The new indications for the Central Bank

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By PAULO NOGUEIRA BATISTA JR.*

Should the Central Bank passively accept market expectations and their effects on long interest rates?

Can I talk about the Central Bank a little more? I promise, dear reader, to change the subject in the next column. Is that there is reason to insist on the subject today: the government finally announced the two new names for the directors of the Central Bank (BC), exercising the legal prerogative of the President of the Republic. The delay was longer than one might have expected, as the outgoing directors' terms expired at the end of February. In any case, it's done. Gabriel Galípolo was appointed to the monetary policy board and Ailton de Aquino Santos to the supervisory board. The names go to the Senate for consideration.

I do not want to discuss the qualities and biography of the nominees, but rather place the nominations within the broader framework of the BC and its Monetary Policy Committee (Copom). The question that must be asked is the following: will they be able to make a difference in the conduct of monetary policy?

There is some hope that they can make a difference. The President of the Republic himself must expect that the directors appointed by him will bring new winds to a Central Bank tied to a very debatable monetary policy, to say the least.

The reluctance to review the stratospheric interest rate policy is perplexing. He only receives applause in Faria Lima and from the super-rich, the main holders of financial wealth. With this policy, Brazil becomes, as we know, a true paradise for rentiers. Where, I ask, is there an opportunity to invest in public bonds and other financial assets, enjoying, at the same time, high profitability, liquidity and low credit risk? It is for no other reason that Roberto Campos Neto, when he appears at Faria Lima for lectures or meetings, finds the euphoric welcome that only a Messi receives when he enters the pitch. The difference is that Messi is a superstar and Campos Neto, not so much.

But I don't want to slide into attacks ad hominem. Campos Neto is not essentially different from some of his predecessors in the presidency of the Central Bank, Ilan Goldfajn or Henrique Meirelles for example, like him faithful and monotonous servants of the bufunfa gang. Brazil will only emerge from underdevelopment, I say again, when figures of this nature are no longer celebrated and considered as references.

Campos Neto largely dominates, as far as is known, the meetings of the directors of the Central Bank and of the Copom. The other directors, less expressive it seems, are unable to cope with him. This opens up a window of opportunity for the two new directors. If they want to innovate, they will have to argue with just one, and not with a group of Copom members. It is true that this “one” is the president of the institution, but the challenge would be greater if other directors also had an active voice.

Everything depends, of course, on the mood of the new directors. Which way will they go? The easiest thing, royally rewarded by the market, is to peacefully and bovinely join the “consensus” that sustains the policy of high interest rates. The director who does so will be welcomed as a “responsible” and “trusted” member of the financial community.

Mainstream media, largely financialized, will promptly and widely give their views, however trivial and harmless they may be. Once his passage through the Central Bank is over, he will be offered comfortable and well-paid jobs at Faria Lima and surroundings. And he will leave the field to warm applause from the market and the media. The script I have just summarized is familiar – and tempting.

The hardest path, the least rewarding, is to question, to exercise a critical spirit. There are several ways to do this. Let's look at some.

The Central Bank is very opaque regarding the models that support, or help to support, its monetary policy decisions. These models are used to identify the interest rate consistent with the inflation targets set by the National Monetary Council. In other words, they answer the following question: what is the interest rate required to force inflation to converge to the targets? Could the new directors, especially those of monetary policy, step outside their comfort zone and carefully examine these models, assessing whether they are acceptable or not.

Macroeconomic models are never the only reference used by the Central Bank to define the course of monetary policy, neither in Brazil nor anywhere else. If the new directors intend to be more than cows in a nativity scene, they will have to examine with a magnifying glass not only the models, but also the other elements that support Copom's decisions, especially the variables constructed by the Central Bank itself. This includes, for example, the breakdown of price indices, core inflation, the criteria used to measure inflation expectations, in addition to current and leading indicators of economic activity and employment levels.

Another thorny point, rarely discussed: how are inflation expectations formed and what is the role of the Central Bank in their formation? Should the Central Bank passively accept market expectations and their effects on long interest rates? Or should it act to influence them and operate along the yield curve, as central banks in developed countries have been doing since the financial crisis of 2008-2010?

The new directors should also, in my opinion, address a basic question: should we review the inflation targets? Is the statement always repeated by the current president of the Central Bank that an increase in the target would not help to practice more civilized interest rates? His argument, in nuce, is that revising the target would lead to an increase for so much expected inflation, forcing the Central Bank to continue charging high interest rates. This assumption seems fragile. Even if expected inflation increases, putting pressure on nominal interest rates, the easing of targets should allow for a decrease in real interest rates. The topic is controversial, but what is expected of the new directors is a willingness to raise doubts about this and other dominant theses at the Central Bank.

I stop here. The new directors, like the others, are protected by fixed mandates, in accordance with the Central Bank's autonomy law. They are thus relatively safe from the dissatisfactions of the government and the President of the Republic who appointed them. Would that make them lean towards the dogmas and interests of Faria Lima? We'll see.

*Paulo Nogueira Batista Jr. he holds the Celso Furtado Chair at the College of High Studies at UFRJ. He was vice-president of the New Development Bank, established by the BRICS. Author, among other books, of Brazil doesn't fit in anyone's backyard (LeYa).

Extended version of article published in the journal Capital letter, on May 19, 2023.


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