IMF Executive Board Concludes 2018 Article IV Consultation with Brazil

July 11, 2018

On July 9, 2018, the Executive Board of the International Monetary Fund (IMF) concluded the Article IV consultation [1] with Brazil.

A mild recovery supported by accommodative monetary and fiscal policies is currently underway. But the economy is underperforming relative to its potential, public debt is high and increasing, and, more importantly, medium-term growth prospects remain uninspiring, absent further reforms. Against the backdrop of tightening global financial conditions, placing Brazil on a path of strong, balanced and durable growth requires a committed pursuit of fiscal consolidation, ambitious structural reforms, and a strengthening of the financial sector architecture .

Following the severe recession in 2015−16, real GDP grew by 1 percent in 2017. Growth is projected to be 1.8 and 2.5 percent in 2018 and 2019, respectively, driven by a recovery in domestic consumption and investment. Even if federal expenditure remains constant in real terms at its 2016 level, as mandated by a constitutional rule, public debt is expected to rise further and peak in 2023 at above 90 percent of GDP. Fiscal consolidation is key to maintain confidence in debt sustainability. Brazil is also vulnerable to a tightening of global financial conditions and possible trade disruptions, even though trade diversion effects may attenuate the impact. These risks can be compounded if there is no continuity in the reform agenda.

The fiscal deficit has declined, but public debt is growing and deeper reforms are lagging. Non-financial public-sector debt rose from 78.3 percent of GDP to 84 percent between 2016 and 2017. The primary fiscal deficit declined to 1.7 percent of GDP in 2017, below the authorities’ target, reflecting under-execution of spending. The government aims to restore fiscal sustainability by faster fiscal consolidation than implied by the expenditure ceiling, depending on revenue performance. For 2018, they aim to bring the primary deficit down by keeping discretionary spending under control, containing wage increases, and optimizing social benefits eligibility, where possible.

Inflation has declined to record lows. During 2017, inflation decreased from 6.3 to 2.9 percent, just below the target range, owing largely to slack in the economy, a notable fall in food prices due to an exceptional harvest, and well-anchored expectations. Inflation is projected to increase towards the 4.25 midpoint of the inflation target in 2019, as the food price shock dissipates and the output gap narrows. Since the beginning of the easing cycle in September 2016, the Central Bank has lowered the policy rate by 775 bps to the record low level of 6.5 percent.

The current account deficit shrank from 4.2 percent of GDP in 2014 to 0.5 in 2017 as imports contracted with the collapse of private investment. As the recovery gains strength, the rebound in investment will offset the effects of fiscal consolidation and lead to a deterioration of the current account to about ‑2 percent of GDP over the medium term. On average in 2017, the external position was broadly consistent with medium-term fundamentals and desirable policies. Brazil has continued to attract sizeable capital inflows, especially foreign direct investment.

Banks have been broadly resilient. Despite large losses during the 2015−16 recession, the recent FSAP found the banks to be well capitalized, profitable, and liquid, in large part reflecting high interest margins and fees. The economic recovery led to a decline in loan losses, which boosted profits. Capital ratios are above regulatory minima. The FSAP systemic risk analysis suggests that bank solvency and liquidity are broadly resilient to further severe macro-financial shocks.

Executive Board Assessment [2]

Executive Directors concurred that Brazil’s economic recovery is under way but remains subject to significant downside risks stemming from uncertainty regarding the continuity of reforms and the ongoing tightening of global financial conditions. Directors encouraged the authorities to continue their efforts to ensure fiscal sustainability and remove structural impediments to strong and durable growth.

Directors underscored that, given the high level of public debt, continued fiscal consolidation is of paramount importance. They regretted that some measures for the 2018 budget could not be passed, but noted positively the authorities’ commitment to save any revenue overperformance. Directors agreed that pension reform is imperative to ensure the sustainability of the system and improve equity. Additional expenditure measures could include decisive efforts to contain the public wage bill while protecting public investment and social programs. Reforms to simplify taxes should be considered and the fiscal framework should continue to be strengthened.

