Improvement in external accounts does not guarantee appreciation of the real – 02/03/2024 – Ana Paula Vescovi

Talking about the exchange rate and making projections about its trajectory is risky for economists. There are many factors involved, some of them unpredictable, and the risk of making mistakes is high. Last year, we argued that there would be some depreciation of the real against the dollar and what happened was a slight appreciation. In other words, we made a mistake.

Our depreciation estimate came from economic models that express the technical fundamentals of the exchange rate. Thus, as we had a scenario of a slight reduction in commodity prices, a drop in interest rates in the country, with interest rates maintained both in the United States and in the main global economies and an increase in local uncertainties due to changes in fiscal policy in Brazil, we anticipated the depreciation of the real. What happened, however, was a relative weakening of the dollar, especially at the end of the year, and this predominated over our hypotheses for the local economy.

In view of the deviation, we did a “deep dive” into the universe of the country’s external accounts, in an effort to understand what the balance of trade in goods and services with other countries, in addition to the balances in the contracting of services and income movements with the abroad, could enlighten us about the relationship between these flows and the direction for the exchange rate.

Likewise, we seek to understand how external financing needs (deficit just below 2% of GDP) could be met through financial channels, whether through direct investment from other countries or through flows of foreign investors into the local financial market. .

If the sum of the balances of these two main accounts (current transactions of goods, services and income and the financial account) is negative, that is, there is a lack of dollars to pay creditors, the country is obliged to use part of its international reserves to “zero out” the imbalance. Otherwise, the “surplus” of currency will increase the stock of international reserves — as appears to have happened last year, according to data available until November 2023.

For 2024, the dynamics of external accounts seem to indicate a new accumulation of reserves and, recently, narratives have emerged that the real could appreciate considerably due to this situation. As Brazilian external accounts undergo a positive structural change, these catalysts would favor the strengthening of the local currency against the dollar.

In fact, recent data indicate such a structural change especially in the dynamics of the trade balance, which is good news for the real in the long term. Lately, Brazil has managed to generate large trade surpluses, due to the steady growth trend in oil production and grain harvests.

Furthermore, the terms of trade (ratio between the price levels of exports and imports) also appear to follow a long-term upward trajectory, making the trade balance of goods — and current transactions — more stable and less susceptible to shocks in the prices of goods. commodities. This helps to reduce the amplitude of movements carried out by the exchange rate (lower volatility, in financial jargon).

It is worth noting that other characteristics should help reduce the volatility of the real in the future, such as the countercyclical (and stable) financing arising from direct investments in the country (IDP) and the countercyclical dynamics of the decision of exporters to internalize resources held abroad.

Therefore, it can be said that there are relevant factors for the Brazilian currency to become more stable than in the past and more shielded against devaluations caused by other domestic or external elements (or, even, more inclined to appreciate in the long term ). However, despite these favorable structural changes, short-term exchange rate appreciation (or devaluation) movements usually depend on the behavior of margin accounts.

In this sense, there are factors that suggest there is little space in the short term for the trade balance to record more robust results this year. For example, adverse weather conditions are expected to have a negative impact on the soybean harvest, while the global economic slowdown resulting from more restrictive financial conditions is expected to cause accommodation in commodity prices.

Furthermore, considering the other accounts of the external sector, its final result should not lead to a significant accumulation of reserves at the margin. Finally, calculations show that the real does not appear to be considerably devalued at the moment, when compared to its main peers (Chilean, Colombian and Mexican pesos, and South African rand).

At times like this, when the country’s idiosyncratic risks, the level of interest differentials and the relative position vis-à-vis peer currencies appear to be at a “normal” level, the most important catalyst for the exchange rate is the trend of the currency north. -American against the currencies of advanced economies. Given the perspective that the Fed will not endorse the early start of the interest rate reduction cycle implicit in the US interest rate curve, there appears to be room for the dollar to appreciate against the others.

The main conclusion of this “dive”, however, was that the structural improvement that has been occurring in the country’s external accounts — and tends to continue occurring in the coming years — will be an important defense against volatility and excessive exchange rate devaluation in the future. However, there seems to be little room for a specific improvement in its result in 2024. Therefore, the short-term dynamics should not open up space for the appreciation of the real much beyond what has already occurred in 2023.

Therefore, we maintained our bet for a slight depreciation of the real until the end of 2024. Make a note so we can check the results next year!

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