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Brazil’s Economy Under Lula
The dawn of a new era?
Edmund Amann
For the past few years, the eyes of international investors and economic
commentators have been focussed on the remarkable transformation
underway in parts of East and South East Asia. Rather more neglected has
been the evolution of the economies of Latin America, not least Brazil. It
was not always thus. In the late 1960s and early 1970s, Brazil attracted concentrated international attention as a result of astounding rates of growth,
rapid industrialisation and a burgeoning of opportunities for direct foreign
investment. For a while it seemed that the objective of developed county
status was within reach. However, subsequent events—not least the debt
crisis of the 1980s—were to prove that Brazil still had a long way to go to
achieve economic parity with the OECD countries.
Despite the salutary experiences engendered by repeated economic
crises since the early 1980s, optimism has never been in short supply. This
optimism, encapsulated by the oft-quoted epithet that “Brazil is the country of the future” (to which some add, “and always will be”), rests on real
foundations. Brazil, a country of continental scale, with a population of
170 million, is endowed with vast natural resources ranging from metallic
minerals to oil to endless grasslands. As a result of mid-twentieth century
industrialisation, Brazil is now a leading exporter of automotive products
and has become a major force in civil aircraft production. In certain technological fields, notably offshore oil exploration and genomic sequencing,
Brazil operates at the cutting edge. Yet despite all of this, Brazil’s growth
since the 1980s has lagged that of comparable large economies in Asia
Edmund Amann is Senior Lecturer in Development Economics in the School of Social Sciences at
the University of Manchester and Jorge Paulo Lemann Visiting Professor and Adjunct Affiliate
Associate Research Professor, REAL, University of Illinois at Urbana-Champaign. The author
acknowledges the financial support of the Leverhulme Trust, without which the research
underpinning this article could not have been undertaken.
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(China and India). At the same time, such growth as has been realised has
disproportionately benefited a small sector of the population. As a result,
the distribution of income has remained famously skewed. While some
population groups enjoy a lifestyle comparable—or superior—to the best
on offer in Europe or North America, a substantially greater number
endures a standard of living more typical of sub-Saharan Africa.
Against this background, it has become clear that Brazil urgently needs
to engineer a step-change in economic performance in which higher rates
of growth are sustained and the fruits of increasing prosperity are distributed more evenly. This challenge has been taken up with apparent enthusiasm by the current administration of President Luiz Inácio Lula da Silva
(otherwise known as Lula). President Lula, who entered office in January
2003, has sought to address the economic shortcomings of his predecessors
and bring into being what he calls a Brasil Decente or “Decent Brazil”.
This would combine a more dynamic economy with the social justice so
conspicuously lacking throughout most of the country’s history. The purpose of this article is to examine the progress that has been made in this
direction and the difficulties that still remain to be overcome. A particular
emphasis will be placed on the role of the structural obstacles that may
stand in the path of accelerated, equitable growth. To put this discussion
in context, it is worth beginning with a brief summary of Brazil’s post-war
economic history, starting with the industrialisation drive of the 1940s and
1950s.
I. FROM STATE-DRIVEN DEVELOPMENT TO NEO-LIBERALISM:
A BRIEF MODERN ECONOMIC HISTORY OF BRAZIL
From the Portuguese colonisation of the sixteenth century to the beginning of the 1930s, Brazil remained a largely natural resource-based economy whose position in the international division of labour lay resolutely in
the export of foodstuffs and minerals. While this pattern of specialisation
had resulted in periodic growth spurts, Brazil remained highly vulnerable
to downswings in the international demand for commodities. With the
onset of the global economic depression after the Wall St. Crash of 1929
and the coming to power of the corporatist government of Getúlio Vargas
at the beginning of the 1930s, the scene was set for a critical reappraisal of
Brazil’s traditional economic role. The rethinking that took place in the
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1930s was to have far-reaching implications that echo down the decades to
today. Presaging the philosophy of the structuralist economists of the
1950s and 60s, the Vargas government sought, through trade measures and
primitive industrial policy, to recast the Brazilian economy in the image of
its rich world counterparts. This involved the explicit promotion of heavy
industry and an expansion of protectionist trade measures in what, up to
then, had resembled a classically laissez-faire economy. As a result of these
interventions, the pace of industrialisation considerably quickened, and
Brazil enjoyed healthy growth at a time when much of the rest of the world
remained mired in depression.
