Economia Brasileira 2006 inglês - Portal da Indústriaarquivos.portaldaindustria.com.br/app/conteudo_24/2012/...2012/12/03 · 2006 B r a z i l i a n E c o n o m y 1 This was another

1B r a z i l i a n B r a z i l i a n B r a z i l i a n B r a z i l i a n B r a z i l i a n E c o n o m yE c o n o m yE c o n o m yE c o n o m yE c o n o m y2 0 0 62 0 0 62 0 0 62 0 0 62 0 0 6

This was another year in which theBrazilian economy registered amodest growth. In 2006, GDPwill grow by 2.7%, frustratingmore positive expectations earlythis year. Once again, Brazil’seconomic performance contrastswith a favorable environmentabroad, marked by strongdemand, high export prices, andabundant liquidity.

The fact that Brazil grew little in2006 despite lower basic interestrates shows that there are otherelements preventing the Countryfrom embarking on a high-growthpath. Investment rates – which areclose to 20% of GDP – areinsufficient to foster sustainedGDP growth beyond 3.5% a year.

Other problems are also hinderinggrowth in the short run:appreciated exchange rates andpublic spending continually on therise. The level of the exchange ratereflects, to a certain extent,successful efforts to overcomeexternal fragilities. But theappreciated exchange rate restrictsinvestment opportunities for theexternal market, which boosted

BrBrBrBrBrazilianazilianazilianazilianazilianEconomyEconomyEconomyEconomyEconomyPERFORMANCE AND OUTLOOK

S P E C I A L E D I T I O N O F T H E E C O N O M I C R E P O R T - D E C E M B E R 2 0 0 6S P E C I A L E D I T I O N O F T H E E C O N O M I C R E P O R T - D E C E M B E R 2 0 0 6S P E C I A L E D I T I O N O F T H E E C O N O M I C R E P O R T - D E C E M B E R 2 0 0 6S P E C I A L E D I T I O N O F T H E E C O N O M I C R E P O R T - D E C E M B E R 2 0 0 6S P E C I A L E D I T I O N O F T H E E C O N O M I C R E P O R T - D E C E M B E R 2 0 0 6

Disappointinggrowth pace

the economy in the first half ofthe decade.

The biggest obstacle to fast growth,however, is a strong and continuousincrease in current public spending.In 2006, public spending increasedover twofold more than GDP,without any increase in publicinvestments – which are key toensuring higher investment rates. Thishigher current spending leads to ahigher taxation and reduces theinvesting capacity of the publicsector and the economy’sproductivity. Excessive and poor-quality taxation reduces the investingcapacity of the private sector andjeopardizes the competitiveness ofdomestic products.

Turning Brazil into a high-growtheconomy is the challenge. This taskentails a complex and multi-faceted agenda which makes itimperative to complete the cycleof institutional reforms, improvethe environment for privateinvestments, and restrain anyfurther increase in public spending.This is the only way to increase thepotential GDP growth rate, a keycondition to ensure lasting growth.

OUTLOOK 2007: modestly sped-up growth 33333

Economic ActivityEconomic ActivityEconomic ActivityEconomic ActivityEconomic ActivityThis has been a year marked bya unique growth pattern, almostexclusively based on householdconsumption and with anegative contribution from theforeign sector

88888

Foreign SectorForeign SectorForeign SectorForeign SectorForeign SectorIncrease in prices explains70% of the growthregistered in exports

Fiscal PolicyFiscal PolicyFiscal PolicyFiscal PolicyFiscal PolicyMarked increase in currentspending, financed by ahigher tax load

Interest Rates,Interest Rates,Interest Rates,Interest Rates,Interest Rates,Credit and InflationCredit and InflationCredit and InflationCredit and InflationCredit and InflationSlow reduction of the Selicrate ensures an inflation rateclose to the lowest limit ofthe target zone

Jobs and WJobs and WJobs and WJobs and WJobs and WagesagesagesagesagesLabor formalization and ahigher real labor incomestood out in 2006

1212121212

1515151515

1919191919

2323232323

THE BRAZILIANECONOMYIN 2006

The outlook for 2007 is better than the current performance of the economy;nevertheless, it does not justify any remarkable optimism.

S P E C I A L E D I T I O N O F T H E E C O N O M I C R E P O R TS P E C I A L E D I T I O N O F T H E E C O N O M I C R E P O R TS P E C I A L E D I T I O N O F T H E E C O N O M I C R E P O R TS P E C I A L E D I T I O N O F T H E E C O N O M I C R E P O R TS P E C I A L E D I T I O N O F T H E E C O N O M I C R E P O R TBrazilianBrazilianBrazilianBrazilianBrazilianEconomyEconomyEconomyEconomyEconomy

B r a z i l i a n B r a z i l i a n B r a z i l i a n B r a z i l i a n B r a z i l i a n E c o n o m yE c o n o m yE c o n o m yE c o n o m yE c o n o m y2 2 0 0 62 0 0 62 0 0 62 0 0 62 0 0 6

Once again, the year ends with astrong feeling of frustration. In2006, the estimates indicate thatGDP will grow by 2.7%, only 0.5percentage points above theaverage over the past ten years.The modest growth of theBrazilian GDP contrasts with themarked expansion observed in theworld economy. The InternationalMonetary Fund estimates a growthof 5.1% in the world GDP this year.

Economic growth in Brazil isfrustrating not only because wehave been growing less than theworld for eleven years in a row,but also because the differencebetween the Brazilian and theworld growth pace remains high.In 2006, as in 2005, the worldGDP grew at double the pace ofthe Brazilian GDP.

The economic activity in 2006 wasled – in Brazil – by an expandedconsumption, which is basicallyassociated with two factors: a)greater credit availability, theparticipation of which in GDProse to the highest level in nineyears; b) and a higher realhousehold income. These twoevents were registered in the wakeof inflation control measures. Withinflation rates below the target,interest rates could be reduced, withan impact on the demand for credit.At the same time, the purchasingpower of salaries was preserved,with a favorable impact onhousehold income.

In part, the higher householdincome (and higher demand) wasbrought about by a highergovernment spending. An

Overview of the economy in 2006A pattern keeps repeating itself: for eleven years in a row,Brazil has been growing less than the world average

Brazilian and world GDPsBrazilian and world GDPsBrazilian and world GDPsBrazilian and world GDPsBrazilian and world GDPsANNUAL VARIATION (%)

Sources: IBGE (Brazilian Institute for Geography and Statistics) / National Accounts and International Monetary Fund

enhanced income transfer by thegovernment encouragedconsumption and generated jobs,particularly in the north andnortheast regions of the Country.

This higher consumption,however, had a low impact on themanufacturing production. Theexpanded consumption wasmainly met by imported products,which are cheaper now as a resultof the appreciation of the real. In2006, domestic products werereplaced by imported products,and this is true both forconsumption goods andintermediate goods.

The appreciated exchange rate,however, did not reduce the tradebalance in 2006. The robust growthobserved in the foreign demand forcommodities ensured a sufficienttrade balance to generate a currentaccount surplus and a strong inflowof foreign currency. This led to aparadoxical situation: while theforeign sector is doing well, mostmanufacturing exporting companiesare facing tough times.

2,32,7

4,9 5,1

0

1

2

3

4

5

6

1994 1996 1998 2000 2002 2004 2006

Brazil World

In 2006, as in 2005, thedifference between theBrazilian and the worldgrowth pace was sharp.


While, on the one hand, theexpansionist fiscal policy contributedto enhance the domestic demand in2006, on the other hand it preventedany marked improvements in publicaccounts. Apart from preventing amore pronounced drop in interestrates, the higher expenditures ofthe government – particularly oncurrent expenditures –, wereaccompanied by a higher tax loadwhich inhibits private investments.

GDP growth in BrazilGDP growth in BrazilGDP growth in BrazilGDP growth in BrazilGDP growth in Braziland the Tand the Tand the Tand the Tand the Tax Loadax Loadax Loadax Loadax Load

O U T L O O K

The scenarioModestly enhanced growth pace, but noguarantee of high growth

The trends for 2007 point to aslightly enhanced economic growthpace in Brazil. The economy isexpected to perform better than in2006, but without any guaranteethat it will embark on a high-growth path. In our scenario,GDP will grow by 3.4%, inside the

expansion range of the economy’spotential output in recent years.

This only moderate growth pace isexplained by the fact that noeffective action has been taken toremove obstacles which have beenhindering Brazil’s economic

growth in recent decades. In otherwords, without structural changesdesigned to enhance the growthrate of the country’s potentialoutput – higher investment andproductivity growth rates – asignificantly higher growth pace inthe short run is unlikely.

