Markets were ecstatic about a probable Bolsonaro win

Brazilian markets are in a strong upward trend this October after polls indicated a comfortable lead for far-right hopeful Jair Bolsonaro in the presidential race. The results of the first round vote on October 7th were followed by an additional boost to the domestic stock market and strengthened the Real against the U.S. Dollar.

But can these movements make an impact on other aspects of the economy, such as activity, income, or inflation?

The answer to this question is ambiguous. Yes, as some betterment may spill over to other segments of the economy. And no, because “real economy indicators” as they are known, do not vary in the same magnitude as financial assets.

Financial optimism

Ibovespa, Brazil’s main stock index, rose as much as 9.5 percent in the six trading sessions since October 1, when an Ibope poll showed the former Army captain had increased his vote intention. Not only that, but the data also showed that his main contender Fernando Haddad had stagnated among the electorate, while his rejection rates also increased.

Seen as more market-friendly than Lula’s pupil, Mr. Bolsonaro’s comfortable situation spread a wave of optimism in Brazil and overseas. The day after the election, when his large edge was confirmed, B3, the Brazilian stock exchange, recorded the highest volume of trade in a regular session ever: BRL 28.9 billion. As more international investors were attracted to the domestic stock market, the demand for Reais increased.

In the five sessions before the election, the depreciation of the U.S. Dollar against the Brazilian Real was the most significant weekly decrease of the currency in two and a half years. The trend persisted this week and the U.S. Dollar fell from its BRL 4.02 level on the first day of the month to BRL 3.72 on October 9, a 7.4 percent drop.


'Bolsomania' has boosted the markets. Can it do the same for the economy?


Will the optimism last long?

Juan Jensen, an economist at consultancy firm 4E and professor at Insper, reckons that this fluctuation represents a reaction to the previous deterioration of the local markets, when the chances of an anti-reform candidate (Fernando Haddad) winning the election were higher. “Today, the risk of an interruption of the ongoing economic adjustment process and the implementation of more populist and interventionist oriented policies is lower”, he said.

Alessandra Ribeiro, an economist at consultancy firm Tendências, warns however that the markets’ “honeymoon” with Mr. Bolsonaro might not last long. “The markets will not give him the benefit of the doubt and wait for the reforms to be approved”, she argued. “The pensions reform was expected to take place under the current administration and it did not happen. Now, the international scenario is less favorable as the conditions for the emerging markets are worse”, she adds, in reference to the rising interest rates in the United States and the country’s trade war with China.

The first signs of this “short temper” were already seen this Wednesday after Mr. Bolsonaro criticized the current pension reform bill discussed in Congress and revealed he does not plan to fully privatize state energy companies.

Eletrobras’s stocks took a hit and fell 8.36 percent on October 10. Meanwhile, Ibovespa had its worst day in over two months, falling 2.8 percent. This Thursday, the soured mood of investors abroad also influenced the performance of domestic assets.

Despite these setbacks, the overall belief among economists is that the right-wing option will be better for Brazil’s economy than the Workers’ Party alternative. Mr. Jensen highlights that Mr. Bolsonaro’s economic guru – the Chicago-educated financier Paulo Guedes – is the assurance that a populist agenda is not likely to be implemented if he actually wins the election.

What about the real economy?

If that scenario is confirmed, Ms. Ribeiro explains that the improvements observed in the financial markets will result in positive outcomes in the real economy. But the effects may be limited. She says that a stronger Real, for instance, will lead to lower inflation, as it makes imported goods cheaper and reduces the costs of products assembled with components from overseas. The same logic goes for fuel and food prices.

Lower inflation rates also translate to more purchasing power. The expectation of lower inflation also leads to a less strict monetary policy. That is, if the risk of prices going up fades, there is no reason for the Central Bank to raise interest rates. As Ms. Ribeiro highlights, that decreases the costs of funds, of borrowing money from the bank, for both companies and customers.

“These kinds of effects are quickly noticed, but they are not strong to the point of influencing the economic activity in the same magnitude as the variation observed in the financial markets,” she notes. The betterment would not change the expectations for the economy in 2018 but reinforces a trajectory of moderate economic activity growth for 2019, in Ms. Ribeiro’s view.

Mr. Jensen has a similar take. Even if Mr. Bolsonaro adopts a market-friendly agenda, he may face some obstacles to approve the key reforms in Congress. “The elected Congress is socially conservative, but not regarding economic liberalism,” he points out.

In the scenario expected by 4E, Brazil’s economic recovery will be slow. “The improvement in the access to credit will create better conditions in the labor market and consequently lead to an increase in consumption, but with no shock of confidence or a strong boost in investments”, Mr. Jensen said.

Currently, 4E forecasts a Gross Domestic Product (GDP) growth of 1.4 percent in 2018 and of 2 percent in 2019. Tendências is slightly less optimistic, estimating increases of 1.2 percent and 1.7 percent, respectively.

In general, economists in Brazil have similar forecasts for this year’s performance, as there is only one quarter of the year left, but seem to be more confident about next year. That is what the last Focus Report released by Brazil’s Central Bank shows. The document published last Monday compiled projections that over 60 economists made before the election day. The figures show an expected growth rate of 1.3 percent for 2018 and of 2.5 percent for 2019.

S&P alert and what comes next

Last week, sovereign ratings analyst at credit-rating agency Standard & Poor’s Joydeep Mukherji warned that Mr. Bolsonaro poses a higher risk to Brazil than Mr. Haddad. He mentioned concerns over a  “lack of consistency” and a “risk of incoherence.” He worries that the right-wing politician may take longer to negotiate with Congress and pass measures which are important to the economy.

Ms. Ribeiro also warns about the challenging scenario ahead when it comes to political negotiations. She argues that even though Mr. Bolsonaro’s PSL party was able to elect a solid base in the Chamber of Deputies, in the Senate the negotiations are likely to be harder.

“We have doubts regarding the management of the coalition-based presidential system and the discourse about a new way of doing politics”, she concedes. “It will not work because the allocation of funds and positions to allies is mandatory to have bills approved in the current system,” she says.

Mr. Jensen adds that the markets expect more clarity regarding Mr. Bolsonaro’s plans for the economy and that will have to do with the team Mr. Guedes will be able to assemble. Moreover, any tips regarding the future head of the Central Bank may have an impact on the markets. He opines that it would be positive if Ilan Goldfajn remained in the position, as he was able to deliver a sharp decrease in inflation under his tenure.

But the market’s overall impression will be epitomized in the next Focus Report, to be released Monday, October 15. This document will include updated forecasts, as well as effects of the election results and new developments, such as Mr. Bolsonaro’s comments and the news that his economic advisor Mr. Guedes is under investigation for alleged investment fraud.

MoneyOct 12, 2018

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BY Mario Braga

Braga is a journalist from São Paulo. He is an Erasmus Mundus Journalism scholar pursuing his Master’s degree at Aarhus University (Denmark) and at the London’s City University.