The industrialisation policies pioneered under Vargas were consolidated
in the 1940s, 50s and early 60s, and became known as Import Substitution
Industrialisation or ISI (Baer, 2001). The latter involved a combination of
protective trade measures, multiple exchange rates and direct state support for key sectors. As in the 1930s, these measures proved a recipe for
growth. However, the sustained favourable growth performance of the
period did not translate into equitable development. One of the problems
of ISI was that it actively discriminated against the agricultural sector
while failing to generate an expansion in industrial employment sufficient
to absorb all those who had been displaced from the land. Not surprisingly,
the ISI period witnessed a mushrooming of Brazil’s infamous favelas or
shanty towns, thus creating an enduring urban landscape of contrasting
super-affluence and abject squalor.
Aside from its unfavourable distributional consequences, ISI also
proved unable to address its principal objective: the closure of the external deficit (ibid.). Whilst ISI undoubtedly led to growth and industrialisation, it failed to generate export competitive industries. This would
perhaps have not been a problem were domestic industries not so reliant
on key imported inputs, notably oil and machinery. Consequently, as ISI
progressed into the early 1960s, the sustainability of growth became hampered by increasingly worrying external deficits. Also, by this period, supply side bottlenecks and growing trade union militancy had resulted in an
upsurge in inflation. Alongside growing political instability, the deterioration in economic performance prompted the military coup that overtook
Brazil in 1964.
Under the military government, whose hold on power was to last
21 years, the Brazilian economy eventually began to perform more
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successfully as efforts were made to promote exports of industrial products
and limited economic liberalisation took place. During the miracle years of
1968–1973, industrial output and exports grew at near double-digit rates,
while foreign investment poured in as it seemed that Brazil was finally
realising its potential. Whatever the positive international impact created
by these developments, it was not easy to overlook the fact that the distributional question remained unaddressed. In fact, the evidence to hand
suggests that the distribution of income became still more skewed as
growth accelerated (ibid.). Unfortunately, the boom years were not to last,
as, like so many countries, Brazil remained heavily dependent on
imported oil. With the oil price rise of 1973 and the consequent international recession, export opportunities fell away and the oil import bill rose
vertiginously, plunging the external accounts once more into crisis. Rather
than opting for a painful correction of the balance of payments through stabilisation, the Brazilian authorities embarked on a programme of rapacious
international borrowing to plug the gap. This was allied to a programme of
intensified ISI whose objective it was to reduce dependence on imported
machinery and higher technology products (Amann, 2000). At the same
time, efforts were made, via the famous ethanol from sugar cane programme, to reduce the need for fossil fuel imports. These policies, up
until the early 1980s, proved capable of delivering reasonable (though
hardly equitable) annual rates of growth. However, as so often in the past,
the strategy adopted was intimately dependent on the maintenance of
favourable external economic conditions. Once these evaporated (as they
did in the 1980–83 period with OPEC II and the tightening of international capital markets) Brazil was forced once again to step back and
reassess its economic model.
The reassessment of the 1980s occurred against a background of a debt
repayment crisis and a return to civilian government after two decades of
military rule. By the end of the 1980s a consensus had begun to emerge (at
least within the centre and centre-right of Brazilian politics) that given its
persistent tendency to deliver instability and high levels of inflation, the
protectionist, state-directed development model of the past could not be
the way of the future. Instead, a new view emerged, closely modelled on
the so-called Washington Consensus. This held that the future destiny of
the Brazilian economy was best served through a combination of trade liberalisation, regional integration, market liberalisation and a shrinking in
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the role of the state. In 1989, a radical advocate of this position, Fernando
Collor de Melo, was elected president. On assuming office in 1990,
President Collor implemented an ambitious four-year rolling programme
of tariff reforms which effectively abolished the protective apparatus of ISI
(ibid.). President Collor also pressed ahead with an ambitious privatisation
programme while paring down government spending. He also attempted
to wrestle with inflation using a programme of shock monetary therapy.
In macroeconomic terms, the economic consequences of President
Collor’s tenure in office were hardly impressive. Most notably, his counterinflationary programme, which rested on a foundation of bank account
freezes and administrative price controls, ultimately failed. At the same
time, Brazil experienced one of the worst recessions in its postwar history
(Baer, 2001). Despite this, his administration’s emphasis on the primacy of
the private sector as a driver of growth has remained a fundamental tenet
of economic policy under subsequent presidents.
