Itaú BBA - Evening Edition – Higher-than-expected service sector revenues in Brazil

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Evening Edition – Higher-than-expected service sector revenues in Brazil

July 12, 2019

See our Week Ahead full note at the end of this report.

Our LatAm Macro Monthly report was published today, featuring scenarios for Brazil, Mexico, Argentina, Chile, Colombia, Peru, the global economy and commodities. ** Full story here.

See our Week Ahead full note at the end of this report.

Talk of the Day


The service sector revenue came in at 4.8% yoy in May, higher than market expectations (3.3%) and our call (3.5%). This annual growth rate was inflated by the base effect caused by the truckers’ stoppages back in May 2018. At the margin, service sector revenue remained stable (0% mom/sa), with no signs of acceleration. The release doesn’t change our view that economic activity remains weak, but it improved our 2Q19 GDP tracking to +0.4% qoq/sa, from +0.3% qoq/sa in the previous scenario.

The Lower House is still analyzing the amendments (“destaques”) to the pension reform base text. The amendments are essential to gauge the fiscal impact of the final version of the reform – some of the measures already approved include different retirement rules for police officers, lower minimum contribution period for men and changes in the benefit formula for women. In our calculations, after the amendments are approved, the final text will generate BRL 865 billion in savings over the next 10 years. After the voting session ends, the bill will follow to the second round of voting in the House and, if approved, move on to the Senate. There are reports in the media that the second round voting may only happen in August, but as of now there is no official confirmation of that.

Macro Scenario: The pension reform main text has been approved in a first-round vote in the Lower House and we believe that the final version of the bill is likely to be passed by Congress by the end of 3Q19. On monetary policy, we expect the central bank’s monetary policy committee (Copom) to initiate a new monetary easing cycle at its meeting in late July, with a 50-bp cut in the Selic rate. ** Full story here.


The federal government ran a deficit of ARS 6.6 billion in June (down from ARS 56.7 billion in June 2018), leading to a surplus of ARS 30.2 billion for the first half of the year (the first surplus for this period of the year since 2011). We estimate that the 12-month rolling primary deficit fell to 1.5% of GDP, from 2.0% in 1Q19 and 2.6% in 2018. The nominal deficit, which includes interest payments, came in at 4.5% of GDP (down from 4.9% in 1Q19). During the press conference to announce the results, Minister Dujovne anticipated that the primary deficit for 2019 will be 0.3% of GDP. Dujovne expects provinces to run a combined primary surplus of 0.3% of GDP, slightly down from 0.5% in 2018. As a result, the consolidated public sector accounts (including provinces) will likely be balanced. While we expect further fiscal consolidation, we note that the electoral cycle poses the risk of a wider deficit. We forecast a federal primary deficit of 0.5% of GDP for 2019, in line with the maximum deviation agreed to with the IMF due to investments financed by multilateral institutions and additional social expenditures. ** Full story here.


Industrial production (IP) surprised sharply to the downside in May. IP declined 3.3% yoy in May (from -2.9% in April), below our forecast of -0.6% and market expectations of -1.3%. According to calendar adjusted figures, IP fell by a similar rate (3.4%), taking the quarterly annual growth rate to -2.1% in May (from -1.3% in April). The breakdown, also using quarterly annual growth rates adjusted by working days, shows that mining and construction deteriorated further, while manufacturing output decelerated slightly to 1.0%. At the margin, industrial production contracted 2.1% mom in May, dragged by oil and construction output. For 2019, we expect economic activity to slow to 0.8% from 2.0% in 2018. Weak economic activity in the U.S. is expected to drag down Mexico’s manufacturing sector. Uncertainties over the direction of domestic policy and trade relations with the U.S. are also expected to continue to weigh on investment. The government-transition effect and austerity measures pose another downside risk to economic activity. The labor market is already weakening in this environment, hurting the outlook for private consumption. ** Full story here.


