Brazil: Recession In 2015 To Prolong Real's Weakness

Higher taxes and electricity prices, combined with the knock-on effects of a corruption scandal at state-owned oil company Petrobras, will see Brazilian real GDP contract in 2015.

Our new growth forecasts (-0.5% in 2015 and +1.0% in 2016) are well below Bloomberg consensus estimates for both 2015 (0.0%) and 2016 (1.6%). Furthermore, the risks to our 2015 and 2016 real GDP growth forecasts lie primarily to the downside, particularly with the Petrobras corruption scandal continuing to unfold, potentially weighing on fixed investment.

In this context, the Brazilian real, which has just broken below BRL2.90/USD, should remain weak. In real, trade-weighted terms, the real has remained relatively stable since 2012 despite significant nominal depreciation. The central bank appears serious about fighting inflation, but more nominal depreciation will be necessary to regain competitiveness.

The BRL has been one of the clear underperformers in the emerging market (EM) FX space over the past year versus the US dollar, in spot terms. Interestingly, from a technical perspective, the South African (ZAR) rand looks poised for significant appreciation against BRL, having broken through seven-year resistance at BRL0.25/ZAR. Given that we see the ZAR remaining weak versus the USD, this break speaks volumes about the poor prospects for BRL.