Six reasons why economic expectations for Brazil are worsening

RIO DE JANEIRO, BRAZIL – On Tuesday (14), Bank Itaú reduced its expectation for GDP (Gross Domestic Product) growth next year from 1.5% to 0.5%. The country’s largest private bank also started to forecast an increase in unemployment next year, with the unemployment rate rising from 12.1% at the end of 2021 to 12.5% in December 2022.

Besides Itaú, several other financial institutions and financial analysis houses started to forecast a lower GDP, higher inflation, and higher interest rates soon.

Understand the six main factors that have made analysts reduce their expectations for the performance of the economy next year.

1) HIGHER INFLATION AND RISING INTEREST RATES

The main factor cited by analysts for the revision in expectations for the GDP in 2022 is that inflation next year should be higher than previously expected.

The Central Bank will have to raise interest rates more, which hurts household consumption and business investment.

In August, the Broad Consumer Price Index (IPCA) rose 0.87%, much higher than expected by analysts and the highest increase for the month in 21 years. With this, the accumulated rate over 12 months reached 9.68%. The increase was driven by fuel and food prices and led several economists to forecast higher inflation for this and the next year.

In the Focus bulletin – a weekly survey of market expectations gathered by the Central Bank – the projection for the IPCA in 2021 went from 7.58% last week to 8% this week. For 2022, the forecast went from 3.98% to 4.10%.

The inflation target is 3.75%, and for 2022, 3.50%, as determined by the National Monetary Council (CMN). Therefore, analysts’ estimates suggest that inflation should stay above the target for two years in a row.

There are still other negative factors, such as the worsening of the water crisis and the situation of the government’s accounts, which may worsen the inflationary scenario ahead.

“In this context, we believe that Copom (Monetary Policy Committee) still does not see conditions to indicate a reduction in the pace of Selic rate increases,” write economists at Itaú in a report, predicting that the basic interest rate will reach 9% per year in 2022, back to a level that has not been seen since 2017. Currently, the Selic is at 5.25%, and it has reached 2% at its lowest point.

2) LOWER INCOME GROWTH

A second factor cited by economists for the deterioration in expectations for next year is the modest growth expected for the income mass – the sum of all population’s income. “We reduced our projection for GDP growth next year, from 1.7% to 1.3%, writes the team at XP Investimentos.

According to the economists of the house, in addition to the more contractionary effects of monetary policy (i.e., the rise in interest rates), the scenario incorporates “modest growth of the mass of extended income available to families,” with a rise of around 1.5%, discounting inflation, mainly due to the end of the emergency aid, which should not be compensated by employment and the expected increase in the Bolsa Família.

The trajectory of rising unemployment forecast by Itaú also does not suggest a very encouraging outlook for the performance of the income mass.

3) EXHAUSTION OF SERVICES RECOVERY

A third factor cited by economists is that the momentum generated by the reopening of the economy this year – particularly in the services sector – after a period of greater social distancing caused by the pandemic, should lose strength next year.

“Economic activity will no longer benefit from the impulse coming from the reopening of the services sector, something that, in our view, will be restricted to the second half of this year,” says Itaú. The pessimism in the medium term is shared by other analysts.

“However, the acceleration of inflation, the increase in interest rates, the increase in noise and political uncertainty, and the interruption of the upward trend in consumer and business confidence may limit this positive performance,” says Ramos. XP Investimentos alerts that “high unemployment and low growth of the real income mass will limit the demand for services in 2022”.

4) GLOBAL DECELERATION

A fourth factor cited by analysts is the expected loss of momentum of the global economy, impacting demand and price of Brazil’s commodities.

The orchestrated growth of economies this year was driven by the reopening of cities, vaccination advances, and the maintenance of monetary stimuli by most Central Banks of mature economies. Next year, these factors will dissipate. The surplus is the positive difference between the value of exports and that of imports by the country.

This is also the view of Itaú: “We see a slowdown in the global industrial sector and a drop in commodity prices next year. And from XP: “In the future, we see the Brazilian and world economies slowing down, the exchange rate and commodity prices more stable, the unemployment rate still high.”

5) WATER CRISIS AND POSSIBLE ENERGY RATIONING

In worsening economists’ expectations, the bill also worsens the hydro-energy crisis and the growing risk of rationing in 2022.

“As if the fiscal risk were not enough, the water crisis continues to put pressure on production costs, increasing inflation and reducing the prospects for economic growth,” writes the XP team.

The investment consultancy revised its GDP projection for 2022 from 1.7% to 1.3% but evaluates that the low level of reservoirs is the main risk factor for this estimate.

“Our scenario considers the effects of the water crisis and the increase in the cost of electric energy on the levels of production and consumption, but without rationing (compulsory reduction),” alert the economists.

At the beginning of the month, XP revised its projections for the possibility of rationing in the next 12 months to 17.2%, while Itaú doubled its probability index to 10% in 2022.

6) ELECTIONS 2022

Finally, the certainty of polarized and quite troubled elections is weighing economists’ pessimism for next year.

“The calming of the political turbulence should be of interest above all to President Jair Bolsonaro. After all, his reelection depends fundamentally on improving the economy,” observe the economists from MCM Consultores.

The consultancy cut its projection for next year’s GDP from 2.1% to 1.4%. “The main reason is the prospect of a progressive worsening of the political-institutional-fiscal framework and uncertainties. One of the most important factors is the polarized presidential election and most likely filled with populist proposals from both sides.”