OVERVIEW OF THE ECONOMY IN 2 0 0 6

25

27

29

31

33

35

37

39

41

1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 20060

1

2

3

4

5

6

Tax Load GDP growth

Tax Load(% os GDP)

GDP growth(%)

Sources: IBGE / National Accounts and the Brazilian Internal Revenue Service

* the figures for 2006 and 2007 were estimated by CNI

Continuous increase inthe tax load prevents ahigher GDP growth

20072007200720072007



The world scenario will remain asfavorable as in recent years:

(i) both the United States andemerging countries, led by China,will continue to grow at high rates,leading the pace of the worldtrade;

(ii) commodity prices will stabilizeat a still high level;

(iii) the world liquidity will remaincomfortable as a result of the endof the cycle of high interest ratesin the US;

(iv) the risk perception ofemerging countries will continueon a downward trend.

The economic policy will notbe managed in any sharplydifferent way as compared to2006. In fact, it is likely that the“relative success” observedduring the past two years –low inflation, better imageabroad, and higherconsumption among thepopulation – will lead to acertain inertia in the economicpolicy, which tends to “test thelimits of the currentframework.”

International scenarioremains favorable

Continuity scenario:few changes ineconomic policy

Interest rates will continue todecrease, albeit at a slower pacethan in 2006. A scenario ofinflation under control will makeit possible to further reduce theSelic rate, which is expected toclose 2007 at 11.5%. As for theannual average, the drop in therate will be significant, with realinterest rates decreasing to 7.9%in 2007, from 11.6% in 2006.

However, the constraintsimposed by a still low creditvolume and high capital costs forborrowers – the reduction inbanking spreads has not beenvery significant – are factorswhich will continue to hinder fastgrowth.

No substantial changes areexpected in the fiscal policyeither. Ensuring the primarysurplus will continue to be themain fiscal target, supplementedby some effort to reduce currentspending. However, spendingdecisions in 2006 – such as a highreal raise in the minimum wage,more liberal salary readjustments,and expanded social benefits –leave little room for moresubstantial progress in 2007.

The actual primary surplusshould remain at 4.06% of GDP,within the target of 4.25%,provided that the PilotInvestment Project – PPI (0.21%of GDP) mechanism is used.The poor quality of the fiscaladjustment will continue tohinder economic growth, and thespending of the FederalAdministration will once againincrease. The nominal result will

be negative by 2.5% of GDP, alower percentage than the oneregistered in 2006, which isexpected to hit the mark of3.3% of GDP. This drop will becaused by a lower nominalspending on interests.

The modestly enhancedeconomic growth and thefavorable evolution of thenominal result will result in asmall drop in the net public debtas a percentage of GDP, whichwill decrease to 49.5% from50.6% of GDP in 2006.

GDP will grow, led bythe industry

The result of this continuityscenario is a GDP growth of3.4% in 2007. On the demandside, the domestic absorptionwill once again be the growthengine. Household consumptionwill increase by 3.7% andinvestments will play a moredecisive role in promotingeconomic growth – with capitalformation increasing by 9.2%.

Because of a marked increase inimports, the contribution of theforeign sector to economicgrowth will once again benegative by 1.2 percentage points.Exports will continue to increase,but at a rate that is insufficient torevert this scenario.

On the supply side, we will seeimprovements in theperformance of themanufacturing industry – which


GDP growth forecast for 2007GDP growth forecast for 2007GDP growth forecast for 2007GDP growth forecast for 2007GDP growth forecast for 2007

Source: CNI

OUTLOOK

GDP is expected to rise3.4% in 2007, due toexpansion of bothhousehold consumptionand gross formation offixed capital

Demand

(%)Growth rate

Contribution(in p.p.)

Household consumption 3,7 2,1Government consumption 1,9 0,4GFCF 9,2 1,9Exports 5,7 1,0(-) Imports 15,2 2,2Net Exports -1,2

GDP 3,4

Supply

Agricultural andLive Stock Production 4,0 0,3Industry 4,2 1,7

Mining 7,6 0,4Manufacturing 3,3 0,8Construction 5,0 0,4Public Utilities 3,2 0,1

Services 2,4 1,4GDP (at basic prices, before taxes) 3,1Taxes 5,0GDP (market prices) 3,4

(%)Growth rate

Contribution(in p.p.)

will grow by 4.2%. The miningand construction industries willlead this growth, with themanufacturing industry growing ata moderate pace as a result oflingering difficulties, such as theappreciated exchange rate and adecreasing competitiveness withforeign products.

Inflation below thetarget and stable realexchange rate

The annual inflation rate – 4%as measured by the IPCA –

will increase by about onepercentage point in relation to2006; however, for the secondconsecutive year, the annualinflation will remain below thecenter of the target zone.The marked appreciation ofthe real in 2006 – currentaccount surplus andcomfortable liquidityworldwide – will continue, butnot as strongly. The exchangerate will therefore remainrelatively stable. Late in 2007,the exchange rate will hit themark of US$ 1/R$ 2.25,against the expected rate of US$1/R$ 2.15 in December 2006.

Lower trade balance,exports losing pace

Exports will grow less in 2007,but they will hit the recordvalue of US$ 150 billion. Onthe one hand, the unfavorableexchange rate will constitutethe main difficulty forexporters of manufacturedproducts; on the other hand, astrong world demand willensure good prices and amarket for commodities. Highdomestic demand andappreciated exchange rate willfoster imports, which may hitthe mark of US$ 107 billion –a growth of 15% in relation to2006.The trade balance – US$ 43billion – will be only slightlylower than in 2006. As a result,the current account surplus –savings remitted abroad – willbe marginally reduced to US$10 billion or about 1% ofGDP. However, this is still avery high figure for oureconomy and it runs counterthe need to attract externalresources to increaseinvestment rates.



During the past ten years,economic growth in Braziloscillated around 2.2% a year. Theyears of more intense growthreflected a combination of afavorable internationalenvironment – as in 2000 and2004 – and a certain degree ofdomestic stability. Theseconditions, however, were notsufficient for the Brazilianeconomy to become a high-growth one.

One of the important lessonslearned in 2006 is that we havegrown little, despite a drop inbasic interest rates. It doesn’t meanthat interest rate levels areirrelevant, much on the contrary.But it clearly shows that, apartfrom a high capital cost, there areother restrictions preventing Brazilfrom embarking on a sustainablegrowth path.

One fact is unquestionable: thecurrent potential output growth–that is, the growth rate of theeconomy in the long run – is low.This growth is mainly determinedby the level of investment rates(accumulation of physical capital)and by the evolution of theeconomy’s average productivity.Productivity, in turn, besides

How can growth be sped up?Overcoming the low-growth situation is a must for enhancingthe potential output growth rate

depending on the accumulation ofphysical capital, depends on theincorporation of newtechnologies, on a favorablebusiness environment, and on theaccumulation of human capitalthrough education, whichconstitutes a project spanninggenerations.

The question is: what can be donenow to increase the potentialoutput growth rate and to leavethis modest growth situationbehind?

In the medium term, investmentsare the crucial variable. A morerobust – and sustained – growthwill only materialize if there is asubstantial increase in investmentrates. Not only becauseinvestments constitute a means forincorporating new technologies,but also because they increase theproductive capacity directly.

To increase investments, actionsare required in two directions:actions to induce privatecorporations to engage in newbusiness lines; and actions toincrease the investing capacity, thatis, to expand savings – the non-consumed portion of the incomewhich is available for investments.

A better business environmentensures more efficient marketsand, therefore, encourages privateinvestments (which follow thelogic of profits and opportunities).These are actions which canleverage private investments andgenerate new businessopportunities: red tape reduction;creation of modern regulations –including labor market regulations– and of appropriateenvironmental laws; lower capitalcost and less inefficiency in thefinancial market; and a bettertaxation. Defining regulatoryframeworks is especially importantto attract private capital both forlarge investment projects, such asinfrastructure projects, and forindustrial segments requiringspecific policies to be clearlydefined.

For domestic savings toincrease, the savingcapacity of the publicsector should berecovered

Increasing the domestic savingcapacity and attracting moreforeign savings are, in turn,macroeconomic issues. Increasing


Federal government:Federal government:Federal government:Federal government:Federal government:Investments and primary spendingInvestments and primary spendingInvestments and primary spendingInvestments and primary spendingInvestments and primary spending

Higher current expensesreduce the space forstepping up publicinvestments

Source: SIAFI and National Treasury Secretariat

Prepared by: CNI

HOW CAN GROWTH BE SPED UP?

0,2

0,4

0,6

0,8

1,0

1,2

1997 1999 2001 2003 2005

Investiment(% of GDP)

14

15

16

17

18

19

Expenditures(% of GDP)

Investiment Total Primary Expenditures

private savings will not beproblem – it will happen naturallyas a result of the emergence ofopportunities – provided that aninstitutional environment favoringinvestments is built. However, fordomestic savings to increase, thesaving capacity of the publicsector must be recovered.

Public savings are indispensablefor public investments to be made,particularly in infrastructure. Incases where the return oninvestments is not sufficient toattract private capital, investing isessentially a duty of the State. Inother cases, the participation ofprivate capital in infrastructureprojects – such as in the PPPs(public-private partnerships) – ispossible and desirable.

