By Marcela Ayres

BRASILIA (Reuters) -Brazil’s central bank said on Tuesday that, given heightened uncertainty, it chose to signal the direction of only its next move, emphasizing that, due to monetary policy lags, it was appropriate to indicate a smaller interest rate hike.

In the minutes of the March 18-19 meeting where its rate-setting committee, known as Copom, raised interest rates by 100 basis points to 14.25% and signaled a smaller increase in May, policymakers also stressed it was appropriate to indicate that the cycle has not come to an end, given the adverse scenario for inflation dynamics.

“The minutes suggest that the Copom’s flight plan is to halt the monetary tightening cycle soon,” said XP economist Rodolfo Margato, who forecasts a 75 basis-point increase in May, followed by a 50 basis-point hike in June.

He cautioned, however, that they may opt for a smaller 50 basis-point rate hike in May if economic activity slows more than projected by policymakers.

According to the central bank, monetary tightening was deemed necessary to bring inflation back to the 3% target amid deanchored expectations and high inflation forecasts. Going forward, it said cooling economic activity will be “an essential element.”

The central bank said that data for the last few months continue to signal an incipient slowdown in growth, in line with its baseline scenario. And although recent indicators suggest some moderation, the labor market remains heated.

The bank noted that if its reference scenario projections hold, 12-month inflation will stay above the target’s upper tolerance limit of 4.5% for six consecutive months starting in January, leading to a target breach in June under the new inflation-targeting framework.

Banco Inter’s chief economist Rafaela Vitoria said the minutes mirrored the hawkish tone of last week’s statement, as the committee continues to emphasize concerns over the recent acceleration of inflation along with the deanchoring of expectations.

Vitoria maintained that the indication of a slowdown in the pace of interest rate hikes paves the way for a 50 basis-point rate increase to wrap up the tightening cycle in May.

Looking ahead, the central bank said in the minutes that it would monitor economic activity as well as exchange rate pass-through following recent volatility, and inflation expectations, which have shown further deanchoring and influence future price dynamics.

After President Luiz Inacio Lula da Silva’s government recently announced a series of measures aimed at boosting middle-class disposable income, including new rules to expand payroll-deductible credit for formal workers, the minutes stressed the importance of keeping monetary policy channels unobstructed.

“Monetary policy acts through different channels, including credit, leading the volume of loans to react to financial conditions and to expectations, as prospective assessments impact current consumption and investment,” policymakers wrote.

“In order to fulfill its mandate and the convergence of inflation to the target at the lowest cost, monetary policy must be able to act with all channels unobstructed.”

(Reporting by Marcela Ayres; Editing by Chizu Nomiyama and Joe Bavier)

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