World Economy

Moody’s Downgrades Brazil Rating, Changes Outlook to Stable

Moody’s Downgrades Brazil Rating, Changes Outlook to StableMoody’s Downgrades Brazil Rating, Changes Outlook to Stable

Moody’s Investors Service has downgraded Brazil’s government bond rating to Baa3 from Baa2. The rating agency also changed the outlook on the rating to stable from negative.

The drivers of the rating change are:

1. Weaker-than expected economic performance, the related upward trend in government expenditures and lack of political consensus on fiscal reforms will prevent the authorities from achieving primary surpluses high enough to arrest and reverse the rising debt trend this year and next, and challenge their ability to do so thereafter.

2. As a result, government debt burden and debt affordability will continue to deteriorate materially in 2015 and 2016 relative to the rating agency’s prior expectations, to levels materially worse than Brazil’s Baa-rated peers. Moody’s expects the rising debt burden to stabilize only towards the end of this administration, Moody’ reported.

In addition to downgrading Brazil’s government bond rating, Moody’s also downgraded its senior unsecured debt rating to Baa3 from Baa2, and the senior unsecured shelf rating to (P)Baa3 from (P)Baa2.

The rating agency also changed Brazil’s foreign currency country ceilings as part of this rating action. The foreign currency bond ceiling went to Baa2 from Baa1, while the foreign currency deposit ceiling went to Baa3 from Baa2. The local currency country ceilings were not affected.

  Significant Challenges

It will be challenging for Brazil to achieve and sustain improving fiscal trends. Last month the government revised its macroeconomic projections. The numbers confirm that the authorities have been unable to deliver primary surpluses large enough to prevent an increase in debt ratios in 2015-16, and face significant challenges in achieving the targets set in the medium-term fiscal program. Moody’s estimates that GDP growth of at least 2% and primary surpluses of at least 2% of GDP will be required to stabilize debt ratios. The rating agency does not expect Brazil to meet these conditions this year or next.

Growth has been even weaker than Moody’s expected a year ago, and will remain so, in the agency’s view. Fiscal and monetary policy tightening, along with weak consumption and investment spending, will negatively impact economic growth in 2015-16, with the expectation of a recession in 2015, a stagnant economy next year, and a gradual post-2016 recovery with GDP growth reporting annual rates of about 2% in 2017-18.

Consumption has been hit by adverse labor market conditions with declining employment and a reduction in real wages negatively affecting household spending. Moody’s expects these conditions to extend into 2016 given the lag between when labor market indicators respond and the economic cycle.

  Mandatory Spending

There is a lack of political consensus in Brazil over whether to more aggressively address budgetary rigidities by pushing reforms that tackle mandatory spending increases. This political stalemate will make it difficult to arrest government spending trends and, consequently, to reverse the rising debt trend during the second part of this administration.

On the fiscal front, the reduction in discretionary spending has not adequately compensated for the impact that weaker-than-expected growth has had on government revenues. This trend will continue, particularly in light of mandatory expenditures that continue to increase in real terms.

Moody’s estimates that debt-to-GDP will rise to 67% in 2016 and continue to rise slowly thereafter, reaching close to 70% in 2018–in both cases significantly higher than the 53% level reached in 2013. Thereafter, the rating agency expects debt levels to remain around that elevated level. The interest burden will also be materially higher, with interest payments exceeding 20% of government revenues in 2015 and 2016 compared with 16% in 2013.