Brazil’s sovereign rating was cut to junk by Moody’s Investors Service, the last of the major ratings companies to strip the country of its investment grade, as President Dilma Rousseff struggles to shore up fiscal accounts amid deepening political turmoil.
The country’s benchmark stock gauge declined the most in two weeks and the currency weakened after the rating was reduced two steps to Ba2. The outlook is negative, meaning more downgrades may be coming, Moody’s said in a statement Wednesday.
Brazil’s credit metrics have deteriorated “materially” in the past few months and will worsen over the next three years, according to the ratings company, which also cited the negative impact of political gridlock on the government’s efforts to close a budget deficit and undertake structural reforms. The cut — Brazil’s third in as many months from major ratings companies — adds pressure on Rousseff to win lawmakers’ support for measures to raise taxes and reduce spending as she fights off efforts to impeach her.
“Even though it wasn’t a surprise, it still sends a negative signal to investors,” said Arnaud Masset, an analyst at Swissquote Bank SA in Gland, Switzerland. “Unfortunately, Brazil’s outlook remains very cloudy as the market expects more from lawmakers than minor reforms.”
The government remains committed to undertaking a fiscal adjustment that would stabilize public debt and bolster the outlook for Brazil’s economic recovery in the medium-term, the Finance Ministry said in a statement after the downgrade.
The Ibovespa stock gauge dropped 2 percent as of 8:43 a.m. in New York as state-controlled companies including Petroleo Brasileiro (N:PBR) and Banco do Brasil (SA:BBAS3) tumbled. The real fell 0.8 percent, extending its decline over the past year to 29 percent, the most among the world’s 16 most-traded currencies. Benchmark dollar bonds slipped. The moves were in line with declines in emerging markets globally on Wednesday.
Economists are forecasting that Brazil is in the midst of its worst recession in a century as a rout in commodity prices and a slowdown in China damps revenue from exports including soy and iron ore. At the same time, annual inflation is running at the fastest pace in more than 12 years, curtailing central bank policy makers’ ability to lower interest rates in an effort to stoke economic growth.
On Tuesday, Congress approved a watered-down version of a bill to increase taxes on capital gains, a measure that was part of the government strategy to boost revenue and narrow a record budget deficit. Rousseff’s administration said last week it would ask Congress to lower the government’s fiscal target for this year to a deficit before interest payments rather than surplus, as the economic downturn crimps tax collection efforts.
“Macroeconomic and fiscal developments over the next two to three years are expected to produce a materially weaker credit profile,” Moody’s said. “The negative outlook contemplates the risks of further deterioration to Brazil’s credit profile emanating from macroeconomic shocks, deeper political dysfunction or the need to support government-related entities.”
The government now estimates gross domestic product will shrink 2.9 percent this year, rather than the 1.9 percent decline forecast in November, Budget Minister Valdir Simao said Friday. The economy contracted 4.1 percent in 2015, according to the central bank’s economic-activity index, which is a proxy for GDP.
Standard & Poor’s cut the country below investment grade in September — and downgraded it again this month — while Fitch Ratings lowered the nation’s debt in December. All three have a negative outlook on Brazil.
Moody’s expects the economy will shrink at an average rate of 0.5 percent a year between 2016 and 2018, with government debt likely exceeding 80 percent of GDP within three years amid slow progress on shoring up public accounts.
“Addressing Brazil’s fiscal challenges will require significant political will and consensus,” Moody’s said. “While discussion of structural reforms is a positive development, their approval by Congress will be difficult.”