Brazil’s political crisis is moving at such intense speed that it’s hard for even dedicated analysts to keep up. AQ’s editor-in-chief spoke on Tuesday with Moody’s ratings agency’s chief analyst for Brazil, Samar Maziad, about how the changes in Brasilia are affecting the economy. At the time, there were rumors that former President Luiz Inácio Lula da Silva might accept a key position within the government. Such speculation was confirmed on Wednesday.
Moody’s downgraded Brazil’s sovereign debt to Ba3 on February 24, becoming the third of the major ratings agencies to strip the country’s investment-grade rating. It also put the debt on a “negative” outlook, meaning another downgrade is possible.
The following transcript has been lightly edited for length and clarity:
BW: What’s your overall take on the economy as it stands now? Is there any hope for recovery in the near term?
Maziad: Well, we expect another contraction this year and we have put out at least 3 percent, now the estimates could be even a larger contraction. We could talk about 3.5 percent, so that’s not a recovery for 2016. Under our baseline, which is conservative … we do not expect much of a recovery next year either. We are talking about zero, which is like stabilization.
So if you will, the good case scenario for Brazil is to reach some kind of bottom, for growth to stabilize. It’s not a recovery … We have seen markets kind of rallying and you get a positive sentiment because now analysts are talking about the likelihood of impeachment. We still don’t know how that will play out. We still don’t know what will happen even if that materializes. It’s not clear what there is to be exuberant (about).
BW: There’s talk of Lula joining the government as a minister (UPDATE: Lula accepted the chief of staff position on Wednesday), and multiple reports indicate that his precondition for doing so is a leftward tack on economic policy. What do you think that would mean for Brazil?
Maziad: Well, I think we had, as we pointed out several times … the difficulty of focusing on reforms and fiscal adjustment given the political dynamics. And I think this is one example, or one more recent episode of that. This is dictated by political necessity if you will … the investigation going on that, you know, ex-president Lula is now being investigated or close to now being actually formally investigated and indicted. All of that … It’s a way of delaying the process, as far as we understand.
It becomes also about what kind of policy the government takes, whatever little fiscal adjustment that they had been talking about or proposing. Maybe that will also be taken off the table.
BW: Let’s put impeachment aside for a moment. Let’s assume for the sake of argument that the current government stays in power. The CPMF tax looks to be off the table, at least until the latter half of the year. Pension reform may now also be on hold. What does the status quo in terms of economic policy lead to?
Maziad: Honestly I think that … the status quo would mean even less reform than it looked like two months ago from my point of view. I think two months ago we were talking about these two reforms you mention – the pension reform, at least a discussion of updating the fiscal responsibility law, some caps on spending. It’s good to have this discussion. It’s medium term and its structural and it’s important. I don’t see how we can put this back on the table in a meaningful conversation in the current political climate.
BW: So you think they’re dead?
Maziad: I think it makes it harder. We always thought that political dynamics complicates fiscal reforms and these are long term and important measures. It’s not something that will happen without a thorough debate.
BW: Well, God knows that we have our own long-term fiscal issues in the United States, right?
Maziad: You could say that in Brazil it’s a lot more pressing. We have a contraction. We have a very big fiscal hole in Brazil right now. You could say the United States has recovered from the crisis. It took a long time…
BW: As far as the ratings outlook in the current context, what’s the big picture on that? What specifically are you watching for for guidance?
Maziad: If you recall when we took the action now back in February – which seems not long ago, but a lot has happened since then – we had already a negative outlook on the rating. And I think we kind of anticipated some of these kind of unpredictable dynamics, as one I mentioned. Market sentiment was another element that is hard to predict and can interact with political developments in a way that is very nonlinear, you don’t know where it will end up.
BW: And it’s weird right now. You have a situation where the reality is still bad but the market dynamics have improved because people are expecting the government to fall.
Maziad: Which is very counterintuitive. As I said, we don’t know how it will play out. … And I think this kind of uncertainty underpins the negative outlook. So to put it maybe more simply, this kind of dynamic, which as I mentioned will delay even whatever fiscal consolidation we were talking about, I believe is factored in the rating, is factored in the negative outlook that we took. So essentially the rating and the outlook can sustain this kind of up and down … it can sustain this kind of uncertainty that we’re witnessing.
BW: So it sounds to me that you’re in wait-and-see mode like everyone else?
Maziad: On the negative outlook, yes … that’s precisely what is captured there – the uncertainty that you have to wait and see how things play out before you take another action, or you reassess. So yes, I think that’s fair.
BW: Is there any cause for optimism looking forward?
Maziad: Well, clarity brings optimism I think. … Right now it’s hard to see the direction beyond what the government has already presented and discussed, which is a good start, but I think it’s very difficult to focus on that when you have this kind of political background.
