By Alonso Soto and Silvio Cascione
BRASILIA (Reuters) - Brazil's central bank cut its 2017 economic growth estimate and sees inflation remaining low in the next two years, signaling that policymakers are ready to step up monetary easing to pull the economy out its worst recession in memory.
In its quarterly inflation report released on Thursday, the bank lowered its growth forecast to 0.8 percent from 1.3 percent for 2017. It kept its inflation baseline outlook at 4.4 percent for 2017 and 3.6 percent for 2018, below the official target of 4.5 percent.
A sharp drop in prices and contracting activity is expected to prompt the central bank to opt for a 50 basis-point cut at its next meeting, on Jan. 11, after two consecutive reductions of 25 basis points each. Some economists have already started to price in an even heftier cut of 75 basis points.
"The bank is signaling it has space to increase the size of the rate cut," said Alessandra Ribeiro, economist and partner with Sao Paulo-based consultancy Tendencias. "However, I saw no signs that it will be overly aggressive because the bank continues to point to risks and calls for caution."
Finance Minister Henrique Meirelles, a former central bank chief, said he expected policymakers to accelerate the easing cycle if inflation continues to slow.
In its report, the bank said the economy, which is entering its third year of recession, would further slow inflation that earlier this year surged to double digits. The bank now expects inflation to end 2016 at 6.5 percent.
Carlos Viana, the central bank's director of economic policy, said policymakers' projections did not reflect the lower-than-expected mid-month inflation figure in December.
The bank's goal is still to bring inflation back to the target in 2017 and 2018, Viana told reporters.
At 13.75 percent, the central bank's benchmark Selic interest rate remains one of the highest reference rates at a time when doubts remain over the strength of the global economy.
President Michel Temer, who formally took office in August after the impeachment of his predecessor, is under growing pressure to pull the economy out of recession.
Analysts say Temer will probably rely on interest rate cuts to breathe new life into the economy as growing political turbulence and depleted state coffers limit his ability to provide stimulus.
(Reporting by Silvio Cascione and Alonso Soto; Editing by Robin Pomeroy and Lisa Von Ahn)