Brazil – Does Macroeconomic News Smile at You?
The past week brought a calendar full of quasi-optimistic data from head to tail. Quasi-optimistic because it takes more than one data point for any macro indicator to be considered in trend and thus we take a cautious look at developments before calling a bottom and many significant and broad-based readings to call a recovery.
The Q1 2009 GDP brought a reading of -1.8% y/y, which was better than the consensus estimate (by Bloomberg) of -2.8% and our estimates of -2.3%. The seasonally adjusted (s.a.) rate came at -0.8% q/q (consensus of -1.9%), followed by the -3.6% reading in Q4 2008, to an accumulated decline of -4.4% since Q3 2008, the ‘start’ of the crisis.
More importantly, the main reason for the positive surprise was the performance of consumers. Consumption grew 1.3% y/y (we forecasted growth of 0.9%, and consensus an even lower reading) down from 2.2% in Q4 2008, but the s.a. rate was actually +0.7% q/q, up from -1.8% in Q4 2008. This positive performance of private consumers was one of the forces together with public consumption to counter-balance the sharp -12.6% reading in fixed investments.
Also worth noting is the fact that inventories were lower by an enormous R$22.3 billions or 3.3% of total output at current prices. The collapse in inventories is the biggest single reading in a quarter ever seen in the new series and follows another huge reading of –R$20.1 billions in Q4 2008 – as a reference, the lowest inventory reduction in an entire year was R$2.8 billions in 2002, when in Q4 2002 inventories fell by R$13.9 billion (or 3.5% of GDP at current prices). This is considered a normal adjustment when economies go into recession and it shows the mismatch between demand (sales) and supply (production). The sharp contraction in industrial production is being certainly more severe than the pace in which the consumption of goods fall – in part aggravated by the lower availability of credit as well as weak business confidence. However, this adjustment is not permanent, and as soon as the industry picks up again (no signs yet), inventories will start to build up and print positive variations. Our estimate of inventories change for 2009 is a total decrease of around R$3.8 billions (a historical low) which means there will be a strong addition of inventories of around R$18.5 billions throughout the rest of the year, concentrating the recovery in whichever quarter the pace of recovery is such that production is enough to more than take care of the demand and still create some buffer. In our estimates this will only take place with vigor in the 3Q 2009.
For those reasons, we reinforce our Q2 2009 GDP growth forecast at +0.8% q/q s.a. and -2.2% y/y and we are in the process of revising up our full-year GDP growth forecast but we are waiting for additional preliminary data to come.
The COPOM meeting was also a positive event last week since the committee decided to cut the Selic by more than expected by the consensus (100bps vs. 75bps), demonstrating strong confidence by almost all of the members (six out of eight) that the economy can afford sharper and more aggressive rate cuts without jeopardizing the achievement of the target. In fact the inflation scenario is so far benign and it does allow further cuts. In addition to it, lower nominal rates could in part help reduce the already strong inflows of USD and curb some of the appreciation of the BRL. We believe the next step by the COPOM is another 75 bps cut followed by one or two cuts of 25 bps to an year-end rate of 8.0-8.25%. On the inflation side, IPCA for May printed +0.47%, lowering the y/y rate from5.5% to 5.2% and the core y/y rate from 4.6% to 4.5%. Inflation should trend lower on the coming months to bring the y/y rate back close to the target by the end of the Q3 2009 and close to 4.0% by year-end.
This week brings the retail sales data for April. We are expecting a +1.3% growth m/m and an acceleration of the y/y rate from 1.8% to 4.9% as a consequence of the improvement in most of the leading indicators we monitor. The Easter holiday being on April this year also have added some steam at the same time that total credit showed a shy growth m/m s.a. in April and some of the currency appreciation could also have added to some improvements.
