How the U.S.-China trade war will impact Brazil

. May 14, 2019
us china trade war

One year into the trade war staged by the U.S. and China, tensions have reached new levels with the world’s top 2 economic powers announcing new rounds of tariffs against each other. Animosity sparked up (again) on Friday, when the U.S. raised tariffs on USD 200 billion worth of Chinese goods from 10 to 25 percent. Beijing retaliated on Monday, raising import fees on American products. The increasing level of economic belligerence between the two behemoths sent shockwaves through global markets—and Brazil was no exception.

In times of uncertainty, riskier emerging markets take a bigger hit, with investors ducking for cover and taking their money to “safer” countries. As a result, the Brazilian stock market index crashed to a four-month low on Monday.

</span></p> <hr /> <p><img loading="lazy" class="alignnone size-full wp-image-17400" src="" alt="brazil stock market" width="1200" height="800" srcset=" 1200w, 300w, 768w, 1024w, 610w" sizes="(max-width: 1200px) 100vw, 1200px" /></p> <hr /> <h2>What to expect for Brazilian assets?</h2> <p><span style="font-weight: 400;">As in any international crisis, </span><a href=""><span style="font-weight: 400;">foreign exchange rates</span></a><span style="font-weight: 400;"> are the first to take the blow. The U.S. Dollar spiked against emerging currencies such as the Mexican Peso, Russian Ruble—and the Brazilian Real. In São Paulo, the greenback briefly broke the </span><a href=",dolar-encosta-em-r-4-com-guerra-comercial-entre-eua-e-china,70002826720"><span style="font-weight: 400;">BRL 4 threshold</span></a><span style="font-weight: 400;">, pressuring local investors.</span></p> <p><span style="font-weight: 400;">According to Cleber Alessie, a foreign exchange trader at brokerage H.Commcor, the sudden hike is an effect of the deterioration of the global scenario, which is unlikely to improve until investors see signs that tensions between the U.S. and China—Brazil&#8217;s top two trading partners—are on the horizon.</span></p> <p><span style="font-weight: 400;">“Markets have been adjusting on a global scale to a scenario that changed very briskly. There has never been optimism, but until last week there was some confidence that some sort of agreement was possible. Now, the performance of Brazilian assets will be tied to foreign markets until there’s an advance about trade talks. The U.S. says negotiations are undergoing—so we’ll wait and see. But it is a very negative impact in the short term and a blurry future scenario for companies’ futures,” he told </span><b>The Brazilian Report.</b></p> <p><span style="font-weight: 400;">As the </span><a href=""><span style="font-weight: 400;">Brazilian Central Bank</span></a><span style="font-weight: 400;"> has been warned time and time again, the best way for the country to protect itself from external shocks is by doing its homework. In other words: fiscal reforms. This, however, depends a lot on the pension reform bill currently stalled in Congress—which explains why Brazilian markets are suffering so much in these past days.</span></p> <p><span style="font-weight: 400;">“We are in the hands of external markets in currencies and stock markets because Congress is not producing major news regarding the pension reform. It is like a state of calm tension; we’re far from having things settled, but at least we&#8217;ve had no additional concerns,” he added. </span></p> <p><span style="font-weight: 400;">Beyond financial markets, a stronger USD has direct effects on people’s lives, as it may eventually bring inflation up. To contain price hikes, the Central Bank would have to raise interest rates, affecting the cost of money and credit conditions for the overall population. So far, this scenario does not seem likely in the short-term, but not for any particularly good reason. Brazil’s economy is so weak right now that demand is not strong enough to push inflation out of control.</span></p> <hr /> <p><img loading="lazy" class="alignnone size-full wp-image-17402" src="" alt="usd brl" width="1200" height="800" srcset=" 1200w, 300w, 768w, 1024w, 610w" sizes="(max-width: 1200px) 100vw, 1200px" /></p> <hr /> <p><span style="font-weight: 400;">In fact, economists have been cutting GDP projections regularly, and many fear 2019 will be another lost year—capping off a lost decade.</span></p> <p><span style="font-weight: 400;">“We&#8217;ll have to watch the Central Bank closely, but so far they seem more concerned with the ailing economy,” said Mr. Alessie, </span><a href=""><span style="font-weight: 400;">about a possible rise in interest rates</span></a><span style="font-weight: 400;">. Brazil’s benchmark rate is at an all-time low: 6.5 percent a year.</span></p> <h2><b>Extremely variable income</b></h2> <p><span style="font-weight: 400;">In the stock market, the month of May is believed to </span><a href=""><span style="font-weight: 400;">bring bad omens to Brazil</span></a><span style="font-weight: 400;">. And it seems that the curse will continue. Brazil’s benchmark stocks index has already lost 4.8 percent this month, led mostly by commodity companies. As they obtain revenues in dollars, these companies are often considered as a sort of “hedge” for internal crises. However, they have an over-dependence on Chinese demand—which may be severely reduced if the trade war slows the Asian country down.