Brazil opts for higher interest rates

A sell-off of the Brazilian currency has pushed up inflation

Brazil's central bank has raised interest rates for the third time in two and a half months in an effort to quell inflation.

It raised a key overnight rate to its highest level since April 1999, delivering a three-point increase to 25%.

The bank has raised rates three times since October, targeting rapid prices rises brought about by a steep fall in the value Brazil's currency, the real.

Left-wing president-elect Luiz Inacio Lula da Silva - known as Lula - has sought to calm international investors since he won October's poll, naming an ex-investment banker as his central bank chief.

More rises to come?

The real has lost one-third of its value this year.

As a result, imports have become more expensive and businesses have suffered from a rise in the cost of raw materials.

Business people are worried about rising costs

The real strengthened against the dollar after the central bank's decision on Wednesday, trading at 3.525 real per dollar.

However, analysts think more interest rate increases will be necessary.

"It's a very tricky and touchy situation, because if the raise didn't work at 22%, why would it work at 25%," said Christian Stacke, head of emerging markets research at CreditSights in New York.

Juggling problems

The rate rise will make borrowing more costly but businesses may find that an acceptable trade-off if the cost of supplies stops rising.

"If you don't buy now, you lose because prices will rise in a matter of days," said Getulio Osaka, commercial director of supermarket trolley marker Artefatos Arame Artok.

"Something has to be done to stop this situation."

However, higher borrowing costs will also make it more expensive for Brazil to make repayments on international loans.

Since Argentina's $141bn debt default a year ago, international investors have fretted that Brazil might be next.

IMF praise

But the International Monetary Fund (IMF) has shown its confidence in Brazil by granting a record $30bn aid package, the second tranche of which was paid out on Wednesday.

On Thursday the IMF's managing director Horst Koehler praised Brazil's performance under the Fund's programme, saying it had been "exemplary".

He added that as confidence in Brazil's economy was restored, inflation was expected to fall over the next few months.

"In this context, early progress in the on-going discussion in Brazil for securing of the central bank's operational autonomy will provide important support to enhancing the credibility of monetary policy," Mr Koehler said.

The incoming head of the central bank, Henrique Meirelles, has said the new government will attach great importance to getting inflation lower.