Brazil's Rising Inflation Hampers Growth

As the U.S. Federal Reserve moves closer to winding down some of its extraordinary easing, in Brazil, the impact of easy money policies in the developed world is felt every day.

Mall in Sao Paolo, Brazil
Photo by: Robert Windrem
Mall in Sao Paolo, Brazil

Brazil has been battling rising inflation and this past week raised interest rates another notch to 12 percent, as inflation reached 6.44 percent.

The Brazilian Finance Ministry has also been making efforts to cool capital flows and restrict credit, a campaign economists expect will have little impact in curbing inflation or reigning in the rising Real.

“This liquidity is going to continue from one to two years, so we have to be inventive and control external flows of capital and inflation. Exchange rates cripple the country, but inflation kills,” said one government official in a recent interview in Sao Paulo.

The Fed is expected to end one phase of its easing programs by the end of June. Under so-called "quantitative easing," the Federal Reserve has been buying $600 billion in U.S. Treasury securities in an effort to keep U.S. interest rates low and drive investors into other riskier asset classes. One result has been a falling dollar and rising commodities prices, which has been felt much more in the emerging world than in the U.S.

Access: Brazil - A CNBC Special Report
Access: Brazil - A CNBC Special Report

Brazil’s very success has been hurting it. Inflation is running at the high end of the Brazilian Central Bank’s inflation range and threatens to rise above it. Brazil Finance Minister Guido Mantega has said that inflation should slow in the coming months, but inflation continues to tick up and is just below the top end of the government’s target, which is 4.5 percent, plus or minus 2 percent.

Mantega has raised the tax on consumer credit, in an effort to drive annual credit growth to 12 percent from a current 20 percent. The government this month also extended taxes for short term foreign loans of up to two years. The tax had been charged on loans of 360 days or less.

Brazil’s inflation rate is well below the hyperinflation the country experienced in the 1990s, but the concern is that the country's strong internal growth, pushed by a rising middle class, competes with external demands and the pricing pressure.

The IMF, in a recent about-turn, said developing countries under certain circumstances may need to curb the flow of capital, a policy previously frowned on. South Korea and Turkey have also initiated programs to cool the flow of money in a bid to battle inflation.

For average Brazilians, the price of success has meant a rapid rise in housing and food prices. Food costs have jumped an estimated 10 percent in the past year, and apartments in Sao Paulo’s nicest neighborhoods have risen 40 to 50 percent.

An estimated 35.7 million people entered the middle class and 20.5 million people moved above the poverty line between 2003 and 2009, according to Banco do Brasil. The amount of Brazilians living in absolute poverty has fallen to 15.3 percent from 28.1 percent in 2003.

“It’s hard not to be bullish on Brazil,” said Marcelo Carvalho, chief Latin American economist at BNP Paribas in Sao Paulo. Carvalho was speaking this month to the Financial Women’s Association of New York, during a stop in Sao Paulo on a three-city trip to Brazil.

But Carvalho and other economists point out that Brazil’s development is at a critical phase. Internal growth is strong, driving consumption, at the same time external demand for Brazilian resources is growing, fueling price rises.

China, for instance, has become the fastest growing consumer of Brazilian exports, from little more than 5 percent in 2003 to more than 15 percent, in 2009 and its appetite continues to grow. At the same time, the share of exports to the U.S, has dropped from above 20 percent to the low teens.

The new Brazilian consumer has put more demands on Brazil’s infrastructure, just as the two major events — 2014 World Cup Soccer and 2016 Olympics — require hundreds of billions in upgrades to handle the visitors and much needed improvements for everyday life in Brazil.

Economists forecast upwards of 700 billion Reals will be spent to build arenas, upgrade roads and airports and other projects. Some of those projections top 1 trillion Reals. The government anticipates stadium costs of 80 billion Reals and has budgeted 40 billion Reals infrastructure costs for calendar year 2011.

The concern is that these projects will compete for the same labor, raw materials and land that the private sector needs for expansion. At least one major company said it was holding off on expansion in the next several years because of rising real estate and raw material costs.

Watch our special coverage, "Access Brazil,"Monday-Thursday, April 25-28. Maria Bartiromo and Michelle Caruso-Cabrera report from Brazil on Squawk On The Street, 9-11am ET, Power Lunch, 1-2pm ET and Closing Bell, 3-5pm ET on CNBC.