The greater supply side flexibility and openness to foreign investment
advocated by President Collor bolstered his successors as they tried to
boost growth, address the external constraint and battle with the critical
question of inflation. When, following a corruption scandal, President
Collor was forced to leave office in 1992, his caretaker successor Itamar
Franco assembled a team of monetary policy experts. Under the finance
ministers, Rubens Ricupero and Fernando Henrique Cardoso, these technocrats drew up a detailed plan whose aim it was to expunge hyperinflation from the Brazilian economy. The plan, known as the Real Plan, aimed
at tackling the structural causes of inflation through a twin track policy of
fiscal retrenchment and de-indexation (Giambiagi & Moreira, 1999). This
was supplemented through the introduction of a new currency, the Real,
which was pegged against the US Dollar. Following the issue of the Real
in July 1994, inflation, which had stood at four digit levels on an annualised basis, fell rapidly, reaching single figures by 1995. Despite the crises
that have subsequently flared up, annual inflation has remained below
10%. The success of the Real Plan in tackling the inflationary legacy of ISI
remains one of the great achievements of post-war economic policymaking in Brazil. However, Brazil’s economic problems are so deep-rooted that
its rightly praised anti-inflationary efforts, while necessary, have proven far
from sufficient to place the country on the path to sustained, equitable
growth.
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The first concrete indication that the economy remained anchored on
shaky foundations came in 1998 with the global spread of the emerging
markets financial crisis. This crisis, hard on the heels of 1997’s Asian markets crisis, originated in Russia and left international investors examining
their Brazilian assets with renewed caution. While welcoming the end of
hyperinflation and the pro-market orientation of President Fernando
Henrique Cardoso (elected in 1994), investors had nonetheless become
increasingly concerned at the side effects of the Real Plan. One of the
plan’s key problems (as it was configured in 1994–99) was that its counterinflationary power was partly predicated on the maintenance of an artificially high exchange rate against the US Dollar and other major currencies.
Partly as a result of this, Brazil’s international competitiveness slumped
throughout the second half of the 1990s. This prevented exports from the
matching acceleration in newly liberalised imports (Amann & Baer, 2003).
Consequently, by 1998 Brazil’s trade surplus had been transformed into
a deficit. At the same time, investor concern was piqued by the fact that
difficulties were being experienced in controlling the fiscal deficit. The
latter had come under pressure as a result of higher debt-servicing costs
(brought on by counter inflationary high interest rates) as well as structural
issues relating to spending by sub-national governments. With investor
pressure mounting by the day in the middle of 1998, President Cardoso’s
government was obliged to seek the intervention of the International
Monetary Fund (IMF). In return for short-term financial assistance, Brazil
was obliged to adopt a sequence of formal primary surplus fiscal targets, a
measure that remains in place until this day.
Despite the reinforcement of the government’s commitment to orthodox macroeconomic policy implicit in the IMF agreement, investors
remained sceptical as to the ability of the authorities to retain the central
feature of the Real Plan—the rigid exchange rate anchor—in place. By the
beginning of 1999, pressure had mounted to the point where the anchor
had to be abandoned in favour of a more flexible managed float against the
US Dollar. With the most iconic element of the Real Plan diluted and relegated to a supporting role, the emphasis of macroeconomic policy shifted
at the beginning of this decade to an inflation-targeting framework supported by tight monetary policy and demanding IMF-agreed primary surplus targets (Giavazzi et al., 2005).
By the end of President Cardoso’s second and final term in office in
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2002, the Brazilian economy presented a complex and contrasting picture.
On the one hand, a clear break from the past appeared to have been
effected with the vanquishing of hyperinflation, the abandonment of ISI
and the insertion of Brazil into the global economy. On the other hand,
even the staunchest proponents of this policy mix would have acknowledged that the benefits in terms of sustained, equitable growth were yet
to be realised. In the eight years of the Real Plan between 1994 and 2002,
growth had oscillated substantially, with intermittent years of respectable
expansion and sharp retrenchment. While the end of hyperinflation in
1994–95 delivered a one-off benefit to the real incomes of the poor, subsequently the roller coaster performance of the economy did little to alleviate their long-standing disadvantage (Amann & Baer, 2002). The
collective disappointment with President Cardoso’s economic orthodoxy
proved a powerful weapon in the hands of presidential candidate Luiz
Inácio Lula da Silva. Pledging to tackle poverty while maintaining in place
a responsible economic policy, the left-leaning Mr. Da Silva easily
defeated his centrist challenger, José Serra. On taking office in January
2003, President Lula appeared to offer the real possibility of fundamental
change and a concerted attempt to rectify the deep-seated structural problems of the Brazilian economy.