For public savings to increase,deep fiscal adjustments must bemade which imply a reduction in

public spending as a percentage ofGDP. These adjustments requirestrict measures to curb currentspending – such as reforming thesocial security system, setting limitsto public spending, improving thepublic administration (throughmeasures such as a review of theso-called linked revenues andcompulsory expenses, and anevaluation of programs based onphysical goals achieved), lowertaxes on investments and reductionof the tax load. That is, theyrequire an effective fiscal plan,including constitutional reformsand structural changes.

Essentially, what is required is acultural change in relation to therole of the State and the reachof public spending. Optingbetween current spending andinvestments is choosing betweenpreserving the past or buildingthe future.

The high-growth agendais clear: improving theefficiency of the Stateand stimulating privateinvestments

The high-growth agenda is clear:the efficiency of the State must beimproved – with a reduction incurrent spending and a lower taxload – and private investmentsmust be stimulated. This is the onlyway to create favorable conditionsfor increasing investment rates andthe global productivity of theeconomy. If they are implementedat the required speed, theseadjustments will pave the way forBrazil to embark on a high-growthpath in the medium term.Otherwise, the potential outputgrowth pace will not increasesubstantially, and the mediocregrowth rates observed in recentyears will continue in the long run.



Level of Economic ActivityAnother frustrating year: the Brazilian economy is expected togrow by only 2.7% in 2006

GDP and Household ConsumptionGDP and Household ConsumptionGDP and Household ConsumptionGDP and Household ConsumptionGDP and Household Consumption

ANNUAL VARIATION (%) – FOUR-QUARTER MOVING AVERAGE

There is no record of another periodin this decade in which householdconsumption grew at a significantlyhigher pace than GDP

Source: National Accounts

-2,0

0,0

2,0

4,0

6,0

I II III IV I II III IV I II III IV I II III IV I II III IV I II III

2001 2002 2003 2004 2005 2006

GDP Consumption Expenditures

The economic activity in 2006 wasless intense than anticipated earlythis year. Growth projections havebeen reviewed downward as itbecame clear that the effects ofrelaxing the monetary policy onthe economic activity, particularlyon the manufacturing production,were not very significant.

The estimated GDP growth in2006 was reviewed downward to2.7% from 3.7% early this year.Nevertheless, for the growthestimate of 2.7% in 2006 to bemaintained, the economic activitymust be recovered in the fourthquarter. In this scenario, GDPmust grow 1.3% in the fourthquarter in relation to the thirdquarter, after seasonal adjustments.For this purpose, the growth pacein the fourth quarter should bealmost three times higher than theone observed in the second andthird quarters. This greaterdynamism late in 2006 is justifiedby positive prospects in terms ofsales during the Christmas season,which will be boosted by a higherhousehold income and the greateravailability of credit.

2006 was a year marked by aunique growth pattern, almostexclusively based on household

consumption and with a negativecontribution from the foreignsector

GDP grew by only 2.5% in thefirst three quarters of 2006 ascompared to the same period in2005. Modest growth is not a newphenomenon: what is different in

the economic growth registered in2006 is its composition, which isalmost exclusively based onconsumption. Householdconsumption grew by 3.7% duringthe same period, totaling acontribution of 2.0 percentagepoints to GDP growth (or 80%of the growth registered this year).


Retail trade and manufacturing productionRetail trade and manufacturing productionRetail trade and manufacturing productionRetail trade and manufacturing productionRetail trade and manufacturing production

ANNUAL VARIATION (%) – FOUR-QUARTER MOVING AVERAGE

Source: PIM-PF/IBGE and PMC/IBGE

Evidence of the replacement of domestic inputswith imported ones: imports of intermediategoods increased much more than themanufacturing production

Manufacturing production and importsManufacturing production and importsManufacturing production and importsManufacturing production and importsManufacturing production and importsof intermediate goodsof intermediate goodsof intermediate goodsof intermediate goodsof intermediate goods

AVERAGE FOR 2002 = 100

Source: PIM-PF/IBGE and Funcex

LEVEL OF ECONOMIC ACTIVITY

Retail sales increased, but the domesticproduction did not respond to this higherdomestic consumption

-10%

-5%

0%

5%

10%

15%

Oct-01 Oct-02 Oct-03 Oct-04 Oct-05 Oct-06

Industrial Output Retail sales

60

100

140

180

Jan99 Jan00 Jan01 Jan02 Jan03 Jan04 Jan05 Jan06

Intermediate goods, Imports

Industrial Output

Consumption-led growth is not ausual fact either. There is no recordof another period in this decade inwhich household consumptiongrew at a significantly higher pacethan GDP. Consumption usuallyincreases in response to enhancedeconomic growth and to a higherproductivity and salaries, feedingback into a virtuous growth cycle.

In 2006, consumption grew, butthe domestic production did notrespond – at least not with thesame intensity – to this higherconsumption. While the retailtrade (PMC/IBGE) increased itssales by 5.9% in the comparisonbetween the averages in the firstten months of 2006 and 2005, thephysical production (PIM/IBGE)and the real revenue of themanufacturing industry (CNI)grew by 2.9% and 1.4% over thesame period, respectively.

As a result of an increasingdemand for consumption goods,there was a strong penetration ofimported products. Enhancedimports are also a result of theappreciation of the real, which hasstimulated the replacement ofdomestic products with importedproducts. It should be highlightedthat these substitutions are notrestricted to consumption goods,as they also involve inputs used bycompanies.

In CNI’s Special Survey of June2006, it was seen that 28% of thecompanies which used importedinputs had plans to step up theiruse, to the detriment ofdomestically produced inputs.



Contribution of components in GDPContribution of components in GDPContribution of components in GDPContribution of components in GDPContribution of components in GDPformation (expenditure approach)formation (expenditure approach)formation (expenditure approach)formation (expenditure approach)formation (expenditure approach)

IN PERCENTAGE POINTS

In 2006, the foreign sector has beencontributing to reduce GDP growthrate by 1.1 p.p.

Source: National Accounts

Expenditure components2001/ 2005

average 20052006

(Up to 3 quarter)rd

Consumption 0,9 2,0 2,4

Household consumption 0,7 1,7 2,0

Government consumption 0,2 0,3 0,4

Investiment -0,1 -0,6 1,2

Gross form. of fixed capital 0,1 0,3 1,2

Change in stocks -0,3 -0,9 0,0

External Sector 1,5 0,8 -1,1

Exports 1,7 2,1 0,9

Imports -0,3 -1,3 -2,0

GDP 2,2 2,3 2,5

Among companies which didnot use imported inputs, 10.6%had plans to use them in 2006.Another piece of evidence ofthe replacement of domesticinputs by imported ones is themarked increase observed in theimport of intermediate goods inrelation to production in themanufacturing industry. In 2006,imports of intermediate goodsincreased at a pace that was sixtimes faster than that of themanufacturing production.

As a result of the appreciationof the real, productsmanufactured abroad havebecome more competitive.Therefore, while imports grew,the growth pace of exports isslowing down. The consequenceis that the net contribution of theforeign sector to GDP growthhas become negative – which isan unprecedented situation in thisdecade. Between 2001 and 2005,the foreign sector contributed, inaverage, 1.5 percentage points toGDP growth each year. In 2006,the situation was inverted: theforeign sector has beencontributing to reduce GDP by1.1 percentage points.

One of the strengths of GDP in2006 was an increase of 6.0% inthe gross formation of fixedcapital (in the comparisonbetween the three first quartersof 2006 and 2005). This growthreflects the positive momentexperienced by the civilconstruction industry, which hasbeen growing at a pace of 5.0%a year and is sustained by: a) a

higher volume of budget fundsearmarked for housing – FGTS(Warranty Fund for SeverancePay) funds for housing increasedby 56.6% in 2006 in relation to2005; b) lower interest onhousing loans – whichencouraged people to purchaseand renovate real property; c)higher spending on infrastructure– as usual in election years.

Investments in machinery andequipment, in turn, increased lessthan expected early this year,despite the availability of lowerinterest rates and the higherhousehold consumption. In 2006,

for example, only 36% of thecompanies made theirinvestments as planned (CNI’sSpecial Survey – November2006). Investments were notmore dynamic becausebusinesspersons did not perceivethe higher consumption as apermanent phenomenon, as itwas largely sustained bygovernmental income transferschemes – which are short-livedby nature; and, second, becauseindustrial companies operated in2006 with some idle capacity –average of 81.8%, lower than thelevels observed in the twoprevious years.


LEVEL OF ECONOMIC ACTIVITY

In 2006, however, averageindustrial performance should beconsidered carefully, as theydisguise an unequal behavioramong different industrialsectors. The manufacturingproduction, for example, wasconcentrated in three sectors –IT equipment; extractive industry;electric machines, appliances andmaterials – which togetheraccounted for almost half of theindustrial output growth. On theother hand, the production oftimber products, clothing, andshoes actually dropped in 2006.

