June 19, 2019 / 9:58 PM / 3 months ago

UPDATE 2-Brazil central bank holds rates, warns of reform risks

(Adds detail, quote)

By Jamie McGeever

BRASILIA, June 19 (Reuters) - Brazil’s central bank held its benchmark interest rate at a record-low 6.50% on Wednesday, as expected, holding back from signaling looser policy because of doubts on economic reforms.

Otherwise, the scenario outlined by policymakers was one of anemic economic growth and high levels of economic slack putting downward pressure on inflation at home, plus the prospect of interest rates coming down in major developed economies.

The central bank’s monetary policy committee, called Copom, also removed from its previous statement in May a reference to taking time to analyze the economy’s development before judging whether to shift its policy stance.

Announcing its decision hours after the Federal Reserve opened the door for U.S. interest rate cuts later this year, Copom voted unanimously to keep the Selic rate unchanged for a 10th straight meeting, as 18 out of 19 economists in a Reuters poll had predicted.

The nine-strong committee noted Brazil’s economic recovery had stalled and inflation risks had evolved “favorably”, but the elephant in the room was uncertainty about progress on the government’s reform agenda, which includes a social security overhaul that is moving slowly through Congress.

“A possible frustration of expectations regarding the continuation of reforms and necessary adjustments in the Brazilian economy may affect risk premia and increase the path for inflation,” Copom’s statement said.

“The Committee judges that the balance of risks has evolved favorably, but (the reform) risk prevails at this time.”

Zeina Latif, chief economist at XP Investimentos in Sao Paulo, said policymakers were right to hold fire, but they could change their stance at their next meeting at the end of July.

“The economy is very fragile and runs the risk of falling into recession ... but the central bank’s goal is inflation,” she said, noting that the central bank is caught between the weak economy and political uncertainty surrounding reforms.

“Now is not the moment to cut rates. We have to wait to see the impact of reforms on inflation, the exchange rate and inflation expectations. If pension reform is approved, Copom could give a stronger signal at the next meeting,” she said.

Brazil’s economy shrank in the first quarter of the year, the first contraction since 2016 when Brazil was in the last throes of one of its worst recessions ever. Second-quarter economic indicators published so far suggest that a dip back into recession, albeit a milder one, is a distinct possibility.

Market expectations of rate cuts this year are building. A weekly survey by the central bank showed that economists now expect the Selic rate to end the year at 5.75%. (Reporting by Jamie McGeever Editing by Brad Haynes, Leslie Adler and James Dalgleish)

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