Brazil is on the verge of a recovery

03/Apr/2017 - Economy -

Date : 2017-05-08 11:58:26

Alexander Busch
South American correspondent for the newspapers Handelsblatt, Wirtschaftswoche and Neue Zürcher Zeitung

2016 was a difficult year for Brazil, both in political and economic terms. President Dilma Rousseff was removed from office through impeachment, but her successor, Michel Temer, is not very popular either. More and more, new politicians and businessmen are becoming embroiled in the corruption scandal surrounding state-owned Petrobras, with no end in sight.

In these nearly three years of recession, the economy has shrunk by 8 percent. Since 2014, Brazilians have lost approximately 15 percent of their purchasing power and investments have declined by almost a third. However, it seems that Brazil’s economy has come through the worst phase; it should stabilize itself this year and cycle of growth should start. There are several indications that this will occur.

In financial markets, it has been clear for some time that investors are confident of Brazil’s recovery: the São Paulo stock exchange is approaching the 70,000 point mark, a record so far, which was reached only in 2008. Last year, the Bovespa index rose 38 percent and, as a result, São Paulo was one of the leaders in growth among the world’s stock markets in 2016. The Real also gained strength, despite the crisis. By the end of the year, the currency had increased 24 percent against the Swiss franc, since its low in January last year. Therefore, the Real was one of the world’s most resilient currencies in the previous year.

Foreign investors were also not deterred by the recession: with around US$ 80 billion in foreign investments, Brazil managed to acquire foreign capital like never before. Last year, private and state-owned international groups invested in oil, chemicals, energy, mining and the food industry. In the first stage, however, only the owners of the companies and brands were changed; new jobs or opportunities have not yet been created. At any rate, the inflow of capital from abroad is a good sign. Investors expect Brazil to recover in the medium term. They are investing now because the price of Brazilian companies is low. The Brazilian Central Bank also expects a continuous inflow of foreign capital this year.

The economic recovery of the Amazonian country seems to be closer: the inflation, growth, trade and current account trends, as well as the balance of national trade, are positive. The Brazilian Central Bank is in a position to reduce interest rates much faster than it could have expected to have done a short time ago. Thus, it will be possible to reduce the costs of corporate debt and consumer credit and stimulate economic growth.

It is also possible for positive results to arise from the changed geopolitical environment. US President Donald Trump will likely accelerate integration with his protectionist economic policy in Latin America – which applies to the region as well as to the world. For the first time in a long time, countries are beginning to negotiate with a concern for integration and the world economy – without US involvement. As a consequence, Mercosur, led by Brazil and Argentina, is discussing intensifying relations with both the neighboring countries in the Pacific and with Europe. In March, high-level negotiators want to start exchanging business proposals. The interest in jointly expanding market access following the failed Transatlantic Trade and Investment Partnership Agreement has grown not only in Europe, but also in South America. Mexico has begun negotiations with the EU to expand their existing trade agreements.

Switzerland could also profit from this new interest in integration: for the first time EFTA (Switzerland, Norway, Liechtenstein and Iceland) and Mercosur discussed a trade agreement this year during the World Economic Forum in Davos.

On the other hand, Brazil also does not need to fear a US protectionist policy. According to UBS’s assessment, Brazil is one of the national economies that potentially has little to lose from future US economic policy, because the South American country is relatively closed. In addition, Brazilian business groups are large employers in the United States, as we see in the smelting, chemical and food processing sectors.

For companies, a Brazil more strongly integrated in South America and the world would be appealing – with this, future crises could be balanced better and industrial value chains in the region could be expanded. During the country’s severe crisis, companies in Brazil became aware that they need to focus more on exports abroad than on South America in the future. With more exports, the production capacities of under-utilized plants in Brazil and Argentina could be better utilized and crises could be balanced in individual domestic markets. Considering the serious economic crises in Brazil – and also in Argentina and Venezuela – it has been proven that it is risky to only focus on local markets in South America.

South America is also coming together on the political front: in the strongest countries, there has been a change of government involving a fundamental transformation of economic policies. This applies mainly to Brazil, Argentina and Peru, where the leadership has now been assumed by politicians who run their economies once again aligned to the market economy. To this end, the Brazilian government implemented important measures in congress to make cuts to the federal budget and, thus, to put a cap on the deficit, which has been growing at an alarming rate over the last ten years. The government has also imposed a freeze on expenses that should stay in place for the next 20 years. The oil sector was opened up for private sector investments. Also, reforms to the state pension system were introduced.

The investigations in the Brazilian “Lava Jato” corruption scandal also boosted confidence among foreign investors. For the first time, business people, politicians and civil servants who have paid or accepted bribes are being sentenced to prison for long periods of time. As many defendants are testifying as key witnesses in exchange for reduced sentences, the scandal has grown to even greater proportions and expanded to other spheres. Today, some of Brazil’s most powerful entrepreneurs and politicians are in prison. Not long ago, they would have gone unpunished.

The corruption scandal has resulted in a fundamental change in Brazilian business behavior: corporate groups now focus on compliance, and are also attempting to reduce corruption internally. In sectors such as construction, oil and shipbuilding, opportunities are being given to companies that previously had not been able to compete with the dominant local corporate groups. Because of court investigations and fines, many of these previous market leaders are out of play for now. This new trend can be seen mainly in federal, state and municipal contracts, where corruption was once commonplace. Today, politicians and civil servants increasingly prefer companies that are honest. The chances of facing sanctions because of irregularities are simply too great.

The effects of the “Lava Jato” corruption scandal should be positive for Brazil in the long run. But the scandal also has the short-term potential of paralyzing the government and, consequently, the progress of economic reforms: further investigations could cripple the government, because ministers, political leaders in Congress, and possibly even the President himself, are involved in the case. A kind of “tug of war” is going on between the justice system and the government, including congress, and no one knows how it will end. So, the political situation for 2017 is also unpredictable. Despite these uncertainties, a recovering economy and a good atmosphere between business and consumers are capable of defusing the political crisis.