LatinFinance - March/April 2016 - 45

On edge
On the economic front, Brazil is nearing
a crisis. The Central Bank of Brazil (BCB)
has forecast a 10% contraction of domestic
demand between 2015 and 2016. "The situation is serious and there is more to come,"
says Alberto Ramos, co-head of Goldman
Sachs' Latin America economic research
team."
"We need to be able to re-anchor inflation, but perhaps even more important, to
show progress towards fiscal consolidation.
We need critically to change the mediumterm fiscal trajectory"
"Either the right policies are adopted
through active conventional policymaking
to address the imbalances of the economy,
or the markets do it for you," Ramos says.
Ramos adds that a market adjustment
would be "very, very disruptive, very
volatile. It would involve a lot of capital
outflows, an overshooting of the currency,
and a loss of central bank reserves. There
is a risk that we may mutate from what we
have now, which is a long, difficult macroeconomic adjustment, to an outright crisis.
We have to be very careful that the tail risks
do not materialize."
Barbosa's latest 83 billion real package to
boost credit through public institutions was
greeted by the markets with skepticism. "It
is a government that only knows how to fire
one type of bullet - it all boils down to public credit," says Monica de Bolle, a visiting
fellow at the Peterson Institute for International Economics in Washington. "These
policies did not work in the past, and we
know that companies are in no position to
invest. Now Barbosa is trying to do these

things again in the hope that the results will
be different, but most likely they will make
the credit imbalance worse," she says.
Sky high
And then, there is the battle against inflation, which hit 10.7% in 2015. The Central
Bank of Brazil (BCB) has left its 14.25% base
rate unchanged since July 2015 and has said
that changes in the global economy have to
be taken into account. In an unprecedented
move, BCB President Alexandre Tombini
issued a communiqué on the first day of

not think we are going to stay in double-digit
inflation for much longer," he says.
Volpon's view is not widely accepted,
however. "I really don't see how we are
going to come down from double-digit inflation," says Bolle. "If there is no monetary
anchor, no fiscal anchor, no clear strategy
going forward to bring inflation down, companies and people who are actually the price
setters will keep on reacting to what was
happening to inflation the month before.
The way things are working right now is that
if there is fiscal dominance in Brazil, there is

Source: Reuters

militants have been the frontline of defense
against a presidential impeachment. Nevertheless, frustration over the state of the
Brazilian economy and the government's
policy response to the current recession
keeps building.
Rousseff's message going forward,
Garman says, "is going to be her zigzagging between trying to address the fiscal
accounts and throwing a bone to the left,
which is what she needs to survive."
Barbosa, too, is trying to walk a fine line
between short-term ambitions, such as
stimulating growth, and long-term fiscal
challenges, such as pension reform. "The
biggest obstacle that he faces is the Workers Party," says Garman. "It is going to be
a real tough sell to convince that base to
move on reforms that cut against their own
constituents."

FINE LINE: Barbosa will need to balance
short-term ambition with long-term
challenges

the January meeting of the monetary policy
council pointing to the latest IMF revised
forecast, which predicted a 3.5% contraction
of GDP this year instead of the 1% previously
forecast.
The vote on a rate hike was split, however.
Critics say that the BCB is more alarmed by
the persistent recession than it is by inflation. However, Tony Volpon, director of
international affairs and deputy governor at
BCB and one of the two central bank voters
in favor of monetary tightening, tells LatinFinance that Brazil's economic woes call for
more complex thinking. "It is not as simple
as saying there is a trade-off and I care more
about one thing in that trade-off."
Volpon notes that recent volatility in the
global economy has had a disinflationary
impact on Brazil. A global slowdown "could
reinforce the scenario of inflation going back
to target by the end of 2017, which is the
bank's current guidance," says Volpon. "I do

going to be ever-rising inflation over time,"
she says.
Persistent inflation and lack of monetary
willpower will have an impact on investor
appetite when Brazil has to roll over its
huge sovereign debt, Bolle says. Brazil had
2.8 trillion reais of debt at the end of 2015,
up 22% compared to the previous year. "At
some point people will stop accepting unindexed debt. We are going to recreate those
mechanisms of the 1980s that allowed the
government to keep financing itself, though
on ever worsening terms. Back then, markets were demanding ever shorter maturity
bonds and ever more indexed bonds."
Bolle says debt could easily rise to 80% of
GDP over the next 18 months, under these
circumstances. "That does not mean that
Brazil will necessarily default. It does mean
that inflation will be much, much higher
than we currently think. It could be at 12% to
14% and going up."LF
March/April 2016 - L ATINFINA NCE.COM 45

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