Brazil economic outlook, April 2023

Government tax exemptions, especially those related to energy, have distorted the inflation statistics and made inflation look stronger than it really is. For example, residential electricity charges jumped 17.7% in February and 30.3% in March on an annualized basis.⁹ Fuel taxes expired in March, which pushed the price of fuels for personal transport up 125.5% on an annualized basis.¹⁰ Such large month-to-month movements are unlikely to be repeated in subsequent months as they relate to one-time changes in taxes. In addition, education prices skyrocketed in February,¹¹ which coincides with the beginning of the school year. Education prices are typically adjusted just once per year, and the March data shows that the education price spike in February was a one-time adjustment yet again this year.¹²

Looking through the noise, it seems that the early tightening from the BCB is resulting in moderating inflation. A slowing economy will add to the disinflationary trend. The unemployment rate climbed to 8.6% in February from 7.9% in December.¹³ Meanwhile, the total number of employed fell for three consecutive months to February, resulting in about 1.5 million fewer workers since November.¹⁴ With the labor market loosening as inflation continues to run hot, real wage growth declined in February for the first time since April 2022. As a result, consumers are tightening their spending. For example, retail sales fell in November and December despite prices continuing to rise. After adjusting for inflation, retail sales were up just 0.2% from a year earlier.¹⁵

Although conditions for consumers have deteriorated recently, consumer confidence remains buoyant. For example, Fecomercio’s measure of consumer confidence hit its highest level since February 2019, just before everyone realized the world was living through a pandemic. Weaker inflation is likely helping to spur confidence even if wage growth is not keeping up.

Foreign investment to remain strong

Brazil’s trade surplus hit a record in March 2023.¹⁶ Exports jumped sharply in the month, with some of the largest gains seen in agricultural products. An exceptionally strong soybean crop should provide support for agricultural exports into April as well. Export gains were strong in other categories, including base metals and machinery. A weakening of the currency and the reopening of China have helped push exports in the right direction. However, export growth could slow from its breakneck speed as some of these tailwinds subside.

As export growth continues to impress, foreign direct investment (FDI) has also been notably strong. In 2022, FDI in Brazil nearly doubled to US$90.6 billion, the highest reading in a decade (figure 2).¹⁷ The BCB noted that energy and technology were among the largest recipients of FDI. During the pandemic, technology companies found Brazil to be an appealing place for expansion, given its relatively high adoption of technology and the internet.¹⁸ This allowed platform companies that link buyers and sellers to flourish. US FDI in Brazil in 2021, the latest available, was notably strong in the information sector, which is dominated by tech firms.

Geopolitics may also be affecting FDI flows into the country. With tensions between China and the United States ramping up, Brazil has likely been a beneficiary. Greater US scrutiny of Chinese company acquisitions has forced Chinese companies to look elsewhere for targets, including in Brazil. Sanctions of Russia have also likely fueled interest in Brazil’s energy industry, which has been by far the largest recipient of Chinese direct investment inflows. The BCB expects FDI flows to weaken this year as expectations of an economic slowdown will likely weigh on growth, but inbound investment is expected to remain strong.

Brazil’s economic cooling this year sets the stage for stronger growth later. Inflation remains high and will need to come back in line with the central bank’s targets. As inflation dissipates further, the BCB will be able to lower rates and likely usher in stronger growth. This should ease pressures on governments and households. Government authorities will face less interest expense, while households will likely see their incomes rise in inflation-adjusted terms. An improving outlook will likely reverse the rise in unemployment and support additional consumer spending.