Upside surprises in Brazil inflation increases the monetary policy challenge

Brazil June IPCA-15 inflation surprised on the upside, printing at 0.99% m/m and compatible with annual inflation of 8.80% y/y. The main upside surprise came from the transportation group (0.85% m/m, vs. 0.55% expected), as airfares rose 29.5% in the month.

The inflation sub-indices all point to a high inflationary environment. The average of core inflation measures accelerated to 0.82% m/m, from 0.65% in the previous month. Regulated prices increased 1.42% m/m, given the adjustments in lottery, sewage and electric energy prices. Services inflation moved up to 0.79% m/m, from 0.15%, and the diffusion index is at 71%, above the 63% historical average.

Barclays Capital notes, "The central bank is now facing a growth recession, corroborated by today's monthly GDP proxy release, meanwhile inflation keeps surprising on the upside. Given the heavy focus of the board on anchoring inflation expectations, the risks of a 50bp hike in the July meeting are meaningful, in contrast to our expectation of a 25bp hike. We believe the Quarterly Inflation Report due to be published by the end of the month will be crucial to fine-tune the next steps of monetary policy. But without a doubt, upside surprises in current inflation increases the difficulties in observing expectations moving down."