You may know him from his economics blog or his lively bilingual Twitter feed, but you may not know the man behind The Drunkeynesian. A 32-year-old paulistano, Luciano Sobral is a Brazil-based economist with an impressive resumé and online presence. I picked his brain on a number of issues, and he explained his thoughts on the outlook for the Brazilian economy. He had some interesting perspectives on Brazil's interest rates and inflation rates, as well as his take on Brazil's growth. Have a read below.
Tell me about your work as an economist and what you're up to now.
I became an economist almost by accident. When I started working with financial markets, I was a chemical engineering student. I didn’t like most of the subjects and was pretty convinced I had to drop out, but didn’t have any idea of what to do next. After a year of working at the treasury department of a big European bank, I changed to economics. During the first term of the new course, I was lucky to have an excellent and very inspirational professor in an introduction to the history of economic thought, and his classes and readings convinced me that I was on the right track. A couple of years later, I changed from treasury to economic research and became responsible for covering global economics for Brazilian clients and local markets (FX and interest rates) to foreign clients, which was a great way to learn how to look at the bigger picture and express ideas.
In 2007, I (finally) finished college and was invited to join a brand new investment management company, where I’m still working, now as a partner. My job today mostly consists of finding trading opportunities for a global macro fund focused in liquid markets (interest rates, equities, FX, and commodities). It’s an exciting challenge for an economist: you have to unlearn a great deal of what you were taught in the college and learn how to be flexible, non-dogmatic, eclectic, patient, curious, humble, and disciplined. I see financial markets as a huge laboratory, where your convictions and biases are tested continuously, in real time.
Parallel to that, in 2007 I also started blogging. The initial intention was to fill a vacuum I perceived between what went to the local press and some of the most sophisticated aspects of the markets and economics, trying to make myself understandable to the lay but interested reader. Blogging was quite sporadic until May 2009, when I managed to start a routine of almost daily posts that I've kept until now. My blog and Twitter account are both great fun and very useful work tools. It’s nice to keep a log of readings and ideas; it helps a lot in keeping you intellectually honest and identifying your hits and misses. On top of that, I was lucky to gather some very nice readers, with whom I keep a continuing and helpful dialogue.
Apart from my job and personal blog, I’m currently blogging for Global Economic Symposium, a big conference taking place in Rio in October. I'm also obsessively following the Olympics and looking forward to visiting Iceland and Norway on my next holiday in September.
What's your outlook for the Brazilian economy through the end of 2012?
I think the most important thing to watch until the end of the year (locally, if the European Union doesn’t fall apart and if China doesn’t crash--two big “ifs”) are the consequences, both in economic activity and inflation, of the huge paradigm change in the level of interest rates and the conduction of monetary policy. A large share of the market is still not yet convinced that Brazil can live with the current level of interest rates and believe inflation will surge as soon as growth resumes. I think the relationship between interest rates and inflation in Brazil is quite elusive. Whether annual inflation reaches the desired target or not (4.5 percent in the calendar year) is largely defined by factors the Central Bank can’t control, such as commodity prices, wage negotiations, and indexation of contracts. In this sense, I think a likely scenario is one of raising inflation (since food prices rose sharply and non-tradable prices are sticky), the Central Bank keeping interest rates at historically low levels (it may raise the policy rate a bit), and the government trying to curb inflation cutting some taxes and restructuring the way past inflation affects the renegotiation of some contracts, mainly rent and utilities. Some will compare these measures to Argentina-style manipulation, but I don’t agree. It’s the right thing to do looking beyond a period of few months: it attacks part of the roots of structurally high inflation. It’s the kind of risk I think is worth being taken: if the plan works, Brazil will finally have interest rates comparable to the rest of the world and will be on the right track to lower inflation over the medium/long term. If not, we know the path of orthodox interest rate shocks well.
What is really worrying me is the relationship between growth, company profits, and wages. We’re in a situation where growth is null or very weak (there’s little time to a recover until the end of the year), most companies stopped making money, wages continue to grow in real terms (part of a deliberate income distribution policy based on a continuing rise of the minimum wage, which is adjusted annually according to past inflation and GDP growth) and the government is forcing some large companies such as automakers not to fire workers. This is leading to a massive squeeze in profit margins, killing the “animal spirits” that drive private investment. I’m not totally against the government intervening in the economy, but currently its hand is too heavy in Brazil. It should concentrate on creating positive externalities to companies, investing in infrastructure and education, and simplifying labor and tax laws.
