By Stuart Burns
Brazil has fared better than most over the last year or two. True, the country does have a problem with inflation, which has proved stubbornly hard to contain, and a strong currency has caused severe problems for Brazil’s exporters. Yet the country has low unemployment (part of the reason they have strong wage inflation), robust growth, and a trade surplus of $20.3 billion in 2010.
All is not quite as solid as it seems though, according to an FT article. Except for the export revenues of one company, that surplus would have been a deficit. Not that Vale’s (VALE) exports are likely to disappear, but such reliance on one firm’s fortunes and one single commodity underlines that for as far as Brazil has come, it’s still very much a commodity economy.
Much is currently happening in Brazil. Growth is slowing as the country’s main export markets continue to struggle. Although Brazil’s largest trading partner is now China, much of that depends on the export of commodities like iron ore that are slowing. Back to Vale, an FT article last week reported a plunge in net profits for the third quarter, largely due to a currency loss, but analysts noticed sales were also weak. China has been cutting back on purchases as iron ore spot prices have plummeted, and while Vale is bullish about future demand, others are suggesting the tightening process in China may have been overdone and anticipate a period of consolidation before Beijing decides to take the foot off the brake and allow the economy more credit next year. The move to greater spot sales of iron ore will also hurt Vale’s revenues from the 4th quarter onwards as spot prices continue to slide. With steel production depressed in Europe and the US, the 40 percent of the company’s exports to those markets are not likely to pick up anytime soon.
The government of Ms. Dilma Rousseff has not been standing idly by as the rest of the world has been focused on debt woes. The central bank has already cut central bank rates 0.5 percent to 12.0 percent, a move that is expected to be repeated later this year and next year down to a (still eye-wateringly high) 10.5 percent by mid-next year, according to the EIU Viewswire report. This in spite of consumer inflation running at 7.3 percent year-on-year in September, well above the target of 4.5 percent and with a 14-percent increase in the minimum wage in the pipeline for January.
The central bank is hoping, as are central banks in the UK and elsewhere, that falling commodity prices will feed through to reduce inflationary pressures next year. Whether they are correct remains to be seen, but what does seem certain is that Brazil will experience lower growth next year just as spending will need to ramp up to meet the cost of the 2014 Soccer World Cup and the 2016 Summer Olympics, not to mention the inevitable vote-buying spending spree that will accompany local elections next year.
Brazil can weather the current downturn better than most. Iron ore sales may slow and prices may drop, reducing revenues, but they will still make a substantial contribution to export earnings. The fall in the currency will benefit manufacturers looking to export, although it will heap further inflationary pressure on imports for domestic consumption.
Deep-water oil discoveries and the infrastructure investments needed for the above events will make significant contributions to Brazil’s economy in the years to come, further reducing the country’s reliance on low-value commodity exports towards a consumer-driven mature economy. The challenge will remain to control inflation and the incipient erosion of global competitiveness that high inflation brings.