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Episode 36

Does Brazil Have a Real Problem?

Published on: July 10, 2020 • Duration: 6 minutes

Roger Hirst and Daniel Buttino, Senior Account Director at Refinitiv, talk about how the COVID pandemic has set back Brazil’s prospects after the local equity market dropped nearly 50%. Is there light at the end of the tunnel for the newly reformist nation of Brazil?

  • [00:00:07] Welcome to the Corona Correction Series in association with Refinitiv, I'm your host Roger Hirst. Brazil has had a roller coaster ride over the last few years. A prolonged recession was followed by the election of a reformist leadership that helped the local equity market surge to a new all-time high. Although the local currency weakness offset much of this performance for holders of U.S. dollar-denominated exposure to the Brazilian equity markets such as the EWZ ETF. The corona crisis saw the local equity market drop nearly 50% and has upended some of the reformist agenda. How much has it set Brazil back? I spoke with Refinitiv's Senior Account Director Daniel Bertino, about the prospects for Brazil. 

    [00:00:47] The local economy was in a recession from 2014 to 2017, followed by a slow recovery in '18 and '19. A key element to the conversation is Brazil's debt, which represents around 88% of the GDP. The very high ratio when compared to the peers in Latin America or other nations in the BRICS. On top of these already very high debt to GDP ratio, the government had to put in place a combination of economic measures to fight COVID, which should add up to 3 percent to this equation. So the first angle to this situation is this; we have a country slowly recovering from a recession in previous years, with a high public debt and now seriously impacted by COVID. To address this fiscal challenges since the beginning of the mandate in 2019, the Bolsonaro administration has been focusing on approving some structural economic reforms, such as the pension reforms approved in October 2019. The main point here is that to achieve these, to achieve success in these reforms, you need support from Congress. And what you have, what we have been seeing in 2020 is that the political situation has changed a lot after COVID. These agreements and the overall approach to coronavirus in Brazil have led to a strong rise in the opposition of the Bolsonaro administration. And I believe it's fair to say we are having a political turmoil at the moment in the country. And with that in mind, it's possible to imagine that approving additional economic reforms won't be simple. From a GDP standpoint Brazil had growth of 1.1%  in 2019, and despite the IMF projection of a 9% decrease in 2020, the common sense in the markets, which includes an official report from the Brazilian central bank, points towards a decrease of more or less 6.5% for the year. Several analysts have strong beliefs based on consumer behavior that the worst is already behind us. Trying to stimulate the economy, the main instruments the Brazilian central bank has been using is the monetary policy. The main reference interest rate has been reduced from mid 19  6.5% per year to mid 20 -  25%. So a strong reduction in the interval of a year. And this two 25% represents the historical low of reference rates in Brazil. Moreover, the Brazilian central bank has left it open the possibility of an additional cut in their July review. Obviously, the uncertainty that COVID brought to markets, some risks, plus the scenario of low interest rates have led to a significant amount of capital flowing out of Brazil. And consequently, the Brazilian real have devaluated quite significantly, around 30% year to date against the U.S. dollar. In every context, there are many opportunities we can look at, and especially in the case of Brazil, which is very large and diversified. One of the main silver linings I would highlight are Brazil's agricultural goods. Agricultural commodities accounts for 21% of the Brazilian GDP and approximately 50% of all Brazilian exports. This low economic activity across the globe have dropped commodities prices, and also with the drop in flows, the price of freight has been impacted. So we are currently seeing that historical low in shipping rates. China is already the main trade partner of Brazil and receives approximately 23% of all Brazilian exports. So when we think about this scenario of low commodities prices, low shipping rates, a devaluated BRL, which is favorable for exporters, and especially with China buying layers of these goods from the United States because of the trade wars, a strong window of opportunity has been generated for Brazil. And you know that the local players in the commodity space are already seeing a much stronger demand for these agricultural goods. And I would highlight the main one, soybeans. 

    [00:05:51] The Brazilian equity market has been one of the worst performers during the crisis period. And Brazil is still being ravaged by the disease. The currency, the Brazilian real, has been particularly weak, but there is hope that Brazil's commodity based exports in which agricultural goods are key, can play a role in resuscitating the economy, especially if Brazil can build on its relationships with China at a time when export competition from the USA may be dropping away. We'll see you later with another update. 

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