What's your take on the latest measures from Dilma's administration to stimulate the economy?
Paraphrasing a late Brazilian economist, among Dilma team’s ideas there are some good and new ideas. Trouble is the good ideas are not new, and new ideas are not good. Broadly speaking, I like the tax cuts, don’t like the way public banks are being used to concede subsidized credit to huge and not very innovative companies and to force a tightening in credit spreads. I’d rather focus on infrastructure and education spending than intervene in the financial system. Most of the current spending plans are either innocuous (too small and specific to make any difference on aggregate growth) or related to the upcoming World Cup and Olympics. It may be nice and attractive to build huge sporting venues, but we can’t forget facts such as: our education system is one of the worst in the world given our income level and half of the homes in the country don’t have adequate sewerage. Too little is being done to address these and other fundamental problems.
What do you think is Brazil's biggest weakness to try to fight off the effects of the eurozone crisis? Its biggest advantage?
One weakness directly related to the eurozone crisis is the huge amount of money European companies have invested in Brazil. Though unlikely now, I can imagine a situation where European companies see themselves forced to repatriate money, and this can potentially damage Brazil's foreign reserves. Another weakness this not exclusive to Brazil is the dangerous idea that is possible to eliminate or control business cycles--that it’s just a matter of government will. This leads to hyperactivism and all sorts of unintended consequences and wrong incentives. Governments should let markets correct themselves. Bad investment decisions should be confronted with the reality and, occasionally, be punished. Unfortunately this vision is the total opposite to the spirit of our times, and I think Brazil will not act differently from the rest of the world.
A particular aspect of government hyperactivism in Brazil is the influence of the state in the labor market I mentioned above: companies which were helped with loans from the development bank (BNDES) and tax cuts suffer from huge government pressure to not fire workers. I see at least a couple of problems emerging from this. First, adjustments in labor market and inflation are slowed. Second, workers become divided in two classes: those with somewhat secure jobs and those who have to compete in the market.
Brazil’s biggest advantage is its closed economy--its ratio trade flow / GDP is among the lowest in the world. This makes exchange rate adjustment quite painful, but once it’s done, the hit to domestic activity from a plunge in global trade is much less severe than in other emerging countries. Another positive aspect is that Brazil now finances almost all its budget deficit in local markets, and the outstanding amount of sovereign dollar denominated debt is negligible (plus we have a decent stock of reserves in foreign currency--not as large as it appears to be, given the huge external private liabilities). Fiscal accounts are not brilliant, but looking at the rest of the world, Brazil looks like a stronghold of austerity.
What is the one thing (if any) that foreign economists don't understand about Brazil?
It’s hard to generalize; some foreign economists understand Brazil much better than many of my native colleagues. That said, one aspect often misunderstood--and we can partially put the blame on the “BRICs-mania”--is that Brazil is no longer a high growth country, at least not at the same league as India and China. China is now reaching the level of GDP per capita Brazil had in the late 1970s, after its own period of very strong growth (the years of the “economic miracle”); and India is much poorer, thus with more potential of large periods at a fast pace of growth. I see no evidence to believe Brazil’s potential growth is anything above the average of the past 10 years (around 3.8 percent per year). This was a period of a commodities boom and improving terms of trade that seems to be over (or at least halted). The commodities and global growth bonanza may be compensated by the larger investment rate, but I’m still not convinced net effects will be positive over the coming years.
Another misconception is that Brazil, at current prices, offers high rates of return for investment. Brazil remains an expensive country (less than a year ago, but still expensive), the exchange rate is still overvalued, and interest rates already moved down a lot, so the potential for asset appreciation is much lower than it used to be. Huge foreign flows entered the country at an exchange rate below 2 reais per U.S. dollar and the illusion the country could grow at 5 percent for several years; it’s very likely the expectation of returns on these investments will be frustrated. One must be very selective to make good investments in Brazil today. The days when the improving macro environment compensated less sound or poorly researched decisions are definitely over.
Photo: C Melo