II. BRAZIL’S ECONOMY UNDER PRESIDENT LULA
The challenge
Throughout most of Brazil’s existence as an independent country, the
electorate has proven surprisingly risk averse—opting time and again for
presidents from the centre ground. In the case of President Lula, the electorate appeared to have finally plumped for a more radical alternative. One
interpretation of this is that the population at large became dissatisfied
with politics and economics as usual, and were no longer prepared to tolerate the rank inequality that had hitherto characterised Brazil’s development. While aware of an underlying shift in voter sentiment towards the left,
the Lula administration has nonetheless proven anxious to assuage the
concerns of international investors and multilateral institutions, especially
the IMF. Faced with the frequently conflicting aspirations of its supporters
and the expectations of international investors, the Lula government has
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been forced to walk a policymaking tightrope. As a result, the government’s
radical instincts have been tempered by the desire to keep investors onboard. Thus, despite its left-wing image, the government of President
Lula has exercised great caution in its formulation of economic policy.
On coming to office, the government recognised that the Brazilian
economy, despite the achievements of the Cardoso administration,
urgently required structural reform. As has already been indicated, a persistent difficulty faced by administrations down through the years has
been the reconciliation of sustained growth and equity. Unlike its newly
industrialised counterparts in Asia, the Brazilian economy has proven incapable of delivering steady growth. Instead, periods of sharp expansion
(often lasting no more than one or two years) are swiftly followed by periods of bust. As a result of the erratic nature of Brazil’s recent growth trajectory, it has proven doubly difficult to tackle ingrained poverty and
inequality. Instead, the attention of policy makers has tended to focus on
macroeconomic firefighting, as attempts are made to control periodic outbursts of inflation, currency instability and balance of payments disequilibria. In its policy documentation, President Lula’s Workers’ Party or
Partido dos Trabalhadores (PT) has made it clear that this traditional
approach to economic management cannot offer a lasting solution to
Brazil’s lingering economic problems (Partido dos Trabalhadores, 2002).
Instead, the current administration has set itself the ambitious task of
tackling the underlying structural constraints that are held to impede sustained and equitable growth.
Of these constraints, among the most pressing are those constituted by
the fiscal and external deficits. The external deficit, in particular, has
proved a consistent weak point for Brazil’s economy throughout the course
of its development. In the previous section, the failure of the ISI policy
regime to tackle the trade imbalance was noted. However, despite the
effective termination of ISI in the early 1990s, the Brazilian economy has
still periodically proven vulnerable to “old fashioned” balance of payments crises. Indeed, the difficulties faced by the Real in 1998/99 can be
partly traced to the concerns that investors had over growing external disequilibrium (Amann & Baer, 2003). While it is true that the Brazilian trade
accounts are currently registering a healthy surplus, this is due to
favourable shifts in international commodity prices rather than drastic
improvements in international competitiveness. Previous experience has
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demonstrated the vulnerability of the trade balance once prices for Brazil’s
key commodity exports begin to slump. In this sense, Brazil shares much
in common with other Latin American economies whose trade performance has tended to march in step with alterations in commodity prices
(Bulmer-Thomas, 1994). This apparent vulnerability has only been partially tempered by recent diversification into non-traditional exports such
as automobiles and machinery.
Nonetheless, faced with the emergence of an external deficit, the
authorities in the past have time and again been forced to apply the brakes
by raising interest rates and reducing non-debt service related public
expenditures. As a result of this, the Brazilian economy has, unlike China
or South Korea, found it difficult to register consistent levels of high
growth. Rather, Brazilian experience has more closely mirrored that of the
UK in the 1950s and 60s with its infamous stop–go policies.
