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Brazil: Fully Coupled

Brazilian corporate titans and political leaders are now facing the grim realities of globalization.


Like the various samba schools that meander down the Sambodrome, Brazilians are realizing that they are part of a much larger procession. The economic data released last week confirmed that decoupling was just another marketing myth. Indeed, the Brazilian economy hit the proverbial BRIC wall, with industrial production plunging 14.5 percent y/y. This was after dropping 6.4 percent y/y in November. Manufacturing and white goods were the hardest hit, as banks curtailed credit facilities. Despite the fact that Brazil is considered to be a relatively closed economy, the down turn in global demand had a devastating effect on industrial output, and this is rippling throughout the rest of the economy.


For the first time in more than seven years, Brazil posted a trade deficit. Exports plunged 29 percent y/y in January, posting a shortfall of $518 million. This was in comparison to the $2.3 billion trade surplus that was posted in December. Exports to the U.S. dropped 36 percent y/y and embarkations to the European Union fell 27.4 percent y/y. The decline was not just triggered by the drop in commodity prices; automobile sales collapsed 56 percent y/y. Furthermore, some major commodity producers, such CVRD, are cutting back on output in an attempt to stabilize prices. Of course, this will only lead to lower export numbers. The central bank is calling for a trade surplus of $14 billion in 2009, but we believe that the surplus will be less than half as much. This means that the country is headed for a current account shortfall of $32.9 billion. This is a small number in relative terms, only 1.2 percent of GDP, but it is a large number in absolute terms.

Brazil completed a billion dollar bond issue in January, but it was not a rousing success, and the country will have to compete with a vast universe of sovereign and corporate issuers that will be tapping into the marketplace. Moreover, capital inflows are slowing down. Many companies are trimming their expansion programs, and the pre-salt offshore oil fields do not look so compelling with crude prices hovering below the $40/barrel mark. Less than 10-days after Petrobras announced that it was going to invest $174 billion between 2009 and 2013, Sergio Gabrielli, the President of Petrobras, announced that the investment plans were going to be cut 35 percent. It will surely go lower before long. Other corporate leaders are coming to the realization that the global downturn will be long and hard. Therefore, they are starting to hoard their cash resources.


All of this means that Brazil will need to slow down. Imports declined only 10.3 percent y/y in January, suggesting that Brazilians were still consuming at a heady pace. We expect the Brazilian economy to grow 2 percent y/y in 2009, but that may be wishful thinking. The international global credit crunch is starting to infiltrate the financial system, as multinational banks trim credit lines. There is already a dearth of trade finance in Brazil, which is having a devastating effect on small producers. A good example is the fruit industry in Northeastern Brazil. Embarkations to Europe and the United States are down by more than a third, much of it due to the fact that small exporters cannot get the credit facilities to ship their products. The slowdown in fruit production forced Northeastern producers to furlough 20,000 workers, which helped depress demand in one of the poorest regions of the country.

Last of all, there is the looming stock of consumer debt. Consumer credit was on a tear for the last five years, expanding at an annual pace of 20 percent y/y. Therefore, it is not surprising to see non-performing loans rise as the economy decelerates. Bradesco's fourth quarter report said it all, as the company increased its loan loss provisions by 31 percent y/y. Some people whisper that automobile loans could be Brazil's version of subprime. The banks gave very generous terms to people who were not very well qualified to take on such large obligations, sometimes for terms that went beyond the useful life of the automobile. Now, people are defaulting on their loans, and the banks do not know what to do. Therefore, the situation does not look good at all.

The Brazilian corporate titans and political leaders who bragged a few months ago that the country would easily weather the international storm are now facing the grim realities of globalization. Like the samba line that snakes through the sweaty streets of Rio de Janeiro, it is virtually impossible to break away from the procession.

Walter Molano is head of research at BCP Securities. 


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