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Brazil to Slip Back Into Recession, Data Suggest

06/30/2017 - 10h23



Brazil is likely to fall back into recession later this year and the South African economy may also continue to contract, according to a forward-looking economic indicator.

Latin America's largest economy returned to growth in the first three months of 2017, with quarter-on-quarter expansion of 1 per cent officially ending a brutal two-year recession, the worst in Brazil's history, as the first chart shows.

However, the country is set to slide back into recession, possibly in the third quarter of the year, according to Ed Jones, chief executive of World Economics, which produces a family of sales managers' indices or SMIs, based on replies from a panel of salespeople across the services and manufacturing sectors, which it claims is the most forward-looking data series available.

While the SMIs are little known, they have good pedigree. The parent company of World Economics is Information Sciences, which developed the widely followed purchasing managers' indices or PMIs, now owned by Markit.

After rising above the 50 level that marks the boundary between expansion and contraction in May, World Economics' headline SMI measure for Latin America fell back to 48.9 in June, as depicted in the second chart.

Although there is no specific measure for Brazil, the nine-nation Latam figure is heavily weighted towards Brazil and Mexico. There is a specific reading for the latter: 51.0 in June, suggesting a modest pick-up in economic growth in the central American state, which is currently running at 0.7 per cent quarter on quarter.

"It's Brazil which is the problem. Up until March it had been picking up a bit but in recent months we have started to see it taking a dip again," said Mr Jones.

Of the five sub-indices that feed into the headline Latam SMI reading, the market growth and staffing levels indices are both in negative territory, with sales growth barely above 50 and both prices charged and business confidence positive but falling sharply.

"Business confidence is a leading indicator for sales and market growth, and it came back down again in June," added Mr Jones.

On the basis of the SMI data, he expected Brazil's 1 per cent Q1 growth figure to be revised downwards, the Q2 number to be still lower and by Q3, "it might be dipping back into recession".

Others have similar fears. Sergio Trigo Paz, head of emerging market debt at BlackRock, also believed Brazil was heading back into recession.

"Everything is pointing down on the Brazil side," he said after criminal charges were filed against President Michel Temer, deepening the country's political crisis and threatening to further destabilise the economy.

Political uncertainty has also played a part in South Africa's economic woes, with Jacob Zuma, the under-fire president, facing a legal challenge over his plans to increase black ownership in the mining industry, and the central bank also taking legal action to combat an attempt by the country's state ombudsman to water down its inflation-targeting mandate.

South Africa surprised most observers by slipping into a technical recession in the first quarter of the year, with gross domestic product contracting by an annualised 0.7 per cent, following a 0.3 per cent contraction at the end of 2016, as the third chart shows.

Most economists expect the recession to be transitory, with consensus forecasts still pointing to full-year growth of 0.7 per cent (albeit a decline from the 1.25 per cent foreseen at the turn of the year), according to Reuters.

World Economics' data, however, paint a darker picture. Its headline SMI reading for South Africa, which perked up to 51.7 in March, fell back to 50.2 in June, a whisker away from contraction territory.

Business confidence in particular has been hit, with the readings of 46.2 in May and 47.5 in June well below any seen previously in its (admittedly short) history, as illustrated in the fourth chart.

"Very weak business confidence has resulted in weak, or indeed contracting, business investment in the private sector," said John Ashbourne, Africa economist at Capital Economics, a consultancy.

"Some of that is a result of concerns about the political situation and the steady stream of negative headlines. I don't think we will see a return to the kind of policies that investors want. Things are looking pretty bad."

Worryingly, the staffing levels sub-index also stayed in contraction territory for the 14th straight month, suggesting that South Africa's unemployment rate, already a hefty 27.7 per cent, could rise still further.

"It's a bit bleak for South Africa," Mr Jones said. "My view is that they are going to continue in or around recession territory. Business confidence says it all. Things are not going to improve any time soon."

However, Mr Ashbourne was still optimistic that activity would pick up later in the year, resulting in full-year growth of about 1.5 per cent, well ahead of the 0.3 per cent of last year.

"There was a very serious drought in 2016 that cut agricultural production, pushed up food prices and caused inflation to be a lot higher than expected [at a seven-year high of 6.3 per cent]," he said. "That is going away and we would expect a bounceback from higher rural incomes and lower inflation which will allow the central bank to loosen policy in 2017."

More encouragingly, Mr Jones is increasingly optimistic that Nigeria, Africa's largest economy, is coming out of its recession after five successive negative quarters.

Its headline SMI rose to 62.3 in June, the highest level since February 2016, continuing a solid run of date since March. "We can safely say that Nigeria will head out of recession when the Q2 data come out," said Mr Jones.

Mr Ashbourne concurs, saying: "The pace of contraction has eased quite a bit [to minus 0.5 per cent in the first quarter, from minus 1.7 per cent three months earlier] and it looks like oil production has stabilised and is coming up a little bit.

"And imports into Nigeria have begun rising. That is a good sign that consumption is picking up and should see the non-oil economy expand."

Elsewhere in Africa, the data point to a worsening inflation picture in Kenya. Consumer prices rose 11.7 per cent in the year to May, a five-year high, driven by a drought that has raised food prices.

Given that the "prices charged" component of Kenya's SMI measure jumped sharply to more than 60 in June, inflation could be heading higher still, although Mr Jones cautioned against reading to much into a single month's data.

Mr Ashbourne feared surging inflation would force the central bank to raise interest rates, currently 10 per cent, creating another headwind for an economy already predicted by the IMF to slow from growth of 6 per cent last year to 5.3 per cent this.

Elsewhere, China's headline SMI reading saw a modest uptick to 52.5 in June, its highest level since May 2016, suggesting fractionally faster economic growth. In contrast, India's still high figure slipped a little to 67.8, hinting that its current slowdown in growth may have further to run.

Copyright The Financial Times Limited 2017

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