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#Investments — 19.04.2018

Will the Brazilian currency weaken further ?

Guy ERTZ

The weakness should be temporary. We forecast an appreciation to 3.10 in 12 months in view of good economic prospects and structural reforms.

Since 1 March, the Brazilian currency (real) has depreciated against the US dollar. In recent days, it has weakened from 3.24 to approximately 3.40 (value of one US dollar). This latest episode may be attributable to rising uncertainty over the general election, due in October.
 

Macroeconomic factors (e.g. interest rates and growth forecasts), have been overshadowed by the upcoming election. With Brazil’s former president, Mr Luiz Inácio Lula da Silva, in prison, and his chances of being a candidate greatly diminished, the centre-right party (PSL) and the centre-left parties (REDE and PDT) can expect to win over undecided voters. However, the final outcome is very uncertain. Recent accusations of political corruption have triggered further discontent among voters that could usher in less-known candidates. Moreover, Lula, though imprisoned and probably, could start campaigning for his party. 
 

On the growth and inflation front, we expect the Brazilian economy to grow by 3% this year, helped by buoyant demand for exports and commodities. Since peaking at 11% in early 2016, inflation has fallen to an historical low of around 2.7%, below the central bank’s target range. The fall in inflation has allowed the central bank of Brazil to cut interest rates that should be a key driver for consumption and investments over the coming quarters. As pointed out by Moody’s last month, low inflation and interest rates are having a positive impact on fiscal accounts and debt dynamics. Medium-term prospects could also improve: we expect the next government to pursue much-needed reforms (especially in pensions), in order to support fiscal consolidation. That said, reforms have been delayed many times. Furthermore the burgeoning government debt, and the large, persistent fiscal budget deficit, must be tackled. However, an improvement in this area will be necessary to offer structural support to the Brazilian currency.
 

In the short term, we expect the political uncertainty in the run-up to general election to keep the BRL at around 3.25 over the coming 3 months. In the medium term, we forecast the BRL to appreciate to 3.10 in 12 months in view of good macroeconomic prospects and future reforms that the next government are expected to push through, which are likely to shore up public finances and growth.