Henrique Meirelles, longest serving President of Brazil's Central Bank, with his benefactor, President Lula. Dilma calling? Source: Google Images
Henrique Meirelles, Brazil’s central bank president, helped save President Lula’s hide back in 2003 when the bond markets priced Brazilian sovereign bonds at default levels. He was a key pillar of Lula’s credible economic team, which convinced markets that the firebrand leftist was not going to spoil Lula’s predecessor’s hard work crushing pernicious hyperinflation. Lula had the sense to know that inflation hurts the poor even more than it does bondholders, and the former are his eternal constituents. The poor cannot index their assets the way the rich can.
Fast forward over seven years, and Lula’s dream team can now boast GDP that expanded 9% in Q110 over the previous year, a rate unheard of in the long era of slow growth, which was blamed on infrastructure constraints and low productivity. Then, rapid growth usually meant rising inflation, which Brazilians were very sensitive about. The WSJ article below details how accelerating investment, household consumption and government spending, not to mention low interest rates, have led to the boom in Latin America’s largest economy. Below that is CSFB’s analysis, which leads them to forecast a whopping growth rate of 8% in 2010! Is this China? Is this the Carioca Tiger? Years of sound macro policies since Cardoso, Fraga & Co. — a flexible exchange rate, an inflation-targeting monetary policy, and more-or-less adherence to fiscal targets — have provided a sturdy foundation for growth.
There is still worry, however, about the commitment to fiscal prudence in Brazil, especially if and when the country faces a prolonged downturn resulting in collapsing tax revenues. Lula hasn’t had to cut spending during his tenure, as he has been swimming in a pool of burgeoning tax revenues. Moreover, Meirelles, with whom I had numerous meetings over the years as Fitch’s lead on Brazil, is no inflation hawk, unlike his predecessor, Arminio Fraga. But also unlike Fraga, he is a skilled operator, navigating the risky rapids of Brazil’s fractious multi-party politics. Who will succeed him?
This question will be answered when we know this October who will succeed Lula. Jose Serra, the heir-apparent of Lula’s center-right predecessor, Fernando Henrique Cardoso, the man who broke Brazilian hyperinflation and floated the Real, is neck and neck in the polls (37% apiece) with Lula’s center-left (or just leftist) heir-apparent, Dilma Roussef, both very unexciting choices. No one expects the next government to unwind Brazil’s commitment to prudent macro policies, but the risk is that vigilance in keeping Brazil’s high government debt (at 70% of GDP) on a downward trajectory and inflation expectations low continues to ebb amid the success the country is achieving, and I’m not talking about Brazil’s effort to bring Iran in from the cold.
From WSJ on-line, June 8, 2010:
RIO DE JANEIRO—Brazil reported record economic growth for the first quarter, but surging domestic demand is likely to force central bankers to ramp up interest rates to cool Latin America’s largest economy.
Gross domestic product expanded 9% in the first quarter from the year-earlier period, the Brazilian Census Bureau, or IBGE, said Tuesday. That was the largest year-to-year growth recorded under the IBGE methodology implemented in 1995, and topped the median forecast of 7.6% by 22 economists polled by Dow Jones Newswires.
The robust first-quarter growth will likely be seen as another signal that Brazil’s economy is overheating, joining soaring industrial production and rising consumer prices as subjects of concern at the Brazilian central bank. The bank, already wary of inflationary pressures, started monetary tightening in April, raising the benchmark Selic interest rate by 0.75 percentage point to 9.5%, the first increase in nearly two years. Economists and market analysts forecast another bump of three-quarters of a point when the panel meets on Wednesday.
Though the central bank is expected to continue tightening monetary policy throughout the year, government officials say a similar surge in growth isn’t expected in subsequent quarters.
First-quarter figures, they say, still include consumer spending spurred in part by tax and lending incentives, introduced during the downturn to help stimulate the economy, that have since been removed.
Central-bank President Henrique Meirelles said the GDP data confirm that Brazil has fully recovered from the impact of a global economic crisis seen in 2008 and 2009. Brazil’s economy contracted by 0.2% in 2009. Mr. Meirelles said the data prove the government took adequate measures to counter the effects of the slowdown.
Surging domestic demand has pushed the local inflation rate above the government’s official year-end target of 4.5%. Through mid-May, the rolling 12-month IPCA-15 inflation rate stood at 5.26%. Full-month May inflation figures will be released Wednesday, before the bank makes its rate decision.
Output at Brazil’s mines and factories surged in the first quarter, reflecting the tax cuts on car sales and big-ticket items such as refrigerators and washing machines that were implemented in the wake of last year’s recession.
