(Adds inflation report quotes, drivers of slower growth, analyst comment paragraphs 4-14)
By Silvio Cascione
BRASILIA, June 26 Brazil's inflation will start to subside next year after economic growth slows further, the central bank said on Thursday, reinforcing expectations that it will not raise interest rates in the near future.
In its quarterly inflation report issued on Thursday, the bank lowered its 2014 economic growth forecast to 1.6 percent from 2 percent previously, faltering from 2.5 percent growth last year.
The central bank said the annual inflation rate will likely drop to 5.1 percent in mid-2016 from an expected 6.4 percent at the end of 2014, edging closer to its 4.5 percent target under a scenario of keeping current interest rates steady until then.
"It confirms that the benchmark interest rate will remain unchanged for a very long time," said Cristiano Oliveira, an economist with Banco Fibra, in Sao Paulo.
The bank's benchmark lending rate is currently at 11 percent after nine consecutive increases through April.
Weak economic growth and stubbornly elevated inflation have weighed on President Dilma Rousseff's campaign for re-election. Although unemployment remains low, her popularity has dropped steadily in recent months, pointing to a hotly contested run-off vote in October.
Even with its downward revision to the 2014 growth outlook, the central bank's view is rosier than market expectations of 1.2 percent in a weekly poll.
For 2014, the bank sees investment slumping 2.4 percent, down from an expected increase of 1.0 percent seen in its previous quarterly inflation report, issued in March.
Manufacturing is expected to drop 1.9 percent, and construction is forecast to shrink 2.2 percent.
"Considering growth expectations for the next quarters, measures of economic slack tend to be disinflationary," the bank said in the report, referring to a gauge of slack in the economy.
Most economists expect the central bank to keep interest rates steady through this year but increase them slightly in 2015, when the government is expected to yield to pent-up inflationary pressure in the energy sector and raise gasoline prices and electricity rates.
The central bank acknowledged such pressures and said it will remain vigilant but noted that they will likely be temporary.
"Current inflation drivers ... tend to retreat or even disappear through the period that is considered in monetary policy setting," the central bank said.
"Inflation will be resistant in coming quarters," it said. "But if monetary conditions are maintained, it tends to converge towards the target in the final quarters of the forecast scenario" through mid-2016. (Reporting by Silvio Cascione; Editing by W Simon)