Directors welcomed the reduction in inflation and the anchoring of inflation expectations. They agreed that the current monetary policy stance is appropriate and should remain accommodative to help close the output gap but should be vigilant to domestic and external sources of inflationary pressures.

Directors underscored that the floating exchange rate regime and the large reserve buffers are important cornerstones of the policy framework and should be preserved. They recommended that intervention in the foreign exchange market be limited to addressing disorderly conditions. Monetary policy should respond to movements in the exchange rate only insofar as there are risks for inflation expectations. In this context, Directors underscored the importance of central bank independence.

Directors concurred that the financial system is broadly resilient. Nonetheless, they agreed with the FSAP recommendation that further action is needed to strengthen the microprudential, macroprudential, and safety net frameworks. Directors underscored the importance of improving the efficiency of the financial system, especially by reducing the high intermediation costs.

Directors welcomed the recent reforms to the labor market and subsidized credit. Nonetheless, they urged the authorities to proceed with additional prioritized structural reforms, which are essential to raise productivity and potential growth. Reforms should focus on reducing state intervention in credit markets, enhancing trade integration, and improving public infrastructure. Directors underscored that the ongoing efforts to combat corruption and money laundering are vital to secure strong and inclusive growth.

Table 1. Brazil: Selected Economic Indicators

I. Social and Demographic Indicators

Area (thousands of sq. km)

8,512

Health

Agricultural land (percent of land area)

31.2

Physician per 1000 people (2018)

2.1

Hospital beds per 1000 people (2018)

2.0

Population

Access to safe water (2015)

98.1

Total (million) (est., 2018)

208.8

Annual rate of growth (percent, 2015)

0.8

Education

Density (per sq. km.) (2018)

24.5

Adult illiteracy rate (2016)

7.2

Unemployment rate (latest, Apr 2018)

13.1

Net enrollment rates, percent in:

Primary education (2016)

99

Population characteristics (2016)

Secondary education (2015)

84

Life expectancy at birth (years)

76

Infant mortality (per thousand live births)

13

Poverty rate (in percent, 2017) 1/

25.4

Income distribution (2016)

GDP, local currency (2017)

R$6,559 billion

By highest 10 percent of households

40.9

GDP, dollars (2017)

US$2,055 billion

By lowest 20 percent of households

3.6

Gini coefficient (2016)

52.5

GDP per capita (est., 2017)

US$9,896

Main export products: airplanes, metallurgical products, soybeans, automobiles, electronic products, iron ore, coffee, and oil.

II. Economic Indicators

Proj.

2016

2017

2018

2019

2020

2021

2022

2023

(Percentage change)

National accounts and prices

GDP at current prices

4.4

4.8

4.9

7.5

7.2

7.1

7.1

7.1

GDP at constant prices

-3.5

1.0

1.8

2.5

2.3

2.2

2.2

2.2

Consumption

-3.4

0.6

1.5

1.9

1.2

1.0

1.4

1.9

Investment

-14.3

2.9

7.7

8.6

8.8

8.3

6.1

3.8

Consumer prices (IPCA, end of period)

6.3

2.9

3.5

4.1

4.0

4.0

4.0

4.0

(Percent of GDP)

Gross domestic investment

15.4

15.5

16.2

16.9

17.8

18.7

19.3

19.5

Private sector

13.6

13.8

14.5

15.3

16.3

17.2

17.9

18.2

Public sector

1.8

1.7

1.7

1.6

1.5

1.4

1.4

1.3

Gross national savings

14.1

15.0

14.9

15.4

16.2

16.9

17.4

17.6

Private sector

21.2

21.0

21.6

21.5

22.1

22.5

22.7

22.7

Public sector

-7.1

-6.0

-6.7

-6.1

-5.9

-5.6

-5.4

-5.1

Public sector finances

Central government primary balance 2/

-2.6

-1.8

-2.3

-1.8

-1.3

-0.6

0.0

0.5

NFPS primary balance

-2.5

-1.7

-2.4

-1.8

-1.1

-0.4

0.2

0.7

NFPS cyclically adjusted primary balance

-1.2

-0.5

-1.4

-1.2

-0.8

-0.3

0.2

0.7

NFPS overall balance (including net policy lending)

-9.0

-7.9

-8.5

-7.8

-7.5

-7.1

-6.8

-6.5

Net public sector debt

46.2

51.6

56.2

59.9

62.9

65.7

67.7

68.9

General Government gross debt, Authorities’ definition

70.0

74.0

...