The industrial sector, Brazil’s powerhouse, surged 14.6% year-to-year in the first quarter, the IBGE said. The service sector recorded growth of 5.9%, while the agriculture industry registered growth of 5.1%.
With the first-quarter performance, all facets of Brazil’s economy have returned to precrisis levels, said IBGE researcher Rebecca Palis.
“The industrial segment returned [to precrisis levels] in the first quarter. In truth, it’s actually slightly above precrisis levels,” Ms. Palis said.
Brazil’s GDP was 826.4 billion Brazilian reals (about $441 billion) in the first quarter, up from 717.4 billion reals in the first quarter of 2009.
Investments jumped to 18% of GDP, up from 16.3% of GDP in the first quarter of 2009.
Family consumption increased 16% to 526.7 billion reals from 455.6 billion reals, the IBGE said. Government spending rose 6.2% to 157.3 billion reals from 148.1 billion reals.
The IBGE also revised GDP figures from past quarters, showing that Brazil’s emergence from the recession was stronger than previously thought.
Quarter-to-quarter in the fourth quarter, GDP was revised upward to growth of 2.3% from previously reported growth of 2.0%. Third-quarter GDP was revised upward to growth of 2.2% from the previously reported 1.7% gain. Second-quarter GDP was revised upward to growth of 1.5% versus the previously reported growth of 1.4%.
The quarter-to-quarter decline in first-quarter GDP was stronger than previously reported, shrinking 1.5% from the fourth quarter compared with a previously reported 0.9% decline.
From CSFB, June 9, 2010:
We expect IPCA inflation to decline from 5.3% yoy in April to 5.2% yoy in May (data due to be released today, 8am EDT). We project IPCA inflation of 0.40% in May, lower than the median market forecast of 0.44% and mid-May’s IPCA-15 (0.63%) and April’s IPCA (0.57%). We predict 12-month IPCA inflation to decline from 5.3% in April to 5.2% in May, a level higher than the midpoint of the inflation target range of 4.5% (Exhibit 1).
We expect the decline in consumer inflation in May to be explained by the sharp deceleration in food prices. We predict a decline in inflation in the food and beverages group from 1.45% in April to 0.14% in May because of the reduction in the prices of fresh foods (e.g., tomatoes, fruits, and vegetables) and sugar, and the slower rise in the prices of beans and milk. This downturn in food inflation was foreshadowed in the latest consumer inflation indicators (e.g., May’s CPI-FGV). For the other groups, we project the following:
– A rise in inflation in industrial products due to the greater impact versus April of the rise in automobile prices after the normalization of tax rates in April. In addition, the lower deflation in ethanol in May versus April is likely to contribute to higher inflation in the group.
– A rise in inflation in administered prices from 0.14% in April to 0.31% in May. This should be explained primarily by the lower deflation in gasoline and by the impact of the higher inflation in electricity after the tariff increases implemented in certain metropolitan regions (e.g., Fortaleza and Salvador) and the charge of the Contribution for the Funding of Public Lighting (Cosip) in the State of Rio de Janeiro.
– Relative stability in services inflation in month-on-month terms. We expect a slight reduction in inflation in the group from 0.50% in April to 0.48% in May. In cumulative 12-month terms, we expect a decline in service inflation from 6.7% in April to 6.6% in May.
We believe it is more probable that the IPCA inflation will be lower than our projection than higher, in light of the risk of May’s IPCA capturing a more significant portion than we assumed of the decline in food prices in recent weeks. Unlike that which occurred in the first few months of the year, when inflation in the food and beverages group added 1.16pps to IPCA inflation from January to April (44% of total inflation), we expect the dynamics of these prices to help bring about a reduction in consumer inflation in the coming months.
GDP growth was 2.7% qoq in Q1 2010, lower than our projection and in line with the median market forecast. In comparison with the previous quarter (with seasonal adjustment), GDP growth in Q1 2010 was 2.7% versus 2.3% in Q4 2009. In comparison with the same quarter of the previous year, GDP growth rose from 4.3% in Q4 2009 to 9.0% in Q1 2010. The performance of GDP in Q1 2010 was lower than our projection of 10.0% yoy and 3.4% qoq and slightly higher than the median market forecast of 8.5% yoy and 2.6% qoq. There were no revisions in the original GDP series, but the incorporation of the result for Q1 2010 resulted in a change in seasonal factors. For this reason, estimates for quarterly GDP growth (with seasonal adjustment) in Q3 2009 were increased from 1.7% to 2.2%, and in Q4 2009, from 2.0% to 2.3%.
