Enjoying nearly 10 years of uninterrupted economic growth, the duty free business in Latin America reaped the benefits of growing economies throughout the region. Indications of a slowdown surfaced more than a year ago. Raw material prices, a principal element in Latin American exports, have been falling since early in 2014, leading to currency instability and faltering foreign currency reserves. The Chinese economy, the biggest export market for most Latin American countries, has slowed substantially on previous years. Tellingly, the optimism of the last decade turned to pessimism in only a few short months. And the recent devaluation of the Chinese Yuan has made medium- and long-term forecasting even more uncertain. How will travel retail be affected by the slow- down? TMI’s John Gallagher offers a market by market assessment.
Brazil falls from grace
Brazil, the seventh-largest economy in the world and the biggest in Latin America, is suffering a dramatic slowdown. After nearly a decade of solid economic growth, the speed with which the economy has fallen is staggering.
High inflation, dwindling consumer confidence, lower domestic consumption, falling industrial investment and the never-ending Petrobras corruption and embezzlement scandal were contributing factors to the 1.9% contraction in GDP in the second quarter of 2015. This is clearly bad news for the travel retailers operating in Brazil and its borders. The slump in value of the Real, trading at 3.70 to the U.S. Dollar at the beginning of September compared to 2.35 just over a year ago, also negatively impacts duty free operators throughout Latin America. Brazilian travelers are renowned big spenders when they travel but exchange rate volatility has affected their purchasing behavior and the knock-on effect is seen throughout the continent.
At the end of August, the IBGE, the Brazilian government statistics office, confirmed the fall in GDP for the Q2 2015, and Brazil was formally declared to be in recession (given the technical definition of a recession being two consecutive quarters of economic contraction). The official figures were actually bleaker than expected and the announcement came on top of news that the fall in Q1 had been revised downwards to – 0.7%. According to official figures, economic activity in Brazil is now estimated to be 2.6% lower than one year ago.
Steeper interest rates – currently 14.25% – have also significantly impacted the slowdown, leading to a serious reduction in consumer spending, one of the drivers of the Brazilian economy in recent years. The government introduced stringent austerity measures in a bid to reduce the fiscal deficit, letting go many public employees and cutting unemployment benefits. The austerity measures have split Dilma Rousseff’s Worker Party, with dissidents calling for the government to reverse the strategy and increase public spending to boost the economy.
The austerity measures also included increased taxes for certain imported products, with perfumes and cosmetics included in the first batch of categories in early 2015. In September the government announced additional tax increases for all wines and spirits, which will take effect in December.
While this is bad news for domestic market consumers, it can be an incentive for travelers to buy more in duty free stores.
Unemployment has risen rapidly to 8.3%, up 1.5% from 12 months ago; inflation over 12 months is running above 9% – twice the government’s target. These factors can negate the progress that Brazil made in the boom years. More worryingly, analysts predict 2016 will be another stagnant year at best, and say growth might not return until 2017.
Dufry, the biggest travel retailer in Brazil, reported flat sales for the first half of 2015 for the Americas II region (Brazil and Bolivia), when measured in Reais. But sales fell 23% when measured in U.S. Dollars, underlining the weakness of the Real during the first half of the year. Dufry is less exposed to the vagaries of the Brazilian market given the company’s acquisitions in recent years, but nevertheless the Americas II region accounts for 11% of company sales.
The Swiss-based giant has refurbished stores and added additional retail space throughout the country, especially in Sao Paolo and Brasilia, but it could be a few more months until it realizes a significant return on its investment.
Domestic airport traffic has suffered as the slowdown has intensified. Sao Paolo Guarulhos, the biggest airport in Brazil, posted 12.4m passengers for the first six months of 2015, down 1.5% compared to the same period the previous year. International passengers, however, increased 2.8% to 6.6m.
Next year, the city of Rio de Janeiro will host the Summer Olympic Games. As happened during the FIFA World Soccer Cup in 2014, the world will be looking closely at Brazil. Some of the major construction companies involved in preparing the country for the games have been indicted in the Petrobras scandal causing worry this could slow down completion of projects needed for the Olympics. Several leading members of Dilma Rousseff’s Workers’ Party have also been indicted. While the worst of the scandal may be over, some officials are still calling for the impeachment of the President to assess her role in the scandal.
