Morning Note /

Brazil’s spending and Andes politics in focus

  • Brazil’s fiscal spending cap set to be loosened

  • Chilean polls show Conservative leading

  • Peru’s Cabinet gets Congressional approval

Lloyd Miller
Lloyd Miller

Head of Developed Markets and Latin America Research

Daron Hendricks
Danny Greeff
Kieran Siney
ETM Analytics
5 November 2021
Published byETM Analytics

Talking Points: Andes politics in focus ahead of Chilean elections

Brazil: The focus in Brazil remained centred on the proposed change to the fiscal rule. Commenting on the matter, Lower House Speaker Arthur Lira said that Brazil has no alternative for the Auxilio Brasil social program other than reviewing the spending cap. Bloomberg reported that Lira once again emphasized his defence to the income tax reform, currently stalled at the Senate, which according to him, would guarantee funds for a permanent social program within the spending cap. This comes after the speaker ruled out significant changes in the court-ordered payments bill, known as precatorios, in a second voting round despite mounting pressure from opposition parties to reverse votes in favour of the text. Lira said that he expects a greater quorum in the second vote round scheduled for November 9.

As mentioned above, opposition parties are pushing to reverse the proposed change to the fiscal rule that loosens the spending cap. The proposal that provides the required funding for President Bolsonaro’s new social program, which provides stipends of BRL 400 to the country’s poor, passed a first-round vote yesterday. The bill needs to sill go through the second round of voting. If the second round of voting is successful, the bill will go to Senate, where it will face a similar voting process.

Mexico: According to a Bloomberg report, the upcoming inauguration of the Dos Bocas refinery in Tabasco, one of the key projects of the six-year term, is making the government of President Lopez Obrador relax his austerity halfway through his term. The Ministry of Energy exceeded the budget scheduled for September 2021 because there was a greater transfer of funds for the new refinery, which needs to be completed by July 1, 2022. The Report on the Economic Situation, Public Finances and Public Debt for the third quarter of 2021 indicated that spending amounted to $3,523bn, exceeding the $3,421bn planned by the government for the period January-September.

The economic calendar has consumer confidence data and an economic survey by Citibanamex scheduled for release today. Sentiment in Mexico is estimated to have improved slightly in October, rising to 44.1 from 43.4 in September. The sluggish economic growth, rising coronavirus infections and reduced disposable income would suggest otherwise. Therefore, readers shouldn’t be shocked if the figure surprises to the downside. Meanwhile, the economist survey will take the stage today as investors seek guidance on the future outlook for Mexican interest rates following the busy week of major central bank rate decisions that have shown policymakers in no rush to tighten policy.

Colombia: Today, the focus will shift to the release of local CPI numbers for October. Consensus expectations are for a further rise in inflation from 4.51% y/y to 4.80% y/y, primarily owing to higher non-core inflation and base effects. Core inflation may also rise slightly, however, due to accumulated currency depreciation, imported inflation, supply constraints, and recovering demand in Colombia. While the headline inflation rate is a growing concern in Colombia, BanRep is caught between a rock and a hard place given that much of what's driving current price pressures are factors that are transitory or immune to monetary tightening. Nevertheless, the central bank is still expected to continue hiking interest rates in the months ahead as it looks to contain inflation expectations and control the pace of demand-side inflation.

Chile: It will be difficult to push aside the news flow surrounding local politics in the run up to the Presidential elections this month. Polls have the conservative candidate Jose Antonio Kast in the lead and many political commentators are suggesting that the October violence has played into the conservatives hands with Gabriel Boric the left leaning candidate implicated in stirring up discontent. Kast is running on a platform that emphasizes lower taxes and law and order, and although the lower taxes will not sit well with the masses, law and order certainly does. All of that said, politics is a strange animal and we would not be eager to call an outcome, one only has to look at how Presidential races have unfolded in the likes of the United States to know that nothing is certain.

Peru: Peru's Congress yesterday confirmed the new moderate-left Cabinet proposed by President Castillo's administration, three months into his tenure, and after his first line-up of ministers was forced to change amid political uncertainty and nationalization threats. The vote was relatively close at 68-56 with several members of Castillo's Peru Libre party voting against his picks. The vote came after Castillo announced Avelino Guillen as the new Interior Minister, a former prosecutor who prosecuted former President Fujimori. The win for Castillo has averted another political crisis, while the investment community will be pleased that the more moderate choices got the approval.

Forex: Peru Sol may find support at the open

Brazil: The BRL reversed some of its gains made in the previous session on Thursday as the Lower House approved, in the first round of voting, a bill to change the spending cap rule and limit court-ordered payments made in a single year. This further clouded Brazil’s fiscal outlook as fears continued to mount that Brazil will breach its spending cap rule, even if indirectly. Adding to the headwinds for the BRL was a stronger USD. For context, the BRL ended the session 0.90% weaker against the USD at 5.6035, according to Bloomberg data.

