IMF sees Brazil Economy Shrinking, Growth Hinging on Austerity

The Brazilian economy will likely shrink this year, but the South American country could return to growth in 2016 if it succeeds in boosting investor confidence with its austerity drive, the International Monetary Fund said on Friday.

The IMF lowered its 2015 forecast for Brazil's economic performance to a 1 percent contraction from the 0.3 percent growth it forecast in January due to tighter fiscal and monetary policies and a drop in investment by state-run oil company Petrobras.

The IMF said an "immediate priority" for Brazil's recovery is swift resolution of problems at Petroleo Brasileiro SA, as Petrobras is formally called. A massive political kickback scandal at the company has forced it to cut back investment and has paralyzed work by its construction and engineering contractors.

The IMF said implementation of austerity measures is crucial for Brazil to regain the trust of investors so it can bolster growth.

"Determined implementation of these measures should help restore confidence and foster a recovery in growth and investment in due course," the IMF said in a press release following an assessment of Brazil's financial and economic situation by its executive directors.

Faced with an imminent recession, President Dilma Rousseff has embarked on an aggressive drive to cut public spending and raise taxes to balance the government's overdrawn accounts.

Finance Minister Joaquim Levy told a business group in the central Brazilian city of Goiania on Friday that the belt-tightening is needed to guarantee sustainable growth in the world's No. 7 economy.

To achieve its fiscal goals this year the Brazilian government need "ambitious, front-loaded measures," the IMF said.

The IMF praised a decision to end a policy of funneling taxpayer money into state banks for subsidized lending that was implemented by Rousseff and her predecessor Luiz Inacio Lula da Silva to spur growth in the wake of the 2008 financial crisis.

It also backed the government's new focus on cutting current government spending and tax exemptions to allow room for priority spending on investment and social programs.

Brazil must simplify its tax system and reform its pension and wage indexation systems to reduce fiscal pressures, it said.

Supply-side reforms are critical for boosting economic productivity and priority should be given to investment in infrastructure and expanding the private sector's role, the IMF recommended.

It welcomed Brazil's scaling down of its daily foreign exchange intervention program and said use of the program should remain limited to allow for further depreciation of the country's currency.

(Reporting by Alonso Soto and Anthony Boadle; Editing by Leslie Adler and Peter Galloway)