Itaú BBA - Brazil: Sluggish Confidence Recovery

Brazil Scenario Review

< Back

Brazil: Sluggish Confidence Recovery

February 8, 2013

We lowered our forecasts for GDP growth to 3.0% from 3.2% in 2013 and to 3.5% from 4.0% in 2014. We raised our estimate for consumer inflation to 5.7%.

Rebound in investments depends on confidence

The economic recovery continues more modest than expected. We lowered our forecasts for GDP growth to 3.0% from 3.2% in 2013 and to 3.5% from 4.0% in 2014. We raised our estimate for consumer inflation (measured by the IPCA) to 5.7% from 5.6% this year. For 2014, we expect the inflation at 6.0%. Following the central bank’s release of the minutes ofits Monetary Policy Committee (Copom) meeting in January, we now expect the benchmark interest rate to remain at 7.25% p.a. until the end of 2014, rather than 6.25%.

We now expect the exchange rate to end December at 2.10 reais against the U.S. dollar (from 2.15 previously), the same level we anticipate for 2014. We cut our forecast for the trade surplus this year to $14 billion from $18 billion, mainly due to rising imports of gas and fuels and a stronger path for the exchange rate. We reduced our estimate for the primary budget surplus this year to 1.9% of GDP from 2.1%. We forecast 0.9% of GDP for 2014.

Weakness in the industrial sector and slow improvement in confidence suggest lower growth in 2013

Economic activity continues to provide negative surprises. Industrial production stood flat in December 2012 and declined in 4Q12, reversing part of the advance of the previous quarter. After growing by 1.0% in 3Q12, largely due to the auto sector, industrial activity fell by 0.3% in 4Q12. With a low carryover from late last year, only a strong recovery in the first months of 2013 could ensure growth in industrial activity in 1Q13.

There are mixed signals in the industrial sector. The Industrial Survey by FGV shows that inventories are better adjusted and expectations of future production have advanced steadily. However, the same survey shows that the increase in confidence is the slowest of all recovery cycles of the past 20 years. Low confidence results in less investment; and without a pickup in investment, the expansion cannot strengthen. Even an immediate improvement in purchases of machinery and equipment would not quickly boost the production of capital goods, as inventories in this sector are still high.

Agricultural and livestock activity should help GDP in 1Q13. There is a positive outlook for crops with relevant weight in the first three months of the year. Soybeans stand out, with estimates by the census bureau IBGE pointing to a 25% yoy increase in 2013. For corn and tobacco, which are also relevant at the beginning of the year, forecasts point to gains of 7.2% and 5.8%, respectively.

However, agricultural and livestock activity cannot prevent GDP growth in 1Q13 from being slightly lower than we expected previously. We lowered our estimate to 0.8% qoq/sa from 0.9%. With confidence recovering slowly, investments should expand with less vigor. Additionally, our scenario no longer contemplates any cuts in interest rates this year.

Hence, we now estimate that the pace of GDP growth during the coming quarters should be closer to 0.8% than to 0.9%. We revised our forecast for GDP growth in 2013 to 3.0% from 3.2%. For 2014, we lowered our estimate to 3.5% from 4.0%, as a large part of the additional reduction in interest rates that we expected previously had an impact on GDP growth in 2014.

In the credit market, new loans granted to consumers and corporations have increased. New loans to consumers rose by an inflation-adjusted 3.5% mom/sa in December, in a second consecutive month of gains (1.1% in November). The three-month moving average for consumer loans grew by 1.0%, the most since June. New loans to companies increased by 4.6%, rebounding from the drop accumulated in the two previous months (-4.8% in October and November). The three-month moving average for new corporate loans remains virtually stable.

Delinquency rates have not fallen as we expected. The seasonally-adjusted rate for consumer loans more than 90 days past due rose by 0.1 p.p. in December to 7.9%, while the same rate for corporations was stable at 4.1%. Interest rates and spreads declined again, particularly in the corporate segment.

Exchange rate: shifting goals

In late January, the exchange rate broke the barrier of 2.00 reais per dollar for the first time since July 2012, after the central bank rolled over currency swaps. The decision to roll over when the exchange rate stood at 2.03 reais per dollar induced further appreciation.

In our view, exchange rate policy is still seeking to promote more competitiveness in the industrial sector and a higher trade surplus. However, in the short term, fighting inflation is an additional goal. Consumer prices accelerated between late 2012 and early 2013, and should push yoy inflation close to the upper limit of the target range. However, monthly inflation should recede in coming months, providing space for a weaker exchange rate ahead.

Hence, we maintain our forecast of a weaker currency by the end of 2013, at 2.10 reais per dollar, which is a slightly stronger level than in our previous scenario (2.15).

Gas and fuel imports reduce forecast for the trade balance in 2013

The current account deficit reached $8.4 billion in December, with a relevant contribution from the service account. The current account gap in 2012 stood 2.4% of GDP, easily financed by foreign direct investments, which hit 2.9% of GDP or $65.3 billion. For this year, we maintain our call that foreign direct investments will stay strong, adding up to $64 billion (2.8% of GDP).

