Brazil: Risk Assessment
Country Risk Rating
Business Climate Rating
- Varied mineral resources and agricultural harvests
- Large population (estimated at 211.9 million)
- Well-diversified industry
- Strong foreign exchange reserves
- Net creditor in foreign currency
- Sensitive fiscal position
- Infrastructure bottlenecks
- Low level of investment (roughly 18% of GDP)
- Relatively closed to foreign trade (exports + imports represent only 28% of GDP)
- High costs of production (wages, energy, logistics, credit) that harm competitiveness
- Shortage of qualified labour, inadequate education system
Economic rebound will be insufficient to return to the pre-crisis level
In Brazil, the first COVID-19 case was reported on 26 February 2020 and it did not take long for the virus to spread, transforming the country into an epicenter on a global level. This was underpinned by the poor coordination of the authorities regarding the health emergency, as the federal government refused to impose stronger mobility restrictions, which led the state governors to assume this role. The pandemic reached a peak in mid-August and has steadily receded since (albeit still at a high level and with daily new cases signaling a rise in mid-November). Despite this, the economy observed one of the smoothest dives in Latin America. This outcome can be mostly attributed to the implementation of large fiscal and monetary stimuli. In 2021, economic activity is expected to resume. The recovery in household consumption is likely to lose some momentum in early 2021, as a side effect of lower-income aid and the recent increase in food prices. However, the index will still be supported by the gradual improvement of the job market and the maintenance of the policy rate at a historical minimum at least during a large part of the year. Moreover, foreign sales will be bolstered by a global economic rebound, improving depressed manufacturing exports, as primary exports (agriculture and iron ore) will remain at robust levels. Conversely, gross fixed investments will remain lackluster because of the weak fiscal situation, which limits public investment and creates fear for private investors. Downside risks are related to the COVID-19 pandemic’s evolution and the weak political environment.
Strong external position vs. worrying fiscal account
The current account deficit shifted into balance in 2020, bolstered by a stronger trade balance (as imports contracted much faster than exports) and the narrowing of the deficits in the services (driven by lower tourism expenditure) and income (due to the drop in foreign companies’ profits) accounts. Regarding financing, net foreign direct investment (FDI) registered a strong decline but remained positive. Conversely, a strong outflow in portfolio investments was recorded (notably in H1 2020). As of September 2020, foreign exchange reserves remained as a strong buffer to external headwinds (totaling USD 357 billion and covering 27 months of imports). In 2021, the current account should remain broadly stable, as the lackluster domestic economic recovery, and the recent strong exchange rate depreciation will prevent a relevant deterioration. On the financial side, FDI is likely to improve somewhat, in line with a relatively lower global risk aversion. Finally, total gross external debt stood at 25% of GDP in September 2020 (considering intercompany loans and local bonds held by foreigners), with its public share at 6% of GDP (thus net creditor in foreign currency). On the fiscal front, the challenges imposed by COVID-19 have further aggravated the already ailing fiscal accounts, with the impact estimated at 8.6% of GDP in 2020. The drawdown of government deposits from the central bank was a major source of financing. This was, in counterpart, sterilized through reverse repos in order to keep the monetary policy stance stable. Overall, while it reduced the cost of borrowing, on the one hand, it also shortened the maturity of new bonds on the other. In 2021, uncertainty regarding compliance with the spending cap (which prevents public expenditure to increase in real terms, suspended in 2020) should remain until March, when the budget for the year must finally be approved.
Government popularity may be tested
The political temperature soared in April 2020, when the then Justice Minister Sergio Moro resigned and accused President Bolsonaro of attempting to interfere in the federal police’s investigations. Nevertheless, the political environment has improved somewhat since then, as J. Bolsonaro has worked on improving his allied base at the congress. Therefore, the presidential mandate’s interruption risk is currently low. This is also underpinned by the aid to informal workers, which has shadowed positively on the government´s approval rating. Consequently, the President has been pushing the Ministry of the Economy to design a new welfare program in order to replace the current Bolsa Família. The aim is to increase aid despite the lack of fiscal space. Conversely, the failure in reaching a broader program, combined with the dismantling of the aid to informal workers, could take a negative toll on the ruling government’s popularity. Moreover, in order to ensure governability, the government has built a coalition in Congress with a block of ideologically vacant parties, which normally provide their support in the exchange for control over ministries and departments with sizeable budgets. This reduces the autonomy to conduct economic policies. Therefore, aggravated by the health emergency and the halt for the municipal elections, the reform agenda has been delayed. This includes the much-needed tax and administrative reforms (only affecting new servants) that are still in Congress for a vote.