The second central bank trader survey following the surprise 50bp rate cut to 2.5% in June shows the median expectation remains at only one 25bps cut to 2%, but is now seen occurring in September rather than October. Stable rates until at least July next year is expected, before one hike back to 2.5% before July 2021 (unchanged from previous survey). Yet, it is worth noting the distribution shift since the last survey, hinting that traders are consolidating the view that even more easing is likely (in line with Itaú). Some 41% of respondents see the policy rate at 2% by December, compared to 26% earlier this month. Meanwhile, after the January meeting next year, around 49% of respondents see the policy rate below 2.25% (47.5% at 2% and 1.5% at 1.75%), versus 33% of traders in the previous survey. The inflation outlook remained unchanged at 2.6% for one year horizon and 2.8% for the relevant two year term (3% target). We believe the effects of an unresolved trade war on Chile would be larger than that outlined in the central bank’s scenario, and this would pave the way for further interest rate cuts (to 2%) later this year. For next week’s meeting, we see unchanged rates at 2.5%.

The Week Ahead in Latam


On Tuesday, the INDEC (the official statistical agency) will publish the National CPI for June 2019. Inflation has been dropping gradually. The month over-month increase in consumer prices for June is estimated at 2.6% (by Elypsis consulting), which would mean a third consecutive decline since April. If this estimation is correct, the twelve-month inflation will fall to 55.6% from 57.3% in May. 


On economic activity, BCB’s monthly activity index (IBC-Br) for May will come in on Monday – our forecast points to a 0.5% mom/sa gain. In year-over-year terms, our forecast is a 4.3% increase, as economic activity plummeted in May 2018 because of the truckers' stoppages.

On the political front, the Lower House is still voting the amendments to the pension reform base text. Afterwards, the proposal will head to the second voting round in the Lower House. As the legislative break begins on Thursday, it will be important to monitor how the final steps of the voting process will develop. There are reports in the media that the second round voting may only happen in August, but as of now there is no official confirmation of that.


On Thursday, the central bank will hold its first monetary policy meeting following the surprise 50bp rate cut to 2.5%. Structural parameter updates provided the board with sufficient justification to lower the policy rate. The board’s working assumption going forward is for stable rates for the coming quarters, before starting a gradual normalization process next year. We expect stable rates at this meeting. Survey results of both analysts and traders also show support for holding the policy rate this month. However, we believe the effects of an unresolved trade war on Chile’s economy would be larger than that outlined in the central bank’s scenario, and this would pave the way for further interest rate cuts later this year (survey results also include more easing ahead).


On Monday, activity indicators for the month of May will be published. Activity indicators for the month of April confirmed the growth recovery path is challenging. Manufacturing dropped 1.3% yoy (+3.2% in March), only partly due to a notably high base of comparison and unfavorable calendar effect. Meanwhile retail sales increased 4% yoy, slowing from the 4.8% in 1Q19 and 6.2% in 2018. For May, we expect industrial production to grow 2.4%, favored by a lower base of comparison and still upbeat confidence. Meanwhile, retail sales are likely to grow 4.6% in twelve months as auto sales rebounded, but curbed by low confidence and a loosening labor market.

Think-tank Fedesarrollo will publish Industrial and Retail confidence for the month of June on Wednesday. In May, both industrial and retail confidence remained in optimistic ground, with the former consolidating its recovery while the latter fell over the twelve month period for the first time since February 2018. Industrial confidence came in at 7.1% in May (0 = neutral), 6.6pp higher than one year ago, with the improvement mainly explained by the rebound in the expectations for production in the upcoming quarter. Meanwhile, retail confidence came in at 26.3% in May (0 = neutral), down from 27.0% one year ago due to higher inventory levels. Going forward, a weak labor market amid elevated global uncertainty would likely prevent a significant growth improvement and contain confidence levels. 

The statistics institute will publish the trade balance for the month of May on Friday. In the first month of 2Q19, a trade deficit of USD 460 million was recorded, larger than the USD 257 million deficit in April last year. As a result, the trade deficit widened from USD 7.1 billion in 2018 to USD 8.4 billion (USD 8.2 billion as of March). Still elevated capital and intermediate import growth is offsetting mild export gains. As oil exports disappointed and import growth slows gradually, we expect a trade deficit of USD 724 million (USD 600 million last year), leading to a further widening of the rolling 12-month trade deficit to USD 8.5 billion. 


On Monday, the statistics institute (INEI) will announce May’s GDP proxy. We estimate the GDP proxy grew 1.2% year-over-year, from a null growth in April. We expect monthly GDP continued to be dragged mainly by fishing output due to a base effect (this year fishing season started in May, while last year the fishing season was at its peak in May), which in turn is expected to affect primary manufacturing. We also expect the mining sector to contract. On the non-natural resources side, we expect construction output improved, as public investment expenditure execution recovered, while services sector grew at a decent pace.

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