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Banking Industry Country Risk Assessment: Brazil


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Banking Industry Country Risk Assessment: Brazil

Major Factors


S&P Global Ratings classifies the banking sector of Brazil in group '6' under its Banking Industry Country Risk Assessment (BICRA). Other countries in group '6' include China, Colombia, Portugal, Thailand, Trinidad & Tobago, South Africa, and Uruguay (see chart 1). Our bank criteria use our BICRA economic risk and industry risk scores to determine a bank's anchor, the starting point in assigning an issuer credit rating. The anchor for banks operating only in Brazil is 'bb+'.

In our opinion, Brazil's low-income levels and the government's weak fiscal position constrain the country's economic resilience. On the other hand, the government's reform momentum preceding the COVID-19 pandemic will likely take a step back, at least temporarily, as fiscal efforts are concentrated on supporting workers and companies most severely affected by the downturn. We expect GDP to contract 4.6% this year and grow 3.3% in 2021. This will add pressure to the already fragile corporate and consumer sector.

Our industry risk assessment for Brazil reflects its well-developed financial regulation that's broadly in line with international standards, and the regulator's good track record that has helped the Brazilian financial system withstand the last economic downturn. Moreover, the central bank and government have introduced a number of measures to mitigate the impact of economic contraction on the financial system. On the other hand, the Brazilian banking system has an adequate funding mix with a large and stable core customer deposit base, which helps banks cope with the temporary disruption in global capital markets.

Chart 1


Economic And Industry Risk Trends

Our economic risk trend is stable, which reflects our expectation that credit losses will remain manageable. This is owing to banks' still high margins and conservative growth strategies in the past two years that focused on granting payroll deductible loans to government employees, mortgages with conservative loan-to-value (LTV) ratios, and corporate loans with stronger guarantees. These factors will enable the Brazilian banking system to mitigate the impact of the economic contraction on its credit portfolio until economic conditions improve in 2021. We could revise the trend to negative if prospects for economic growth in 2021 diminish due to political pressures or challenges to re-open the economy due to a persistent spread of the pandemic.

We view the industry risk trend as stable. We expect the Brazilian financial system's funding structure and competitive dynamics to remain healthy and that Brazil's central bank (BACEN) will continue introducing regulation in a proactive matter to mitigate the sharp economic downturn's impact on the financial system.

Economic Risk  |  7

We base our economic risk score for Brazil on our assessment of economic resilience, economic imbalances, and credit risk in the economy, all of which our criteria define.

Economic resilience: Low-income levels and government's weak fiscal position but strong commitment on introducing structural reforms

Economic structure and stability.   COVID-19 will cause a shock to Brazil's economy in 2020. The impact of containment measures, lower investor confidence, and financial market volatility will likely constrain consumption and investment. In addition, exports will fall, given that 37% were destined to China and the U.S. in 2019. We project Brazil's economy will contract 4.6%, compared with the growth of 1% in 2019. At this point, we evaluate the pandemic-induced shock as temporary and without negative long-term consequences on the Brazilian economy. We expect GDP to growth to accelerate to 3.3% in 2021 largely due to a statistical effect. Brazil's growth prospects have been below those of other countries at a similar stage of economic development, in our view. We expect GDP per capita of $7,280 for 2020.

Brazil's fiscal vulnerability poses a challenge for the government in designing measures to minimize the effects of the pandemic. The declaration of public emergency allows for the temporary suspension of the primary fiscal target. The authorities announced a package of fiscal measures adding up to 3.5% of GDP, a large share corresponding to reallocations in the 2020 budget. Compared with the responses of other emerging markets, that of the Brazilian government is seen as significant.

The package includes temporary income support to vulnerable households, temporary tax breaks, credit lines for firms to protect jobs, lower taxes and import levies on essential medical supplies, and new transfers from the federal to state governments to support higher health spending and as a cushion against the expected fall in revenues. The central government will also provide support to local governments with a temporary suspension of debt payments to the central government, debt renegotiation with state-owned banks, and support for credit operations through government guarantees. In addition, legislators introduced a constitutional amendment to implement a temporary war time budget. All spending related to the COVID-19 pandemic would be separate from the rest of the budget, which would allow the government to comply with the spending cap.

Macroeconomic policy flexibility.   We expect the fiscal deficit and debt figures to deteriorate throughout 2020, driven by higher spending. Revenues would also decline due to economic contraction, tax relief related to COVID-19, and declining oil royalties because of low crude oil prices.

