Heightened concerns regarding Brazil’s commitment to its fiscal debt should worry some investors about Brazil’s fiscal risk trajectory. Perception of greater fiscal risks by market players will heighten pressure on the Brazilian central bank to increase interest rates to curb inflation, hiking up the price of borrowing and dampening private investment conditions. Additionally, lower commitment to Brazil’s fiscal anchors will likely perpetuate FX volatility and weigh on the currency’s ability to appreciate throughout 2022. Amid elevated uncertainty, businesses should adopt a scenario planning approach that accounts for varying outcomes on the fiscal front that can impact Brazil’s economic outlook and operating environment in 2022.
Overview
Earlier this month, Brazil unveiled the new social program, Auxílio Brazil, replacing the current Bolsa Familia and COVID-19 cash transfer programs. At present, the average benefit paid by Bolsa Familia is BRL 190 per month, encompassing 14.6 million recipients. The new program looks to increase the value of family stipends and increase the beneficiary base to 17 million. The new aid program aims to give handouts of as much as 400 reais (US$ 72) per individual during 2022. That amount is higher than initially expected and could likely result in about BRL 30 billion in new expenses, bypassing Brazil’s spending cap rule, which limits the annual spending growth at the rate of inflation. Amid the news that Brazil may not meet the public spending ceiling in 2021, the Brazilian real fell 1.7% against the dollar, closing at the highest rate in 2021, while the stock exchange Bovespa index recorded a 2.3% contraction.
Our View
The proposed benefits and scope of the new Auxílio Brazil program pose significant risks to Brazil’s ability to meet its spending cap and showcase commitment to fiscal consolidation. While uncertainty remains high about which course of action will be taken to fund Auxílio Brazil, a resolution to the court-issued IOUs (precatórios) and the tax reform remain central in creating space for greater social spending with minimal fiscal disruption. In early August, the government presented a constitutional amendment (PEC) to defer the payment of BRL 33.5 billion in court orders for up to nine years. While we expect the proposal to be approved before the end of the year, the PEC weakens Brazil’s commitment to the spending cap by creating a precedent of removing mandatory expenses from the cap. Furthermore, the viability of Auxílio Brazil also depends on the timely approval of the income tax reform, an outcome that remains improbable before the end of President Jair Bolsonaro’s tenure in late 2022, as the Senate remains keen on passing a more comprehensive reform than the government’s current proposal. Ultimately, breaching the spending cap would push government debt—already at record levels from emergency spending during the COVID pandemic—even higher, threatening Brazil’s credit profile and long-term inflation targets.
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