INFLATION TARGETING REGIME AND FISCAL CREDIBILITY IN BRAZIL

We investigate the interaction between fiscal credibility and the dynamic of Brazilian inflation, considering the target regime. Using instrumental quantile regressions, we find that the coefficients associated with fiscal credibility present asymmetric behavior in extreme quantiles. Moreover, the magnitude and sign of marginal effects change: positive at low levels of cumulative inflation and negative at periods of price acceleration. Sequentially, using conditional densities, we estimate that an improvement in fiscal credibility (+1 standard deviation) may reduce the probability that inflation will not close the month within the limits of the target regime by up to 25%. However, there is additional evidence that contradicts the intuition, indicating that after long periods of monetary stability, singular moments of recession and uncertainty may allow that a positive shock in fiscal credibility to increase the probability that inflation will violate bounds, since agents may interpret the change as a possible future discretionary behavior.