In the near term, structural reforms will take a back seat as Congress will focus on measures containing the pandemic. Afterwards, we expect the administration to implement consolidation measures to reduce the large fiscal deficit, although risks of delays are significant. Moreover, a potentially more divisive political environment could harm the government's capacity to build effective alliances in Congress to advance its reform agenda during the remainder of the administration. Since its start, the administration of President Jair Bolsonaro has pursued policies and structural reforms aimed at strengthening Brazil's fiscal accounts and encouraging greater private-sector participation in the economy. Although the executive can't rely on a solid coalition in Brazil's fragmented Congress, legislators have nonetheless shown broad support to implement needed fiscal and economic reforms, as demonstrated by the passage of pension reform in October 2019.

The list of reforms envisaged before the COVID-19 outbreak was extensive and included bills to control mandatory spending, simplify the tax system, and reduce the role of the state in the economy, as well as policies to increase financial intermediation and the formal autonomy of the central bank. Progress on aspects of this agenda has been delayed because of different political and social concerns. Recently, the president's relationship with Congress, which has been strained since he assumed office, has deteriorated further. We now believe the government might face more challenges in advancing the rest of the economic and fiscal agenda, in particular because several of the reforms require constitutional amendments, a critical and very particular condition of Brazil's institutional framework.

Table 1

BICRA Brazil--Economic Resilience
(%) 2015 2016 2017 2018 2019 2020f 2021f
Nominal GDP (bil. $) 1,802.2 1,795.1 2,062.8 1,885.5 1,839.8 1,461.2 1,598.2
Per capita GDP ($) 8,804.9 8,698.4 9,915.6 8,992.4 8,709.1 6,868.6 7,463.1
Real GDP growth (%) (3.5) (3.3) 1.3 1.3 1.1 (4.6) 3.3
Inflation (CPI) rate (%) 9.0 8.7 3.4 3.7 3.7 3.3 3.8
Monetary policy steering rate (%) 14.3 13.8 7.0 6.5 4.5 4.5 5.0
Net general government debt as % of GDP 49.7 52.4 56.5 57.4 55.3 68.7 72.1
f--Forecast. GDP--Gross domestic product. CPI--Consumer price index. Source: S&P Global Ratings.
Economic imbalances: Asset quality under pressure as coronavirus outbreak hits trade

We expect pressure on banks' asset quality to surge with nonperforming assets (NPAs) to total loans reaching 3.6% in 2020 and 4.1% in 2021, and loan growth to slow as the coronavirus outbreak hits trade, corporate demand for credit, and consumer banking. As public health crisis disrupts production and the plunge in consumption interrupts the payment chain, some companies and individual borrowers will have difficulty with debt repayment, but the regulatory measures will mitigate this risk. However, the extension of the quarantine will determine the degree of detriment to asset quality. We expect small- to mid-size enterprises (SMEs) and self-employed workers, who have limited means to cope with a sudden stop in cash flows, to suffer the most.

Lending growth among Brazil's largest banks reached around 13% year over year in the first quarter of 2020. This was the first time large banks had posted double-digit growth on aggregate since 2015. This was mostly due to the rising volume of corporate loans as companies seek to strengthen working capital cash positions amid the pandemic. Banks, on the other hand, had regulatory incentives to increase lending, given that the central bank approved many measures to increase funding and capital availability through lower reserve deposits and capital requirements. Another important regulatory measure enabled banks to renegotiate existing loans for up to six months without requiring additional provisions that helped maintain the loan portfolio. Retail lending, on the other hand, posted modest growth as demand for some products such as mortgages, credit cards, and auto loans vehicles decreased.

Chart 2


Chart 3


Real estate prices.  House prices have been declining since 2014 due to recession, and we expect their recovery to take longer due to the virus-induced economic contraction. The share of mortgages as a percentage of total loans rose during the past few years, as banks focused on low-risk products. However, mortgages account for 18% of total lending as of April 2020. On the other hand, we don't expect asset quality of mortgages to deteriorate because underwriting standards have been adequate over the past few years. LTVs have averaged 61.8% as of June 2019, with a very limited presence of home equity loans and no subprime lending. In addition, Caixa Economica Federal (Caixa; BB-/Stable/B) holds 73.25% of total mortgages as of December 2019.