Another key structural constraint which the authorities have set themselves the task of tackling has to do with the performance of the public
finances (Giambiagi, 2004). Brazil has historically encountered great difficulties in realizing sustained economic growth without the need to correct,
at some point during the upswing, an expanding fiscal deficit. The persistent tendency of the authorities to run an operational if not a primary
deficit is one of the factors that have constrained growth-facilitating private sector investment. In an economy such as Brazil’s, with a low domestic savings ratio and a relatively thin capital market, the constant call of the
public sector on limited private saving has led to considerable crowding
out. As a result, Brazil’s record on private sector investment has been very
poor, especially in comparison with the Asian Tiger economies. The public
sector has been largely unable to fill the investment gap vacated by the private
sector because of the growing call on public expenditures of debt servicing costs. The latter have tended to mount over the past decade in line
with the pursuit of tight domestic monetary policy and the interest rate
premia demanded by foreign investors for “risky” Brazilian assets. Given
these considerations, it is not surprising that investment as a proportion of
GDP has declined since the beginning of the 1980s. From the perspective
of the need to achieve sustained growth, this is especially troubling. The
legacy of under-investment which Brazil currently endures means that
capacity limitations are soon met once growth accelerates. This, of course,
once again helps explain the “stop–go” character of Brazil’s recent growth.
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So far, the structural constraints that have been identified could be
described as macroeconomic in character. However, there are more fundamental microeconomic constraints, especially in the realm of competitiveness, which the authorities recognise they have to tackle if sustainable
growth is to be delivered (Kassis & Girolami, 2004). As already implied,
Brazil has historically proven very reliant on favourable swings in commodity prices to deliver favourable trade performance. Where these conditions have been less favourable, successive governments have turned
time and again to currency devaluations, stabilisation policy and even outright protectionism. Since the beginning of the 1990s, increasing attention
has been paid to the need to generate underlying improvements in the
competitiveness of exports so that the need to periodically choke off
imports can be avoided.
The competitiveness agenda was pioneered under the government of
President Collor de Melo, and has subsequently moved centre stage to
embrace such issues as technology transfer, employee training and product
quality (Amann, 2000). The current administration has placed particular
emphasis on the need to drive up educational achievement, especially for the
mass of the population who have hitherto enjoyed little access to schooling beyond the rudimentary primary level. The difficulty that Brazil faces is
that its major Asian competitors in manufacturing exports have long invested
a much greater proportion of national wealth in educational provision. As
a result, they have been able to aggressively boost productivity levels,
making even better use of their superior fixed capital stock. The present
government is certainly well aware of the nature of this challenge but, as
will be argued in the next section, faces severe constraints in addressing it.
The final structural obstacle to sustained equitable growth is constituted
by the very existence of poverty and inequality themselves. As has been
repeatedly argued, Brazil’s development has been lopsided, in that the
fruits of economic progress have been unevenly distributed both regionally
and between different population groups. A number of factors account for
this, including the skewed nature of public spending (which disproportionately favours the middle class) and the highly uneven pattern of land
ownership, a feature dating back to the colonial era (Baer, 2001). It can be
argued that Brazil’s endemic inequality and poverty acts as a brake on
future growth and development. This is because large chunks of the population continue to be excluded from the higher productivity formal sector.
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Were these marginalised individuals to join the formal economy and be
capacitated with appropriate education and training, there is no doubt but
that Brazil’s competitiveness and growth potential would rise substantially.
Another favourable consequence would be the likelihood that a more even
distribution of income and opportunity would reduce Brazil’s endemic
problems of criminality and violence. These continue to impede domestic
and foreign investment and constitute a substantial cost of doing business.
The policy response and economic performance
On coming to office, the government of President Lula had bold ambitions, not least in the direction of tackling the structural obstacles to sustained growth discussed above. However, as has already been noted, the
desire of the new administration to face up to this challenge has been tempered by the necessity to win the confidence of international investors and
key multilateral institutions. To the disappointment of its core supporters,
Lula’s government has proven assiduous in pursuing an orthodox fiscal
and monetary policy despite the fact that the results, at least in terms of
growth, have proven thus far less than spectacular.
At the core of the government’s macroeconomic policy stance has stood
a commitment to the pursuit of tough fiscal targets mandated by the IMF.
