oct 1

2

Fe

b 1

3

Ju

n 1

3

Oct 1

3

Fe

b 1

4

Sources: IBGE, BCB and Funcex

Demand

Household Consumption FCGF

Government Consumption Exports Quantum

% c

ha

ng

e in

4 q

ua

rte

rs

% (

12

m/p

revio

us 1

2m

) %

ch

an

ge in

4 q

ua

rte

rs

% c

ha

ng

e in

4 q

ua

rte

rs

2.3

2

3

4

5

6

74

Q 0

9

2Q

10

4Q

10

2Q

11

4Q

11

2Q

12

4Q

12

2Q

13

4Q

13

1.9

1

2

3

4

5

6

4Q

09

2Q

10

4Q

10

2Q

11

4Q

11

2Q

12

4Q

12

2Q

13

4Q

13

24

8.8

10.0

8.5

7.5

8.0

8.5

9.0

9.5

10.0

10.5

11.0

Ma

y 1

2

Ju

l 12

Sep

12

Nov 1

2

Ja

n 1

3

Ma

r 13

Ma

y 1

3

Ju

l 13

Sep

13

Nov 1

3

Ja

n 1

4

0.5

-4

-2

0

2

4

6

8

10

12S

ep

10

Ja

n 1

1

Ma

y 1

1

Sep

11

Ja

n 1

2

Ma

y 1

2

Sep

12

Ja

n 1

3

Ma

y 1

3

Sep

13

Ja

n 1

4

Sources: FGV, IBGE and Funcex

Supply %

12

m/p

revio

us 1

2m

% m

/m-1

2, 3

mm

a

Industrial Production Services Nominal Income

Crop Harvest Imports Quantum

% y

/y-1

2013: IBGE estimates in Feb/14

% 1

2m

/pre

vio

us 1

2m

2012 average

2013 average

16.2

1.1

-10

-5

0

5

10

15

20

25

30

200

3

200

4

200

5

200

6

200

7

200

8

200

9

201

0

201

1

201

2

201

3

201

4

8.1

-10

0

10

20

30

40

Oct 1

0

Feb 1

1

Ju

n 1

1

Oct 1

1

Feb 1

2

Ju

n 1

2

Oct 1

2

Feb 1

3

Ju

n 1

3

Oct 1

3

Feb 1

4

25 Source: FGV

Firms’ Confidence and Expectations

Obs.: Proportion of favorable answers – proportion of unfavorable answers + 100 (100=neutral)

Services

115.7

121.3

110

120

130

140

150

Jul 10

No

v 1

0

Ma

r 11

Jul 11

No

v 1

1

Ma

r 12

Jul 12

No

v 1

2

Ma

r 13

Jul 13

No

v 1

3

Ma

r 14

Construction

Commerce

127.1

142.7

120

130

140

150

160

170

Jul 10

No

v 1

0

Ma

r 11

Jul 11

No

v 1

1

Ma

r 12

Jul 12

No

v 1

2

Ma

r 13

Jul 13

No

v 1

3

Ma

r 14

Construction

Commerce Services

Industry

Industry

100=

ne

uta

l, s

.a.,

3m

ma

10

0=

ne

utr

al, 3

mm

a

Confidence

Expectations

Confidence

Expectations

117.6

99.3 90

100

110

120

130

140

Feb

10

Jun 1

0

Oct 10

Feb

11

Jun 1

1

Oct 11

Feb

12

Jun 1

2

Oct 12

Feb

13

Jun 1

3

Oct 13

Feb

14

134.4

98.5 90

100

110

120

130

140

150

160

Feb

10

Jun 1

0

Oct 10

Feb

11

Jun 1

1

Oct 11

Feb

12

Jun 1

2

Oct 12

Feb

13

Jun 1

3

Oct 13

Feb

14

26

Boxes

Impacts of the Energy Account over the Trade Balance

• In 2013, the oil account responded for US$13.9 billion out of the US$27 billion

current account deficit increase;

• Greater share of the elevation of the deficit in the trade of oil and fuels

reflected the mismatch between supply and domestic demand for energy; and

• Prospects for the increase of the domestic energy supply, in this and in the

upcoming year, tend to translate into reduction of the external deficit in this

segment.

Revised Forecast for the 2014 Balance of Payments

• Estimate for the current account deficit changed from US$78 billion (3.5% of

the GDP) to US$80 billion (3.6% of the GDP);

• Reduction of the trade surplus from US$10 billion to US$8 billion;

• Forecast indicates current account deficit essencially financed by FDI inflows

(estimate of US$63 billion).