Equity prices.   In our view, the fluctuations in equity prices don't indicate higher economic imbalances, and major Brazilian banks have very limited direct exposure to stock market.

Current account and external debt position.   We expect Brazil's external risks to remain contained, given its moderating current-account deficit, high international reserves, and lower external debt than in other emerging markets. We expect the sharp decline in domestic demand caused by COVID-19 and the steep drop in the Brazilian real's (one of the worst performing emerging-market currencies) to result in a deep contraction in imports and exports. The country should run a current account deficit of around 2.7% of GDP in 2020. We expect foreign direct investment (FDI) to decline to $50 billion from $79 billion in 2019 (4.3% of GDP), but still more than enough to finance the current account deficit. We expect FDI to accelerate in the coming years, depending on the pace of approval and implementation of structural reforms. Government debt in foreign currency is low and has remained stable since 2014. The private sector's external debt has also remained relatively stable.

Table 2

BICRA Brazil--Economic Imbalances
(%) 2015 2016 2017 2018 2019 2020f 2021f
Annual change in claims of resident depository institutions in the resident nongovernment sector in % points of GDP 2.5 (5.1) (6.1) (1.5) 0.5 (1.9) 0.3
Annual change in key index for national residential house prices (real) (%) (7.3) (10.4) (5.0) (2.8) 1.3 1.3 2.7
Annual change in inflation-adjusted equity prices (%) (22.3) 30.2 23.4 11.4 27.9 N.M. N.M.
Current account balance/GDP (3.0) (1.3) (0.7) (2.2) (2.7) (2.7) (3.0)
Net external debt / GDP (%) (1.0) (2.0) (2.4) (4.0) (3.2) (2.0) 0.2
f--Forecast. GDP--Gross domestic product. N.M.--Not meaningful. Source: S&P Global Ratings.
Credit risk in the economy: Asset quality to dip, but full impact will come later

Private-sector debt capacity and leverage.   Banks maintained a conservative growth strategy as Brazil recovered from a Deep recession of 2015-2016. Credit growth in 2019 was 6.5%, up from 5.1% in 2018, while it contracted in the prior two years, resulting in credit to GDP of about 47.9% last year. This ratio is lower than of Brazil's international peers, but acceptable given the country's low-income levels. Part of the reason for tepid credit growth in 2019 was the low interest rates that have prompted corporations to refinance their debt in the domestic capital market. As a result, capital markets have boomed since 2018, and corporate issuances in the domestic market were up 13% in 2019. Within the retail portfolio, the focus has been on payroll deductible loans (offered to government employees and pensioners) and mortgages with conservative LTV. On the corporate side, banks have been strengthening the level of guarantees.

As a result of the economic shock inflicted by the social distancing due to COVID-19, we expect asset quality to deteriorate, in particular loans to sensitive economic sectors such as airlines; oil and gas; metals and mining; forest products; and leisure sectors. This is especially the case for SMEs and self-employed workers who have limited financial flexibility to cope with a sudden stop in cash flows. The banking system still has a meaningful volume of renegotiated loans stemming from recession, which will now be facing this new challenge. As a result, the corporate portfolio will be under pressure. The damage to its quality will depend on the length of the crisis and the speed of recovery.

As of the end of 2019, household debt burden represented 28% of GDP (up from 26% the previous year) and 44.9% of household annual disposable income (up from 42.5%), while debt service accounted for 20.0% of household monthly revenue. The household portfolio's nonperforming loans (NPLs) reached 4% in April 2020 from 3.5% in December 2019 and net charge-offs were 3% as of October 2019.

Chart 4


Corporate NPLs slipped to 2.2% in April 2020 from 2.1% as of December 2019. In addition, we saw a reduction in corporate lending from banks as of December 2019, shrinking to 20.1% of GDP from 21.2% in 2018. However, we now expect credit to the corporate sector to increase due to the incentives to lend to this segment and the higher demand from this sector.

Lending and underwriting standards.   In our view, Brazilian banks have at least moderately conservative lending and underwriting standards. We consider that the sector has a limited exposure to risky loans, and the absence of subprime housing lending supports our lending and underwriting standards assessment. Construction loans accounted for only 1.0% of total loans as of December 2019 and foreign-currency lending accounted for just 4% of total loans. In addition, these loans are adequately matched on the balance sheet. Banks have maintained low single-name concentration; we estimate that top 20 borrowers account for 10%-12% of total loans or 0.4-0.5x reported equity.

