Brazil economic outlook, October 2022

One of the challenges the BCB is facing is that the disinflationary pressures seen in the second half of this year were largely due to fiscal policy interventions.⁵ Recently enacted tax cuts and subsidies for fuel have dramatically lowered transportation costs. For example, transportation costs were up just 7.6% YoY in August, which is a notable moderation from a 20.1% YoY reading in June.⁶ Such fiscal interventions are to expire after the runoff presidential elections scheduled for October 30, removing this key source of disinflation. Another major source of disinflation has come from lower energy prices, including a sizable drop in the cost of residential electricity. The war in Ukraine and the global economic outlook are highly uncertain factors that will ultimately determine the cost of energy worldwide and in Brazil. The related price drops could reverse should the war in Ukraine worsen or if the global economic outlook improves.

The BCB will need to see continued evidence that lower inflation is here to stay. Pushing inflation expectations down to its target rate will be critical for the BCB to feel confident that lower inflation is persisting. Inflation expectations have come down a little, but at 9.9% for the next 12 months,⁷ further moderation of expectations will likely be needed to bring inflation back within target. Ensuring that external events do not generate inflationary pressure at home will also be critical. The hawkish response from the BCB supported the value of the currency. However, with the BCB on hold as other central banks turn more hawkish, the currency could depreciate further, creating upward pressure on import prices and therefore inflation. Indeed, the Brazilian real weakened slightly between August and September⁸ as the global outlook worsened and central bankers upped their hawkish rhetoric and policy.

Exports poised for a slowdown

One of the strongest upsides to Brazil’s economy has been from exports. In August, year-to-date goods exports were up 19.1% in US dollar terms from the same period a year earlier (figure 2).⁹ High commodity prices and strong global demand for goods allowed Brazil’s exports to surge since the pandemic hit. However, export growth is expected to come down. A weaker global economic environment, the threat of global recession, and the related drop in commodity prices will all lower demand for Brazil’s exports. Brazil’s largest exports, which include iron ore, crude petroleum, and soybeans, have all posted price declines this year.

In closing, with inflation finally waning, Brazil’s economy should be well positioned for stronger real growth. Improvement in the labor market, higher consumer confidence, and a pause in interest rate hikes should support domestic demand. However, the external environment is deteriorating. A global recession would zap exports, which had been an engine of growth since the pandemic hit. Plus, fiscal belt tightening, although necessary, will ultimately restrain GDP growth next year. Government support to the economy will be difficult to come by given the large sum of money it has to spend to service its existing debts.