In 2007, GDP isexpected to increaseby 3.4% and, as in2006, this increase willbe led by the domesticdemand

GDP is expected to increase by3.4% in 2007. As in 2006, thedomestic demand will leadeconomic growth. Householdconsumption is estimated togrow by 3.7% both in 2006 and2007, contributing 2.1 percentagepoints to GDP growth in eachof these years.

The gross formation of fixedcapital should grow by 6.7% in2006, as opposed to only 1.6%in 2005. In 2007, a greaterincrease is anticipated, namely,9.2%. This more robust growthis associated with the continuingdownward path of long-terminterest rates and withexpectations of a more dynamic

industrial activity, particularly inthe civil construction industry.

Exports of goods and services(as measured according to theNational Accounts methodology)are expected to increase by 6.0%in 2006 – the lowest rate since1999, when the floating exchangerate regime was adopted. In2007, the growth pace isexpected to remain close to theone observed in 2006 (anestimated 5.7%), since noadditional appreciation of thereal is anticipated. Both in 2006and 2007, exports will contribute1.0 percentage points to GDPformation. In 2004 and 2005, thecontribution of exports to GDPformation exceeded 2 percentagepoints.

It is estimated, on the otherhand, that the imports of goodsand services (as measuredaccording to the NationalAccounts methodology) will hitthe mark of 18.3% in 2006.Since imports have been growingthree times faster than exports,the net contribution of theforeign sector should be negativein 2006. As in 2006, imports areexpected to increase very muchin 2007 (about 15.2%). Thisgrowth is a little less intense thanin 2006 because: a) thecomparison basis is higher; b) theexchange rate (R$/US$) will bemore stable in 2007.

The estimated Industrial GDPgrowth of 3.0% in 2006 isfrustrating, considering the 4.5%rate projected early this year.

The slowdown was morepronounced in the manufacturingindustry, which is expected toincrease by only 1.7%, or at apace very close to the onesobserved in 2003 and 2005. In2007, the scenario is morepositive, following the behaviorregistered in the fourth quarterof 2006. The projections for2007 suggest a growth of 4.2%in the Industrial GDP and of3.3% in the manufacturingindustry.

The agriculture/livestock sectoris expected to grow by 3.0%,recovering from a no-growthsituation in 2005 caused byharvest losses. For 2007,prospects are even better, as thegrowth rate is expected to hit themark of 4.0%. Services, whichare the most stable GDPcomponent, are expected toincrease by 2.2% in 2006 and by2.4% in 2007.



Jobs and wagesJob formalization and higher real wage growth rates weremajor achievements in the labor market in 2006

Occupied population,Occupied population,Occupied population,Occupied population,Occupied population,status of the occupationstatus of the occupationstatus of the occupationstatus of the occupationstatus of the occupation

ANNUAL VARIATION (%)

Job formalization: the majority of jobs generated in 2006were formally registered

Source: PME/IBGE

3,9%

5,9%

-1,7%

2,1%

0,3%

4,8%3,5%

-0,9%

-4%

0%

4%

8%

Registeredjobs

Government Unregisteredjobs

Selfemployment

2005 2006

Formal jobs

Informal jobs,predominantly

The number of formallyregistered employees increasedby 4.8% in the comparisonbetween the averages registeredin the first ten months of 2006and 2005 (data from the MonthlyJob Survey/IBGE). This growthpace is particularly strong notonly because of the rather highcomparison basis that was usedto measure it – the number ofregistered workers had alreadygrown by 5.9% in 2005 – butalso because it contrasts with thedrop of 0.9% observed in thenumber of workers without aformal registration this year.

Job formalization has become atrend during the past two years:while the number of formallyregistered workers – formalworkers in the labor market andstatutory civil servants – grew11% in the 2005-2006 period,the number of informal workers– workers without a formalregistration and self-employedindividuals – remained virtuallystable during that period.

The number of formal jobsincreased by 1.24 million unitsduring the twelve-month periodending in October 2006, or 4.7%

(data from the General Registerof Employed and UnemployedIndividuals of the Ministry ofLabor). Jobs in the servicessector deserve special mention,as 547,000 of them were created– a growth of 5.1% – and,particularly, in the technical-professional sector, where210,000 new jobs were created(7.3%). These services mostly

include jobs in large companieswhich were outsourced.Besides the formalization of jobs,the Brazilian labor market hasother unique features, such as:

a) greater participation offemale labor – almost two-thirdsof all jobs generated inmetropolitan regions in 2006were taken by women;


JOBS AND WAGES

Heterogeneity marked industrialjobs in 2006

Industrial jobsIndustrial jobsIndustrial jobsIndustrial jobsIndustrial jobs

ABSOLUTE VARIATION IN THE TWELVE-

MONTH PERIOD ENDING IN OCTOBER 2006

(IN THOUSAND UNITS)

Source: Caged/ MTE

102,2

98,3

27,1

26,5

24,2

18,3

12,1

11,6

11,4

10,4

7,8

7,7

0,1

-3,1

-20 0 20 40 60 80 100 120

Food and Beverage

Construction

Chemicals

Metallurgy

Textiles and Clothing

Metal Mechanic

Mining and extractive

Paper and packaging

Transportation

Non-metallic minerals

Electric

Latex, tobbaco and leather

Shoes

Wood and furniture

b) migration of jobs to moreschooled individuals – betweenOctober 2005 and October2006, the number of jobs takenby individuals with 11 years ofschooling or more increased by661,000, against a drop of92,000 in the ones taken by lessschooled workers;

c) more jobs taken byindividuals in older age brackets– jobs for the population aged50 and over increased by 4.7%between October 2006 andOctober 2005, almost twice thefigure registered for the occupiedpopulation as a whole.

The evolution of jobs in themanufacturing industry wasmarked by heterogeneity. Whilethe food and civil constructionindustries generated 102,000 and98,000 jobs, respectively, duringthe twelve-month period endingin October 2006 (totaling growthrates of 6.9% and 8.2%,respectively), the timber andfurniture industries downsizedtheir staff.

In regional terms, cleardifferences can be observed inthe behavior of jobs: less jobs inthe south region and more jobsin the north, mid-west andsoutheast regions, according toPIMES/IBGE. More individualswere dismissed by companies inthe state of Rio Grande do Sulthan hired in the southeastregion. The state of Rio Grandedo Sul has accounted for mostindustrial jobs that were lost forthe second year in a row.

The unemployment rateincreased in 2006, despite thegreater availability of jobs. InOctober, 9.8% of theeconomically active populationdid not have a job. This higherunemployment rate is associatedwith changes in the labor forcegrowth pace. The labor forceincreased by 2.4% in the averageof the ten first months of 2006in relation to the same period in

2005. In the second half of2006, the pace became faster,hitting the mark of 3.6%. Thisfaster pace contrasts with the oneobserved in 2005, when thelabor force grew at an averagerate of 1.1%.

There are three factors which, asa rule, stimulate growth in thelabor force. A lower householdincome is the first factor, as it



Occupied population and the labor forceOccupied population and the labor forceOccupied population and the labor forceOccupied population and the labor forceOccupied population and the labor forcePERCENTAGE VARIATION IN RELATION TO THE SAME MONTH IN THE

PREVIOUS YEAR – QUARTERLY MOVING AVERAGE

Unemployment rateUnemployment rateUnemployment rateUnemployment rateUnemployment rate% OF THE LABOR FORCE

In the 2nd halfof 2006, thelabor forceoutpaced jobs...

Source: PME/IBGE

... increasing theunemploymentrate

Source: PME/IBGE

0%

1%

2%

3%

4%

Apr-05 Oct-05 Apr-06 Oct-06

Employment

Economically Active Population

8%

9%

10%

11%

jan feb mar apr may jun jul aug sep oct nov dec

2005 2006

leads secondary members of thefamily (those who are not headsof the household) to look for ajob as a means to complementthe household income. This waswhat led to an increase in thelabor force in 2003, but it doesnot seem to have caused anincrease in the labor force in2006. The household income ishigh now, as a result of increasesin the real payroll – 6.4% inaverage in the first ten months of2006 in relation to the sameperiod in 2005 – and in benefitspaid by the government.

The second factor is theperception of workers that thelabor market is more favorableand, as a result, their higherchances of being successful intheir search for a job. Thisbehavior is typically observedwhen the economic activity ispicking-up.

Higher real wages constitute thethird factor which stimulatesgrowth in the labor force. Whensalaries rise, the opportunity costof staying out of the labormarket increases. This year, thereal average income of workersgrew by 4.1% (comparisonbetween averages in the first tenmonths of 2006 and 2005) in thewake of economic growth, albeitmodest, and particularly, ofmeasures to keep the inflationunder control.

Next year, these two factors willstill be present, meaning that thereal income of workers will

continue to rise. As for jobs, theprospects are less optimistic. InCNI’s Industrial Survey in the 4thquarter of 2006, businesspersonssaid that job stability is expectedin the next six months. The

unemployment rate, in turn, isexpected to remain at about 10%in 2007 – as in 2006 – or even alittle higher, because the laborforce growth is expected tocontinue to outpace job creation.