Payment culture and rule of law.   In our opinion, Brazil's payment culture and the rule of law are weak, further weighing on credit risk. According to the Transparency International Corruption Perceptions Index 2018, Brazil ranks 105th out of 180. There's still significant room for improvement, but Brazil's ranking is above some of other Latin American countries, such as Mexico (138), Bolivia (132), and tied with Peru (105).

Chart 5


Chart 6


Table 3

BICRA Brazil--Credit Risk In The Economy
(%) 2015 2016 2017 2018 2019 2020f 2021f
Per capita GDP ($) 8,804.9 8,698.4 9,915.6 8,992.4 8,709.1 6,868.6 7,463.1
Claims of resident depository institutions in the resident nongovernment sector as a % of GDP 53.7 49.6 47.0 47.3 47.8 50.9 51.3
Household debt as % of GDP 25.2 24.9 25.1 26.1 27.6 29.9 30.7
Corporate debt as % of GDP 28.5 24.7 21.9 21.3 20.2 21.0 20.6
Foreign currency lending as a % of total domestic loans 3.6 3.0 2.9 3.3 3.0 N/A N/A
Domestic nonperforming assets as a % of systemwide domestic loans (year-end) 3.4 3.7 3.2 2.8 2.9 3.6 4.1
Domestic loan loss reserves as a % of domestic loans 5.7 6.6 6.6 6.3 6.2 7.3 7.2
GDP--Gross domestic product. N/A--Not applicable. Source: Standard & Poor's Financial Institutions Ratings.

Base-Case Credit Losses

We expect the Brazilian financial system's credit cost to pick up in 2020 to 5.5% as banks boost their provisions to cover for future losses and to decrease in 2021 to 4.1% as economy recovers. Our credit-cost estimate for Brazil in the next two years incorporates the following assumptions:

  • GDP contraction of 4.6% for 2020 and growth of 3.3% in 2021;
  • A rise in unemployment to about 13.3% in 2020 from 11.9% in 2019, and stabilizing at 13.0% in 2021;
  • Relatively low inflation; and
  • NPAs to increase, because of the economic contraction, to about 3.6% in 2020 and 4.1% in 2021.

Industry Risk  |  5

We base our industry risk score for Brazil on our assessment of institutional framework, competitive dynamics, and system-wide funding.

Institutional framework: Extensive regulatory coverage with gradual improvements

Banking regulation and supervision.   We consider that Brazil's banking regulation has extensive coverage of financial institutions and adequate supervision with satisfactory enforcement capabilities and a comprehensive set of tools to monitor risks in the system. The country's banking regulation is broadly in line with international standards in terms of accounting, capitalization, money laundering, related-party transactions, and financial statements disclosure. Banking regulation in Brazil has been improving, and authorities are proactive in adopting international standards. Basel III has been fully implemented this year, in line with the international phase-in arrangements. The central bank supervises all banks, credit unions, nonbank financial companies, and other financial intermediaries (i.e. exchanges, securities brokers, etc.). Supervision is carried out on a risk-based basis; coverage is extensive; and there are specific rules for liquidity, derivative exposures, single-name and geographic concentrations, foreign currency operations, credit, market, and operational risks, capitalization, compensation, and information disclosure. In our view, regulatory minimum requirements are adequate, and authorities foster a preemptive risk culture. Recent regulation was introduced to strengthen the financial system which includes:

