Fiscal Uncertainty In Brazil Inhibits Foreign Capital Inflows, Deutsche Bank Says

Drausio Giacomelli, chief strategist for emerging markets at Deutsche Bank, tells Bloomberg Línea that fiscal risk has prevented the bank from recommending investment in the country

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November 21, 2023 | 09:00 PM

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Bloomberg Línea — The recent clash within the Brazilian government over the fiscal target for 2024 and the government’s nod to increased spending have kept global investors skeptical about the country and inhibited the inflow of foreign capital, according to Drausio Giacomelli, chief strategist for emerging markets at Deutsche Bank (DB).

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In Giacomelli’s view, the atmosphere in relation to Brazil is one of distrust, especially after President Luiz Inácio Lula da Silva stated that the target of zeroing the primary deficit by 2024 would “hardly” be met, and which has been reflected in the country’s asset prices. For the time being, the government has decided to maintain the target for 2024, but insecurity remains.

“The level of exposure of foreign investors in fixed income in Brazil is one of the lowest in the last 15 years. It’s less than half its peak. Capital inflows have been very moderate. The risk premium is among the highest of the emerging markets,” Giacomelli said in a video interview with Bloomberg Línea from the bank’s office in New York.

“There is a lot of skepticism about the fiscal environment. The new framework has barely been approved and is already being modified. This really doesn’t inspire any confidence,” said Giacomelli, who is Brazilian but who has lived in the United States for almost 30 years.


Data from Brazil’s central bank shows that foreign investors withdrew $477 million from shares and investment funds in the country in September, the second month in a row of net outflows after a flight of $2.3 billion in August.

In addition to the fiscal risk, part of the outward movement has to do with a repricing of assets on the international market following the assessment that the Federal Reserve may keep interest rates at a higher level and for longer than expected.

According to Giacomelli, with the exception of one or two one-off opportunities in the market - such as the recent steepening of the yield curve in Brazil - uncertainty regarding economic policy has prevented the German bank from taking a position in Brazil.

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“It’s difficult to recommend Brazil [to investors] in the long term without a clearer definition of direction,” he said.

In a global environment marked by high interest rates, still high inflation and geopolitical conflicts, Brazil should adopt a more pragmatic policy in line with the external scenario, even to take advantage of the opportunities of an international political rearrangement, he said.

“It’s not a world in which to propose more spending, criticize the central bank and not take a stand in favor of opening up the economy more. You have to row with the current,” he said.

“It’s a world of high interest rates. Why is the country going to spend more and finance itself more in a world of high interest rates? Why will it spend more in a world of high inflation? Why will it lose the opportunity to enter the international market? These are some of Brazil’s challenges. To be more pragmatic in its policies and to align itself more closely with the global context.”


Interest rate differential

Regarding monetary policy, he said it is wrong to focus on the interest rate differential between Brazil and the United States when assessing the central bank’s next steps in Brazil.

With US interest rates at 5%, some economists in the market argue that the central bank would have no room to cut the Selic rate beyond 9% or 8% a year in 2024 and 2025.

According to Giacomelli, the interest rate differential is a measure that indicates the country’s external risk. Brazil, however, has a reasonably favorable balance of payments and high international reserves. This situation, for him, is sufficient to cover the external risk, and Brazil is not in a position where it needs to have an interest surplus to attract speculative capital.


“More important than knowing whether the equilibrium differential is 4 [percentage] points, 3 points, 5 points, is that this real interest rate, which is around 8%, is much higher than what is necessary to compensate for external risks,” he said.

Perspectives regarding China

In the midst of a crisis in the real estate sector and weaker than expected activity indicators, the Chinese economy has caused concern among investors for 2023.

For Giacomelli, more than assessing China’s growth this year, the discussion that matters is what the “cruising speed” of economic activity in the world’s second largest economy will be at the end of this decade.

“Will the country reach 3% growth or below? Or close to 4% upwards? That’s the big question. Nobody has the answer,” he said.


In this environment, according to Giacomelli, it would be prudent for Brazil to reduce fiscal, monetary and inflationary risks and to try to insert itself more into the international trade chain so as not to depend so much on China for exports.

“Brazil will be much better positioned if it inserts itself more into the global chain and if it pursues policies that will reduce local risk and attract investment from different parts of the world. I think that’s what the country would have to do,” he said.

-- Translated from the Portuguese by Adam Critchley

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