All eyes are currently on the festival of football that is the 2014 World Cup in Brazil, but behind the joyous façade there are major concerns about the economic impact of the tournament, and the overall health of the Brazilian economy. Can the nation really afford to spend an estimated $14 billion on the world cup at a time when analysts at Goldman Sachs say the nation is in the grip of dangerous stagflation?
The Brazilian real strengthened against the USD to the tune of around 7.5 percent in the early part of 2014. This growth was a world-beating advance that is the highest gain of 31 major currencies, but according to Alberto Ramos, the chief Latin American economist at Goldman Sachs in New York, “The strength of the exchange rate is actually a sign of weakness. Hoping for the best isn’t a strategy. The central bank should’ve dealt with inflation three years ago and instead it got entrenched in the economy.”
This statement proved prophetic as the Brazilian government announced financial data that was startlingly weak. The central bank announced that Brazil’s government spent 173.9 billion Brazilian reals ($62.7 billion) more than its revenue in the 12 month period through May. And that the budget deficit for government entities including state-owned companies was 32.4 billion reals in May alone.
On top of this deficit, the primary surplus (government savings before interest), was 1.52 percent of gross domestic product, compared with the 1.9 percent target this year. The data prompts fears that the government will not be able to meets its target of 1.9% of GDP by year-end and has knocked investor confidence to such an extent that the real dropped 0.9% on the dollar in the wake of the news.
The real has still achieved a 6.7% increase in value this year, even after this setback, and is the best performer among the 31 major dollar counterparts. Nevertheless, the Brazilian government faces the lethal cocktail of rising inflation and slowing economic growth and there are serious questions about the nation’s ability to get these dangerous forces under control.
There are underlying, structural issues with the Brazilian economy that must be addressed if they are to recover, unlike in neighbouring Chile, where cyclical pressures have caused weakness in the Chilean peso. Against this backdrop, the mammoth spend on the World Cup is of questionable impact and value, with protests and demonstrations prior to the tournament’s start alleging widespread corruption and calling for the money to be spent on schools, hospitals and other non-sport-related infrastructure instead.
Moody’s Investors Service published a report at the end of March, titled “2014 FIFA World Cup Brazil: A Quick Score for the Beverage, Travel, Construction and Broadcast Sectors,” that said the tournament will have only “fleeting” impacts for the wider economy outside of the named sectors. The report predicted an estimated BRL25.2 billion ($11.1 billion) economic boost but said that figure “pales before Brazil’s $2.2 trillion economy, normal levels of investment spending and annual revenues of companies that will provide food, drink, transport, lodging and services to football fans.” The report also damned with faint praise the BRL26 billion ($11.5 billion) in planned spending on football stadiums and transport infrastructure, by saying that it was positive but that most of the impact had already been felt.
The evidence is stacking up that the Brazil, and its policy-makers, face serious problems and struggles in turning around the ailing economy. Industrial output fell 5.8% in the 12 months through to April, partly due to falling investment and consumers are reining in their spending as the rising inflation erodes their purchasing power. The central bank must balance these conflicting problems. Do they raise interest rates to curb inflation, or drop them to spark investment and growth? An impossible dilemma made even more difficult when the wrinkle of upcoming elections is taken into account.
What then, of the real? Widespread sentiment is that the real will fall to at least 2.4 to the dollar by the end of the year, while the heady mix of low growth and high inflation makes a slide to 2.5 or 2.55 on the dollar by end of 2015 a reasonable forecast.
Written by Shaun Myandee for IG Australia
This information has been prepared by IG Markets Limited. ABN 84 099 019 851, AFSL 220440. We provide an execution-only service. The material on this page does not contain (and should not be construed as containing) personal financial or investment advice or other recommendations, or an offer of, or solicitation for, a transaction in any financial instrument, or a record of our trading prices. No representation or warranty is given as to the accuracy or completeness of the information. Consequently any person acting on it does so entirely at his or her own risk. The information provided does not have regard to the specific investment objectives, financial situation and needs of any specific person who view it. IG accepts no responsibility for any use that may be made of the comments and for any consequences that result.
Share