Inflation, Interest Rates and CreditSlow reduction in interest rates in 2006 results in inflationrate close to the lower limit of the target.

BASIC INTEREST RABASIC INTEREST RABASIC INTEREST RABASIC INTEREST RABASIC INTEREST RATES (% A YEAR) AND MEDIAN OFTES (% A YEAR) AND MEDIAN OFTES (% A YEAR) AND MEDIAN OFTES (% A YEAR) AND MEDIAN OFTES (% A YEAR) AND MEDIAN OFTWELTWELTWELTWELTWELVE-MONTH INFLAVE-MONTH INFLAVE-MONTH INFLAVE-MONTH INFLAVE-MONTH INFLATION EXPECTTION EXPECTTION EXPECTTION EXPECTTION EXPECTAAAAATIONS (%):TIONS (%):TIONS (%):TIONS (%):TIONS (%):

Source: Central Bank of Brazil (BCB).

Drop in theSelic rate ismuch slowerthan in 2003.

0

10

20

30

2003 2004 2005 20060

5

10

15

Selic Interest rate (left axis)

Expected inflation (right)

The monetary policy in 2006 wasbased on extremely cautiousreductions in the Selic rate. Thisstrategy, which was much moreconservative than the one adoptedin 2003, resulted in a currentinflation close to the lower limit ofits flotation range. Althoughexcessively strict, the rigor withwhich the inflation target systemhas been managed contributed toavoiding the typical turbulence ofelection years – which can be feltat four-year intervals in Brazil.Brazil will close the third year in arow with the inflation within thetargeted range and with goodchances of keeping it very close tothe target in 2007.

The Selic rate was 18% a yearearly in 2006, then it wassubjected to three successivereductions of 0.75% and, fromMay on, it began to be reducedby 0.50% at 45-day intervals–closing the year at 13.25%. Long-term interest rates, which areused as a benchmark forBNDES (National Economicand Social Development Bank)operations, were also cautiouslyreduced throughout the year:they dropped from 9% a year inJanuary to 6.85% in the lastquarter of 2006.

The monetary policy was relaxedin a fairly foreseeable way andlargely as a result of twoexceptionally favorable factors: anull variation in the IPCA(Expanded Consumer Price Index)in the second quarter of the yearand the fact that, since Mayalready, the estimated IPCAvariation in 2006 was below thecentral point of the target (4.5%) –with a clear downward trend. Inits weekly survey, the Central Bankeven measured, in October, anaverage estimate below 3% for theinflation in 2006.

In November, however, seasonalpressures were felt on the prices

of food products in the retailmarket, as well as a recovery inwholesale prices of agriculturalproducts – the latter in response toa higher demand for commoditiesin the international market. Thesefactors ended up interrupting asequence of (downward) reviewsof inflation estimates both for thefinal months of 2006 and for 2007as a whole.

A modest rise in inflationexpectations, the (moderately)faster pace of economic activity,and the relative stability of theexchange rate in recent months –supported by the purchase ofalmost US$ 4 billion a month by



Inflation indicesInflation indicesInflation indicesInflation indicesInflation indices(%) VARIATION IN TWELVE MONTHS

Recovery in wholesale prices andstable consumer prices fosterconvergence

Source: IBGE and FGV (Getúlio Vargas Foundation)

Inflation targets andInflation targets andInflation targets andInflation targets andInflation targets andannual IPCA variationannual IPCA variationannual IPCA variationannual IPCA variationannual IPCA variation

2007 will be the second year marked by an inflationrate below the center of the target zone pursued byCopom (Monetary Policy Council).

Source: BCB (Central Bank of Brazil).

(*) 2006 and 2007: Estimates

0%

2%

4%

6%

8%

10%

2003 2004 2005 2006* 2007*

Center of target range Observed/Estimated*

-4%

0%

4%

8%

12%

16%

May-04 Nov-04 May-05 Nov-05 May-06 Nov-06

IPCA IGP-DI IPA-DI

the Central Bank – contributed tothis scenario. Given these signs,some Copom members evenvoted in favor of reducing thepace of reductions in the Selic rateduring the last meeting of thecouncil in 2006. They did not win,but the dissent ended upconsolidating a scenario of enhancedparsimony in the way the monetarypolicy will be managed in 2007.

Convergence of themain inflation indices atthe end of 2006

Late in November, the variation inthe IPCA accumulated in twelvemonths hit the mark of 3.02%,almost 1.5 p.p. below the target setfor 2006. The fact that variationsin (both) market and monitoredprices were below 4% is assignificant as this behavior of the“full” index: 2.54% and 3.96%,respectively, in the twelve-monthperiod ending in November. Asfor the indices based onsubcategories of tradable and non-tradable goods, the former had avariation of 1.13% in twelvemonths, while the latter rose by4.15% – until November.

During the same period, the IGP-DI (General Price Index - InternalAvailability) and its main component,the IPA-DI (Wholesale Price Index -Internal Availability), rose by 3.59%and 4.04%, respectively. As for thesubcategories of IPA associatedwith different production stages,the prices of raw materials hadaccumulated a hike of 9.80% intwelve months late in November,


Credit expansionin relation toGDP is due to anincrease inoperations withnon-earmarkedresources.

Earmarked and non-earmarked credit (% of GDP)Earmarked and non-earmarked credit (% of GDP)Earmarked and non-earmarked credit (% of GDP)Earmarked and non-earmarked credit (% of GDP)Earmarked and non-earmarked credit (% of GDP)

* Up to November.

Source: BCB

INFLATION, INTEREST RATES AND CREDIT

Interest rates for corporations and spreadInterest rates for corporations and spreadInterest rates for corporations and spreadInterest rates for corporations and spreadInterest rates for corporations and spread(MONTHLY AVERAGES, % A YEAR.)

Source: BCB.

Cost of bankintermediationdoes notrespond toreductions ininterest rates.

Earmarked credit Non-earmarked credit Total

9,8

17,2

22,6

26,9

33,1

10,4 10,5

20,7

31,2

0

10

20

30

40

2004 2005 2006*

25

27

29

31

33

35

jul-05 oct-05 jan-06 apr-06 jul-06 oct-0610

12

14

16

18

20

Interestrates (left axis) Spread (right)

while much lower variations wereregistered for intermediate and finalgoods: 2.17% and 2.49%,respectively. Considering the originof the goods, it could be seen thatthe recovery in wholesale prices wasmainly concentrated in agriculturalproducts, the prices of which roseby 8.28% in the twelve-monthperiod ending in November. Theprices of industrial goods increasedby only 2.71% during the sameperiod.

Thus, the convergence of the maininflation indices late in 2006 can beexplained not only by the favorablebehavior of consumer pricesthroughout the year, but also by thequick recovery observed in theprices of raw materials andagricultural products in the wholesalemarket since May.

Credit on the rise,interest rates dropping,but banking spreadsremain at practically thesame level.

The balance of credit operations ofthe financial system hit the mark of33.1% of GDP in October – arelatively high level for the Brazilianeconomy, but still lower than the oneregistered in other emergingcountries. The volume of credit withso-called non-earmarked resourcesexceeded 20.7% of GDP in Januaryand rose to 22.6% in October, whilethe balance of operations withearmarked resources remainedstable at about 10% of GDP. Theparticipation of the industry in the

total balance of credit operationsdecreased a little during 2006,dropping from 22.9% in Decemberof last year to 22% in October ofthis year.

The volume of non-earmarkedresources for operations withindividual borrowers continues togrow at a faster pace than foroperations with corporations: theaverage expansion rates are 1.6%and 1% a month, respectively. As aresult, the share of the balance ofoperations with individuals in the

total volume of credit increasedfrom 31.1% to 32.7% during thepast ten months.

Since the Selic rate reducing cyclebegan, in September 2005, theaverage interest paid bycorporations for operations withnon-earmarked resourcesdecreased from 33.3% to 27.1% ayear (October). During the sameperiod, the average spread –which is the difference betweenthe average interest a bank chargesa borrower and the interest a



Source: CVM. * Up to November.

Capital MarkCapital MarkCapital MarkCapital MarkCapital Market: Tet: Tet: Tet: Tet: Total issues rotal issues rotal issues rotal issues rotal issues registeregisteregisteregisteregistered with CVM -ed with CVM -ed with CVM -ed with CVM -ed with CVM -Securities and Exchange Commission of BrazilSecurities and Exchange Commission of BrazilSecurities and Exchange Commission of BrazilSecurities and Exchange Commission of BrazilSecurities and Exchange Commission of Brazil(R$ billion)(R$ billion)(R$ billion)(R$ billion)(R$ billion)

While 2005 wasthe year ofdebentures,2006 was theyear in whichstock issuesstood out.

11,09,2

26,0

57,5

9,6

41,5

71,4

29,3

107,3

0

20

40

60

80

100

120

2004 2005 2006*Shares (Equity) Debentures Total

bank pays a depositor – remainedstable at about 14%. It can thus beseen that the measures announced bythe government in September ofthis year to reduce the bankingspread have not generated anypalpable result so far.