January ended with a trade deficit of $4 billion, influenced by fuel import transactions done in 2012, but only accounted for this year, due to a change in legislation. According to official sources, this effect should last until March. However, there is an upward trend in fuel imports due to growing demand. This effect, along with our expectation of thermal power plants running at full capacity this year and demanding gas from abroad, as well as a somewhat stronger currency, led us to revise downward our forecast for the trade balance in 2013.

Therefore, we now expect a surplus of $14 billion ($18 billion previously). Thus, we changed slightly our forecast for the current account deficit to 2.5% of GDP from 2.4%. For 2014, we see the trade surplus at $15 billion.

Fiscal policy: a smaller primary budget surplus in 2013

The public sector’s primary budget surplus stood at 2.4% of GDP in 2012, down from 3.1% in 2011. The December reading prevented an even smaller annual surplus. In the last month of 2012, the public sector posted a primary surplus of 22.3 billion reais, the highest monthly result since September 2010. The figure was influenced by a high volume of atypical revenues, used to ensure the achievement of the adjusted target proposed by the 2012 Budget Law. The government also put a sharp (albeit temporary) restraint on spending, in addition to re-classifying expenses related to the Growth Acceleration Program (PAC, in its Portuguese acronym), thus allowing greater deductions of the fiscal target.

Our estimate for the recurring primary budget surplus – which excludes atypical revenues and expenses – points to a balance of 1.8% of GDP in 2012, down from 2.7% in the previous year. The numbers point to a looser fiscal stance, a conclusion reinforced by our (still-preliminary) estimates for the structural primary surplus – the latter is running around 1.0-1.5% of GDP in 2012.

Further reduction in the fiscal effort should occur during 2013-14. The policy focus should remain on tax breaks. So far, the tax cuts announced or budgeted for 2013 add up to about 1.0% of GDP this year. We now forecast the primary budget surplus at 1.9% of GDP (2.1% previously). For 2014, our call remains at 0.9% of GDP, a decline due to new tax breaks. The recurring primary budget surplus will probably stay between 1.0% and 1.5% of GDP.

Our revision for the fiscal result this year incorporates a slower rebound in government revenues, due to the most recent figures for economic activity and tax intakes. We also expect somewhat higher expenditures at the beginning of the year to compensate for the sudden restraint in spending in December.

Tax cuts will limit the room for expansion in spending. Therefore, we expect real growth of 5% for central government outlays in 2013, a similar pace to 2012. Between 2004 and 2010, a fast expansion in revenues allowed expenditures to grow by 8-9% a year.

Lower adjustments in the monthly minimum wage expected for 2013 and 2014, due to the rule of real increases based on GDP growth of two years before (the rule holds until 2015), should create room for a qualitative improvement in spending. We believe that there is room for a slower pace of growth in transfers and administrative expenditures, and faster growth in public investment.

Inflation begins the year under pressure, but should recede starting in February

Inflation came in above expectations in December and remained under pressure at the beginning of the year. In January, the IPCA climbed 0.86%, even though some price adjustments were postponed (bus fares in Rio de Janeiro and São Paulo) and the drop in electricity tariffs was anticipated. Over 12 months, the IPCA advanced to 6.15%.

We expect some relief soon. Inflation should slow down in February. Despite pressure coming from adjustments in school tuitions and gasoline, we expect relief from food prices and the incorporation of the largest part of the discount in electricity tariffs (estimated contribution of -0.50 p.p. to the IPCA in February). Still, for 1Q13, we expect the IPCA to rise by 1.8%, up from 1.2% one year earlier.

For this year, we slightly raised our forecast for the IPCA to 5.7% from 5.6%, after including the expectation of thermal power plants running all throughout the year (See Macro Vision - Rationing: risks depend upon rain and prices), partly offsetting the initial reduction in electricity tariffs (-18.4%). We forecast market-set prices to rise by 6.6% (6.6% in 2012 as well) and regulated prices by 2.9% (3.7% in 2012).

We expect smaller increases in food prices this year, given the outlook for a good crop and the likely drop in grain prices. On the other hand, we should see pressure coming from the transportation group, reflecting the end of the IPI tax break for auto purchases, as well as increases in gasoline prices and bus fares in São Paulo.

We adjusted our forecast for the general price index (IGP-M) to 4.7% from 4.8%. Agricultural prices should post little change this year after rising sharply last year (19%). A large part of this movement will come from the reversal of price increases for soybeans (67%) and corn (27%) that were observed in 2012.

Cutting interest rates is not the solution anymore

The benchmark interest rate should stay at the current level for a long period of time. In the minutes of its last meeting, the Copom recognized the deterioration in the balance of risks for inflation and that additional monetary policy stimuli would have a limited effect on the economy (due to “supply-side limitations”). On the other hand, the Copom reinforced its view that the nature of the decline in real interest rates was structural and that recent inflationary pressure is to be short-lived.

After the minutes were published, we revised our forecast for the benchmark rate in the coming months. The Copom acknowledged that the low growth is related to supply factors, with implications for the effectiveness of tools to boost demand, including monetary tools. Therefore, along with higher-than-expected inflation this year, we now expect the Selic rate to remain unchanged at 7.25% p.a. until the end of 2014.

Forecast: Brazil

Source: IMF, IBGE, BCB, Haver and Itaú


 



< Back