  • In April 2018, BACEN published the fintech regulations for the so-called SDC and SEP companies. The SDC companies are digital lenders, which can't raise funds from the public, relying on their own capital to lend money. The SEP companies are intermediaries, offering a digital platform where individuals can lend/borrow money between them. These regulations will oversee these companies' operations, the steps for them to receive authorization to start operating, and how they can get cancelled, steps for control transferring and reorganization.
  • In December 2018, BACEN launched the law "Lei 136755", about the digitalization of trade bills/receivables (called in Brazil "Duplicatas"), which are substituting the physical ones. The issuance of a trade bill/receivable in book-entry form will be made by posting it in an electronic bookkeeping system managed by any of the entities that exercise the activity of book-entry duplicate and that are properly authorized to do so.
  • In June 2019, BACEN launched the resolution "4.734" establishing conditions and procedures for the anticipation of receivables, offered by acquirer and sub-acquirer companies to merchants. At the same time, and as a complement, there was the launch of the so-called "Circular 3.952", which disciplines the registering of such anticipations.
  • In July 2019, BACEN and the National Monetary Council issued supplementary regulation regarding the Positive Credit Report (Cadastro Positivo in Portuguese) in order to create a more detailed credit risk profile of borrowers. This initiative aims for the automatic inclusion of all citizens' credit score and payment data in the database.
  • In April 2019, BACEN has announced plans for implementing the open banking model, which would allow the institutions to exchange and share customer data, and regulatory sandbox, which involves the creation of a controlled environment for testing financial and payment innovations. Open banking will initially apply to the country's largest 12 banks. Subsequently, other institutions will be enrolled, at BACEN's discretion. BACEN expects to implement the open banking model in the second half of 2020.
  • In October 2019, the government proposed a legislation to reduce the bureaucracy on the foreign exchange market and to allow the maintenance of deposit accounts in reals and foreign currency.
  • In December 2019, the administration sent Congress a draft law on the resolution regime.

Regulatory track record.   Brazil's regulatory track record is, in our view, intermediate. BACEN has a proactive approach towards regulation. Brazil's financial system has been resilient to the weak economy in the past few years, and the government's measures were effective in offsetting potential liquidity problems. The central bank was also successful in identifying potential risks among consumer lending products and took measures to reduce them (i.e. higher-risk capital charges on auto loans and long-dated consumer lending.) However, 10 banks have failed since 2010, some of which were allegedly involved in unlawful activities. These institutions were very small and didn't cause systemic damage. In addition, authorities have taken steps to strengthen supervision to avoid unlawful practices in the system, such as requiring supervision for lower retail loan amounts. In our view, the central bank's biannual financial stability reports also contribute to an effective monitoring of the financial system and the promotion of proactive measures. These reports include detailed information of the whole system and stress tests that capture the banks' sensitivity towards macroeconomic conditions.

In response to the COVID-19 pandemic and economic impact of the social distancing, the regulators have taken timely measures to limit the impact on the financial system including:

Liquidity measures
  • Reserves requirement reduction to 25% from 31% for time deposits (in place since March 16).
  • Reserves requirement reduction to 17% from 25% for time deposits (March 23).
  • Banks are allowed to issue DPGEs without pledging any assets. Individuals are also allowed to buy them (the minimum amount of R$1 million). Limits: 1x the bank's total equity or up to R$2 billion) (March 23).
  • BACEN was authorized to grant loans in local currency backed by debentures through a Special Temporary Liquidity Line (LTEL). In addition to the debentures, this line establishes that BACEN will reserve, as an additional guarantee, the institution's reserve requirements in the same amount as that of the transaction (March 23).
  • BACEN was authorized to grant loan operations to financial institutions through LTELs by means of direct acquisition in the primary market, of LFs with financial assets or securities as collateral (April 2).
  • BACEN started to carry out repurchase agreements (repos) of Brazilian sovereign bonds denominated in dollars (global bonds).
  • Letra Financeira Garantida: banks are able to issue these bonds and the central bank will invest in them, with a term of up to one year, up to 100% of the regulatory capital, guaranteed with high quality loans.
  • Moratorium: Flexibility to renegotiate loans without constituting additional provisions for them for six months (April 9).
  • Guarantees: The government created the guarantee program, Programa Nacional de Apoio às Microempresas e Empresas de Pequeno Porte (Pronampe), which will provide up to 85% of guarantees to micro and small enterprises (May 19).
  • A program called PAEC (Emergency Program for Access to Credit) was created and will be implemented in part through the FGI (Guarantee Fund) already operated by BNDES (June 1).
  • Capital conservation buffer requirement reduced to 1.25% from 2.5% with the return in 2022 (March 16).
  • Deferred tax assets (DTAs) created from over hedges for foreign investments won't be deducted for capital adequacy ratios (March 18).
  • Limits on dividend payments to the minimum required by the in-laws, which is 25%, until September 2020. The central bank also restricted share buybacks (April 6).
  • The lower regulatory capital requirement for credit transactions with small and medium-sized companies. BACEN also allows the restructuring of credit transactions for small and medium enterprises. The risk weight is reduced from 100% to 85% and applies to new or restructured transactions until the end of 2020 (April 9).
Fiscal/monetary measures
  • Lower the interbank rate (Selic) to 3.75% (March 18).
  • Drop the Selic rate to 3.00%, lowest level in the country's history (May 6).