Inflation under control andgreater liquidity favorlong-term financing

Inflation under control, decreasinginterest rates, ample internationalliquidity, and a still very high bankingspread: this combination offavorable factors is expected tocontinue to make the capital marketgrow in 2007. From 2004 to 2005,debenture issues grew 300%,increasing from R$ 9.6 billion to R$41.5 billion. In 2006, share issuesmore than doubled, from R$ 11.3billion in 2005 to R$ 26 billion earlyin December. As a result, the totalamount of resources intermediatedby the capital market reached therecord volume of R$ 107 billion inDecember 2006.

The expansion observed in thecapital market in 2006 contrasts withthe modest increase registered in thetotal disbursements of Brazil’s mainlong-term investor, the BNDES(National Economic and SocialDevelopment Bank). This growthtotaled only 5% in the comparisonbetween the first eleven months of2006 and 2005. By all appearances, itwould be easier for Brazil to financekey investments in infrastructure –either via capital market or usingfunds of the state-owned Bank –were it not for the fact that littlepriority has been attached to theregulatory framework.

Outlook for 2007Our projections for next year pointto a scenario of continuedconservative management of themonetary policy and of efforts toconsolidate economic stability. TheSelic rate is expected to decrease at aslower pace than in 2006, droppingfrom the current 13.25% a year to11.5% a year over the next twelvemonths. This greater parsimony willtranslate into an inflation of 3.2% at

the end of 2006 and of 4% in 2007,as measured by the IPCA, both ofwhich are below the center of thetarget set by CMN - NationalMonetary Council (4.5%). As aresult, the real Over-Selic interest rate(ex post annual averages, minus IPCAvariations) is expected to decreasefrom 11.6% in 2006 to 7.9% in2007. The magnitude of thisreduction, 3.7 percentage points, isexplained not only by theaccumulated effect of previousreductions, but also by the fact thatwe are projecting a slightly higherinflation in 2007. The IGPs – as wellas the IPCA itself – will continue toregister annual variations below 4.5%.

It should be highlighted that theproduction sector continues to wait,at the end of 2006, for a provisionalmeasure to be issued to regulate theoperation and use of the positivecredit record. This measure, whichwas announced in September of thisyear, is still under technical studies. Itis believed that this tool couldcorrect one of the greatestanomalies in the Brazilian financialmarket: the fact that good and baddebtors incur practically identicalcosts in their credit operations andthat the only differences appliedbetween them, if any, are related tothe deadlines and amounts involvedin their operations.The time has also come for theCentral Bank to review theextremely tight requirementsimposed on banks in terms ofcompulsory deposits, so as toincrease the availability of resourcesfor private funding purposes. Theguidelines of this policy, which wereestablished in a period of greatinstability, are not justified any longer.


Total primary expenditures wereincreased by 1.3 p.p. of GDP in 2006 – 3.0p.p. in the past three years.

Fiscal PolicyFiscal policy remains the same in 2006: marked increase incurrent spending financed by a higher tax load.

Evolution of total primary expenditures of theEvolution of total primary expenditures of theEvolution of total primary expenditures of theEvolution of total primary expenditures of theEvolution of total primary expenditures of theFederal GovernmentFederal GovernmentFederal GovernmentFederal GovernmentFederal GovernmentTWELVE-MONTH AGGREGATES (% OF GDP)

Source: STN - National Treasury Secretariat/MF - Ministry of Finance

14%

16%

18%

20%

Dec-97 Dec-99 Dec-01 Dec-03 Dec-05

The fiscal adjustment process in2006 was characterized by theusual bad quality, that is, higherspending financed by a higher taxload.

The achievement of fiscal targetshas contributed to preserving astable economic environment and,therefore, to promoting economicgrowth. However, the fiscaladjustment should be improved insuch a way as to enhance the GDPgrowth pace. For this purpose,current public spending in relationto GDP should be reduced,paving the way for a lower taxload and more public and privateinvestments.

The total spending of the FederalGovernment will close 2006 at19.6% of GDP, against 18.2% in2005. In the first ten months ofthis year, expenditures grew mainlyas a result of a higher currentspending. As compared to thesame period in 2005, this spendingincreased by 1.05 percentagepoints of GDP. Investments grewby 0.2 percentage points.

By the end of 2006, the netrevenue of the FederalGovernment will also haveincreased sharply, from 20.9% ofGDP in 2005 to 22.1% in 2006.

Of the total growth of 1.2 p.p. ofGDP, the net collection of taxesand contributions is expected tocontribute 0.4 p. p. The rest willcome from the social securityrevenue (0.4 p.p.), as a result of theincrease in formal jobs and in theincome of workers, and of “otherrevenues” (0.3 p.p.), particularlythose derived from dividends paid

by state-owned financialenterprises.

The bad quality of the fiscaladjustment is also felt in state andmunicipal governments. Therevenue from the main sources ofthese entities of the federationincreased from 13.21% of GDPin the first ten months of 2005 to



Evolution of the net revenue of the Federal GovernmentEvolution of the net revenue of the Federal GovernmentEvolution of the net revenue of the Federal GovernmentEvolution of the net revenue of the Federal GovernmentEvolution of the net revenue of the Federal GovernmentTWELVE-MONTH AGGREGATES (% OF GDP)


To finance increasingexpenditures, the net tax collectionby the Federal Government hasbeen rising, as % of GDP.

14%

16%

18%

20%

22%

24%

Dec-97 Dec-99 Dec-01 Dec-03 Dec-05

13.53% during the same period in2006. Given the primary resultachieved up to October,expenditures might have grown byapproximately 0.5 p.p. of GDPunder the same comparison basis.

The target set for theprimary surplus in 2006was exceeded due toextraordinary revenues

Albeit not ideal, the fiscal policymanagement in 2006 is expected toensure a primary surplus of 4.32%of GDP, exceeding the target of4.25% set for the year. As comparedto 2005, when the primary surplushit the mark of 4.83% of GDP, theexpansionist nature of the fiscalpolicy throughout the year can beclearly perceived.With regard to the favorabledifference between the projectedprimary surplus and the target, itshould be stressed that it will begenerated by regional governmentsand their state enterprises, for which

positive results corresponding to1.18% of GDP are expected. Thatis, 0.08 p.p. above the target of1.10% of GDP defined in the 6thBudget Evaluation Report.

The primary surplus of stategovernment enterprises willprovide a decisive contribution tothis positive difference in relationto the target. We estimate that thesurplus will amount to 0.27% ofGDP in 2006. In this case, therewill be an increase of 0.11 p.p. ofGDP in relation to the result in2005. However, it should bementioned that this increase wasbrought about by shares issued byCesp (Electricity Company of SãoPaulo), which had a positiveimpact of R$ 2.75 billion on theprimary result of state governmententerprises.

At the federal level, the primaryresult of the National Treasury andof the social security system willbe positive by 2.53% of GDP,exceeding the target of 2.34% setfor the year in the 6th Budget

Evaluation Report. This way, it willmake up for the primary surplusof federal government enterprises,which should amount to 0.62% ofGDP – below the 0.81% of GDPtarget. Therefore, the federalcontribution to the primary surplus(3.15% of GDP) will remainwithin the target set for 2006 as aresult of the collection of taxes inarrears (0.1 p.p.) made possible bya new scheme for tax debts to bepaid in instalments.

As a result of a lower primarysurplus, despite a lower spendingwith interest rates, the nominaldeficit is not expected to decreasein relation to 2005, but rather toremain stable at 3.3% of GDP.The continuity of the process ofreducing the Over-Selic interestrate – indexer of 40.6% of thefederal debt in bonds – will play akey role in ensuring this stability.As a result of a lower nominaldeficit and economic growth, thepublic debt in relation to GDP isexpected to fall from 51.5% lastyear to 50.6% in 2006.


FISCAL POLICY

Source: BCB

Composition of the Brazilian Federal Bond Debt, by indexerComposition of the Brazilian Federal Bond Debt, by indexerComposition of the Brazilian Federal Bond Debt, by indexerComposition of the Brazilian Federal Bond Debt, by indexerComposition of the Brazilian Federal Bond Debt, by indexer

During 2006, improvementswere registered in thepublic debt profile: ratios offixed-rate bonds andinflation-indexed bondsgrow.

27%

15%

6%

30%

20%

9%

52%

41%

0%

10%

20%

30%

40%

50%

60%

Selic Fixed-rate Price Indexes Others

2005 2006

Primary surplus in2007 may fall short ofthe target

In 2007, although the FederalAdministration is considering avariety of fiscal measures, we do notexpect to see any of theimprovements we deem necessary interms of fiscal adjustment. Thisrealization stems from the nature ofthe budget bill submitted toCongress. In general lines, the AnnualBudget Bill (PLOA) contemplates anew increase in spending and isbased on an overly optimisticrevenue projection. While the PLOAis based on a real GDP growth of4.75%, our revenue projections arebased on a real GDP increase of3.4% in 2007.We expect the collection of taxesand contributions by the FederalGovernment, as well as the socialsecurity revenue, to have a realgrowth similar to the oneexperienced by GDP. In this regard,one should remember that some tax

reductions have been planned fornext year, such as, for example, thoseprovided for in the General Law forMicro and Small Enterprises.

