Low and stable inflation has helped kick-start consumer spending, while business confidence has also improved. This has led to an increase in domestic production, while the number of people unemployed has fallen for nine consecutive months.
What’s more, low inflation has also allowed the central bank to more than halve interest rates over the previous 17 months, taking the Selic target rate (a target interest rate set by the central bank in an effort to influence short-term interest rates) down to 7.0% from 14.25%. Since interest rates have fallen faster than inflation, the real interest has dropped significantly, reducing the cost of borrowing for Brazil’s heavily indebted households. This should help boost consumer spending since more cash will be available for purchasing goods and services instead of paying down debt.
Altogether, the economy seems to be recovering well after contracting by 8.2% during the last two-year recession with gross domestic product (GDP) in the third quarter rising, 1.4% against a year earlier. Looking forward, economists are forecasting the economy to grow by 2.5% in both 2018 and 2019.
But what lies ahead that could possibly trip up a recovery that appears to be based on a virtuous circle? The failure to deliver much needed fiscal reforms before October’s presidential election could disappoint investors, while a negative shock to commodity prices could also derail the recovery.
Temer the Reformer
The current president, Michel Temer, who took the reins from Dilma Rousseff last September, has faced an uphill battle to squeeze through much needed austerity measures, whilst simultaneously fighting off corruption allegations. The stock market rally has been partially built on hopes that Temer will be able to get public spending under control. In order to reign in the ballooning budget deficit, his government have drawn up a list of 57 public assets ripe for privatisation, including the state-controlled power company Eletrobras, and major airports such as Congonhas in São Paulo.
While markets have welcomed efforts to reduce the budget deficit, Mr Temer’s approval rating at home has plunged. Austerity measures have weighed heavily on the middle and lower classes and many Brazilians are not keen on the prospect of flogging prized assets to foreigners. According to a recent poll, the Temer government was considered 'Great / Good' by just 6% of respondents.