Last week the BRL reached the 12-year high appreciation level at 1.558, below the 1.559 of August, 1st 2008, at the beginning of the international crisis and the same rate as January, 19th, 1999 (see Chart 1). Coincidently, this appreciation record comes with the worsening of the already complex international economic scenario: the yet unsolved budget deficit and debt ceiling issues in the US as well as the lack of consensus regarding the next steps trying to put the global largest economy back on track and the sovereign debt crisis deepening in Europe, now having Italy, the continent’s third largest country, as the target for speculators’ attack.
Since the eruption of the financial crisis in 2008, the Brazilian economy in general has strengthened compared to the US and Euro zone. From a public sector solvency perspective, Brazil is facing an opposite situation relative to US and European countries where our consolidated public debt-to-GDP ratio is running around 40% (see Chart 2) and last week’s $550 billion reopening Global 2021 placement paid the lowest yield in Brazilian history, 4.188%p.y. Turning to the external sector solvency conditions, we cannot say that the 2% of GDP current account deficit (see Chart 3) is too much to worry about as the $ 51 billion (12-months ending in May) deficit has been easily financed (see Chart 4).
Stronger economic conditions will have an important rule to our exchange rate behavior as the global debt and currency markets are going to get much more nervous and volatile in the next few weeks and months. As we can see in the first chart the BRL jumped from 1.55 on the first day of August 2008 to 2.39 on October, 8th, three weeks after the Lehman Brother’s collapse. So how is BRL going to behave in the near future? And how is it going to impact the Brazilian economy? It is different from the 2008 turmoil, and it is not absurd to suppose that Brazilian Real, Chilean peso, among others, will face less volatility than that of the second half of that year, just because the share of these economies has grown in the main pension and head funds portfolios around the world. These countries that were once just a speculative investment are becoming also a long-term investment. And as mentioned recently by David Bloom from HSBC in London, “at the currency markets if you sell one you have got to buy another one. At the moment, you don’t want the other either…” Having said that, we expect BRL around 1.65 at end-2011. Just to be tested in the next couple of months…
The main problem that Brazil is currently facing is domestic: the short and mid-term inflation path. Last week’s announcement of a 0.15% June IBGE-CPI (IPCA) rate at the top of the market forecasts (see Chart 5) just confirmed that the Central Bank will not have an easy job to have its convergence scenario done for the second half of 2011 and 2012. The 12-month accumulated (ending in June) IPCA is above the 6.5% upper bound of the tolerance for the rate, at 6.71%. Regarding the inflation cores, two of them are above the upper bound in the current 12-month accumulated rate ending in June: the core by exclusion at 6.5% and the double weighted core at 6.8%; the smoothed trimmed mean core that “by construction” walks slower than the others is at a current pace of 5.9% and growing (see Chart 6). The non-regulated prices closed June at a pace of 7.15% having its subset of tradable goods reaching 6.28% and the non-tradable ones at 7.91%. The services composite index included in the IBGE’s CPI are running at a pace above 8% showing the strong acceleration of prices in the last twelve months (see Chart 8). With this recent scenario the betting turned into two or three additional 25bps increases for the Selic rate in the last three COPOM’s meetings this year. At Linus Galena we expect Selic at 12.75% at end-2011 and with the IPCA at 6.38%, saving Mr. Tombini from having to explain the failure of extrapolating the upper bound tolerance for the IPCA 2011!