Based on these assumptions, ourprojections indicate that the netrevenue of the Federal Governmentwill remain at a level of 22.1% ofGDP in 2007.

As for the primary spending of theFederal Government, we expect tosee it grow by 0.32 p.p. of GDP,which would raise it to 19.96% ofGDP. The expectations for the maincomponents of the primaryspending of the FederalGovernment are as follows:

· Staff: total spending of R$117.9 billion, according to thePLOA, which would increase itsparticipation in GDP from 5.2% to5.3% between 2006 and 2007.Besides the impact of salaryreadjustments granted in 2006 to beimplemented in 2007, new civilservants will be hired and positionsfilled – totaling 46.6 thousand.

· Social Security: the realreadjustment of the minimum wagebelow the levels registered in 2006will lead to a lower increase in thesocial security spending, which willincrease from 8.1% of GDP in2006 to 8.2% in 2007.

· Fixed and Capital Costs:expenditures would increase from6.3% to 6.4% of GDP between2006 and 2007. Besides the effectsof the readjustment of theminimum wage on expenditureswith unemployment insurance andsocial security benefits, the PLOAprovides for a nominal raise of7.8% in “other fixed and capitalexpenses” (OCC).

The anticipated nominal growth ofcurrent expenditures (7.6%) inrelation to other fixed and capitalexpenses is lower than the growthof investments, as in 2007 it willexceed the R$ 16.2 billionearmarked in the 2006 PLOA by8.6% (totaling R$ 17.6 billion). Ofthe amount anticipated for 2007, R$4.6 billion (0.21% of GDP) are part



Evolution of the spending withEvolution of the spending withEvolution of the spending withEvolution of the spending withEvolution of the spending withsocial security benefitssocial security benefitssocial security benefitssocial security benefitssocial security benefits(% OF GDP)

The spending with social security benefits has beengrowing steadily in relation to GDP, and in 2006 it willexceed the spending with interest payments – which issomething not seen since 1997.


Note: The figures for 2006 and 2007 were estimated by CNI.

Source: BCB

Note: The figures for 2006 and 2007 were estimated by CNI.

Evolution of the publicEvolution of the publicEvolution of the publicEvolution of the publicEvolution of the publicspending with interestspending with interestspending with interestspending with interestspending with interest

paymentspaymentspaymentspaymentspayments(% OF GDP)

Interest payments by the publicsector in relation to GDP areexpected to drop for the secondconsecutive year in 2007.

5

6

7

8

9

2000 2001 2002 2003 2004 2005 2006 2007

6,06,3

6,56,9

7,1

7,5

8,1 8,2

5

6

7

8

9

10

2000 2001 2002 2003 2004 2005 2006 2007

7,1 7,2

8,5

9,3

7,3

8,17,7

6,5

of the Pilot Investment Project (PPI)and may be excluded from theprimary surplus calculation for thepurpose of ensuring compliancewith the target of 4.25% of GDP.

Given the projections for revenuesand expenditures, we estimate thatthe Federal Government will have aprimary surplus of 2.26% of GDP.In this case, compliance with theprimary surplus target would beconditioned to the exclusion of PPIexpenses from the calculation, whichwould reduce it from 2.45% to2.24% of GDP.

For this not to be necessary, theactual OCC expenditures wouldhave to be shortened of R$ 4.5billion. This figure is feasible, giventhe R$ 97.0 billion earmarked forthese expenses in 2007. However,the cut may very well end up beingmuch larger, as Congress is expectedto raise revenue and budgetspending forecasts.

Because the Federal Governmenthas been inclined to increaseinvestments and they account for aconsiderable percentage ofprogrammable expenses, it is morelikely that expenses will be excluded

from the PPI. Therefore, wereiterate the forecast of a primarysurplus of 2.26% of GDP for theFederal Government.As for the other components of theprimary result of the consolidatedpublic sector, that is, federal stateenterprises and regionalgovernments with their stateenterprises, we believe that thetargets of a surplus of 0.7% and1.10% of GDP, respectively, are

feasible. A consolidated public sectorprimary surplus of 4.06% of GDP isanticipated for 2007.

Therefore, given the expectedreduction in expenditures with interestpayments, there would be a deficit inthe nominal result of 2.5% of GDP.As a result of a lower nominal deficitand the expected GDP growth, thedebt/GDP ratio is expected todecrease to 49.5% of GDP.


Foreign Sector and Exchange rateDevaluation of the US dollar is a worldwide trend; its effects inBrazil are more intense because of the country’s high interestrates and large trade surplus

Source: Central Bank

Exchange rate R$/US$Exchange rate R$/US$Exchange rate R$/US$Exchange rate R$/US$Exchange rate R$/US$AVERAGE DAILY QUOTES

Appreciation of the real loses momentum in thesecond semester of 2006

2,00

2,20

2,40

2,60

2,80

Dec-04 Jun-05 Dec-05 Jun-06 Dec-06

The average exchange rate in theperiod between January andNovember was R$ 2.178 / US$ 1,which constitutes an appreciation of11% in relation to the same periodin 2005. However, this trend seemsto have lost momentum in the lastmonths of the year, although thereare no signs that it will be actuallyreverted. As a matter of fact, theexchange rate between the real andthe US dollar has remained virtuallystable during the past four months.

The appreciation of the Real is notvery likely to be reverted over thenext few months. The decelerationof the US economy and thepersistence of high trade deficitshave been pushing the US dollardown throughout the world. Theonly reason why the effect of thisphenomenon is not more intense isthat various economies have beenbuying dollars in large volumes,including Brazil (the country’sinternational reserves grew from

US$ 53.8 billion in 2005 to US$78.2 billion in 2006 until October).Here, the devaluation of the UScurrency in 2006 was even higherthan in the rest of the world as aresult of two domestic stimuli:high real interest rates and hightrade balances. We expect to see asmall additional appreciation in2006, with the year closing at R$2.15 / US$ 1 (monthly average forDecember). The average in 2006would be R$ 2.18 / US$ 1,constituting an appreciation of10.6% in relation to the average in2005.

In 2007, the US currency coulddevaluate even further in the worldif economies which accumulatedhigh reserves in US dollars –particularly China – sell part oftheir dollars and decide to useanother reserve currency. On theother hand, the domestic stimulifor the Real to appreciate will beless intense next year (lower tradebalance, albeit not much lower,and decreasing real interest rates).

Therefore, we do not believe thatthe current appreciation trend willbe significantly reverted, but ratherthat there will be a smalldevaluation throughout the year,



Profitability stabilized at a low level

Participation of Export Price GainsParticipation of Export Price GainsParticipation of Export Price GainsParticipation of Export Price GainsParticipation of Export Price GainsPERCENTAGE OF TOTAL VALUE GROWTH REGISTERED IN THE YEAR

Price gains are the main factor which ledexports to grow in 2006

* until October

Source: Funcex

23%

36%

57%

72%

0%

20%

40%

60%

80%

100%

2003 2004 2005 2006*

Evolution of the ExportEvolution of the ExportEvolution of the ExportEvolution of the ExportEvolution of the ExportProfitability IndexProfitability IndexProfitability IndexProfitability IndexProfitability Index (AUGUST 1994 = 100)

Source: Funcex

80

90

100

110

Oct-03 Apr-04 Oct-04 Apr-05 Oct-05 Apr-06 Oct-06

2004

20062005

leading the exchange rate to hit themark of R$ 2.25 / US$ 1 by theend of 2007.

Higher export pricesaccount for 70% of theincrease observed inexports in 2006

The exported value this year(January-November) exceededUS$ 125 billion and ourprojections are that the exportedvalue in 2006 will amount to US$137.5 billion, 16% higher than in2005.

Exports continued to growdespite the appreciation of thereal. The prices of sales abroadexplain these record exportfigures, as they helped keeping theprofitability of sales abroad stable.

In the 12 month-period ending inOctober, prices increased by12.4% – accounting for 72% ofthe increase registered in theexported value during that period.On the other hand, the totalexported quantum grew at a muchlower pace than the one observedin previous years. The growthaccumulated in the 12-monthperiod ending in October 2006was limited to 5.3%; in the samemonth in 2005, the growth ratewas 11.6%, and in 2004 it was17.6%.

A strong asymmetry among thedifferent sectors of the economycan also be observed. In 10 of the26 sectors surveyed by Funcex,


FOREIGN SECTOR AND EXCHANGE RATE

Source: Funcex

Quantum of Brazilian ImportsQuantum of Brazilian ImportsQuantum of Brazilian ImportsQuantum of Brazilian ImportsQuantum of Brazilian ImportsMONTHLY GROWTH RATE OF TWELVE-MONTH AGGREGATES (%)

Imports of durables are the main – but not the only –category fostering purchases abroad

0

20

40

60

80

Oct-04 Apr-05 Oct-05 Apr-06 Oct-06

IntermediateCapital goodsDurables

exported volumes dropped in acomparison among the three firstquarters of 2006 and 2005. Theeffect was not stronger in totalexports statistics because in sevenof these sectors price gains werehigher than the reduction in termsof quantities.

