Lula's fiscal promises meet market skepticism as Brazil prices stagflation scenario

Markets opened Monday digesting a contradiction that defines Brazil's economic moment: a reelected Lula delivered his first nationwide address promising fiscal responsibility, but without announcing a single concrete measure — and investors, who had already been pricing in precisely this ambiguity, kept their skepticism intact. The Ibovespa closed last week at 168,498 points, gaining just 1.39% on Friday after plunging 18.12% the previous week — the most brutal repricing of Brazilian assets in years. The dollar ended Friday's session at R$5.511, the year's high, also boosted by stronger-than-expected U.S. jobs data that reinforced the view that the Federal Reserve will keep rates elevated for longer.

What the market is pricing in is not merely Lula's reelection. It is a structurally more adverse scenario for 2027 — a combination of rising inflation, rates that won't come down, and activity decelerating sharply. Bradesco and XP sharply revised their projections this week, now forecasting inflation well above expectations and virtually zero growth next year. Itaú, BTG Pactual, and XP already project the Selic at 13.75% throughout all of 2027, and interest rate futures have started to price in even a 0.25 percentage point hike at the January Copom meeting — a complete reversal of the monetary easing narrative that had dominated recent months. The central bank, which last week interrupted its cycle of five consecutive cuts citing "significant increase in uncertainties," may now find itself facing an even more thankless scenario: being forced to live with slow reinflation while activity loses traction.

The inflationary shocks accumulating on the horizon are multiple and simultaneous. The weaker exchange rate pressures prices of tradable goods. The regulation ending the 6x1 work schedule — whose decree is expected to be published this Monday — adds labor costs to an economy already operating with limited idle capacity. The super El Niño threatens agricultural output. And the tax reform, whose implementation begins in January with CBS and IBS, faces alarming unpreparedness: just 9.1% of the country's accounting professionals say they have transition plans in place, according to a recent survey. The Federal Audit Court (TCU) calculated the CBS reference rate at 11.3% — a number that caught even the Senate rapporteur on the matter, Eduardo Braga, by surprise, and triggered an immediate reaction from business sectors concerned about the impact on consumer prices.

The deterioration in expectations is also reflected in the structure of public debt. In just twelve months, Selic-linked securities have doubled their share of the federal domestic debt stock — a clear sign that investors refuse to take duration risk in an environment of such fiscal uncertainty. The National Treasury, according to its own fiscal risk reports, projects that gross debt will only stop growing in 2030, reaching 86.3% of GDP by 2036. With financial charges exceeding R$1.1 trillion over the last twelve months, the room for hesitation is, in Valor Econômico's assessment, "scant or nonexistent."

In this context, the uncertainty over who will head the Finance Ministry in the next term has itself become a risk factor. Lula is repeating the 2022 script, leaving the market in suspense while names such as Rafael Fonteles, Dario Durigan, and a possible reappointment of Fernando Haddad circulate in the betting. The expectation among fund managers, according to Vinland's chief economist Aurélio Bicalho, is that the new minister will simply "not make things worse." Vinland is positioned long dollar and invested in Colombian rates — a position that precisely captures how the most sophisticated managers view Brazil at this moment.

Flávio Bolsonaro's defeat frustrated one of the main bets in the domestic equities market. Small caps, which would have benefited from a scenario of falling rates and lower fiscal risk perception under a more economically liberal government, now face the worst of all worlds: Selic flat or rising, weaker currency, and growing fiscal risk. Lojas Renner has already withdrawn all revenue growth projections through 2030, citing economic uncertainty and competition from international platforms. Fashion retailers, in turn, are pressing the government to revise the end of the exemption on low-value international purchases — the so-called "blouse tax" — attributing to the measure the drop in sector employment on the eve of Black Friday and Christmas.

Amid all this, one counterintuitive data point: October's trade balance posted a US$9.3 billion surplus, up 39.4% from October 2025 and a record for the month, driven by oil exports that more than doubled. The government took advantage of the moment to extend through December 31 the 12% tax on crude oil exports — a revenue source the Treasury clearly cannot forgo. But the trade surplus, in this case, is less a sign of competitive strength than a reflection of a decelerating domestic economy that imports less. In the natural gas sector, tensions between the regulator and operators reached a breaking point this week: NTS, owned by Brookfield, decided to take ANP to court challenging the tariff review methodology, which the company says assigns zero value to older pipelines. Both NTS and TAG, controlled by Engie and La Caisse, announced the suspension of new investments — a signal that, if maintained, will have direct effects on the country's energy security.

On the regional front, the Ueno Bank crisis in Paraguay took on larger dimensions with the revelation that the Paraguayan side of Itaipu held nearly R$1 billion at the institution liquidated by that country's central bank, and that the pension fund of the dam's Paraguayan workers held another R$86 million deposited at the same institution. The crisis has already dampened Brazilian entrepreneurs' interest in investing in Paraguay — a movement that had precisely intensified after Lula's reelection — and, according to experts heard by Valor Econômico, imposes limits on the Mercosur agenda at a moment when the agreement with the European Union could represent a positive vector for the region.

What to watch in the coming days is specific and urgent: the composition of the economic team for Lula's fourth term, which will define the credibility of the fiscal commitment announced without substance in Sunday's address; the Senate public hearings on the CBS rate, which may or may not confirm the 11.3% calculated by the TCU; and the third-quarter results from Magazine Luiza, JBS, and TIM, which this week should provide the most accurate reading of the real state of consumption and corporate credit in Brazil.

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