One of the achievements of the current Brazilian government is the substantial and firm inflation decrease that started in 2016, especially since the middle of the year, when the rate became below the inflation target ceiling and, currently, is below the center of the scale. Would agribusiness have something to do with this scenario?
A macroeconomic approach points to the interest rate as a tool to control the inflation rate through its effects on the economic activities (GDP and employment). However, two relevant factors are beyond the range of interest rate, mainly in the case of the monetary policy in Brazil. First, supply shocks and second, high price indexation that still prevails in the country.
A quick retrospect shows that to boost the economy in the after-crisis period, including in 2010 when it had already overcome the effects of the downturn, a set of measures started to be implemented, known as “new economic matrix”. One action was the artificial reduction of interest rates incompatible with high observed and expected inflation rates. A second measure was an effort to prevent an appreciation of the exchange rate despite the large inflow of currencies from the international market. A third one was the maintenance of a expansive tax policy with practices that were questionable technically and legally. Another measure was to increase sharply the credit supply to consumption and investment, leading people to over-indebtedness. Moreover, another measure to control inflation was the vigorous intervention on energy prices, affecting the so-called government-monitored prices. Even with all these interventions, the economic growth pace was slow, compatible with its low productivity potential.
When it became clear that the strategy had failed and inflation was more intense, a process of significant increase of the interest rate was necessary from 2013 to 2016. The unavoidable need of tariff realism and fiscal corrections in 2015 resulted in a perverse scenario: recession with inflation acceleration. All of this occurred in a scenario of serious political crisis with no perspectives of solution in the short-term.
From the second quarter of 2014 onwards, the economy was already drowning into recession, which continued until early 2017. The GDP decrease from 2015 to 2016 totaled 7.2%. A year later (early 2015), unemployment started to increase into a process that has lasted for two years and reached record levels, higher than 13%. These data are enough to highlight the inflation persistence in Brazil, in other words, the economic and social costs to fight it.
The causes of high costs to control inflation in Brazil, in terms of income and employment, are related to the significant indexation level of economy that weakens the effects of the interest rate and increases the effects of the increasingly more frequent supply shocks caused by the weather behavior on agriculture and livestock. Commodity shocks (minerals and agriculture/livestock) in the international market and exchange rate shocks in the domestic one aggravate inflation from the supply side of the economy, undergoing too the indexation process.
Indexation, which was severely restricted by the Plano Real, strengthened again due to two changes in the labor market. One was the policy of real valuation of the minimum wage since the mid-1990s. As many workers receive their wages close to or based on the minimum wage, labor costs tended to affect inflation vigorously, unless work productivity was increasing sharply, which was not the case. Another important aspect was the increase of the job market formalization in 2000, which increased the group of workers with real wage gains. An indexation culture continues in Brazil, with economic agents trying to restore the real value of their goods and services, unless market conditions are extremely restrictive.
Supply shocks in agriculture and livestock are very frequent, at least once a year prices to consumers are significantly affected by food price rises. These increases are temporary, but they can have long-lasting effects due to indexation. Until 2014, these effects were offset by government controlled energy prices. Still, inflation rates continued at the edges of the inflation target ceiling. In 2015, the correction of these prices led the inflation rate to surpass the target ceiling and two-digit rates were reached. From mid-2016 onwards, as a response to the deep and long recession, rates for both free goods prices and monitored prices to consumers reduced and several nominal decreases were observed from September 2016 to May 2017 for the food sector.
The year 2016 was interesting because it was characterized by a sharp price increase of agriculture and livestock products and mild impacts on consumers. Cepea calculated that the Agribusiness GDP deflator, which measures price average in its several production segments (inputs, agriculture and livestock producers, agroindustry and services) rose almost 21% compared to 2015. Food prices to consumers were limited to 8.6% at IPCA (Extended National Consumer Price Index). Lower price volatility in the retail market than to producers is theoretically expected, because prices to consumers (bread, for instance) include, besides volatile raw material prices (wheat, for instance), labor costs, rent, interest, energy, capital and other inputs. These costs are much more stable than raw material values are and they are not affected by increases of raw material price rises. However, the explanation for food price decreases in 2016 and 2017 must take into account recession, unemployment and real reduction of income, pushing down sales in the retail market.
Abras (Brazilian Supermarkets Association) indicate that real sales of supermarkets registered an average growth rate from 2015 to 2016 of only -0.16%. From 2007 to 2014, the annual average rate was 5.1%. It is concluded that price rises to producers was not transferred to consumers because, on the one hand, marketing costs are more stable than raw material costs are. On the other hand, because growing unemployment and reducing income did not allow real price rises to consumers.
For 2017, expectations point to an increase of agriculture and livestock production, thanks to the normal productivity gain in the sector and favorable weather expected for the year. The market is well supplied and the economy is still sluggish, which allows to anticipate a good behavior of food prices to consumers, with possible deflation (nominal price drops) in some months during 2017. As a result, expectations for a decrease of the inflation rate are strengthened as well as for continuing decreases of interest rates. The question is: will the GDP recover? Probably yes, because there are indications that the “bottom of the dump” is being surpassed. Will it be a significant recovery? It is too soon to tell, due to all uncertainties that hover over Brazil.