Brazil’s economy likely to contract again in 2016 and remain flat in 2017

Inflation pressures in Brazil continue to be high. IPCA inflation is much above the central bank’s target range of 2.5-6.5%. Moreover, prices of imported goods will increase due to weaker real. Price of electricity is expected to remain high because of reductions in subsidy for electricity companies, while minimum wage is expected to continue rising from indexation. Ongoing recession, increased political risk and institutional paralysis are deteriorating Brazil’s fundamentals, according to BBH.

The economy of Brazil continues to shrink. The fourth quarter GDP growth contracted 5.9% y/y, the worst since 1996. According to IMF, the Brazilian economy is expected to shrink 3.5% in 2016 and remain flat in 2017. The forthcoming Olympic Games in the summer might help the economy; however, certain construction has been cancelled because of limited funding. Moreover, the spread of Zika virus is expected to negatively impact tourism.

The Central Bank of Brazil has turned dovish while inflation pressures continue to be high. The central bank has maintained its key rates at 14.25% since July 2015. Some forecast the central bank to lower rates when the inflation decelerates, but it needs to maintain it at current level because of high inflation pressures.

The fiscal condition of Brazil has not improved. In January, the country’s 12-month total government primary budget deficit dropped to BRL 104.4 billion from December’s BRL 111.2 billion. However, this was because of one-off factors. The Brazilian government backed off on its key surplus target for 2016. It requested Congress to approve a deficit of -0.5% of GDP.

The fiscal reform is likely to be disturbed due to deteriorating economy and political dysfunction, according to BBH.  Moody’s has lowered the country’s sovereign rating to Ba2 with a negative outlook. Brazil has been put at sub investment class by all the three agencies.