Governance and transparency.   We assess governance and transparency as at least adequate. Brazil has adequate banking regulation that fosters satisfactory governance practices. In our view, there's also an adequate level of transparency in the system. Banks publish their financial statements on a quarterly basis and make them available online. Banks also prepare annual financial statements, which a third party audits. In addition, the central bank publishes a broad set of information on the financial system on a quarterly basis, including a consolidated balance sheet and profit and loss statements, detailed information on loans and performance, capitalization ratios, along with other important indicators. Authorities also produce additional quarterly reports that assess the financial system and identify potential sources of risk.

Investigations of the government-owned banks in the past two years have raised concerns about governance of these institutions. Investigations resulted in imprisonments of the involved individuals but haven't resulted in systemic drawbacks for the financial system. Moreover, the implementation of the Law 13,303/16 (the State-Owned Company Act) in 2017 has significantly improved governance of state-owned banks, in our view, promoting greater transparency in the decision-making process and limiting the political appointments to the banks' executive positions. We believe that the diligent execution of such measures may reduce political risk for banks while increasing their ability to perform their policy roles.

Competitive dynamics: Market distortions from government-owned banks' likely to moderate but their presence to remain significant

Risk appetite.   We consider the Brazilian banking sector's risk appetite as moderate. During the recent downturn, the banking sector has outperformed other economic sectors, because of the absence of complex products, limited share of high-risk lending, and relatively conservative commercial practices. The banking sector's profitability has been resilient due to high NIMs and business diversification, which includes insurance and asset management. Banks' profitability, measured by ROE, has averaged at 15.5% for the past three years, below the 18.9% average in 2007-2011, but stronger than during recession, given that it dropped to the lowest point in September 2016 of 11.8%.

Our risk appetite assessment also incorporates the sector's low exposure to high-risk lending. As of December 2019, real estate construction loans accounted for only 1.0% and foreign-currency loans for 3.0% of total loans amid limited use of securitization. There are no subprime loans, and the share of home equity loans is almost negligible. Additional exposures to other vulnerable sectors, such as agriculture, are also limited, representing 7.4% of loans.


Table 4

BICRA Brazil--Competitive Dynamics
(%) 2015 2016 2017 2018 2019 2020f 2021f
Return on equity (ROE) of domestic banks 16.8 12.7 14.1 14.4 18.2 12.5 14.0
Systemwide return on average assets (%) 1.2 0.9 1.2 1.3 1.7 1.1 1.3
Market share of largest three banks* 59.7 62.3 59.8 57.0 55.4 N/A N/A
Market share of government-owned and not-for-profit banks** 56.0 55.7 54.1 51.2 47.1 N/A N/A
Annual growth rate of domestic assets of resident financial institutions (%) 6.7 (3.5) (0.5) 5.5 6.4 5.0 8.0
f--Forecast. N/A--Not applicable. *By Deposits **By Loans. Source: Standard & Poor's Financial Institutions Ratings.

Industry stability.   The Brazilian financial system consisted of 173 banks, four development banks, and other 1,453 financial institutions (including credit unions, mortgage lenders, micro-financing, and consumer finance companies) as of December 2019. The 10 largest banks control 83.7% of the market in terms of deposits as of Dec. 31, 2019. Market share among the largest players has been fairly stable in the past five years, and we don't expect major changes in the medium term. The three largest banks have controlled 55%-60% of the market in the past five years.

Demand for digitalized banking in Brazil is rising primarily because of the convenient and speedy use of services, lower costs as opposed to the high fees that traditional banks charge, and the relatively low access to credit, in our view. Fintech firms are also benefiting from the relatively widespread ownership of smartphones and the "millennial factor", given that younger customers are more keen on digital banking solutions. Moreover, we consider that a supportive regulatory framework has prompted this emerging slice of the sector to boom, fostering competition. We believe large banks' embrace of new technological platforms, superior capacity to invest, and the universal banking model will help preserve their dominant market share. However, smaller banks will find it increasingly difficult to keep up with these trends. In the medium term, we expect competition to intensify and profitability to fall until the benefits from cost reduction through digitalization level off. This will likely lead to further consolidation among the struggling banks and fintechs.