27

Box

International Capital Flows and Public Securities’ Interest Rate

• Evaluates the impact of the participation of non-residents at the Federal Domestic

Public Debt (DPMFi) over the nominal yield stemming from the prefixed rate public

securites in Brazil, maturing in five years; and

• The simulations indicate that the nominal yield stemming from the federal public

securities maturing in five years is affected, in the long run, by the participation of

non-residents in the DPMFi.

28

Boxes

Budget Reprogramming and Accomplishment of the Fiscal Targets

• Analyses, in the 2008/2013 period, the evolution of the expenses occurred, forecast

in the yearly budgetary law (LOA), and reprogrammed after restrictions;

• The expenses were, on average, 5.8% and 1.7% below the expenses initially

forecast in the LOAs and the expenses reprogrammed, respectively; and

• Efficacy of the restriction mechanism as instrument of constraint of public expenses.

Continuous National Household Sample Survey (PNADC)

• The IBGE released, in January 2014, the first results of the PNADC:

• Quarterly released, it will substitute the employment monthly survey - PME and the

national household sample survey - PNAD (yearly), has national reach, and incorporates

recent conceptual and methodological recommendations; and

• For the second quarter of 2013, estimates of 7.4% unemployment rate in the country

(between 4.3% in the South and 10% in the Northeast) and 61.5% activity rate in the

country (between 65.2% in the Middle-West and 56.1% in the Northeast).

29

Box

Recent Impacts of the Adverse Climate over the Brazilian Economy

• Accelerated the cycle of maturation of in natura products, and conducted to the

revision (downwards) in the estimates of grains production and livestock products,

with repercussions over prices; and

• Reduced the estimate of generation of the hydroelectric power plants and

increased the use of thermoelectric plants which, in general, present high

generation cost, with repercussions over prices.

30

Box: GDP Growth Forecasts

Source: BCB

2% growth for 2014 (domestic demand: 2 p.p. and net exports with

null contribution)

Supply

• Agriculture and livestock: 3.5% (7.0% in 2013);

• Industry: 1.5% (1.3% in 2013); and

• Services: 2.2% (2.0% in 2013).

Demand

• Investments: 1.0% (6.3% in 2013);

• Household Consumption: 2.0% (2.3% in 2013); and

• Government Consumption: 2.1% (1.9% in 2013).

31 Source: BCB

Baseline Scenario*

GDP Forecast %

* Interest rate constant at 10.75% p.y.

-2

0

2

4

6

4Q

12

1Q

13

2Q

13

3Q

13

4Q

13

1Q

14

2Q

14

3Q

14

4Q

14

32

V. Inflation Developments

33

Inflation Developments

Sources: IBGE, Fipe and FGV

Prices Indices

Change in 12 months (%)

Feb/13 Feb/14

IPCA 6.31 5.68 ▼

INPC 6.77 5.38 ▼

IPC-Fipe 5.91 3.97 ▼

IPC-C1 6.94 5.00 ▼

IGP-DI 8.24 6.30 ▼

IPA-DI 9.24 6.15 ▼

Agricultural 15.45 0.47 ▼

Industrial 7.02 8.41 ▲

IPC-DI 6.04 5.95 ▼

INCC-DI 7.18 8.04 ▲

34

0

3

6

9

12

Dec 1

1

Ma

r 12

Ju

n 1

2

Sep

12

Dec 1

2

Ma

r 13

Ju

n 1

3

Sep

13

Dec 1

3

Ma

r 14

IPPIPAIGP

% in

12 m

on

ths

Prices

Sources: BCB, IBGE and FGV

Inflation (IPCA) Producer Prices and IGP

In Natura Food Prices

De

c/0

5 =

10

0

IC-Br (R$)

