O Trumpinho: Little to get excited about

The backdrop of Brazil’s election on 7 October is defined by the corruption of the entire political establishment and a period of swingeing economic decline. Both have led Brazil’s electorate to be amongst the most divided and dissatisfied in the country’s history.

It is no surprise therefore that populism is thriving in Latin America’s largest democracy. The first round of the presidential election will probably see the far-right populist Jair Bolsanaro – or ‘O Trumpinho’ as he’s becoming known locally - and Fernando Haddad, the candidate from the disgraced, left-wing Workers’ party taken through.

The second round will be close. Bolsanaro has the highest rejection rate of any of the candidates and is deeply unpopular amongst the many minority groups, not to mention the 52% of the population which is female, that he’s made a career out of offending.

Meanwhile, Haddad represents the Workers’ party which has dominated Brazilian politics for so long and whose credibility has been destroyed by wind ranging corruption investigations in recent years.

But the second round of Brazilian presidential elections are largely defined by a decision about who voters don’t want to be president, than who they do want. On this calculus, voters are likely to reject Haddad as the face of the status quo and opt for the promise of radical change under Bolsanaro.

Bolsanaro is certainly the more market friendly of the two candidates. This is not so much because of the strength of his policies (he openly admits to knowing little about economics) but because he is not Haddad. For both foreign and local investors the difference between the candidates comes down to two issues: pension reform and privatisation.

Pension reforms are absolutely critical to Brazil’s fiscal health. A cap on spending means that the ever increasing costs of pensions are becoming gradually less and less affordable. The incoming President will quite simply run out of money unless pension costs come down. Yet, Haddad has promised to scrap the reforms that current President Temer has brought in. This is unwise.

Similarly, Haddad has vowed to do away with the programme of privatisations that President Temer has established. This is just as unwise. Brazil has a big stock of debt and privatising state assets is the simplest way for the government to avoid paying those debts. Pension reform is such a vital issue that either candidate will probably be forced to do something. But what’s clear at this stage is that Bolsanaro will go further on pensions and privatisation, than Haddad.

Both foreign and local investors have very light positions in Brazilian debt as the first round approaches. This is reflected in the trading of futures contracts which have been steadily declining.

If Bolsanaro wins then we should see a reverse in that trend with a relief rally in Brazilian assets. This is not dissimilar to what happened around the Mexican Presidential election when the investors realised that populist Andrés Manuel López Obrador was not going to be as negative for the economy as they had feared.

One key man for Bolsanaro is Paulo Guedes. He is a former banker who is making Bolsanaro economic literate and who is behind the pension reform and privatisation plans. If Guedes can get on his agenda going quickly then the risk premium on Brazilian assets will start to come down and we should see a resumption of local investment that has been largely moribund since 2012.

But it will not be easy. Neither candidate will enjoy a strong mandate and Bolsanaro faces the prospect of a lot of horse trading to get the support he needs in Congress for swift action on pension reform. It will be made more challenging by the fact that the greasing of fellow politicians palms is, thankfully, much harder to do now than in the past. If Guedes’s agenda gets frustrated and he quits - a distinct possibility given he shares little in terms of political ideology with his boss - then Bolsanaro’s populist gloves will really come off. Without a clear economic plan, he is likely to revert back to his deeply socially conservative self. This would mark yet another low point in a particularly inauspicious period for Brazil. Hope for reform but don’t expect it. Aberdeen Standard Investments Head of Emerging Market Sovereign Debt Edwin Gutierrez.