Looking at the session ahead, the USD is ending the week on a firmer footing, boosted by the combination of some strong labour market data earlier in the week. The data has given rise to expectations that the payrolls figures scheduled for today will beat expectations to the topside. Also, supporting the USD has been the weakness of the GBP after the BoE failed to lift rates yesterday. Furthermore, the possibility of some risk aversion exists on account of more difficulties in the Chinese property sector that will raise concerns about China's economic prospects in the coming quarters. Barring any nasty surprise in the payrolls data, the USD should end the week on a slightly firmer footing, although it should be added that there is a lot priced into the USD.

Mexico: The USD-MXN advanced slightly on Thursday. The pair fell to the 20.500 mark intraday, suffering its largest decline since June before bouncing back to close the day at 20.5443. The USD-MXN bulls have remained in control heading into the weekend, driving the pair back above the 20.600 mark amid cautious sentiment ahead of the US labour report. The USD has gone into a consolidation phase ahead of the US Open. Should the non-farm payroll figures disappoint, the trade-weighted DXY is likely to extend its climb. Notably, this should see the USD-MXN trim this week’s loss of 1.2% at the time of writing.

The one-month USD-MXN implied volatility declined for a second consecutive day yesterday to 10.375% but has spiked this morning to return above the 10.542% mark. We could see the USD-MXN implied vol rise towards levels seen at the start of the month above 11%, depending on the outcome of the US NFP figures..

Colombia: For a second straight session, the COP led regional currency losses with a 0.90% depreciation on Thursday. Again, this was primarily due to falling oil prices on the day, while the USD also posed a notable recovery with markets buying the currency's post-Fed dip. Following this move, the COP closed at its weakest since August, reflecting just how much of the currency's recent strength was founded in elevated oil markets, with investors in the forex market shrugging off rising expectations for more aggressive BanRep rates hikes going forward.

Chile: It remains more of the same when looking at the USD-CLP. Consolidation with 815 being the pivot for now, we sell on levels approaching 820 and buy on levels approaching 805..

Peru: The USD-PEN held steady yesterday and closed at around 4.0140. The pair is running into some resistance at the 100DMA at 4.0218, which will be the level to watch through to the weekend. We could, however, see the pair head lower at the open today given the approval of the Cabinet, but external conditions do not look favourable for a return back towards the recent lows of around the 3.9000 handle.

Fixed Income: Brazil yield curve remains inverted, Chile swap curve keeps flattening

Brazil: Yesterday’s successful vote added to fiscal fears, leading to a modest sell-off in Brazilian bonds on Thursday. Yields across the curve trader higher yesterday with both the 10yr and 3yr yields climbing 15bps to 12.01% and 12.29%, respectively. While fiscal risks remain elevated, Brazil’s bond curve remains inverted as soaring inflation expectations continues to buoy yields on the front end of the curve. Going forward, note that much of the fiscal and inflation risk is priced in. Although the bearish bias is expected to persist in the near term, at current levels, investors will find some great value in holding Brazilian bonds..

Mexico: Mexican bond yields fell on Thursday, in line with the slide in bond yields globally as investors scale back expectations about the pace of monetary policy tightening needed to quell inflation. For perspective, MXN bond yields fell by more than 10bps on the belly of the curve and 14bps on the long-end, helping unwind some of the bear flattening in the sovereign bond yield curve. This may continue into the weekend as the US 10yr benchmark yield has continued to slide, now trading below the 1.52% mark ahead of the US Open after falling 8bps yesterday. The monthly US labour report is scheduled for later today. Should it point to solid employment, it could shift views on monetary policy again, heralding further potential volatility in bond markets globally..

Colombia: Another day, and another session of yield curve flattening in Colombia. Bonds at the short-end and belly of the curve added as much as 12bps to their yields yesterday, tracking IRS rates higher through the session. This followed as BanRep's October meeting minutes pointed to expectations for Colombian inflation to continue rising as the output gap gradually narrows, implying more aggressive rate hikes are on the cards for the months ahead. Pulling the lens back slightly, the front-end's recent rise may begin to look somewhat stretched in the months ahead, especially if signs of an economic slowdown begin to emerge in Colombia.

Chile: The bearish flattening in the swap curve has stalled for now with the 2v10 resetting higher after hitting a low of 41 bpts at the end of Oct. Currently we have the spread marking time just below the 50 bpt mark however we would caution against calling for a reversal of the bearish flattening trend just yet. The curve was last this flat in 2013 and we still hold the view that it could go negative as it did in 2008.

Peru: Local currency government bonds rebounded yesterday with yields seen sliding across the curve. The drop in yields was fairly uniform across the board and came as global bond yields retreated following the surprise BoE announcement. It seems clear that major central banks are still very cautious over tightening policy at the moment, which will benefit emerging market assets for the time being. Today we should see this bullish bias continue given that Castillo's Cabinet was approved last night, eliminating some political uncertainty and affirming that the current make-up has shifted more to the centre-left.