INEGI will release industrial production data for April on Wednesday, June 17th. We expect industrial output to have contracted by 13% y/y mainly driven by a rapid decline in manufacturing (-19% y/y vs. -14% y/y 3MMA). The ongoing recession in the US manufacturing sector (-15.7% y/y NSA vs. 14% y/y 3MMA NSA) and deepening decline in Mexico’s auto production (-47% y/y vs. 41% y/y) likely dragged industrial output deeper into negative territory. Moreover, continuing decrease in oil output (-3.7% y/y) likely limited mining production (1% y/y vs. -1% y/y 3MMA), at the same time that poor consumer and business confidence and tighter credit conditions should have exacerbated downside pressures on construction (-8.5% y/y vs. -7.7% y/y 3MMA). Recently, we have revised down Mexico’s industrial output to a contraction of 7% from a decline of 5.6% previously. The Bloomberg consensuses expect industrial production to print a fall of 15% y/y in April.
On Friday, June 19th, the central bank will decide on the monetary policy rate. We anticipate Banxico to lower the ON TIIE rate by 50bps to 4.75%. The possibility of a larger cut, perhaps 75bps to 4.5%, has certainly decreased since the central bank explicitly stated that future cuts will be less deep than the previous ones. In our view, inflation continues its downward trend on the back of contracting domestic demand, relatively lower commodity prices (compared to their pick in 2008) and a less volatile MXN. Moreover, although price stickiness remains in place, we anticipate inflation expectations for 2010 to reflect a more benign inflation outlook in the coming months. Finally, the output gap continues widening at a fast pace and the likelihood of a rapid recovery in 2009 is still small. We expect Mexico’s headline inflation to close at 3.9% in 2009 and 3.5% in 2010, while we anticipate GDP to contract by 6.1% y/y in 2009 and expand by 2.5% y/y in 2010. The Bloomberg consensus expects Banxico to lower rates by 50bps.
Finally, on Friday, June 19th, INEGI will report on aggregate growth for Q1 2009, and we anticipate a decline of 10.2% y/y (4.1% y/y in Q1 2008 and 2.1% y/y in 2008). On the demand side, our estimates consider a sharp contraction in private consumption (-7.2% y/y) and investment (-7.6% y/y) as the global crisis hit domestic confidence, labor dynamics worsened, inflation stayed elevated, and credit conditions tightened. Furthermore, exports likely declined sharply (-23.6% y/y) due to waning external demand and very low oil prices. On the supply part, INEGI already reported a few weeks back that GDP declined by 8.3% y/y in Q1 2009, and we expect imports to have contracted by 22.4% y/y. Moving forward, released data at the beginning of Q2 2009 indicate that Mexico’s economy continued under strong downside pressure. We expect Mexico’s output to contract by around 9% y/y in 1H09 and 6.1% in 2009. The Bloomberg consensus anticipates an aggregate contraction of 10% y/y in Q1
The Finance Ministry will report on the primary fiscal balance during the week and we expect a surplus of ARS 2.5bn or 2.6% of GDP on a 12M rolling basis (3.4% of GDP in May 2008 and 2.8% of GDP in April 2009). Fiscal spending should have remained growing at elevated rates as mid-term congressional elections approach. More specifically, we anticipate strong spending increases in wages, social security benefits, and transfers. However, we expect government revenues to grow at a slow pace on the back of poor economic activity and lower commodity prices (on year- over-year basis), despite strong transfers from the nationalized pension system. The central bank consensus expects a primary fiscal deficit of about ARS 2.8bn.
On Thursday June 18th, INDEC will release economic growth for Q1 2009, which will likely post an expansion of 2.3% y/y. According to official data (INDEC’s monthly estimator of economic activity, EMAE), GDP expanded by 2.3% y/y in Q1 2009; however, private sector estimations such those of Orlando Ferreres & Asociados indicate a sharp decline of 3.5% y/y in Q1 2009. Overall, we expect a sharp deceleration in private consumption and investment driven by falling domestic confidence, as well as exports due to less favorable external conditions. However, imports also should have decelerated rapidly as domestic demand faded.
Finally, on Friday June 19th, INDEC will report on the current account balance for Q1 2009 and we expect a surplus of USD 1.56bn in (USD 1.64bnmn in Q1 2008 and USD 1.8bn in Q4 2008). In our view, a slightly narrower trade surplus (USD 3.56bn vs. USD 3.8bn in Q1 2008) is behind our forecast and market participants will pay close attention to foreign investment flows in the capital account.