In 2003, Lula’s first year in office, the primary surplus target (i.e. the balance of revenues and non-debt related expenditures) was raised from
3.75% to 4.25% of GDP. The government, to the relief of investors, has
proven highly effective in meeting or even exceeding these targets. Under
the guidance of the highly respected Finance Minister Antônio Palocci,
the primary surplus has continued to climb, reaching 5.16% of GDP in the
12 months to September 2005 (IPEA, 2005). The strengthening of the
public sector finances has two main causes. In first place, the government
has rigorously contained non-debt related expenditures especially in the
field of public investment. At the same time, it has resisted the temptation
to stimulate activity through tax cuts, with the result that public sector revenues in 2003 increased by R$36 billion, while expenditures rose by only
R$29 billion, while in 2004 revenues increased by R$64.6 billion while
expenditures rose by R$54.3 billion. As a result of this, tax revenue as a
proportion of GDP in 2004 hit 36% compared with 17.3%, 18.3% and
17.4% in Chile, Mexico and Argentina respectively.
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Aside from a tightening fiscal policy, the other key plank of the government’s macroeconomic policy agenda has been the maintenance of tight
monetary policy. Since the managed floatation of the Real in January 1999,
the authorities have kept in place an inflation-targeting framework
(Giavazzi et al., 2005; Minella et al., 2003). As in the case of the UK economy, this has involved the monthly setting of interest rates with explicit
reference to a pre-announced inflation target. As Table 1 below indicates,
this has proven quite effective at maintaining inflation at single digit levels, itself no mean feat given Brazil’s hyperinflationary legacy.
For 2005, the Central Bank has set a full year inflation target of 5.1%, a
figure that looks likely to be overshot, but not by much. However successful the targeting framework has been in meeting its objectives, it must
be recognised that it has involved the setting of base interest rates that are
exceptionally high by international standards. In its meeting of 20th July
2005, the Monetary Policy Committee of the Central Bank decided to
maintain in place the benchmark SELIC base rate at 19.75%. This represents a substantially tighter monetary stance than was the case a year earlier, when the SELIC stood at 16%. From the point of view of the average
borrower (whether corporate or individual), the actual cost of accessing
Table 1: Brazil—price changes
(yearly % change)
Consumer prices (IPCA)
General prices (IGP–DI)
1,927.38
2,075.89
66.01
15.76
6.93
3.20
4.86
7.04
6.84
12.53
9.30
6.70
8.07
2,103.40
2,406.87
67.46
11.10
7.91
3.89
11.32
13.77
10.36
26.41
7.66
12.13
7.80
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005*
*12 months to April
Source: FGV, Conjuntura Economica; Banco Central.
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funds is substantially higher than suggested by the base rate. For example,
in October 2003—when the SELIC stood at 20%—the average annual
interest rate paid by consumers was no less than 70%. The reason for the
large interest rate spreads is largely due to the legal difficulties faced by
lenders in enforcing their rights over borrowers in default. Against this
background, it becomes clear that there are obstacles placed in the way of
sustained higher growth that result simply from lack of cost-effective
access to funds. This affects corporate borrowers as much as it impacts on
consumer spending.
The desire of President Lula’s administration to keep a grip on inflation
through tight monetary and fiscal policy has had important implications for
Brazil’s recent growth performance. On entering office in early 2003, the
new government was initially obliged to maintain base rates above 20%,
the objective being to defend the external value of the Real and assuage
the concerns of international investors. Consequently, GDP rose by only
half a percentage point in 2003, the worst growth performance since 1992
(see Table 2a). With its orthodox credentials established, the government
was then able to lower interest rates by around four percentage points,
with the result that growth accelerated much more strongly in 2004.