No one doubts the potential of the country and the potential for Brazilian industry, agriculture and tourism. But there is no evidence the situation is improving right now.
October election increases uncertainty in Argentina
During the first half of 2015, the Argentine government and Central Bank appeared to be successful in controlling the grey market dollar, albeit by using scarce foreign exchange reserves to push down the price. Since the primary elections held in early August, the situation has changed rapidly however, and the gap between the official dollar and the “blue” dollar which had shrunk to around 40% rose substantially and is now around 70%.
At the time of writing, the official rate is at 9.20 pesos to the dollar and the “blue dollar” has moved out, to float in a band between 15.50 and 16 pesos. It is extremely difficult to predict where the dollar will be when you read this but some opposition economists predict that the dollar could move to around 20 pesos and stay there if Daniel Scioli, the candidate favored by current president Cristina Fernandez de Kirchner, wins the October election. If victorious, Scioli is likely to continue the current policy of limiting the availability of foreign currencies and discourage the use of credit cards for purchases abroad — a 35% surcharge has been added on international transactions when bank cards are used.
Argentina’s general economic performance remains unclear. The financial figures issued by Indec, the government’s statistic agency, are suspect. The government claims that inflation is running at just over 14%, while independent analysts report the rate is closer to 27%. However, the government has allowed pay increases this year of between 25% and 30%, which is probably a more accurate indicator of the real inflation rate. The government claims that the economy is performing robustly with increases in GDP of between 1 and 2 points in the first 2 quarters of the year. Consumer consumption is strong due to extended credit terms offered by retailers and banks but domestic and foreign investment is at low levels. The consensus is that GDP growth for 2015 will be around 0.5% — and that figure depends on a recovery in commodity prices.
The outcome of the election is far from certain. Scioli is likely to have the most votes in the first round of voting but is unlikely to garner the 45% share he needs to avoid a runoff vote. The final round of the Presidential elections is scheduled for November 22. If the second most voted candidate, likely to be Buenos Aires Mayor Mauricio Macri, is able to deal with the other opposition candidates, the final outcome could be very close.
Macri and his economic team, which includes economist Carlos Melconian, a regular speaker at the annual ASUTIL conference, promise that they will remove all exchange controls as soon as possible if they win. In that case, Macri will likely unify the official and grey market exchange rates, although at what rate remains to be seen. Macri says he will let the market decide the true value of the Argentine currency.
The unreliable reputation of Argentina’s Government statistics has spread to the figures issued by airport manager Aeropuertos Argentina 2000 (AA2000), which reports monthly air passenger growth of between 4% and 6% compared to 2014 (except July when 10.3% was posted). The strong performance at Aeroparque and flat figures at Ezeiza indicate that domestic travel is performing strongly, and international traffic is on par with last year.
Duty free sales in the country have held up when measured in local currency. Savvy travelers exchange Dollars and Reais on the grey market, ensuring a bonus when they buy in the airport and border stores. TMI understand that both InterBaires and London Supply enjoyed modest growth in the first half of 2015 with Argentine travelers making up for the reduction in the number of Brazilians.
Optimism on the Pacific Coast
Performance in other parts of South America is not as complicated as in Argentina and Brazil. Economic growth slowed in the Pacific markets of Chile, Colombia and Peru but is expected to reach 2.4%, 3.2% and 3.6% respectively. While lower than previous years, this growth is still quite solid.
Given the relative health of the Pacific economies, passenger throughput has also been solid at the leading airports. International traffic in Santiago was up 10% in H1, although domestic traffic
was flat. Lima Airport Partners reported a growth of 8.7% in passenger numbers at Jorge Chavez International Airport in Peru during the first six months of the year and Opain, the holder of the concession at Bogota’s Eldorado Airport in Colombia confirmed international passenger growth of 11.25% along with an increase of 12.6% in domestic travel during the same period.
Mexico, the second biggest Latin American economy after Brazil, is also forecast to grow by 2.5% in 2015 and could improve if the U.S. economy continues to accelerate. Passenger traffic at Mexico City’s Benito Juarez International Airport jumped 14% during the first seven months of 2015 compared to the same period last year. Domestic traffic was up 14.9%; with international traffic up by 12.2%, good news for Dufry and Wisa Group, the two anchor duty free operators at the country’s biggest airport.