On Tuesday, June 16th, the central bank committee will meet to decide on the monetary policy rate (MPR). We anticipate the central bank to lower the MPR by 50bps to 0.75%. So far this year, the CB has lowered rates by 700bps to 1.25%. Overall, the sharper than expected decline in economic activity in April (down 4.6% y/y vs. -2.1% y/y 3MMA), together with better than anticipated headline (-0.25% m/m) and core inflation prints in May (-0.34% m/m) and falling inflation expectations (to 0.2% y/y from 1.2% by the end of 2009 according to the central bank) should provide the monetary authority with enough room to ease monetary policy conditions. Moreover, the local currency has remained relatively stable-strong over the past months. Lastly, financial instruments such as CLP Fixed – Camara Swap Curve currently point to rates as low as 0.8% for 3mths, thus supporting our view that the CB will cut rates within our expectations. The Bloomberg consensus anticipates the central bank to cut the MPR by 50bps to 0.75%.
On Wednesday, June 17th, DANE will release industrial production and real retail sales numbers for April, which will likely indicate that the economy continued on a rapid deceleration trend. Industrial output likely declined by 13.2% y/y (-7.4% y/y 3MMA), and real retails sales likely contracted by 5.4% y/y (-5.2% y/y 3MMA). In our view, slow domestic and external demand, tighter credit conditions, and waning business and consumer confidence, likely continued pressuring both activities down. In fact, the decline in auto sales accelerated in April (-36% y/y vs. -17.65 y/y 3MMA), energy demand from the manufacturing sector fell sharply (-13.8% y/y), and intermediate imports of industrial goods collapsed (-34% y/y vs. 21% y/y 3MMA).
On Friday, June 19th, the central bank will likely lower the ON Lending rate by 50bps to 4.5%. The probability of a larger cut has been significantly reduced by the central bank’s latest minutes, in which they see a lesser need for deeper cuts as they see the current level expansionary and on expectations that growth might resume in H2 2009. Overall, inflation surprised positively on the downside in May (0.01% m/m) and economic activity is still showing signs of a rapid decline. Moreover, the latest central bank survey, in which we participated, showed that the inflation outlook has improved significantly for 2009 (to 4.07% from 4.48% in the previous one) and inflation risks associated with the local currency have dissipated. The Bloomberg consensus expects the CB to lower rates by 50bps.
On Monday, June 15th, INEI will report on economic activity for April and we expect a contraction of 0.7% y/y (1.8% y/y in Q1 2009). This would be the first year-over-year decline since June 2001. The poor external context and more cautious consumer and business spending, together with a negative calendar effect (Easter Holidays were celebrated in April 2008 versus March in 2009), should have continued weighing on economic activity at the beginning of Q2 2009. Furthermore, an elevated statistical base likely exacerbated downside pressures to growth.
Overall, the decline in exports plus imports (around 50% of GDP) accelerated in April (-32% y/y vs. -27.5% y/y 3MMA), and leading sectors of the economy, such as construction (-3.3% y/y), manufacturing (-9% y/y), other services (2.7% y/y), and retail sales (-1% y/y), will likely reflect a sharp slowdown. Moreover, in the latest advance report on economic conditions for April, INEI reported that mining, agriculture and utilities expanded but at a slowing pace of 2.8% y/y, 0.7% y/y and 0.3% y/y, respectively.
In a recent interview, the Finance Minister, Luis Carranza, indicated that economic activity will likely be either flat or post a decline in April. Moreover, last Friday, the central bank lowered its GDP growth expectation for 2009 to 3.3% y/y from 5% y/y and for 2010 to 5.5% y/y from 6% y/y. We expect GDP to expand by 2.7% y/y in 2009 and 4.8% y/y in 2010. Finally, INEI will inform on Monday about labor dynamics and we expect a decrease on the unemployment rate to 8.4% in the Mar-April-May from 8.8% in the Feb-Mar-April period, mainly due to seasonal factors (Mother’s Day).