Table 2a: Brazil—yearly growth rates of GDP and component bs
1990
1991
1992
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
GDP
Industry
Services
Agriculture
Consumption
–4.35
1.03
–0.54
4.92
5.85
4.22
2.66
3.27
0.13
0.79
4.36
1.31
1.93
0.54
4.94
–8.73
0.26
–4.22
7.02
6.73
1.91
3.28
4.65
–1.03
–2.22
4.81
–0.50
2.57
0.07
6.18
–1.15
0.33
0.30
1.76
1.80
1.30
2.27
2.55
0.91
2.01
3.80
1.75
1.61
0.61
3.32
–2.76
1.37
4.89
–0.08
5.45
4.07
3.11
–0.83
1.27
8.33
2.15
5.71
5.54
5.00
5.30
–0.94
0.50
0.09
4.07
5.87
7.01
3.13
2.90
–0.05
0.27
3.24
0.63
0.05
–0.76
3.04
Fixed capital formation
–10.90
–4.72
–6.62
6.33
14.25
7.29
1.20
9.33
–0.33
–7.24
4.46
1.06
–4.16
–5.13
10.92
Source: IBGE/IPEA
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Table 2b: Brazil—quarterly growth rates of GDP* and components
2004
GDP
Agriculture
Industry
Services
Gross fixed investment
2005
2002
2003
q1
q2
q3
q4
q1
q2
q3
1.9
5.5
2.6
1.6
–4.2
0.5
4.5
0.1
0.6
–5.1
4.0
5.8
5.5
2.4
1.8
4.6
5.9
5.9
2.8
7.5
5.9
5.9
7.0
4.1
19.3
4.7
3.0
5.9
3.6
9.3
2.8
3.6
3.1
2.2
2.3
4.0
3.2
5.5
2.6
4.1
1.0
–1.9
0.4
1.5
–2.1
* relative to same period in previous year.
Source: IBGE; IPEA, Boletim de Conjuntura; Conjuntura Econômica
Unfortunately, due to the emergence of price pressures, the authorities
have subsequently been obliged to retighten monetary policy. For this reason, economic activity slowed notably in the third quarter of 2005 compared with the same period a year earlier (Table 2b). These developments
point to the argument that has been advanced at a number of points;
namely, that Brazilian growth, due to the existence of structural constraints, is quite strongly speed limited.
A consequence of the failure to achieve sustained accelerated growth
has been the tendency of real earnings to remain subdued. As Table 3
demonstrates, for much of 2003 and 2004 real earnings remained below
Table 3: Brazil—monthly real wages
(September 2001 = 100)
January
February
March
April
May
June
July
August
September
October
November
December
2002
2003
2004
2005
95.3
100.9
100.6
103.5
101.1
99.6
100.4
99.9
100.5
111.1
92.6
89.3
89.3
86.8
86.8
85.6
86.8
85.4
84.5
85.0
87.4
106.9
85.9
87.0
86.2
85.5
87.1
88.0
86.5
87.7
86.7
86.9
90.6
105.0
88.2
88.6
87.3
Source: Conjuntura Economica
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Brazil’s Economy Under Lula
levels achieved in 2002, the final year of President Cardoso’s administration. Unemployment, too, has remained stubbornly high (Cruz, 2004)
reaching 11.1% of the working population of São Paulo, Brazil’s largest city,
in April 2005.
One of the most positive macroeconomic developments under the present administration has been the performance of the external accounts.
Despite a relatively strong Real, and lingering problems of industrial competitiveness, Brazil has lately realised a series of impressive trade surpluses. Table 4 indicates the extent to which the trade balance has
continued to move into the black under the Lula administration. Partly as
a result of this development, Brazil has been able to accumulate foreign
reserves which had been run down in the 1998–1999 crisis period.
The favourable performance of the trade balance has primarily been
driven by a healthy accleration in demand (and prices) for Brazil’s natural
resource-based products, especially such staples as metallic ores, soya and
steel. While manufactured exports have performed respectably well (automotive products and aircraft in particular), their dynamism has not
matched that of their lower-tech, natural resource-based counterparts.
Brazilian exporters of such products have particularly benefited from an
expansion in Chinese demand for metallic ores, and US demand for agricultural staples. At the same time, the high international oil prices which
Table 4: External sector
(US$ billions)
Exports
Imports
Trade balance
Interest
Profit remittances
Current account
Portfolio investment
Direct investment
Amortization
Foreign debt
Foreign exchange reserves
1998
1999
2000
2001
2002
2003
2004
51.1
57.7
–6.6
–11.4
–6.8
–33.4
18.4
28.9
48.0
49.2
–1.2
–14.9
–4.1
–25.3
3.5
28.6
223
44.6
226
36.3
55.1
55.8
–0.7
–14.6
–3.3
24.2
8.6
32.8
25.8
217
33.0
58.2
55.6
2.6
–14.9
–5.0
–23.2
0.9
22.5
35.2
210
35.9
60.4
47.2
13.2
–13.1
–5.2
–7.7
–4.7
16.6
38.9
211
37.8
73.1
48.3
24.8
–13.0
–5.6
4.2
5.1
10.1
45.1
216
49.3
96.5
62.8
34.0
–13.4
–7.3
11.7
–4.0
18.2
48.7
220*
52.9
* 3rd quarter
Source: Banco Central do Brasil
WORLD ECONOMICS • Vol. 6 • No. 4 • October–December 2005
163
Edmund Amann
previously hobbled Brazil’s trade performance have not this time proved
damaging, given the rapid expansion of domestic oil production and
exploration.
