"There's strong capital inflows and at the same time rising demand for credit, factors that end up overshadowing the measures," said Mauricio Molan, a Sao Paulo-based economist at Santander Brasil. 'We're in a moment of great optimism that makes it difficult to reduce credit or avoid real appreciation."

The extra yield investors demand to own Brazilian government dollar bonds instead of Treasuries rose 3 basis points yesterday to 174, according to JPMorgan Chase & Co.

The cost of protecting Brazilian bonds against default for five years fell 2 basis points on March 29 to 113, according to CMA DataVision prices. Credit-default swaps pay the buyer face value in exchange for the underlying securities or the cash equivalent should a government or company fail to adhere to its debt agreements.

Brazil's inflation, as measured by the IPCA-15 index, quickened to 6.13 percent in the year through mid-March, the fastest since November 2008. Consumer prices are expected to jump 6 percent this year, according to a March 25 central bank survey of economists. That would be the fastest year-end rate since 2004, when prices rose 7.6 percent. Brazil targets inflation between 2.5 percent and 6.5 percent.

Flows Stabilizing
Flows of capital into Latin America's biggest economy are stabilizing as growth slows, Tombini's predecessor, Henrique Meirelles, said at the Bloomberg Brazil Economic Summit.

Economists in last week's central bank survey reduced to 4 percent their forecast for growth in 2011, down from 4.5 percent five weeks ago. Brazil's economy expanded 7.5 percent last year, the fastest pace in more than two decades.

The central bank has also stepped up dollar-buying in a bid to curb the real gains. Since the start of the year, the bank has bought more than $23 billion in the spot currency market, compared with $41 billion in all of 2010.

Eoin Treacy's view This 10-year chart of the CDS spread on Brazilian debt highlights the remarkable change of circumstances the country has experienced over the last decade. In 2000, the spread stood at 4000 basis points. To put that figure in context, it is four times than the current equivalent for Greece. Brazil CDS now trade closer to 100 basis points. Over the same timeframe the local stock market rallied impressively and the currency doubled relative to the US Dollar.

The strength of the Real can be justified on many fronts, not least interest rate differentials and the fact that Brazil is now a net creditor. However, the pace of foreign currency inflows and the incipient additional strength of the currency have alarmed policy makers. They attempted to reverse Real appreciation from last year but have only succeeded in slowing the currency's advance. In fact the Real has recently begun to pick up pace once more.

Over the last decade, there has been a well defined correlation between the strength of the Real and the Bovespa stock market index. The Index has been labouring in the region of the 2008 high for more than a year. The Real lost momentum around the same time, having unwound the majority of the bear market decline.

The Real has led the stock market at important turning points more often than not. Therefore, it is noteworthy that it has held a progression of higher reaction lows since July. It broke back above 60¢ last week and a sustained move below 58.75¢ would be required to question potential for some additional upside.

Much depends on how serious the Brazilian government is about preventing additional Real appreciation. The 6% tax on bond purchases is not particularly effective. Purchases of US Dollars are expensive in a comparatively open economy such as Brazil's. Part of the reason foreign investors are interested in the currency is because they feel it is only a matter of time before short-term interest rates are hiked. I agree. However a more effective policy, from Brazil's perspective, may be to target supply bottlenecks by improving infrastructure. This will have to be done at some stage and sooner rather than later would help ameliorate inflationary pressures.

The Bovespa Index is currently ranging in the region of the 200-day MA but needs to sustain a move above 70,000 to indicate a return to medium-term demand dominance.