On the supply side, lower-than-expected GDP growth is explained by various lines. Quarterly growth (with seasonal adjustment) was lower than our estimate for services (1.9% versus 2.7%), industry (4.2% versus 4.9%), and agriculture (2.7% versus 4.6%). The services sector added 0.6 percentage points (pps) to the deviation in our projection (10.0% yoy increase) in relation to the actual result (9.0%). Lower-than-expected growth in the industrial sector added 0.25pps to the deviation and the agricultural sector accounted for 0.15pps of the difference.
On the demand side, year-on-year growth increased in all components of GDP, except for government consumption. The main highlight on the demand side in Q1 2010 was strong growth in investments. Investments grew 26.0% yoy in Q1 2009 versus our projection of 25.2% yoy and growth of 3.6% yoy in Q4 2009. Growth in household consumption increased from 7.7% yoy in Q4 2009 to 9.3% yoy in Q1 2010. Despite this rise, household consumption continued trending downward compared to the previous quarter (with seasonal adjustment), with growth of 1.5% qoq in Q1 2010 versus 2.1% qoq in Q4 2009, 2.5% qoq in Q3 2009, and 2.9% qoq in Q2 2009.
We maintain our projection of GDP growth of 8.0% in 2010. Incorporating GDP’s Q1 2010 result, our carryover exercise from Q2 2010 to Q4 2010 (stability in the GDP series with seasonal adjustment) points to GDP growth of 5.5% in 2010. If the pace of quarterly GDP growth slows down to 2.0% from Q2 2010 to Q4 2010, we estimate that average annual GDP growth would be 8.8%. Our scenario of GDP growth of 8.0% in 2010 also considers significant deceleration in upcoming quarters, with average growth (qoq, with seasonal adjustment) of 1.5% from Q2 2010 and Q4 2010 (Exhibit 2).
Despite the lower-than-expected growth in Q1 2010, we have not altered our 8.0% projection for GDP growth this year (Exhibit 3). All else constant, the difference between the actual Q1 2010 GDP result and our forecast would lead to a downward revision of 0.25pps to average GDP growth in the year. However, we believe the uncertainties about our projections for the next few quarters do not justify a change of this magnitude.
Growth in capacity utilization in April, contrary to market expectations. The Capacity Utilization Rate in the Manufacturing Industry (NUCI) released by the Brazilian Industry Confederation (CNI) rose from 82.2% in March to 83.0% in April, in the seasonally adjusted series. The result was higher than our expectation of a slight recovery in the indicator, from 82.6% to 82.4% in the period, and the median market forecast (of 82.5% for April). Accordingly, March’s indicator was revised downward, from 82.6% to 82.2% in the seasonally adjusted series, and from 82.4% to 81.9% in the non-seasonally adjusted series. Growth in the NUCI-CNI (with seasonal adjustment) in April was 0.8 percentage points (pps) versus March, pointing to a continuation of the rapid pace of month-on-month growth. As a result, the difference between the current rate of the NUCI-CNI and the peak of the seasonally adjusted series (83.8%, recorded in February 2008) fell from 1.6pps in March to 0.8pps in April (Exhibit 4), the smallest difference since September 2008.
In the non-seasonally adjusted series, the year-on-year growth in the NUCI rose from 4.5% in March to 4.6% in April. This increase was most significant in the food and beverages, machinery and equipment, and apparel and accessories lines, which were among the categories with the highest weight in the NUCI-CNI. On the contrary, the growth in the NUCI decreased from March to April for activities that posted the greatest year-on-year increase in the indicator from January through April 2010, such as basic metallurgy, electronic and communications material, oil and ethanol refining, and non-metallic minerals. The lower growth of segments that led the expansion in the NUCI and the fact that only 4 of the 19 industrial activities included in the survey recorded acceleration in capacity utilization from March to April suggest to us that April’s growth was highly concentrated.
The 1.0% mom increase in April’s NUCI (with seasonal adjustment) did not follow the output in the manufacturing industry, which contracted 1.0% mom. The performance of the NUCI/CNI in April was not compatible with the dynamics of the NUCI of the Getúlio Vargas Foundation (FGV), which declined from 85.1% in April to 84.9% in May. Since the NUCI-FGV is calculated during the month of reference and the CNI survey after the month of reference, our models indicate that the change in the NUCI-CNI in the previous month is related more to the change in the NUCI-FGV for the following month. We believe the recent performance of the NUCI-FGV is likely to be reflected in the CNI indicator in the next few months. For this reason, and in light of our expectation of a maturation of investments and deceleration in industrial output as of Q2 2010, we do not expect the higher-than-anticipated result for April’s NUCI-CNI to change our prediction that the indicator will hover below the peak in the data series in the coming quarters.
