Economic Views

Brazilian market faces Temer tantrum

Craig Botham

Craig Botham

Senior Emerging Markets Economist

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In the latest twist in the Brazilian corruption saga, reports have emerged that President Temer was allegedly involved in a cover-up scheme with the jailed former speaker of the Lower House of Congress, Eduardo Cunha.

A Brazilian newspaper reports that senior executives from meat packing firm JBS submitted evidence to the Supreme Court as part of a plea bargain. This apparently contains a recording of Temer approving an illicit payment. The consequences for Brazil could be wide-ranging. Pension and labour market reforms, the former particularly key, could both be under threat.

President Temer was already on an average approval rating of 10% and these allegations weaken his position further. A reflection of these concerns has already been seen in equity markets, where a Brazilian exchange traded fund (ETF) sold off 8% overnight.

Another test for the economy

Nor is it just equity markets that could take a hit. Economic confidence had been on the rise in Brazil following the removal of former President Rousseff, and this appeared to have led to a tentative recovery in economic activity. This could now surely be at risk.

Disinflation, and the scope for central bank easing, should be less affected. However, significant currency weakness seems likely, which may cause some reassessment of expectations.

Against this, the central bank will need to weigh the likely weaker activity the economy faces if reforms fall flat and Temer is either ejected or spends the rest of his term battling for survival.

As to what this means for the 2018 presidential elections (or possibly 2017, if things play out that way), we worry that this increases the likelihood of a Lula presidency. Though the former president is facing criminal investigation, polls still place him as one of the most favoured candidates. Furthermore, his policies and politics are very different to those of President Temer.

It seems entirely plausible that Brazilians may decide that if all politicians are corrupt, they may as well choose one who does not also impose painful reforms and austerity. Temer himself had already pledged not to seek re-election, though that choice seems entirely out of his hands at this point.

A boost for outsiders?

A more optimistic view might be that the allegations against Temer further stoke Brazilian anger against corruption and lead to higher support for “outsider” candidates. Sao Paolo mayor and political newcomer Joao Doria has already been tipped as a potential candidate. Crucially, Doria (as far as we know) is not connected to the corruption scandal embroiling an ever larger swathe of the established political class.

Of course, as we have seen elsewhere, the search for an outsider can also produce less favourable outcomes.

Brazil has plunged back into very troubled waters.

The views and opinions contained herein are those of Schroders’ investment teams and/or Economics Group, and do not necessarily represent Schroder Investment Management North America Inc.’s house views. These views are subject to change. This information is intended to be for information purposes only and it is not intended as promotional material in any respect.