...

...

…

…

…

NFPS gross debt

78.4

84.0

88.2

90.4

92.4

94.2

95.1

95.6

Of which: Foreign currency linked

3.8

3.6

3.5

3.2

3.0

2.8

2.8

2.8

(Annual percentage change)

Money and credit

Base money 3/

8.1

0.5

4.9

7.5

7.2

7.1

7.1

7.1

Broad money 4/

12.4

0.3

7.9

10.9

13.8

14.6

14.5

14.5

Bank loans to the private sector

-2.9

-0.9

2.7

7.3

7.7

8.4

8.0

8.6

(Billions of U.S. dollars, unless otherwise specified)

Balance of payments

Trade balance

45.0

64.0

59.4

55.4

55.6

57.8

60.3

62.6

Exports

184.5

217.2

234.1

242.8

253.5

265.7

277.8

289.5

Imports

139.4

153.2

174.7

187.4

197.9

207.9

217.4

226.9

Current account

-23.5

-9.8

-24.4

-30.5

-35.1

-39.3

-43.8

-46.9

Capital account and financial account

16.7

6.5

24.4

30.5

35.1

39.3

43.8

46.9

Foreign direct investment (net)

65.4

64.1

60.0

55.1

50.7

48.8

48.1

48.7

Terms of trade (percentage change)

3.0

-0.8

-1.3

-0.8

-0.8

-0.4

-0.1

0.0

Merchandise exports (in US$, annual percentage change)

-3.0

17.8

7.8

11.8

8.3

4.8

4.5

4.2

Merchandise imports (in US$, annual percentage change)

-19.1

9.9

14.0

22.3

13.3

5.1

4.6

4.3

Total external debt (in percent of GDP)

37.2

32.5

32.0

30.4

28.9

27.3

25.7

24.2

Memorandum items:

Current account (in percent of GDP)

-1.3

-0.5

-1.2

-1.4

-1.5

-1.6

-1.7

-1.8

Unemployment rate

11.3

12.8

11.6

10.5

10.1

9.8

9.5

9.5

Gross official reserves

365.0

374.0

374.0

374.0

374.0

374.0

374.0

374.0

REER (annual average in percent; appreciation +)

6.8

9.6

...

...

...

...

...

...

Sources: Central Bank of Brazil; Ministry of Finance; IBGE; IPEA; and Fund staff estimates.

1/ Computed by IBGE using the World Bank threshold for upper-middle income countries of U$5.5/day. This number is not comparable to the estimates provided by IPEA in previous years due to methodological differences.

2/ Includes the federal government, the central bank, and the social security system (INSS). Based on the 2017 draft budget, recent annoucements by the authorities, and staff projections.

3/ Currency issued plus required and free reserves on demand deposits held at the central bank.

4/ Base money plus demand, time and saving deposits.


[1] Under Article IV of the IMF's Articles of Agreement, the IMF holds bilateral discussions with members, usually every year. A staff team visits the country, collects economic and financial information, and discusses with officials the country's economic developments and policies. On return to headquarters, the staff prepares a report, which forms the basis for discussion by the Executive Board.

[2] At the conclusion of the discussion, the Managing Director, as Chairman of the Board, summarizes the views of Executive Directors, and this summary is transmitted to the country's authorities. An explanation of any qualifiers used in summings up can be found here: http://www.imf.org/external/np/sec/misc/qualifiers.htm .

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