Brazil Currency, Stocks Tumble As Former President Lula Accepts Cabinet Position

Update: Confusion abounds as the government is now said to delay Lula’s appointment after Senator Delcidio Amaral’s plea bargain. According to Veja, Rousseff’s former chief of staff Aloizio Mercadante allegedly offered financial, political and legal aid in exchange for Amaral’s silence.

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Just yesterday, we showed you Brazil’s stagflationary nightmare in one simple chart.

Here’s the amusing (or depressing, depending on if you’re a Brazilian) graphic:

Just last week, the BRL was riding high on news that former President Luiz Inácio Lula da Silva was detained in connection with money laundering. He was then charged with corruption by state prosecutors.

The scrutiny on Lula – who founded the Worker’s Party and handpicked his successor, current President Dilma Rousseff – triggered violent street protests in front of his home where supporters and detractors came to blows.

But the market hoped his arrest and possible prosecution would give momentum to the effort to impeach Rousseff, who has presided this year and last over a disastrous turn in the Brazilian economy where unemployment has spiked above 10%, inflation has soared into the double digits, and output has collapsed, in a veritable “worst nightmare” scenario.

The impeachment bid rests on the idea that Rousseff cooked the fiscal books in 2014, but the fact that Lula was under fire seemed to suggest that the sweeping investigation into corruption at Petrobras could be getting closer to the President’s doorstep. Were she implicated in the Carwash probe on top of allegations she fudged the government’s books, the outlook for her presidency would darken considerably and that, market participants assumed, would be a boon for the beleaguered BRL, for Brazilian risk assets, and for the economy in general.

Well, no such luck.

In a dramatic turn of events, Rousseff invited Lula to accept a ministry post yesterday. Initially, reports indicated he would resist the idea of accepting, but that soon changed. Earlier today, Lula informed several party members that he has decided to accept according to Globo columnist Lauro Jardim. That is bad news for the BRL (which has nearly retraced the entirety of the Lula detention gains) and for Brazilian stocks:

Why is this so bad – besides the fact that it may insulate Lula just as a Sao Paulo state judge said a decision on his arrest should fall to federal judge Sergio Moro – you ask? Because apparently, the former President wants free rein over the economy and that could jeopardize the reform bid.

“Lula in a ministry could give Rousseff short-term survival,” Camila Abdelmalack, chief-economist at CM Capital told Bloomberg over the phone. “The market knows that Lula advocates for stimulus measures and his Workers Party defends the usage of international reserves.”

As we noted on Monday, if Brazil uses its reserves to finance infrastructure projects, they could end up jeopardizing the country’s ability to service its debt and that, in turn, could trigger capital outflows. Here are two more bullets which should give you an idea of why the market is concerned:

Lulaconsiders it fundamental thatBrazil has a new economic policy, but wouldn’t replace FinMin Barbosa right away: Folha
Former president sees redirecting economic policy as needed to rebuild the govt’s social support base: Estado

And so, just like, whatever hope there was for the BCB to fight inflation and for the government to get a hold on its fiscal problems just went out the window as perhaps, did the bid to impeach Rousseff.

Of course this move will only anger the opposition and possibly the millions who took to the streets last weekend to call for change. Or, as CM’s Abdelmalack puts it, those opposed may see this as an opportunity to “aim at one to catch two.”