Deceleration of growth and political uncertainty
The real interest rates (both the current SELIC and 12-month ahead) are below the neutral level, but the Brazilian economy has still only been recovering fitfully. There are no inflationary risks on the horizon, and the main reason is this slow recovery of economic activity. With a high degree of political uncertainty, companies are reluctant to increase gross fixed capital formation, and due to the weakness of the labor market, growth of household consumption has been decelerating. The result will be GDP growth in 2018 of only 2.2%, perhaps even lower.
Brazil faces no risk of external insolvency, but its public debt is growing unsustainably, and the course correction requires a huge fiscal effort. This in turn requires – at the least – approval of a meaningful reform of the pension system. The task has been bound over for the next government, and there are populist candidates with ineffective and even flatly erroneous proposals. A possible coalition around a candidate from the center committed to an agenda of reforms has yet to demonstrate traction with voters, raising the fiscal/political risk.
The recent depreciation of the real was generated mainly in the United States, but this movement was among the greatest of the currencies of emerging countries, indicating that domestic uncertainty (the combination of fiscal and political risk) is an important element. This movement has not compromised the execution of monetary policy, but it does signal risks from a possible increase in the probability of election of a candidate not committed to the reform agenda, or not having the necessary competence to achieve it if professing such commitment.
With the persistence of the electoral uncertainty, the country has entered a “new normalcy”, characterized by high volatility of asset prices.
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