Brazil's fiscal fiction to foil BRL

Summary

While we retain a modest degree of short-term optimism for the Brazilian real, we have become materially more pessimistic on the long-term outlook for the currency. External factors—such as a less dovish Fed and our view for worsening sentiment toward China—should contribute to a weaker Brazilian currency; however, the intersection of local politics and fiscal policy should be the driving force of BRL underperformance in 2025 and 2026. Local elections reveal that momentum behind Lula is fading, which we believe will lead to aggressive fiscal resource deployment from the current administration in an effort to gather support ahead of 2026 presidential and congressional elections. Our prior outlook baked in election-related fiscal stimulus; however, given poor results in municipal elections we now believe Lula will deliver fiscal stimulus much earlier and more often than originally anticipated. While near-term headlines may indicate Lula attempting to exercise fiscal discipline, we ultimately believe those efforts will prove to be insufficient, temporary, and not enough to change the fiscal narrative in Brazil. In our view, these fiscal concerns will be reflected in a Brazilian real that consistently hits new lows against the U.S. dollar over the course of 2025 and into 2026.

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