% in

12 m

on

ths

% in

12 m

on

ths

80

100

120

140

160

180

Fe

b 1

1

Ju

n 1

1

Oct 1

1

Feb 1

2

Ju

n 1

2

Oct 1

2

Feb 1

3

Ju

n 1

3

Oct 1

3

Feb 1

4

agriculturemetalenergy

45.6

4.6

-10

0

10

20

30

40

50

Feb 0

9

Aug

09

Feb 1

0

Aug

10

Feb 1

1

Aug

11

Feb 1

2

Aug

12

Feb 1

3

Aug

13

Feb 1

4

7.2

5.2

3.7

0

2

4

6

8

10

Feb 1

2

Ju

n 1

2

Oct 1

2

Fe

b 1

3

Ju

n 1

3

Oct 1

3

Feb 1

4

non-tradablestradablesregulated

6.69% IGP-10

Mar 2014

7.38%

IPP Jan 2014 6.82%

IPA-10

Mar 2014

35 Sources: IBGE and MTE

Wages a

ve

rag

e y

ea

rly in

cre

ase %

% in

12

mo

nth

s

Nominal Wage Real Wage

* 12m through Jan; ** Unit Labor Cost in the Manufacturing Industry: Nominal Payroll/Physical Output

ULC**

% e

m 1

2 m

ese

s

%

Real Adjustment in the CCT (Working

Collective Conventions)

4.0

3.2 3.4 3.2

3.8

2.7

4.1

1.8 1.9

0.0

0.5

1.0

1.5

2.0

2.5

3.0

3.5

4.0

4.52

00

6

200

7

200

8

200

9

201

0

201

1

201

2

201

3

201

4*

9.0

4

6

8

10

12

14

Ja

n 0

9

Ju

l 09

Ja

n 1

0

Ju

l 10

Ja

n 1

1

Ju

l 11

Ja

n 1

2

Ju

l 12

Ja

n 1

3

Ju

l 13

Ja

n 1

4

12.9

5.8

-6

-2

2

6

10

14

Dec 0

9

Ju

n 1

0

Dec 1

0

Ju

n 1

1

Dec 1

1

Ju

n 1

2

Dec 1

2

Ju

n 1

3

Dec 1

3

1.2

1.8 1.6

2.2

1.5

0.0

0.5

1.0

1.5

2.0

2.5

200

9

201

0

201

1

201

2

201

3

36

Box

Segmentation of 2013 Inflation

• Presents estimates of the segmentation of the inflation rate measured by the

Broad National Consumer Price Index (IPCA), in 2013, based on the BCB

forecast models; and

• The simulations suggest that the components with the highest contribution

were market prices, the inertia and the expectations.

37 Source: BCB

Baseline Scenario* and Market Scenario

BCB Inflation Forecasts

* Interest rate constant at 10.75% p.y.

Period Baseline Market

2014 1 6.0 6.0

2014 2 6.2 6.2

2014 3 6.4 6.4

2014 4 6.1 6.2

2015 1 6.0 6.1

2015 2 5.8 5.9

2015 3 5.8 5.8

2015 4 5.5 5.5

2016 1 5.4 5.2

Obs.: 12-month accumulated inflation (% p.y.)

38 Source: BCB

% in 1

2 m

onth

s

Baseline Scenario

(interest rate constant at 10.75% p.y.) Market Scenario

BCB Inflation Forecasts

-2

0

2

4

6

8

10

1Q

13

2Q

13

3Q

13

4Q

13

1Q

14

2Q

14

3Q

14

4Q

14

1Q

15

2Q

15

3Q

15

4Q

15

1Q

16

-2

0

2

4

6

8

10

1Q

13

2Q

13

3Q

13

4Q

13

1Q

14

2Q

14

3Q

14

4Q

14

1Q

15

2Q

15

3Q

15

4Q

15

1Q

16

39

Market Expectations – Summary

Source: BCB

2014 2015

12/31/13 3/21/14 12/31/13 3/21/14

IPCA 5.97 ▲ 6.28 5.50 ▲ 5.80

Regulated Prices 4.00 ▲ 4.30 5.00 ▲ 5.50

IGP-M 6.01 ▲ 6.81 5.40 ▲ 5.50

IPA-DI 5.87 ▲ 6.92 5.40 ▲ 5.60

Selic (end-of-period) 10.50 ▲ 11.25 11.25 ▲ 12.00

Exchange rate (end-of-

period) 2.45 ▲ 2.49 2.45 ▲ 2.55

GDP 2.00 ▼ 1.70 2.50 ▼ 2.00

Industrial Production 2.23 ▼ 1.41 2.95 ▲ 3.00

Trade Balance 8.00 ▼ 4.71 12.00 ▼ 10.00

FDI 60.00 ▼ 55.40 60.00 ▼ 55.00

Primary Result 1.40 ▲ 1.50 2.00 = 2.00

Inflation Outlook

Carlos Hamilton Araújo

March 2014