1. Pine Flash Note: Monetary Policy – walking on thin ice
January 15, 2013
We revised our CPI inflation (IPCA) forecast from 5.10% to 5.60% in 2013. Despite the marked
deterioration in the inflation outlook, we believe this level of IPCA does not change the
strategy of maintaining the Selic rate at 7.25% until the end of the year in a context of
limited recovery. It is worth noting that our estimate of real GDP growth in 2013 is 2.6%
below the median of market forecasts (3.20%, according to the latest Boletim Focus) and the
more pessimistic potential GDP growth estimates.
IPCA and Selic: inflation indulgence remains
13%
7.4%
7.1% 12%
6.8%
11%
6.5%
6.2% 10%
5.9%
9%
5.6%
5.3% 8%
5.0%
7%
4.7%
4.4% 6%
Jul-11
Jul-12
Jul-13
Apr-11
Apr-12
Apr-13
Jan-11
Oct-11
Jan-12
Oct-12
Jan-13
Oct-13
IPCA (left) Selic (right)
Source: IBGE; Research Macro & Commodities
As we can see in the chart above, 12-months accumulated index should oscillate near the
target ceiling (6.5%) during 1H13, and may surpass it in March and June, which reduces the
chance of further falls in the Selic throughout the year. Meanwhile, it should slow to 5.6% by
the end of 2H13, which supports the idea of a stable rate throughout the year. The
decompression in the second half of the year is due, in particular, to the prospects of falling
prices in internationally traded commodities and (potentially) superior grains harvests -
especially soybeans - in a world still characterized by low growth. Moreover, 12-months IPCA
is inflated by the strong base of 2012 (owing to the US drought in mid-2012). Such pressures
will gradually be removed from the index.
IPCA projected by usage category: review
IPCA Controlled Services Nondurable Durable Semi durables
Weights 25% 34% 23% 11% 9%
2009 4.3% 4.7% 6.4% 4.0% -1.9% 5.2%
2010 5.9% 3.1% 7.6% 8.9% 0.9% 6.1%
2011 6.5% 6.2% 9.0% 6.9% -1.6% 7.0%
2012 5.8% 3.7% 8.5% 8.5% -3.5% 5.0%
2013 5.6% 3.1% 8.0% 7.0% 0.8% 5.3%
Source: IBGE; Research Macro & Commodities
The table above contains our new estimates. Compared to the previous scenario, we have
raised durable and nondurable inflation in view of (i) recent upside surprises in fresh food
prices, (ii) the gradual rise in tax rates (IPI) for vehicles, products white goods and furniture,

2. according to the government schedule, and (iii) the historically high diffusion index inside
IPCA throughout 2H12 (despite being statistically irrelevant for predicting future inflation
signals derived only by shocks and/or one-time events).
Therefore, the main risk to our forecast stands in the (high) volatility in food prices (in the
table above, it is embedded in the non-durable goods group). In this sense, we also simulated
a price change exceeding our forecast of 7.0% in line with its inflation in 2012 (8.5%). In this
case, the estimated IPCA would rise from 5.6% to 5.9%. Similarly, an abrupt BRL devaluation -
near 2.2/US$ for example – would also lead the IPCA in late 2013 to a most pessimistic level,
close to 6.0%. That is why we conclude the BCB would intervene, (if necessary) to keep the
BRL between 2.0/US$ and 2.08/US$.
Finally, we note that our projections (a) already include a reduction of only 11% in consumer
electricity prices - versus the government target of nearly 17% - that should reduce controlled
price inflation from 3.7% in 2012 to 3.1%, (b) do not take into account a possible
readjustment in gasoline and diesel prices. The magnitude and timing (if it occurs indeed) are
obviously political decisions. In addition, considering there is little headroom for "more
inflation", it is highly likely the government adopts new measures to offset its effects over
consumer prices, either via tax reductions (PIS-COFINS) or via increased blending of ethanol in
gasoline.
Marco Antonio Maciel Marco Antonio Caruso
Chief economist Economist
Pine Pine

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