Market distortions.   Despite the government's efforts to reduce the market share of public banks, it remains relatively high at 47% and there's a still high spread differential between public and private banks. We expect government-owned banks to focus on their traditional areas of expertise and reduce their share in non-core businesses. As such, we expect Banco Nacional de Desenvolvimento Economico e Social (BNDES; BB-/Stable/--) to focus on key infrastructure projects and key economic sectors for the country, Banco do Brasil S.A (BdB; BB-/Stable/B) to continue fostering the agricultural sector, and Caixa Economica Federal (BB-/Stable/B) to support the lower-income borrowers and promote housing. However, we expect these entitites to continue selling non-core assets. We believe that the administration plans to continue divesting BNDES's large shareholdings in listed companies. We believe BdB will continue focusing on selling non-core assets rather than divesting from its core units. Therefore, the bank could sell its investments in other financial institutions. Caixa is currently considering IPOs of its insurance and credit card subsidiaries, which could occur this year, and IPOs of its other operations, such as asset management and lottery, could happen afterwards. The bank may also divest assets from its equity investments and sell real estate assets.

Chart 8


Systemwide funding: The banking sector benefits from a sizeable and stable source of retail deposits.

Core customer deposits.   Our system-wide funding assessment reflects the Brazilian banking sector's low exposure to external funding, and adequate and stable core customer deposit base. Core customer deposits (considering 100% of retail deposits and 50% of corporate deposits) accounted for 78% of total loans for the past five years. Core deposit base has been stable. With the subdued credit growth in 2018 and 2019 and contraction in the previous years, banks' liquidity positions have strengthened. We expect lending to pick up in years to come, with growth rates at 8% for the next two years, which will require additional funding. We believe deposit growth, a slight increase in local issuances, and a reduction in liquidity levels will be sufficient to fund this growth.

External funding.  The Brazilian banking sector's exposure to external funding is moderate, and refinancing risk is low. The sector's net external funding has averaged 9% of total loans for the past two years and only 20% of the financial sector's external debt matures during 2020 and 2021. Low reliance on external funding is mainly due to the sector's large customer deposit base and limited foreign-currency lending.

Domestic debt-capital markets.  In our view, Brazil's debt capital markets are moderately broad and deep. Market depth has been improving in the past five years as pension and mutual funds' appetite for private-sector debt increased. As of December 2019, pension and mutual funds held assets of about R$5.4 trillion, which should represent approximately 76% of our expected GDP for 2019. Currently, a large amount of these funds is invested in government securities; however, these entities are also looking for instruments with attractive returns and longer maturities. We expect that in the next three years, the appetite for higher returns will broaden available funds for banks and corporate issuers. In addition, we expect that longer-term maturities will become available, as pension funds will also be looking to match their balance sheets.

Table 5

BICRA Brazil--Systemwide Funding
(%) 2015 2016 2017 2018 2019 2020f 2021f
Systemwide domestic core customer deposits by formula as a % of systemwide domestic loans 74.6 76.5 79.1 80.6 78.9 81.0 82.5
Net banking sector external debt as a % of systemwide domestic loans 8.9 6.7 8.0 8.8 9.6 11.7 10.6
Systemwide domestic loans as a % of systemwide domestic assets 38.8 37.5 36.4 36.0 36.3 35.0 34.4
Outstanding of bonds and CP issued domestically by the resident private sector as a % of GDP 30.2 38.4 32.5 34.2 36.6 40.8 41.9
f--Forecast. GDP--Gross domestic product.

Government role.   The government has a satisfactory track record in providing liquidity to the financial system under stressful conditions, and the central bank serves as a lender of last resort. A deposit insurance entity, Fundo Garantidor de Créditos, covers up to R$250,000 (about $63,442) per depositor per entity and up to 1 million aggregated in all entities. This institution is also part of the safety net and plays a significant role in the various bank resolution mechanisms.

Peer BICRA Scores

Countries in BICRA group '6' are very diverse. Compared with Colombia, Brazil has a stronger regulatory framework and alignment with international standards, but this strength is moderated by the distortions stemming from a large market share of government-owned banks, which isn't the case in Colombia. Although the Brazilian economy is more diversified than its Colombian counterpart, Brazil is still recovering from the previous economic stress. China continues to post much stronger (although moderating) GDP growth than Brazil, which supports its economic risk assessment. On the industry risk side, China's banks have stronger funding profiles, while we consider the institutional framework to be stronger for Brazilian banks.

