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Economic
growth slows at end of year
In the
final quarter of last year, gross domestic product (GDP) grew 4.9% over
the same quarter the prior year. The fourth quarter reading represented a
deterioration compared to the 6.1% rise in activity observed in the third
quarter but was well above Consensus Forecast expectations, which had seen
the economy expanding 4.4%. A quarter-on-quarter comparison confirms the
slowdown, as activity rose just 0.43% over the preceding quarter in
seasonally adjusted terms, less than half the 1.08% pace observed in the
third quarter.
Lower
dynamism of domestic demand prompts slowdown
The decline
in domestic demand resulting from tighter monetary policy was the key
factor behind the fourth quarter slowdown. Domestic demand slowed from
the robust 7.7% expansion in the third quarter to a 5.4% pace in the
fourth. Investment led the decline as growth decelerated to a 9.3%
expansion, which was down 10.0 percentage points from the growth rate
registered the prior quarter. Total consumption, however, remained on a
strong trajectory of 4.2% growth, which was down only moderately from the
4.4% expansion observed in the third quarter. Similarly, the external
sector saw exports rise a healthy 16.2% (Q3: +18.1% year-on-year) over the
fourth quarter the prior year, while imports grew at a lesser but robust
12.8% (Q3: +17.7% yoy).
Mining
plummets into contraction and construction growth is halved
On a
sectoral basis, a strong deceleration in mining (Q4: -8.0% yoy vs. Q3:
+2.0% yoy) and construction (Q4: +5.2% yoy vs. Q3: +11.6% yoy) activity
was the key driver behind the fourth quarter slowdown. Similarly,
wholesale and retail commerce experienced a strong drop in dynamism with
growth moderating from 10.6% in the third to 7.1% in the fourth quarter.
The majority of sectors nevertheless experienced only very moderate
deceleration or no change compared to the growth rate registered in the
previous quarter.
Despite the
slowdown observed in the fourth quarter, economic activity for the year as
a whole rose 5.2% - the strongest growth registered since 1994. The
external sector was the key factor that bolstered economic activity, as
exports grew a healthy 18.0% - double the pace observed in 2003. Domestic
demand also experienced a strong recovery, as the 1.6% contraction in
activity in 2003 reverted to a 5.1% expansion. The boost to domestic
demand came principally from a robust growth in investment, which was up
10.9% over the prior year. Total consumption also rebounded from a
contraction of 0.8% in 2003 to a 3.5% expansion in 2004. The annual GDP
figure exceeded the 5.0% estimate in last month’s Consensus Forecast and
also exceeded the Central Bank’s estimate of 5.0% forecast.
Tighter
monetary policy setting to slow growth
Higher
interest rates will be the key driver behind the expected slowdown in
domestic demand this year. Moreover, export growth should moderate amid
the less propitious outlook for global demand. Thus, economic activity is
anticipated to decelerate this year, with growth expected to reach 3.7%,
which is unchanged from last month’s Consensus Forecast, and below the
official Central Bank forecast of 4.0%. Next year, economic growth is
anticipated to accelerate a notch to 3.8%.
Inflation dropping but remains above target
Despite the
strong appreciation of the real observed throughout last year and
repeated Central Bank tightening measures, inflation is not moderating.
The mid-February consumer price index (IBGE-IPCA 15) that covers monthly
price increases up to the 15th of every month increased 0.74% over
January. The February figure was up from the 0.68% increase registered in
the preceding month. Seasonal effects linked to education in particular
contributed to the stronger price increase. Education prices spiked 5.4%
in February. These effects were offset by more moderate food price
increases associated with the beginning of the harvest period and lower
communications costs. The annual inflation rate dropped from 7.5% in
January to 7.3% in February. At its current level, annual inflation is
well above the 4.5% Central Bank’ inflation target for this year but
within the +/- 2.5% tolerance margin. Participants anticipate that the
Central Bank will overshoot the inflation target for the fifth consecutive
year, anticipating consumer prices to rise a more pronounced 5.7%.
Furthermore, participants expect the Central Bank to exceed next year’s
inflation target as well, with consumer prices seen increasing 5.0%, one
percentage point below the upper end of the +/- 2.5% range around the
central target of 3.5%.
Uncertain
inflation trajectory prompts sixth consecutive interest rate hike
In its 16
February meeting, the Central Bank’s monetary policy committee opted to
raise the benchmark SELIC rate by 50 basis points to 18.75%. The February
tightening represented the sixth consecutive monthly hike and brought the
SELIC rate to its highest levels registered since October 2003. Monetary
officials cited concerns about the strong pace of economic activity and
uncertainty about oil price developments as key factors behind the
February decision. Panellists have left their interest rate forecasts for
this year unchanged over the previous month and anticipate that the
Central Bank will lower the benchmark rate gradually throughout 2005 to
16.4% by year-end. The slight moderation in inflation next year should
give monetary authorities additional leeway to bring down interest rates,
which are seen by the Consensus Forecast to drop to 14.5% by the end of
2006.
Currency
strengthening persist despite intervention
In
February, the exchange rate appreciated nominally by 1.15% to reach 2.59
reais to the US$. The February appreciation followed a 1.13% appreciation
in January and continued the trend of persistent monthly strengthening
observed since November. Continued US$ weakening versus other currencies
and healthy investor appetite for Brazilian assets were key factors behind
the February appreciation. At its current level, the currency is 2.3%
stronger than at the end of last year. The exchange rate strengthening
has persisted despite Central Bank efforts to stem the appreciation, which
authorities worry could undermine the current export expansion. Since
December, monetary authorities have purchased US$ 11.4 billion in the spot
market. Consensus Forecast participants do not anticipate that the
current trend will persist. In fact, the real is expected to begin
weakening in March and should experience a nominal depreciation of 6.9%
this year to reach 2.85 reais to the US$ by year-end.
Government
freezes spending
On 25
February, the government decided to freeze 15.9 billion reais (US$
6.0 billion) in public spending for this year. The measure was
implemented to ensure that authorities comply with the 4.25% of GDP
primary fiscal surplus agreed to with the International Monetary Fund (IMF)
under the terms of the existing US$ 41.9 billion stand-by agreement that
is set to expire on 31 March. Concerns about a less propitious growth
setting this year and higher interest rates prompted the government to
revise its estimated revenues for this year downward by 15.2 billion
reais to 467.3 billion reais. The government had adopted
similar budgetary tightening measures in the past two years to reinforce
its commitment to fiscal discipline. Last year, the majority of the
resources were freed up. Consensus Forecast participants confide in the
government’s ability to keep fiscal balances in order despite the looming
2006 elections, as the non-financial public sector deficit is expected to
widen only moderately to 2.9% of GDP this year |
