Brazilian economy to come out of recession as political uncertainty eases

Brazil is likely to come out from its two-year recession as the political uncertainty eases. The ongoing recession, which is the deepest since the 1930s, is due to imprudent policy choices executed in the last few years; however, it was deepened by the political uncertainty that compelled companies and consumers to delay spending decisions.

Even if the nation’s growth recovers sharply, the absolute growth level would be still muted as compared to the emerging nations, said Morgan Stanley in a research report.

“Our more constructive view on Brazil is more about the growth stabilisation than its medium-term growth outlook, which we believe is still very challenging," added Morgan Stanley.

Household consumption is likely to grow 0.6 percent following two straight contractions, noted Morgan Stanley. Household consumption is expected to be affected by the weak labor market and tight credit conditions emerging from the pick-up in delinquencies. Meanwhile, investment is likely to be weak even if confidence is rebounding.

While the Brazilian economy is expanding, there is quite a slack in the labor market and industrial sector. The rebound in sentiment is expected to permit certain companies that have been performing with low margins to pursue certain prices rises. However, on average, prices are likely to drop. Government-controlled prices are expected to drop to 4.6 percent next year from 5.8 percent this year.

“We believe that the new central bank’s board and its stronger credibility will help to bring inflation down to below 5.5%Y by year-end. Although still above the 4.5%Y centre of the target, we believe it is a more realistic path, coming from double-digit inflation in 2015,” stated Morgan Stanley.

Lower inflation is likely to permit the Central Bank of Brazil to lower rates in 2016. Real rates are expected to go up as the 12-month ahead inflation expectations fall nearly mechanically as the end of 2016 comes closer. By the fourth quarter of 2016, real rates ex ante are projected to be quite high even by Brazil’s standard, according to Morgan Stanley. Moreover, throughout 2017, the Central Bank of Brazil is likely to further lower rates.

“As we move into 2017, the central bank’s stronger credibility and the falling inflation expectations should keep real rates ex ante from falling faster, allowing them to get to nominal rates of 10% by mid-2017,” added Morgan Stanley.