Table 6

Peer BICRA Scores






Trinidad and Tobago


South Africa

BICRA group 6 6 6 6 6 6 6 6
Economic risk 7 7 7 6 7 7 5 7
Industry risk 5 5 5 6 4 5 7 5
Government propersity to support Supportive Highly supportive Supportive Uncertain Highly supportive Supportive Supportive Uncertain
Economic risk trend Stable Stable Stable Stable Stable Negative Stable Negative
Economic resilience 5 3 4 3 4 5 4 5
Economic imbalances 4 4 4 4 2 3 2 4
Credit risk in the economy 4 5 4 4 6 4 4 4
Industry risk trend Stable Stable Positive Stable Stable Stable Stable Stable
Institutional framework 3 4 4 3 3 4 4 3
Competitive dynamics 4 4 3 4 4 4 4 3
Systemwide funding 3 1 3 4 2 2 4 4

Government Support

We classify the Brazilian government as supportive of the domestic banking sector. We believe the government will provide extraordinary support to systemically important banks (whose failure could compromise the country's payment system) in the event of a crisis. Brazil has defined various resolution mechanisms that include private-sector solutions.

Table 7

Five Largest Brazilian Financial Institutions By Assets (March 31, 2020)
Assets (mil. R$ ) Counterparty credit rating Systemic importance

Itau Unibanco Holding S.A.

1,982,498 BB-/Stable/B High

Banco do Brasil S.A.

1,580,190 BB-/Stable/B High

Banco Bradesco S.A.

1,434,507 BB-/Stable/B High

Caixa Economica Federal

1,313,852 BB-/Stable/B High

Banco Nacional de Desenvolvimento Economico e Social (BNDES)

718,265 BB-/Stable/- High
R$--Brazilian real.

In December 2019, the administration sent Congress a draft of a Resolution Regime bill for discussion and approval. The Complementary Bill (PLP) 281/19 creates two mechanisms to help financial institutions in difficulty, such as banks, insurers and private pension entities: the Stabilization Regime and the Compulsory Liquidation Regime. Depending on the regulated market, the two Regimes may be established by BACEN, the Securities and Exchange Commission (CVM) or Superintendence of Private Insurance (Susep). In addition to implementing the resolution Regimes, they may require institutions to draw up recovery plans, with measures to restore business viability, and organized exit plan, with post-regime measures.

The regulators may enact the resolution regime, which they consider most appropriate for the case. The Stabilization Regime should be applied to institutions of systemic importance, whose stalled operations would cause instability in the economy, but other banks could also be treated under that regime. For such scenarios, BACEN will perform an analysis of viability, including the balance sheet analysis and the availability of instruments for bailing in. Once the central bank decides on a stabilization regime, it will decide the order of the necessary instruments: bailing in instruments or using the funds, or both (The bill of law provides the order of resources and bail in instruments to be used for loss absorption purposes). It will be executed by an administrator appointed by the regulators, who must seek a private solution for the resumption of business. Immediately, the Stabilization Regime suspends the exercise of shareholder rights and removes the directors of the institution. The Compulsory Settlement Regime will be applied if the risk to financial stability is determined to be low. The Regime, executed by an appointed liquidator, involves the closure of the institution's activities, submission to the concursal regime (which classifies creditors by order of priority) and the sale of assets. Situations that can lead to the enactment of the resolution Regimes include: insolvency, exposure to risk incompatible with equity, insufficient assets to cover losses, and repeated violations of legal and regulatory standards.

The draft also provides for the creation of Credit Guarantee Funds, to provide liquidity to the system, and Resolution Funds, to provide loans to and capitalize institutions submitted to the Stabilization Regime (but not maintained or guaranteed by public funds). The resources for the capitalization of the funds will come from the financial system. In case of Stabilization Regime, the resolution fund may constitute a transitional financial institution ("bridge bank"), which will be capitalized to receive the institution's assets and liabilities under resolution until they are assumed by third parties or discontinued. If private resources are not sufficient to ensure financial stability, the government may lend to resolution funds. In this case, some conditions must be met, such as the exhaustion of shareholder resources and the possibility of serious threat to the financial system. The government will be the first to be reimbursed when the institution recovers.

Related Criteria And Research

This report does not constitute a rating action.

Primary Credit Analyst:Cynthia Cohen Freue, Buenos Aires +54 (11) 4891-2161;
Secondary Contact:Sergio A Garibian, Sao Paulo (55) 11-3039-9749;

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