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Rousseff Coup Could Sink Brazil, Emerging Markets

Submitted by Shock Exchange

Rousseff Coup Could Sink Brazil, Emerging Markets

Brazil's President Dilma Rousseff's approval rating has plummeted to 8% amid the country's worst recession in two decades. Her job is at risk too. Earlier this week opponents filed a petition to impeach Rousseff due to allegations of corruption by former president Luiz Inacio Lula da Silva at oil giant Petrobras of nearly $2 billion:

This week opponents of Ms Rousseff, incensed by allegations that "pixulecos" mostly involving ruling coalition politicians have cost Petrobras at least R$6bn (US$1.5bn), took their campaign to congress by filing a petition for impeachment with the speaker of the lower house Eduardo Cunha ... The petition from Mr [Helio] Bicudo, which was backed by the opposition in congress, marks the start of what could be a long process to try to topple the former Marxist guerrilla only nine months into her second four-year term.

Rousseff - hand-picked by Lula da Silva to succeed him - appears to be caught up in da Silva's backdraft. Opposition parties also claim she violated Brazil's fiscal responsibility law when she doctored government accounts to allow more public spending prior to the October election last year. Rousseff in turn described the attempt to use Brazil's economic crisis as an opportunity to seize power a modern day coup.

Inopportune Time For A Coup

Petrobras In Dire Straits

Political turmoil could not have come at a worst time. The Petrobras debacle has been a point of contention for the populace. While the elite profited from bribes and kickbacks at the state-owned oil giant, Petrobras is laying off workers and cutting supplier contracts in order to stem cash burn.

And those efforts may still not be enough to stave off bankruptcy. With $134 billion in debt - $90 billion of it dollar-denominated - Petrobras is the world's most-indebted oil company. With oil prices 60% below their Q2 2014 peak, Petrobras will likely crumble under its debt load.

Budget Requires All Hands On Deck

Brazil's fiscal picture is not much better. The economy contracted nearly 2% in Q2 and the Brazilian real has depreciated against the U.S. dollar by nearly 40% over the past year. That said, the country will find it difficult to grow revenues amid declining commodities prices. Including interest payments, the country's budget deficit was projected to grow to 8%-9% of GDP, prompting S&P to downgrade the Brazil to junk status:


Source: The Economist

Brazil finance minister, Joaquin Levy, immediately did an about face; Levy put forth an austerity plan that suggested a R$65 billion mix of cuts and tax increases could generate a 0.7 percent surplus in 2016. The revival of the CPMF tax on financial transactions is expected to raise about R$32 billion, while healthcare, agriculture subsidies, low-income housing programs and infrastructure are expected to bear the brunt of the cost cuts.

The market reacted positively to the austerity plan - the Brazilian real rallied briefly after it was announced. However, Rousseff will need political capital to get the austerity plan approved by congress and supported by the populace. Any delays could prompt Fitch and Moody's to also downgrade Brazil to junk status. An impeachment of Rousseff would probably cause all three rating agencies to move; such act would surely cause more capital flight and pressure the currency further.

Why Brazil Matters

Brazil is a country of interest due to its bellwether status for emerging markets and its $300 billion in dollar-denominated debt.

If Brazil goes, other emerging markets could also get hit. A free fall in the Brazilian real could trigger defaults if dollar-denominated debt becomes too burdensome for Petrobras and others. Such defaults could leak into global bond funds, trigger margin calls or derivatives defaults for counterparties. According to hedge fund giant Bridgewater Associates, the impact is considered unknowable, which could cause a selloff in global markets until the risk is contained. Investors should avoid Brazil and the U.S. stock market due to the risk of a coup or protracted impeachment process.