Analysis | Why President Lula Is Clashing With Brazil’s Central Bank

1. What’s the central bank’s strategy? 

A year ago, Brazil’s was one of the world’s first central banks to embark on an aggressive cycle of hiking interest rates, taking its benchmark Selic rate from historic lows of 2% to 13.75% in September. Policymakers have held the cost of borrowing steady since. Last year, inflation fell from a peak of more than 12% to 5.87% in Brazil, the biggest drop among emerging economies. But with an inflation target of around 3%, the bank’s policymakers aren’t through combating rising prices. The easing of inflation is due mainly to tax cuts approved under the previous president, Jair Bolsonaro; after three consecutive months of deflation — in July, August and September — the impact of the cuts is fading, and transportation and food prices are picking up again. Central bankers have signaled that they could keep rates steady through most of 2024 to achieve their goal of cooling down Latin America’s biggest economy and bringing annual inflation closer to 3.25% this year and 3% next. 

It can take a relatively long time for interest rates to slow economic activity in Brazil. That’s because monetary policy works through the banking system by making loans either cheaper or more expensive, and the share of people who have banking accounts in Brazil is lower than in developed economies. After a year of rising interest rates, credit flows are only now slowing down in the country. Still, most analysts believe central bankers will succeed in cooling off economic activity and forecast growth of less than 1% this year, compared with an estimated 3% in 2022. 

3. What’s Lula complaint about central bank policy?

After taking office in January, the president complained repeatedly about monetary policy in TV interviews and public speeches. He’s called current interest rates an “embarrassment” and said there’s “no reason” to hold them so high. He’s argued that the bank’s target of about 3% inflation isn’t appropriate for an emerging market such as Brazil and should instead be 4.5%. During Lula’s prior two terms in office, it was closer to that. The extent to which central bankers were allowed to miss their target, known as the tolerance range, was also higher back then. The bank’s ambition of slowing economic growth complicates Lula’s ability to deliver on his campaign promises of lifting living standards for all Brazilians and boosting government revenues to improve public finances.

4. How has the central bank responded?

Policymakers led by Campos Neto have sounded the alarm about inflation risks and reaffirmed their commitment to their mission. After Lula first aired his criticism, analysts, who had already forecast inflation rates higher than 3% all the way through 2026, boosted their estimates further. Soon after, in their first public communication this year, central bankers said they “remain committed” to hit their target. They have also warned about a “particularly uncertain” fiscal outlook, after Lula received a green light from congress for 168 billion reais ($32.4 billion) in extra-budgetary spending. Some members of the bank believe pledges to reduce the government’s deficit “should mitigate” that risk, according to the public communication. 

5. Is the central bank’s independence at risk? 

The repeal of the central bank autonomy law seems improbable given that many members of congress have affirmed their commitment to it. More likely would be a debate about changing the bank’s inflation goals in June when the National Monetary Council is expected to set a target for 2026. Two members of Lula’s cabinet, Finance Minister Fernando Haddad and Planning Minister Simone Tebet, form a majority on the council, with Campos Neto the third member. Campos Neto was named to his position by Bolsonaro and has pledged to remain in the job until the end of his mandate, in December 2024. At that point, Lula will nominate a replacement, who must win congressional approval. During his previous terms, Lula gave the central bank freedom to decide on rates, but he had chosen its leader at the time, Henrique Meirelles. The mandates of the bank’s monetary policy and supervision directors will conclude by the end of February, and Lula will nominate their replacements to Congress amid this conflict. 

6. What’s the argument for central bank independence?

A widely cited 1993 paper by economist Alberto Alesina and former US Treasury Secretary Lawrence Summers concluded that independent central banks are better at controlling inflation than central banks under political control. Shielded from pressures of day-to-day politics, the paper said, they can take a longer view and make unpopular decisions to get there. 

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