Will Brazil decouple from the US slowdown?

In the current financial turmoil experienced by the world economies, one very important question posed by analysts and policymakers alike is whether emerging markets, such as Brazil, will be able to decouple from the US slowdown. The aim of this article is to point out ten issues, regarding this decoupling concern and, on top of the issues, we will draw some remarks. They are the following:

  1. The nature of such turmoil: this financial crisis can be defined as severe, far stronger than the stock market burst. It went straightforward inside the biggest domestic credit market worldwide and such credit crunch will take a lot of time to end liquidity glut and clear sub prime loans.
  2. The crisis is already a confidence crisis of the both investors and consumers; they both have already postponed their decisions, which include importing from the rest of the world.
  3. Even though China, India and many others are important markets, the US economy is still big enough to contaminate others. The Americans produce 28% of the whole world production and import more than USD2.0 trillion, resulting in a trade deficit of over that USD750 billion. Many economists see China off-setting US recession, but only the United States responds for more than 30% of the Chinese exports. Even with growth rates averaging 9% per year in the last thirty years, China is still 18% of the America’s GDP.
  4. Many economists believed that the US economy could live beyond its means forever, balancing its twin deficits –current account and fiscal deficit- just like living in a never-ending world because it has the deepest and the more sophisticated domestic financial market working as the resting place to foreign reserves from emerging market economies.
  5. The US has already entered a protracted and severe recession and there is nothing to do in order to reverse such economic situation. Whatever the Fed does will only alleviate the effects of the U.S showdown.
  6. The Brazilian economy will not be able to decouple from a US hard landing. It is expected that it will suffer significantly just like the rest of the world. The result will be a significant global economic slowdown. About 60% of the Brazilian foreign trade is done with only two important regions: US and Euro Zone. As they are coupled in the ups and downs, Brazil will be affected not only directly by the decline of the trade and investments flows with US and Euro Zone, but also indirectly because of the decrease in the international commodities prices.
  7. The hypothesis of decoupling is no longer defensible mainly when we look backward. The chart bellow is unquestionable. The co-movement of the real growth rates between the US and the Euro Zone and also between Brazil does not need any sophisticated statistics and econometrics procedures to fairly say that Brazil moves up and down in line with the world humor.  As Brazil is about 60% coupled to these two important regions, it will move down with them.
  8. Remarkably, the US slowdown is happening at the same time that the Brazilian economy is doing very well. This fact helps us to understand why the economy can by go through any kind of financial and currency crises. Unfortunately, the real side of the economy will be contaminated.
  9. The convergence process of the real interest rate has already been interrupted. Since October 2005, the Central Bank of Brazil started to ease the monetary policy and analysts were predicting that the level of the short-term real interest rate could converge to the international level in the medium term. The convergence was happening because of the obstinate good monetary and fiscal policy and, therefore, the dilution of the price risk and relatively low fiscal vulnerability.  However, this crisis reaches Brazil just in the moment of the consolidation of these fundamentals.
  10. Finally, the Brazilian economy has just started to have significant growth rates similar to its secular average and after about three decades of slowdown. But there has been a revision of the Brazilian GDP growth: 4.5% per year in 2008, instead of 5%.

Summing up. US recession will contaminate Euro Zone through the channels of the real and financial sides of the economy. Because Brazil depends quite a lot on these two regions and on the others, those are also closer to them and to us, definitely Brazil is not insulated. Moreover, the world slowdown takes place in an especial moment for the economy so that we can feel very frustrated for doing things right, but not being able to reach the best results.   image003.gif

5 Responses to "Will Brazil decouple from the US slowdown?"

  1. Rafael Galvão   January 31, 2008 at 10:21 am

    Professor Holland, this is a nice blog and I’d like to leave a comment abou this passage:”Moreover, the world slowdown takes place in an especial moment for the economy so that we can feel very frustrated for doing things right, but not being able to reach the best results.”It appear that Murphy’s Law is working (and it always works in “that” hour, you know), and the policies must consider this and others “surprise”.

  2. Henning Menke   January 31, 2008 at 1:44 pm

    Statistics are like bikinis,They hide the most important.

  3. Tom Trebat   February 2, 2008 at 1:49 pm

    Marcio, thanks for this analysis. Can the government use fiscal tools to stimulate domestic investment in anticipation of the global slowdown? I am thinking about speeding up the PAC and creating new incentives (e.g., privatization) to boost private investment spending? Would this not be a way to respond to the end of the external boom? What problems would use of fiscal tools entail?

  4. Marcio Holland   February 12, 2008 at 12:48 pm

    Dear Galvão, thanks for the comments. I wish I am wrong!Dear Menk, what is exactly “the most important” thing?Dear Prof. Tom Trebat, thank you very much for a such insightful comments. Unfortunately, current spending has been increasing far faster than public investment. Private sector and policymakers alike do believe either in the decoupling hypothesis or in the very soft landing in the US economy. According to them, glut international liquidity, China effect, high international commodities prices will remain so that Brazil can keep growing even with low public investment and easy fiscal policy. Then, privatizations and other policies are too complicated to the current government!

  5. Henning Menke   February 17, 2008 at 7:12 pm

    The most important thing is if the US economy does indeed enter a negative growth cycle, a decoupling from the US will be short-lived.