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Conversation With Affonso Celso Pastore (FGV/IBRE)

Monetary Policy Monitor – Conversation With Affonso Celso Pastore published by FGV/IBRE (3/2013).

“The future of the interest rate policy is largely discussed by government officials outside the Central Bank. The COPOM seems not to be pursuing the center of the band. The behavior of inflationary expectations is rarely mentioned by the COPOM members. Do you believe that these and other similar observations justify the concern that the Brazilian Central Bank might be gradually abandoning the inflation targeting regime?

I do not think Brazil will abandon the inflation targeting regime, but there is evidence that the commitment to the target is currently more flexible than in the past. A way to assess the Central Bank’s stance is by its reaction curve, which is basically a form of the Taylor Rule. The Bank reacts to two variables: a) the deviations of projected inflation from the target; and b) the deviations of current GDP in relation to its potential (the GDP gap). For a strongly committed central bank to assure convergence of projected inflation to the target (over a given horizon), any time projected inflation reaches one percentage point above the target it will have to raise the basic interest rate by more than one percentage point, meaning raising the real interest rate. Empirical studies published as Working Papers by the Brazilian Central Bank show that until approximately 2007-2008, this conduct (known as the Taylor principle) was obeyed. From 2008 onward, however, this principle has been violated: the interest rate has never responded to the excess of expected inflation in relation to the target, and instead has clearly reacted to the shortfall of actual GDP in relation to its potential…”

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