El-Erian says Brazil in ‘delicate situation’

Mohamed El-Erian’s bet on Brazil before President Luiz Inacio Lula da Silva’s election in 2002 was rewarded by a surge in the nation’s assets in the following years. More than a decade later, he says Latin America’s largest economy must seize the opportunity to undertake deep reforms.Brazil is facing the worst recession in a century amid a corruption scandal that’s ensnared some of its biggest companies and prevented Congress from focusing on measures to stimulate growth. After a selloff in 2015, the Ibovespa and the real are posting the best gains in the world this year, with bonds climbing more than twice the average for emerging markets and credit risk tumbling amid wagers that President Dilma Rousseff would be impeached and a new government would take over.

“Brazil now finds itself in a delicate situation, and one that threatens the well-being of both the current and future generations,” Mr. El-Erian, the chief economic adviser at Allianz SE, said in an e-mail to Bloomberg. “If the political class does not respond with a comprehensive set of policy measures, the country will be vulnerable to a prolonged recession, inflationary pressures, worse and spreading poverty, and gradually increasing internal and external financial pressures.”

While Brazil’s consumer and investor confidence levels have rebounded recently, they’re near historic lows as borrowing costs remain at the highest since 2006 to curb above-target inflation. Economists including Alberto Ramos of Goldman Sachs Group and former Brazil central bank director Alexandre Schwartsman have said the country needs to reform its social security and pension system as part of measures to shore up fiscal accounts.

Should the needed reforms happen, either at the hands of Ms. Rousseff’s government or the next administration, the real could rise beyond what analysts are now forecasting, Mr. El-Erian said. The currency will fall 11% to end the year at 4.15 per dollar, according to the median estimate of 51 strategists surveyed by Bloomberg. The real lost 0.2% or 3.6910 per dollar as of 11:18 a.m. EDT Thursday.

Mr. El-Erian, who previously worked as the co-chief investment officer of Pacific Investment Management Co., added to the firm’s Brazil holdings in 2002 as the country’s benchmark bonds plunged amid concern Ms. Rousseff would default after taking office. While the strategy put him at odds with investors including billionaire George Soros, it gave PIMCO’s Emerging Markets Bond Fund its best year since it was created in 1997 as Brazilian notes surged after the election.

In December, Mr. El-Erian said that the nation was going through a “house cleaning” that could hamper growth in the short term. Brazil’s economy is poised to shrink 3.5% in 2016, according to a central bank survey, adding to a 3.8% contraction last year.

“Brazil has an enormous potential, absolutely enormous”, Mr. El-Erian said. “What is missing is the political context that enables sustained policy implementation, coupled with broad-based understanding and support.”

Brazil stocks, currency extend rally on former president charges

Brazil’s stocks and currency rose on Thursday, extending a recent rally fueled by hopes ofpolitical change after prosecutors charged former President Luiz Inacio Lula da Silva in a money laundering investigation.

 State investigators suspect the family of the former president, who was detained for questioning by federal police on Friday, owned an undeclared beachfront apartment in the city of Guaruja. 

    Lula’s support for current President Dilma Rousseff was widely seen as a key factor behind her re-election. 

    Rousseff is facing impeachment proceedings in Congress and many traders believe the corruption probe could strengthen the odds of her ouster and thus help the crisis-ridden country recoup its credibility.

    “Political issues are the main market driver and will remain so for a while,” said Carlos Vieira, an economist with Lerosa brokerage in São Paulo.

 Shares of state-controlled oil company Petrobras, the center of a wide-reaching graft scandal, rose as much as 3 percent, but later turned negative on the back of lower crude prices.

    Nevertheless, the benchmark Bovespa stock index remained in the black, supported by leading banks ItauUnibanco and Bradesco, up 3.3 percent and 2.1 percent, respectively. 

    Investors said the banks, as well as state lender Banco do Brasil SA, were being lifted by optimism about the political scenario. 

    Traders saw little immediate market impact from Brazil’s plan to tap global markets for the first time since it lost its investment grade rating with a dollar-denominated bond.

     The Brazilian real revisited its six-month highs and strengthened for the seventh session in the last eight. Trading was volatile, however, as some investors bet the central bank could see the recent rally as a cue to reduce its support for the currency.

    Brazil’s central bank has about 110 billion reais ($29.92 billion) in outstanding currency swaps on its books, contracts which offer protection from sharp currency devaluations. The strategy has drawn criticism from some analysts due to its high fiscal costs.

    The bank has been fully rolling over the stock of currency swaps for several months. Some traders saw a decision to only sell some of the contracts offered in a daily auction on Friday as a signal it could allow some to mature in April.

Brazil Considers Raising Foreign Investment Limit On Airlines

Brazil plans to propose to Congress in the first half of the year an increase in the foreign ownership of local airlines, in a move to help the struggling sector.The government continues to discuss the percentage increase in foreign ownership, but believes an increase from the current 20 percent limit is key to bolster investment in local airlines, Interim Aviation Minister Guilherme Ramalho said.

“This is a very favourable moment to attract foreign investment… we should not restrict the access of capital of these companies,” said Ramalho. “The government has a joint position on this matter and that is key for its approval.”

The proposal reflects President Dilma Rousseff’s major shift in policy to open up one of the Western Hemisphere’s most-closed economies and bring in capital to halt a recession entering its second year.

Ramalho said it is “very possible” that the government will propose an initial increase in the foreign ownership stake to be followed by another depending on market reaction and foreign interest.

The Finance Ministry is working on a proposal to raise the ownership stake cap to 49 percent from 20 percent with the option of acquiring a controlling stake if approved by local aviation and competition authorities, Reuters reported.

Brazilian airlines such as TAM and Gol have cut flights and reduced staff numbers to cope with what is expected to be the country’s worst recession in a century. The sharp depreciation of the Brazilian real has worsened the crisis in the country’s aviation sector.

Ramalho said the government has not yet decided if it will adopt any of the current bills to remove capital restrictions or make the change via a presidential decree, which will ultimately have to be ratified by Congress.

DOZENS OF PROPOSALS

There are currently around 68 bills in the Lower House of Congress and two at the Senate to lift limits on foreign ownership.

One of them, which is under review by deputy Clarissa Garotinho, calls for the complete removal of restrictions.

“I believe that we need to move ahead with a bolder proposal because increasing the stake to 49 percent will not solve the problems of the aviation sector in Brazil,” Garotinho said.

Once a rising emerging market star with a expanding middle class that triggered a boom in air travel Brazil’s economy is now in tatters. The economy is expected to contract 8 percent between 2015 and 2016, driving down flight demand and threatening the survival of local airlines.

Ramalho also said that plans to open up the capital of Infraero, the state-run company that controls most of Brazil’s airports, would be delayed until 2017 given current negative market conditions.