[aaronjmalek]

Dr. Herbener,

Can you tell me your thoughts on the primary factors causing the high rate of price inflation in Brazil? I think it would help in the understanding of price inflation in general because the central banks in the US and Brazil have both expanded the money supply, but the resulting price inflation has been very different.

In Brazil, the rate has continued to rise in recent years. It is now around 10% according to one CPI. The central bank has had their interest rate set at 14.25%. Is the central bank really trying to limit the growth of the money supply with this set interest rate? I guess the real interest rate would be around 4.25% if you subtract the rate of price inflation. Is that a correct way of reading this and would it be high enough in that case?

You have stated that price inflation is inversely related to the value of the currency, and the value of the currency is determined by its supply and demand. Can we know which of these factors are contributing more to the price inflation? Is the central bank causing an oversupply for some reason or could it be more of a demand issue? The Brazilian Real had more value in terms of US dollars before growth in China slowed. I think there were a lot of Chinese and other foreign buyers of iron ore and other Brazilian exports. If overseas demand has dropped for these products does it affect the value of the Real more than domestic demand for the Real? Thank you for any help you can give.

Aaron

[jmherbener]

The central bank of Brazil has slowed the growth of the money supply recently. It has even shrunk in the lat few months:

http://www.tradingeconomics.com/brazil/money-supply-m2

Domestic price and inflation and international devaluation are not, strictly speaking, inversely related. They are instead, two manifestations of the same phenomenon, namely, the purchasing power of a money.

With the money supply shrinking in Brazil and prices still rising, it must be a collapsing demand for money that is driving up prices. People expect price inflation to accelerate and so spend money more readily. The mainstream refers to this as inflationary expectations. (You may remember when Ben Bernanke was inflating the dollar in the hope, which proved to be vain, that it would ignite inflationary expectations among Americans who would then spend more freely.) As you point out, foreign holdings of Brazilian currency are also declining and their selling of it against other currencies is driving its depreciation.

The last chart in this Bloomberg story shows that price inflation has been running between 6-7% in Brazil since the beginning of 2014 until last summer when it shot up to 9% in the fall and has been between 8-9% since then.

http://www.bloomberg.com/news/articles/2016-01-12/here-s-why-brazil-s-inflation-won-t-hit-target-anytime-soon

And this Bloomberg story highlights that the monetary tightening has precipitated a recession in Brazil:

http://www.bloomberg.com/news/articles/2016-01-18/brazil-analysts-forecast-7-inflation-in-2016-as-real-weakens

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