Brazil on the Up End of the Global Financial Seesaw
The global economic slump that is saddling the US and UK with budget gaps of more than 8 percent of gross domestic product is also pushing Brazil to its smallest-ever deficit.
Brazil’s budget shortfall will decline to 1.4 percent of GDP by December, down from 2.6 percent last year and a record low of 2 percent in 2008, as lower benchmark borrowing costs reduce the government’s interest payments, according to the central bank. The payments represent 5.4 percent of GDP, compared with 3.18 percent in the UK.
While developed nations are struggling to cut debt and deficits amid falling tax revenue, Brazil’s central bank estimates its 4 percentage-point interest-rate cut since August will save President Dilma Rousseff’s government 30 billion reais ($14.8 billion) in debt servicing costs this year. With policy makers set to further reduce the benchmark rate, already at a record low of 8.5 percent, Brazil may reach its first surplus by 2017, according to Nomura Holdings Inc.
“Moving toward a lower nominal deficit would allow all these positive impacts,” said Tony Volpon, head of emerging markets research for the Americas at Nomura, Japan’s largest brokerage, by telephone from New York. Rousseff “has identified that as the big opportunity of the crisis.”
Brazil’s government bonds have rallied since the first interest-rate cut in August last year, sending the yield on the local currency fixed-income bond due in 2017 to a record low of 9.18 percent on July 2, from 12.82 percent on Aug. 1, 2011.
About 26 percent of Brazil’s domestic public debt, or 1.8 trillion reais of government securities, were tied to the benchmark Selic rate as of May, according to the Treasury.
Brazil, which has the second-highest real rates among the Group of 20 Nations at 3.51 percent, spent a record 237 billion reais on interest payments last year, more than twice the amount in 2002. Lower interest rates helped trim debt servicing costs in Brazil to 5.4 percent of GDP in May, the lowest since January 2011, central bank data shows.
The US’s deficit has soared to 8.2 percent of GDP last year from 4.8 percent in 2008, while the UK’s widened to 8.3 percent from 4.7 percent, data compiled by Bloomberg shows.
Rousseff’s administration has taken measures in recent months to encourage the central bank to cut interest rates. In May, it lowered government-mandated returns on new savings accounts, making room for rate cuts without driving investors out of local corporate and government debt and into deposits. It also cut fuel taxes last month to offset a price increase on gasoline and diesel that would have otherwise boosted inflation.
While Rousseff is taking advantage of the crisis to narrow funding shortfalls, her counterparts in developed economies are struggling to balance the need to reduce deficits and stimulate economic growth.
US President Barack Obama and Republican challenger Mitt Romney have each pledged to cut spending with the budget deficit poised to exceed $1 trillion for a fourth year and debt rising to 69.4 percent of GDP from 37.5 percent in 2008.
The drop in Brazil’s deficit may be temporary as the government boosts spending to revive growth, fueling inflation and bond yields, said Solange Srour, chief economist at BNY Mellon Arx Investimentos.
“It’s premature to talk of a balanced budget,” Srour said by telephone from Rio de Janeiro. “The government may increase spending and have to raise the Selic if the global economy recovers in 2014.”
Last week, Brazil posted a budget deficit of 16 billion reais, the largest for the month since the series began in 2001, as spending outgrew tax growth.
Expansion in Brazil, the world’s second-biggest emerging economy, will slow to 2.1 percent this year from 2.7 percent in 2010, according to a central bank survey of 100 economists published July 2.
The extra yield that investors demand to own Brazilian government dollar bonds instead of US Treasuries was unchanged at 204 basis points yesterday, according to JPMorgan Chase & Co. The real weakened 0.64 percent to 2.0285 per dollar yesterday.
The cost of protecting Brazilian bonds against default for five years fell one basis point to 143 basis points, according to prices compiled by Bloomberg. Credit-default swaps pay the buyer face value in exchange for the underlying securities or the cash equivalent if a government or company fails to comply with debt agreements.
Maintaining lower interest rates over a prolonged period of time could improve Brazil’s credit rating, Moody’s Investors Service and Standard & Poor’s said in interviews in May.
Brazil’s Baa2 rating from Moody’s and equivalent BBB ranking from S&P are the second-lowest investment grades. Moody’s has a positive outlook on Brazil and plans to review that position in the second half of this year.
Interest-rate futures contracts show the central bank, led by Alexandre Tombini, will cut the rate another 1 percentage point to 7.5 percent by year-end. The US’s benchmark rate is in a range of zero to 0.25 percent. Japan’s benchmark is 0.1 percent, while the European Central Bank’s main rate is 1 percent.
Each percentage point cut in the Selic rate reduces net public debt by 0.23 percent of GDP, Bank of America Corp. estimates. The government would save an additional 25 billion reais in interest-rate payments if the central bank cuts the rate to 7 percent, David Beker, a Bank of America strategist in Sao Paulo, wrote in a note on June 14.
“Interest savings due to the decline in the Selic cannot be underestimated,” he said.