</span></p> <p><span style="font-weight: 400;">“Negotiations seem to be blocked and that raises the risk of a global slowdown, which harms </span><a href=""><span style="font-weight: 400;">commodity prices</span></a><span style="font-weight: 400;">. If global consumption does down, so do our exports—which means our economy will perform poorly. That&#8217;s why you see almost every stock listed suffering,” said Pedro Galdi, variable income analyst at brokerage Mirae Asset. </span></p> <p><span style="font-weight: 400;">But not everyone is likely to feel the same impact in the short-term. </span></p> <p><span style="font-weight: 400;">Following the global recession fear, pulp and paper producer Suzano lost 6.4 percent in May. The company </span><a href=""><span style="font-weight: 400;">registered a BRL 1.23-billion loss</span></a><span style="font-weight: 400;"> over Q1 2019 and even lowered its production guidance for the year, in order to cope with mounting cellulose stocks in China.</span></p> <p><span style="font-weight: 400;">For iron ore, things are a bit different. Even though the commodity prices fell amid the market drawdown, Vale—the largest iron ore producer in the world_has reduced its production since the Brumadinho dam collapse in January. A lower offer may give prices some push, says Mr. Galdi. Shares of mining and steelmaker companies have collapsed at B3 regardless, crumbling to external pressure on Monday, but were trying to recover on Tuesday.</span></p> <hr /> <p><img loading="lazy" class="alignnone size-full wp-image-17401" src="" alt="brazilian companies" width="1200" height="840" srcset=" 1200w, 300w, 768w, 1024w, 610w" sizes="(max-width: 1200px) 100vw, 1200px" /></p> <hr /> <p><span style="font-weight: 400;">Oil also tends to suffer in a scenario of lower demand—which may drag Petrobras’ stock prices down, too. </span></p> <h2>Trade war: a lose-lose situation</h2> <p><span style="font-weight: 400;">China is, by a mile, </span><a href=""><span style="font-weight: 400;">Brazil’s biggest trading partner</span></a><span style="font-weight: 400;">. There is no other market able to absorb Brazilian commodities in such a huge amount—and at a moment&#8217;s notice—which makes any economic move in China very consequential. </span></p> <p><span style="font-weight: 400;">For soybean producers, fears that China may retaliate by over-tariffing American oilseed have disturbed prices, causing enough damage to make President Donald Trump announce a USD 15 billion </span><a href=""><span style="font-weight: 400;">financial aid package for farmers</span></a><span style="font-weight: 400;">. The point is: if China is not buying from the U.S., then they have to buy from somewhere else, such as Brazil. </span></p> <p><span style="font-weight: 400;">Brazil is set to produce 123 million tons of soybeans during the 2019/2020 season, surpassing the U.S. as the world’s largest producer, according to </span><a href=""><span style="font-weight: 400;">projections</span></a><span style="font-weight: 400;"> by the American Department of Agriculture (USDA). The premium for soybeans at Brazilian ports—or the difference between the local and global prices quoted in Chicago—</span><a href=""><span style="font-weight: 400;">are set to continue to rise as the economic conflict develops</span></a><span style="font-weight: 400;">.</span></p> <p><script src="" type="text/javascript" charset="utf-8"></script></p> <p><span style="font-weight: 400;">According to Francisco Américo Cassano, researcher and professor of Economic International Affairs at Mackenzie Presbyterian University, a bigger demand of soy could be offset by lower demand for iron ore. </span></p> <p><span style="font-weight: 400;">“When China puts tariffs on American products, soybeans are included. So there is an opportunity for Brazil to increase its shares on imports. But the American government measures may reduce iron ore imports from Brazil,” he told </span><b>The Brazilian Report. </b></p> <p><span style="font-weight: 400;">The United States is an important partner for Brazil too, but it is unlikely that Brazil will be able to fulfill the gap left by Chinese products on the American market. </span></p> <p><span style="font-weight: 400;">“I don’t see this as a possibility in the short and medium-term because our industrial production isn&#8217;t competitive. A potential bilateral deal with the American government could make Brazilian products more competitive, but we are connected to Mercosul, which does not allow bilateral deals,” the professor explains. “There’s no winner in this situation.”

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Natália Scalzaretto

Natália Scalzaretto has worked for companies such as Santander Brasil and Reuters, where she covered news ranging from commodities to technology. Before joining The Brazilian Report, she worked as an editor for Trading News, the information division from the TradersClub investor community.

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