President-elect will have one opportunity and two challenges in the economy

One opportunity and two major challenges in the economic area await the President of the Republic who will be chosen on the 30th. before, depending on how the economic scenario evolves.

On the other hand, it will have to face, in Brazil, a strong pressure in the fiscal area, caused by expenses assumed by the presidential candidates, which will have to be managed carefully so as not to lead to a sharp rise in the deficit and public debt.

Another challenge comes from abroad: the perspective is of a more fragile global demand, affected by the process of high interest rates and the chance of recession in some of the main world economies.

Opportunity: the possible drop in the basic interest rate

The chief economist at Banco Inter, Rafaela Vitória, highlights in a report that 2022 should close with good surprises, such as higher-than-expected growth in Brazilian GDP, close to 3%, high investments and a more robust job market, with a significant reduction in unemployment – ​​which, for her, could close the year at around 8.5%, compared to 8.9% registered in the quarter ended in August.

“The improvement in activity, led by the service sector, brought important progress in the labor market. In addition to the favorable commodity cycle of the last two years, which boosts investments and improves income, microeconomic reforms and the growth in the use of technology have given more dynamism to various activities, allowing a record volume of job creation and consequent growth in the wage bill, which tends to keep consumption high in 2023,” she says.

This scenario may cause the cut in the Selic rate to start in the first half of 2023, considering that there is no significant expansion of public spending and loss of anchoring of inflation expectations.

If confirmed, the interest rate cut could begin to remove one of the main obstacles to stronger growth, in the view of Economy Minister Paulo Guedes himself. In September, he commented that the Selic is a “hand brake pulled”, but that the fall in inflation will make room for the Central Bank to reduce interest rates, and with that “the monetary wind will be in its favour”.

Challenge: Slowing global economy

The most recent sign of a slowdown in the global economy comes from the International Monetary Fund (IMF). After a 6% growth in 2021, recovering losses from the pandemic, projections for global GDP indicate an expansion of 3.2% this year and 2.7% next year.

The biggest “cooling down” is expected to happen in major global economies. Forecasts for the United States point to growth of 1.6% this year and just 1% in 2023.

A negative signal for the largest global economy came with the release of local inflation, which was higher than expected in September. The market was expecting 0.2% and the rate was 0.4%, according to the US Bureau of Labor Statistics. This rise reinforces expectations that the Fed will raise interest rates by another 0.75 percentage point at its next meeting, in early November.

The deceleration is expected to be even stronger in the euro area, which could grow from 3.1% growth in 2022 to just 0.5% in 2023. Economies such as Italy and Germany may even shrink next year, from in line with the IMF’s perspectives.

In this context, Rafaela Vitória believes that, after two years with favorable winds for the Brazilian economy, which ended up boosting exports and stimulating commodity prices, 2023 should bring a slowdown.

She points out that this global “cooling down”, with a more restrictive monetary policy, should put a brake on industrial production and curb the willingness of foreign investors for new projects. “Furthermore, in capital markets, we will have greater risk aversion and higher cost of debt, which could be a brake on more robust future expansion,” she says.

At the same time, however, Brazil has good cards up its sleeve: it can continue to have a relative advantage compared to other markets, being a net exporter of commodities, and being geographically distant from conflicts such as the war in Ukraine.

Challenge: Rebuilding fiscal credibility amid strong spending pressure

One of the great challenges for the next president, according to analysts, is to rebuild the country’s fiscal credibility. The Covid-19 pandemic required exceptional measures that affected public accounts. The situation was reversed this year, with the improvement in economic activity, which favored the growth of collections.

But Inter’s chief economist recalls that the discussion about increased expenses during the electoral debate raised doubts about potential changes in fiscal policy.

“Despite an equally positive legacy in this area – Brazil is expected to end up with a primary surplus of around 1% – there is still a lot of uncertainty about the 2023 budget, with the proposal to be approved in the House and demands for expenses that go beyond from the ceiling. Public debt dropped significantly this year – it should end up at close to 76.5% of GDP –, but the level is still high and the cost of interest rose sharply in 2022”, she quotes in a report.

According to her, managing all demands and renewing the fiscal framework, bringing back predictability and credibility, are among the main challenges facing the economic team of the next government.

“Believable and strict rules for expenses will be crucial to anchor expectations in the coming years”, complement analysts at XP Investimentos.

They point out that an increase in spending is expected from next year, with the need to accommodate up to BRL 165 billion in additional expenses, such as the extension of Auxílio Brasil at higher amounts and readjustments to public servants. This will require a review of the spending ceiling in an amount of around R$140 billion.

“Other initiatives, such as the correction of the Income Tax table, the expansion of expenses with the national nursing floor and the compensation of ICMS losses in the states also require attention”, says the report.

The broker’s analysts point out that the balance of public accounts will require a strict expense rule. According to them, a growth of more than 0.9% above inflation already generates a scenario in which the public debt does not stabilize until the end of the decade. And it is difficult to promote increases in the tax burden to finance more spending, due to the negative effects on economic growth.

Itaú considers that fiscal sustainability is the main difficulty faced by the economic team. “This is not a concern with the fiscal numbers for 2022, but with the trajectory that seems to be contracted for the future”, highlights the bank in a report published earlier this month.

According to economists at the financial institution, the next government will have to decide on the continuity of the recently implemented aid and tax cuts, in addition to the fiscal framework that will be valid ahead, in an emerging economy with high public debt and high interest rates.

“Structurally, the combination of high indebtedness in an emerging economy with high interest rates and doubt about the institutional framework that guides public accounts, in a scenario of increased social spending, implies significant risks for the fiscal trajectory.”

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