The Central Bank’s Economic Activity Index (IBC-Br), a preliminary indicator of GDP, surprised the market with a growth of 0.80% in September compared to the previous month. The forecasts in the Focus Bulletin of January of this year predicted growth of only 1.6% in 2024. Still, it predicts a value slightly higher than the 3.00% accumulated in the last 12 months.

But how is this possible in an environment of instability, with the credibility of fiscal and monetary policies shaken and the dollar and future interest rates on the rise? For many, the scenario should already point to a recession. After all, why hasn’t this happened yet?

First, the full impact of the Selic hike should only reach the economy in 2025 due to the gradual nature of monetary policy transmission. When the Central Bank raises the Selic rate, it creates a chain reaction that influences borrowing costs, consumer behavior, business investment, and inflation expectations. These effects unfold over time as they rely on adjustments in financial contracts, market dynamics changes, and economic behavior shifts.

Higher interest rates directly increase the cost of borrowing for businesses and consumers. For companies, this often results in a reduction in investment, as the higher cost of capital makes expansion projects less attractive. Households, in turn, face higher monthly payments on credit cards, loans, and mortgages, which curtails their discretionary spending. However, many existing financial commitments are based on fixed rates or long-term agreements, meaning the impact of rate hikes is not felt instantly but rather as these contracts are renegotiated or new ones are signed.

The process is further slowed by the time that businesses and consumers adjust their expectations and behaviors. Decisions to scale back investments or cut spending often occur gradually as companies and households evaluate the broader economic environment. Empirical evidence suggests that the strongest effects of a monetary policy change on economic output typically take 12 to 24 months to materialize. In the case of recent Selic rate hikes, their full influence on production, employment, and consumption is expected to be most evident by 2025.

Second, the potential for an economic crisis may be postponed thanks to the strong influence of international commodity prices on short-term growth in Brazil. Since 2004, the correlation between the IBC-Br and the World Bank’s commodity price index has been approximately 66%! Historically, crises such as 2008, the period of former President Dilma, and the pandemic have been accompanied by falls in commodity prices. Although correlation is not the same as causation, Brazil, as a small open economy, seems to experience a direct relationship between commodity cycles and its own economic cycle.

Many still believe that the influence of commodities is limited to the trade balance, but their impact is much broader. In high commodity prices, domestic demand strengthens, while in periods of decline, this demand contracts. Some studies indicate that shocks in commodity prices affect investment and consumption even more intensely than exports. As a result, Brazilian GDP is strongly influenced by global movements in commodity prices: when they rise, Brazil grows; When they fall, the country faces crises.

The surprising 2024 growth figures seem to reflect a slight recovery in commodity prices after a post-pandemic period of decline. This keeps Brazil temporarily away from a looming economic crisis — which seems to be more a case of luck than judgment, especially given the uncertainties about fiscal and monetary policies.

However, without a solid effort of regulatory and fiscal policies that stimulate the product on the supply side (reducing the current interventionism), all the ingredients for a crisis are unfortunately still present. The fall in commodity prices would perhaps be the last trigger for this.

The Rivool Finance Market Review for 2024 is available at this link: https://dub.sh/rivool-mr24

Cristiano Oliveira — Head of Research at Rivool Finance