Business is booming in Brazil, says Alexander Busch on Wiwo.de. Last year the economy expanded by 7%, and this year it should grow by around 4%. High commodity prices have boosted export earnings and consumers have been spending “like there’s no tomorrow”. Retail sales are about 40% higher than they were at the start of 2007.
Brazil’s major listed companies are expected to grow earnings by 20% in 2011. Deutsche Bank points out that the market looks reasonably valued with a forward price/earnings ratio of under ten – below the five-year average. Yet the benchmark Bovespa index has fallen by 8% this year after spending much of last year treading water.
The problem is an inflation spike that has lifted the annual rate of price increases to a six-year high of 6.55%. That’s a far cry from the hyperinflation of the early 1990s, but still above the government’s target of 4.5%. Higher food and fuel prices have been the main culprits, but historically low unemployment and the gradual erosion of spare capacity in the economy have also contributed.
Inflation “could easily become entrenched as workers expect higher prices and demand higher wages”, says The Economist. The proportion of Brazilians who expect higher inflation in the next few months has climbed to 71%, a ten-year high. Construction workers secured rises of 10% this year. The minimum wage is set to rise by 6%. If inflation gets out of control, the authorities will have to “hike rates hard” and squeeze spending “for a long time”, says Marcelo Carvalho of BNP Paribas.
The difficulty with raising interest rates is that it entices foreign capital into the country. That squeezes industry by strengthening the currency and increasing the threat of overheating as the money supply rises. But there is plenty of scope for the government to tighten fiscal policy to help prevent overheating: it is still running a budget deficit.
Apart from the fear of increasingly aggressive moves to combat inflation, which will dent growth, the weakening in commodity prices amid global growth fears is also bad news: raw materials stocks make up half of the Bovespa. A fall in risk aversion, moreover, would dent sentiment towards all emerging markets. The stockmarket’s flat-to-down trend of the past 18 months looks set to continue.