Central Bank

Anadolu Agency

SÃO PAULO — The Brazilian real made modest gains on Wednesday after the country’s central bank said it would significantly increase its interventions on the foreign exchange market.

The move comes after the real plunged to a seven-month low of 2.408 against the U.S. dollar, the first time the currency had broken through the 2.40 mark since 12 February, when it closed at 2.423.

The real strengthened to 2.399 just after 14:00 São Paulo time on Wednesday, after weakening to 2.417 earlier in the day.

[UDPATE: By close of business on 24 September, the real had strengthened further, to 2.383.]

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Anadolu Agency

SÃO PAULO – Market analysts in Brazil have predicted, for the first time, that the country’s economy will expand by less than 1% in 2014, according to a Central Bank report published on Monday.

Analysts now believe the Brazilian economy will grow by 0.97% this year, according to the bank’s most recent Focus Bulletin, after analysts cut their GDP (gross domestic product) growth forecasts for an eighth consecutive week.

The figures, based on a survey of around 100 Brazilian economists, are the worst estimate recorded since the Central Bank began publishing the data. Last week the figure stood at 1.05%.

The news is yet another blow to the economic credentials of the government of President Dilma Rousseff, who is seeking re-election in October, and is also likely to hit confidence in Latin America’s largest economy, already hampered by low confidence and concerns over above-target inflation.

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Brazil’s finance ministry and central bank have moved to defend the country’s image in financial markets after ratings agency Standard & Poor’s (S&P) dealt a blow by cutting its sovereign debt rating a day before.

S&P. Photo from The Hindu.

S&P cut Brazil’s ratings to just one notch above “junk” but improved its outlook from “negative” to “stable”. Photo from The Hindu.

Brazil’s rating was knocked down a rung on Monday from BBB to BBB-, meaning the economy is now categorised at the bottom end of “investment grade” and just one notch above “junk” territory.

Brazil’s Ministry of Finance moved quickly to label the adjustment as “contradictory” and “inconsistent with the conditions of the Brazilian economy,” quipping that last year’s GDP performance, indicating growth of 2.3%, was among the best seen in emerging markets.

The lower the rating, the higher the borrowing costs the government will pay on world markets. And ultimately, the sovereign rating trickles through to the interest rate costs that Brazilian corporations will pay to borrow. Higher borrowing costs across the board will slow the economy.

The Central Bank played down the news. “Brazil has responded and will continue to respond […] robustly to the challenges that have been set in the new global framework,” a press statement from the bank said, adding that Brazil was “well positioned” as the global economy normalized.

As the economy enters a period of pre-election uncertainty, the downgrading is the last in a run of bad news for President Dilma Rousseff, who has been grappling with concerns over the energy sector, recent defeats in Congress, and a torrent of criticism over the World Cup and its preparations.

‘Mixed signals, weak outlook’

Justifying the downgrade, S&P said “mixed policy signalling by the government, with negative implications for fiscal account and economic policy credibility” and “a subdued outlook for growth over the next two years” would weigh on “policy flexibility and performance”.

The agency did provide some good news in assigning a “stable” outlook for Latin America’s largest economy, which some interpreted as a signal that the new BBB- rating would stay for now and better Brazil remains investment grade than gets downgraded again.

São Paulo stock exchange, Bovespa: 25 March.

São Paulo stock exchange, Bovespa: 25 March.

Indeed Brazil’s main São Paulo-based stock exchange, the Bovespa, appeared to shrug off the downgrade, buoyed by the “stable” outlook and probably the fact the previously touted downgrade had finally happened. The benchmark index jumped in early trading and ended the day up 0.39%.

However, there is concern that the downgrading could hamper international investment, particularly if fellow agencies Moody’s Investors Service and Fitch Rating follow suit. As well as higher costs, the lower ratings are indicative of higher risk, meaning the country might have more limited access to credit.

S&P’s Sovereign Ratings Director Sebastian Briozzo told reporters that the government’s policy inflexibility was not the only factor, and confirmed that the current situation with Brazil’s energy sector, which has suffered due to severe droughts, also weighed on the new rating.

Reforms ‘unpalatable’ in election year

Ratings agencies have said they want to see adjustments made to Brazilian fiscal policy, and S&P said it could raise its rating “following more consistent policy initiatives to strengthen the fiscal accounts or outline a more proactive reform agenda” to strengthen growth medium-term.

“Public spending is high, but it needs to be redirected into building Brazil’s productive capacity and ploughed into investments, particularly infrastructure, rather than wages and pensions,” Capital Economics’ emerging markets economist David Rees told the Anadolu Agency.

But diverting money away from wages and pensions and effecting policy reforms would be “politically unpalatable” for a government gearing up for this October’s general elections, in which President Dilma Rousseff will seek a second term at the helm, Rees said.

Economists say fiscal policy changes to shore up the economy by bringing in greater tax revenues will be required once the elections, which Rousseff is expected to win, have come and gone but given Rousseff’s track record on fiscal reforms and dwindling support in Congress, those reforms do not appear likely.

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Brazil’s Central Bank has revealed that foreign investors have reduced the amount of capital they are investing in Brazil from US$12.4 billion to US$7.5 billion in the first six months of 2012, representing a drop of 40%.

External investors have been disappointed after the weaker performance posted by Brazil in the past two years, and analysts say government fiscal policy altering the exchange rate of Brazil’s currency, the real, has eroded investors’ bank balances and led to a change in the mood of the market.

President Dilma Rousseff is set to unveil a new stimulus package this week, expected to include tax relief and reduced energy bills for industries, as well as privatization schemes for roads, railways and airports.

However despite previous interventions from the government – including slashing interest rates and increasing access to cheaper loans – official predictions for 2012 growth have been cut from 4.5 to 3.0%, and some are predicting as low as 1.5%.

Brazil’s main stock exchange – the Ibovespa – has taken a tumble in the past few months. (Image: Yahoo Finances)

Some in the Brazilian media have described the fiscal policies as “a bucket of cold water” in investors’ faces.

However, it appears the story isn’t this simple: economists are divided as to whether the foreign capital exodus is based on facts concerning the slowdown of the Brazilian economy due to reduced demand for commodities from China, and the rippling effects of the Europe economic crisis and general lacklustre mood of the world economy, or whether it’s got more to do with an overly negative, pessimistic impression of Brazil’s economy by foreign investors.

Some are saying that foreigners have humoured the Brazilian economy long enough, and are seeking an alternative: Mexico – dubbed by some as the “New Brazil”. Its main stock exchange skyrocketed over 17% this year alone.

However, Brazil’s main São Paulo-based Ibovespa stock exchange has had 4.15% wiped off its dollar value year-on-year, after a noticeable exodus by foreign investors began some four months ago – now totalling nearly US$1.8 billion in lost shares.

Read more on this in my business article for The Rio Times here.