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Rousseff win rattles Brazil markets, focus shifts to economy

(Reuters) – President Dilma Rousseff’s narrow re-election victory met with cold reality on Monday as Brazil’s financial markets tumbled on doubts that can restore confidence in the economy and maintain political support in a sharply divided nation.

Rousseff overcame dissatisfaction with a sluggish economy and poor public services to clinch a second term on Sunday by a slim margin, dashing the hopes of investors and nearly half the electorate who bet on her pro-business challenger.

After a bitter, unpredictable campaign, Rousseff now faces the challenge of making good on a promise to expand social benefits for the poor while balancing a strained federal budget.

Most investors are skeptical that Rousseff can pull off a swift recovery after four years of ineffective industrial policies. Brazil’s benchmark Bovespa stock index .BVSP fell around 5 percent in early trading, while Brazil’s real currency BRBY slumped 3 percent to a nearly six-year low.

Rousseff and aides consistently shrug off market pessimism as little more than tantrums by speculators. As her camp celebrated victory late on Sunday, longtime foreign policy advisor Marco Aurelio Garcia told reporters that investors should relax and “take tranquilizers.”

Investors are awaiting the name of a replacement for the beleaguered Guido Mantega, her outgoing finance minister.

They hope for a more market-friendly minister who can help restore fiscal discipline, bring transparency to the federal budget and better engage with business leaders. Some believe that Rousseff will be forced by economic realities to soften some of her interventionist policies.

Announcements of new cabinet members are unlikely in coming days, presidential aides said, as Rousseff rests after a demanding campaign that went down to a photo finish.

Speaking to a relieved crowd of supporters on Sunday night, Rousseff struggled to raise her voice as she acknowledged the call for change expressed by many voters in remarks that some observers hoped were a sign of a shift to the center.

“I know that I am being sent back to the presidency to make the big changes that Brazilian society demands,” she said after winning the runoff with 51.6 percent support. “I want to be a much better president than I have been until now.”

Her slim, three-point margin over centrist candidate Aecio Neves came largely thanks to gains against inequality and poverty since the Workers’ Party first came to power in 2003.

Using the fruits of a commodity-fueled economic boom in the last decade, Brazil’s government expanded welfare programs that helped lift more than 40 million people from poverty despite the current economic woes.

The “Brazilian model” has been adopted by center-left parties across Latin America and Rousseff’s victory, however narrow, is a blow for conservatives in the region.

It also means there will be no dramatic improvement in ties with the United States, hit in recent years by trade disputes and U.S. government spying programs that infuriated Rousseff.

LITTLE ROOM FOR REFORM

About 40 percent of Brazil’s 200 million people live in households earning less than $700 a month, and it was their overwhelming support that gave Rousseff victory on Sunday.

Now, she pledges to deepen social benefits while working to revive an economy that fell into recession this year.

In her victory speech, Rousseff also renewed her calls for a political reform to reduce corporate influence in campaign finance and restore faith in Brazil’s messy multi-party politics. The president will have a tougher time with far-reaching reforms, however, after her coalition lost seats in both houses of Congress in this election.

“Such a tight result reduces her capacity to radicalize policies,” said Alberto Bernal, a Miami-based economist with Bulltick Capital Markets. “Pretty much half of the country is against what she has been doing.”

But Neves, a senator and former state governor who enjoyed support among many business leaders and upper-middle class Brazilians, failed to convince most voters that he had enough new ideas to pull Rousseff from power.

It didn’t help that many poor Brazilians associate his centrist Brazilian Social Democracy Party with a less inclusive past, a perception that the Rousseff camp deftly exploited.

“Even if things are getting worse, many voters prefer to stick with what they know than take a risk on the unknown,” said Fernando Abrucio, a political science professor at the Getulio Vargas Foundation, a business school in Sao Paulo.

A second Rousseff term will not be easy, especially as a slowing economy strains a government model accustomed to high tax revenues to finance social programs and subsidized credit for companies and consumers.

Brazil’s economy, after growing by as much as 7.5 percent the year before she took office, is on track to expand less than 1 percent this year. Prior efforts to gun growth, largely through tax breaks and other subsidies for select industries, have largely fallen flat.

Meanwhile, inflation, long a problem in a country with a history of runaway prices, is now hovering above the government’s tolerance ceiling of 6.5 percent.

And while unemployment is near record lows, economists don’t expect it to remain so for long as plunging investment, slower growth and further uncertainty prompt employers to cut back.

To correct the course, economists say Rousseff must pursue long-pending tax and labor reforms in order to increase productivity and engage further with the global marketplace.

But Rousseff will face gridlock in a Congress increasingly weary of the ruling party, which lost seats in this election along with its most important ally. Leading lawmakers promise to make hay over a snowballing corruption scandal at the state-run oil company known as Petrobras (PETR4.SA).

“She will face resistance on a number of fronts,” said Carlos Melo, a political scientist at Insper, a Sao Paulo business school.

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