USD/BRL chops either side of 5.50 level as government forecast tweaks stink of staglation

• USD/BRL has chopped either side of 5.50 on Wednesday and is currently broadly flat.
• The pair has seen a choppy reaction to new government economic forecasts which raised concerns about stagflation.

USD/BRL is currently trading flat on the day close to 5.50, with the pair having rallied from earlier session lows of just under 5.47. The Brazilian real took encouragement earlier in the session amid reassuring commentary from the Economy Ministry that the government’s spending plans continue to respect the constitutional spending cap, something which it sees as key. The Brazilian real has been weighed in 2021 by concerns about Brazil’s fiscal sustainability amid fears that President Jair Bolsanaro might be tempted to overstimulate the economy ahead of the October 2022 Presidential election.

However, the Economy Ministry also unveiled new fiscal and economic forecasts on Wednesday which seemed to weigh on sentiment amid stagflation fears. GDP growth forecasts for 2021 and 2022 were downgraded to 5.1% and 2.1% respectively (from 5.3% and 2.5%). Meanwhile, inflation forecasts (as measured by the IPCA consumer price index) were lifted higher to 9.7% from 7.9% for 2021 and to 4.7% from 3.75% for 2022.

The Economy Ministry cited higher interest rates as the main reason for the GDP downgrade. For reference, the Brazilian Central Bank (BCB) has been hiking rates aggressively in recent months as it seeks to get a handle on inflation that is not north of 10%, more than 6.0% above the bank’s 3.75% inflation target for 2021. In October, the bank hiked interest rates by 150bps to 7.75% and signaled further hikes would be forthcoming.

From a technical standpoint, things are looking bullish for USD/BRL. The pair this week broke to the north of a downtrend that had been capping the price action for much of November. This opens up the possibility of a run back towards to 21-day moving average at 5.55 and then the November high at 5.70 beyond it.