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Brazilian court rejects Lula’s appeal

February 1, 2018

A federal court (TRF-4) rejected former President Lula’s appeal and increased his sentence to 12 years and one month.

The Brazilian economy in January 2018

A federal court (TRF-4) rejected former President Lula’s appeal and increased his sentence to 12 years and one month. Standard & Poor’s downgraded Brazil’s sovereign credit rating to BB- from BB and changed its perspective to stable from negative. The nation-wide unemployment rate fell to 11.8% in December. Activity indicators sustained an upward trend. Federal revenues expanded 2.6% in 2017 after three years of declines. The trade balance posted a strong surplus for a third consecutive year, reaching $67.0 billion in 2017.

TRF-4 rejected Lula’s appeal and increased his sentence to 12 years and one month

Judges in the Federal Regional Court of the 4th Region (TRF-4) unanimously decided to uphold former President Luiz Inácio Lula da Silva’s conviction and increased his prison sentence to 12 years and one month on corruption and money laundering charges involving a three-floor apartment in Guarujá, a coastal city in São Paulo State. In July 2017, judge Sergio Moro had sentenced him to nine years and six months in jail.

S&P downgrades Brazil’s credit rating

Standard & Poor’s downgraded Brazil’s sovereign credit rating to BB- from BB and changed its perspective to stable from negative. The country is now three notches below investment grade. The ratings agency based its decision on difficulties to advance the fiscal reforms and the possibility of more intense political uncertainties during 2018.

According to Datafolha, Lula still leads voting intentions

The poll showed that in a scenario that consider Lula in the race , he would get 34% of votes in the first round, followed by Jair Bolsonaro (16%) and Marina Silva (8%). Luciano Huck and Geraldo Alckmin had 6% each. In a scenario without Lula, Bolsonaro leads with 18%, followed by Marina (10%) and Ciro Gomes (10%). Luciano Huck and Alckmin also had 8% each. In an eventual second round, Lula would beat Bolsonaro (49% vs. 32%), as well as Marina (42% vs. 32%). In another simulation of the second round, Lula would also defeat Alckmin (49% vs. 30%) and Marina (47% vs. 32%). In a scenario without Lula in the second round, Geraldo Alckmin and Ciro Gomes are statistically tied (34% vs. 32%). In this last scenario, nearly 1/3 of voters said that they would cast blank or null votes.

Unemployment drops in December, with decreasing reliance on informal jobs

According to the national household survey (PNAD Contínua), Brazil’s nation-wide unemployment rate fell to 11.8% in 4Q17 from 12.0% in the quarter ended in November. Using our seasonal adjustment, unemployment slid 0.1 p.p. to 12.4%. The drop at the margin was driven by a small decline in the participation rate. The contribution provided by informal employment remains relevant but has lost momentum, while gains in formal employment in the private sector have been improving gradually. This process is set to pick up ahead, as the economic recovery consolidates. The real wage bill expanded 3.5% yoy and 1.2% vs. the quarter ended in September.

Activity indicators sustain an upward trend

According to census bureau IBGE, retail sales climbed 0.7% mom/sa in November, topping expectations. Strength was widespread across segments in November, but those more influenced by Black Friday store promotions (furniture and appliances; personal items) were particularly robust, reinforcing the importance of the event in explaining the result. Going forward, we expect retail sales to remain on an upward trend, driven by falling interest rates, lower household debt levels and gradual improvement in the labor market. Industrial production increased 2.8% mom/sa in December, also beating expectations. In 2017, the indicator expanded 2.5%, its fastest growth pace since 2010. Indicators related to gross fixed capital formation remain consistent with growth in this demand component. Production of capital goods was stable at the margin after seven consecutive increases, production of construction material climbed 5.0% during the month and 7.2% yoy.

Inflation rises in January, but remains near the bottom of the target range

The mid-month consumer price index IPCA-15 climbed 0.39% in January, printing below estimates. Year-over-year inflation accelerated to 3.02% from 2.94% in December. We expect year-over-year readings to rise further, but remain at comfortable levels, given that the economy is running with substantial slack, reflecting unemployment and low industrial capacity utilization. Based on the IPCA-15 report and other current information, our preliminary forecast for the headline IPCA in January is a 0.37% increase. The year-over-year change in headline inflation should remain virtually stable at 2.94%. For the full year, our estimate for the IPCA remains at 3.8%.

Federal revenues expand 2.6% in 2017, after three years of declines

December revenues beat expectations and reached 137.8 billion reais, rising 4.9% yoy and 2.6% in 2017, marking the first annual hike since 2013. The recovery reflects improved economic activity, but was also influenced by the gasoline tax hike.

Primary budget deficit reached 111 billion reais (1.7% of GDP) in 2017

The consolidated public sector posted a primary deficit of  111 billion reais in 2017 (-1.7% of GDP), better than the 163 billion reais target set for the year (-2.5% of GDP). The central government’s result, as published by the National Treasury, was a deficit of 124 billion reais vs. a target of 159 billion reais (-2.4% of GDP). Breaking down the gap of 35 billion reais, 30 billion reais came from lower spending (especially discretionary expenses) and 5 billion reais from higher revenues. Improvement in the primary budget result in 2017 does not change the challenging fiscal scenario. The positive surprise does not imply permanent improvement in fiscal readings, given that the result was driven by large extraordinary revenues (about 70 billion reais or 1.1% of GDP).

The smallest current account deficit since 2007

The current account ended 2017 with a deficit of $9.8 billion or 0.5% of GDP (-$23.5 billion or 1.3% of GDP in 2016). Once again, the trade balance provided the biggest contribution to the narrowing deficit, posting a $64 billion surplus. Meanwhile, the service and income deficits widened to $3.4 billion and $1.5 billion, respectively. In terms of financing, the year was marked by still-high direct investment in the country. For the next years, we maintain our expectation of growing deficits, but at still-comfortable levels that do not compromise Brazil’s external sustainability.

Financial assets

In January, the Ibovespa climbed 16.3% in dollars and 11.1% in local currency. Country risk measured by the five-year CDS fell and ended the month at 144 bps. The exchange rate appreciated to 3.16 reais per dollar.

What’s next

After the end of the summer break, discussions about the pension reform will become the main theme again in Congress, as the vote is scheduled for February 19. News related to the 2018 presidential election will also be worth watching.

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