Additionally, the effects of theappreciation process which poserisks to maintaining the currentgrowth pace of Brazilian exportsin the future have become moreevident:

a) sectors suffering a decreasingprofitability account for 59% ofthe total exported value (in 12months up to October of thisyear);

b) the quantum of exports tomajor markets, such as the UnitedStates, the European Union, andMexico decreased in thecomparison between the 4 lastquarters and the 4 previous ones;

c) the number of exportingcompanies dropped 10 % (1,715fewer exporting companies)between 2004 and 2006 (figuresaccumulated until October of eachyear);

d) the expansion of sales abroadis increasingly concentrated in afew products. The sales ofpetroleum and its by-products,gross sugar, iron ore, alcohol, andsoybeans account for practicallyhalf of the growth registered inexports in 2006 (data up toOctober). In 2005, twelveproducts accounted for 50% of

this growth in the comparison with2004. In 2004, they were 25products.

Imports have beengrowing in response tothe appreciation of thereal and to a higherdomestic consumption

In 2007, the trend toward a lowergrowth rate of the exportquantum is expected to continue.Economic growth in the world atlarge is still expected to preserveprice gains, which in turn willcontribute toward ensuringpositive results in Brazilian salesabroad. Although the worldgrowth anticipated for 2007 is alittle lower than in 2006(particularly because of the US

economy), the scenario is stillfavorable. As a result, exports in2007 may grow by about 8%,totaling US$ 150 billion by the endof the year.

Brazilian imports grew at a highpace in 2006. Average dailyimports have been growing sinceMay. From January to November,imports totaled US$ 84.1 billion.We expect to see a total of US$ 92billion by the end of 2006, whichrepresent a growth of 25% inrelation to the figure registered in2005.

The growth observed in importsis, to a large extent, determined bythe increase registered in importedvolumes. Taking into account thegrowth rate in the 12-monthperiod ending in October, thequantum grew 14.4%, while prices



After a sharp reduction in 2005, country riskstabilizes at 300-200 points.

EMBI + SPREADEMBI + SPREADEMBI + SPREADEMBI + SPREADEMBI + SPREADBASE POINTS

Source: JP Morgan

0

100

200

300

400

500

600

Jn-

05

Mar

-05

May

-05

Jul-

05

Sep-

05

Nov

-05

-06

-06

-06

-06

-06

-06

a Jn

Mar

May Ju

l

Sep

Nova

increased by only 7.5%. Thisgrowth in imported volumes ismostly explained by the higherpurchasing power associatedwith the appreciation of the real.

The increase in importedvolumes could be felt in allcategories, but it is particularlyintense in durables. BetweenJanuary and October of thisyear, the growth rate registeredfor these goods hit the mark of76.2% as compared to the sameperiod in 2005. This stronggrowth is also explained by theappreciation of the real, but itwas enhanced by the higherpurchasing power of householdsas a result of the recovery oftheir income.

Imports of capital goods in2006 grew by 28% until Octoberand those of intermediate goodsstood out in the second semester.

In this case, purchases increasedfrom 11.8% in the first half ofthe year (in the comparison withthe first half of 2005) to 22.8%in the period between July andOctober.In 2007, the likely continuationof an appreciated exchange rateand greater economic growthwill continue to foster Brazilianpurchases abroad. As a result, weexpect imports to increase by15% in 2007, which would leadtotal purchases to US$ 107 billion.

Positive trade balancedoes not preventdeterioration ofCurrent Accountbalance

The trade balance accumulated inthe 12-month period ending inNovember dropped in relation

to the previous month: fromUS$ 46.3 billion in October toUS$ 45.4 billion in November.We expect the trade balanceaccumulated in 2006 to total US$45.5 billion – only 2% higherthan in 2005.

Since the trade balance has beengrowing at a low rate, itscontribution to the current accountsurplus is not sufficient to curb thedeterioration observed in theServices and Income account –which registered a deficit 9%largerthan in 2005 (January-Octoberaggregates).

As a result, the current accountsurplus (accumulated untilOctober) is US$ 11.6 billion, afigure 2% lower than the oneregistered in the same period in2005. We expect 2006 to closewith a balance of US$ 13 billion,or 1.38% of GDP.Despite the higher deficit in theservices and income account, theperception is that Brazil’s externalvulnerabilities will decrease. Thecountry risk spread oscillatedbetween 300 and 200 pointsduring the year and the averagein 2006, 237 points (until thethird week of December), is40% lower than the averageregistered in 2005.

Based on the assumption of avigorous growth in imports, abovethe pace of exports, and with thereal remaining close to its currentlevel in 2007, the trade balance isexpected to drop to US$ 43billion and the current accountbalance to about US$ 10 billion.


CONFEDERAÇÃO NACIONAL DA INDÚSTRIA - CNICONFEDERAÇÃO NACIONAL DA INDÚSTRIA - CNICONFEDERAÇÃO NACIONAL DA INDÚSTRIA - CNICONFEDERAÇÃO NACIONAL DA INDÚSTRIA - CNICONFEDERAÇÃO NACIONAL DA INDÚSTRIA - CNINANANANANATIONAL CONFEDERATIONAL CONFEDERATIONAL CONFEDERATIONAL CONFEDERATIONAL CONFEDERATION OF INDUSTRTION OF INDUSTRTION OF INDUSTRTION OF INDUSTRTION OF INDUSTRY (CNI)Y (CNI)Y (CNI)Y (CNI)Y (CNI)——————————————————————————————————————————————————————————————————————————————————————————————————————————————————————————————————————————————————————————————————————————————————————————————————————————————————Dez. 2006. ISSN Dez. 2006. ISSN Dez. 2006. ISSN Dez. 2006. ISSN Dez. 2006. ISSN 1676-5486 - Publicação trimestral- Publicação trimestral- Publicação trimestral- Publicação trimestral- Publicação trimestralDec. 2006 ISSN Dec. 2006 ISSN Dec. 2006 ISSN Dec. 2006 ISSN Dec. 2006 ISSN 1676-5486 - Quarterly Publication - Quarterly Publication - Quarterly Publication - Quarterly Publication - Quarterly Publication

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Flávio Pinheiro de Castelo Branco (coordenador) / (coordinator)Luiz Flávio Arreguy Maia FilhoMarcelo Souza AzevedoMário Sérgio Carraro TellesPaulo Mol JúniorRenato da Fonseca

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PROSPECTS FOR THE BRAZILIAN ECONOMY IN 2006 - 2007PROSPECTS FOR THE BRAZILIAN ECONOMY IN 2006 - 2007PROSPECTS FOR THE BRAZILIAN ECONOMY IN 2006 - 2007PROSPECTS FOR THE BRAZILIAN ECONOMY IN 2006 - 2007PROSPECTS FOR THE BRAZILIAN ECONOMY IN 2006 - 2007

2004 20052006

(estimate)2007 (projection)

Economic Activity

GDP 4.9% 2.3% 2.7% 3.4%

(annual variation)

Industrial GDP 6.2% 2.5% 3.0% 4.2%

(annual variation)

Household Consumption 4.1% 3.1% 3.7% 3.7%

(annual variation)

Gross formation of fixed capital 10.9% 1.6% 6.7% 9.2%

(annual variation)

Unemployment Rate 11.5% 9.8% 10.0% 10.0%

(annual average - % of EAP)

Foreign Sector

Exports 96.5 118.3 137.5 150.0

(billion US$)

Imports 62.8 73.6 92.0 107.0

(billion US$)

Trade balance 33.7 44.7 45.5 43.0

(billion US$)

Current account balance 11.7 14.2 13.0 10.0

(billion US$)

Inflation

Inflation 7.60% 5.69% 3.20% 4.0%

(IPCA – annual variation)

Public Accounts

Nominal public deficit

(% of GDP) 2.7 3.3 3.3 2.5

Primary public surplus

(% of GDP) 4.6 4.8 4.3 4.1

Net public debt

(% of GDP) 51.7 51.5 50.6 49.5

Interest Rates

Nominal interest rate

(average annual rate) 16.2% 19.1% 15.2% 12.2%

(end of year) 17.8% 18.0% 13.3% 11.5%

Real interest rate

(average annual rate and defl: IPCA) 8.0% 12.7% 11.6% 7.9%

Ex change Rate

Nominal Exchange Rate - R$/US$

(average in December) 2.71 2.28 2.15 2.25

(average for the year) 2.92 2.43 2.18 2.22

Documents

Economia Brasileira 2006 inglês - Portal da Indústriaarquivos.portaldaindustria.com.br/app/conteudo_24/2012/...2012/12/03 · 2006 B r a z i l i a n E c o n o m y 1 This was another