All in all, the economic record of the current administration is far from
discreditable. The question is whether the measures necessary to ensure
the continuation of economic expansion and the alleviation of poverty are
being implemented. With the current commodity boom unlikely to last
forever, this is a question that clearly deserves attention.
In the previous section it was argued that the ability of growth to proceed in a sustained and equitable fashion was limited by a number of key
structural constraints. Briefly restated, these were: the tendency of fiscal
and external deficits to emerge, low domestic saving and investment,
problems of international competitiveness, low educational investment
and attainment, and the very existence of poverty and inequality themselves. The administration’s record in tackling these constraints has been
mixed and, as will be argued in the conclusion, the political crisis currently
embroiling President Lula is likely to limit further the liklihood of success
in overcoming them.
Regarding the first constraint identified, that concerning the fiscal and
external deficits, it will be clear that the evidence so far is broadly
favourable. The government has managed to check the expansion of the
operational deficit (i.e. total revenues minus total expenditures) through
the aggressive generation of primary surpluses. It is also the case that
Brazil’s external accounts have performed well by historical standards,
largely on the back of the exceptionally favourable evolution of the trade
balance. Still, the authorities have already made clear by their actions that
they do not believe the economy capable of growing uninteruptedly at
Asian style rates of 5% plus per annum.
There may be good reason for such caution. In terms of the trade balance, the favourable performance experienced so far has been achieved
against a backdrop of accelerated global demand for commodities and
domestic demand for imports held in place by tight fiscal and monetary
policy. Were domestic demand to pick up on a consistent basis, then the
authorities probably have every reason to fear a return of the late 1990s
when imports rose at a pace unmatched by exports. While it may eventually prove possible to improve export competitiveness to the point where
such fears become baseless, this is clearly not the case at present. The
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Brazil’s Economy Under Lula
Lula administration has continued and expanded upon the productivityboosting and export promotion policies of its predecessors. However, as an
examination of export data makes clear, the target sectors of this policy
(mostly within mid-tech manufacturing) have not proved anything like as
dynamic as their more traditional, natural resource-based counterparts.
Perhaps an even more fundamental constraint to growth is represented
by low domestic savings and investment. As has already been argued, tight
monetary policy and high interest rate spreads make the cost of borrowing
prohibitively expensive in Brazil. At the same time, capital markets are
thin and illiquid, making the raising of funds through share issues a much
more difficult proposition than in the US or Europe. At a more fundamental level, domestic rates of savings are rather low in Brazil, and the
government, despite its efforts at fiscal reform, continues to absorb the
lion’s share of what resources are available. For these reasons, corporate
investment in Brazil, when it occurs, tends to be financed principally
through retained earnings.
Against this background, it is perhaps not surprising that investment as
a proportion of GDP has continued to hover at a level of around 20%,
much as it did in the early 1980s. To its credit, the Lula administration,
above and beyond its efforts at fiscal reform, is trying to rectify this situation. One such measure introduced in 2004 is the new Bankruptcy Law
which should make it easier for creditors to foreclose on debtors in default
(Bloomberg, 2004). If the law functions as intended in the courts (this is
by no means certain) then interest rate spreads should eventually fall to
the benefit of both corporate and personal borrowers. Another piece of legislation—this time designed to boost the rights of minority shareholders—
came into operation at the end of President Cardoso’s term. The idea
behind this legislation is to increase the attractiveness of the stockmarket
to small investors, thus hopefully boosting depth and liquidity. So far, the
evidence is that the legislation has had little effect on its objectives.
Within the business community, however, much of the pressure on the
Lula administration regarding investment issues centres less on capital
market reform than on the desire to bring about rapid reduction in base
rates. Faced with supply side constraints and inflationary pressures, the
Central Bank’s Monetary Policy Committee has been less than receptive
to these overtures. As a result, base rates in Brazil continue to correspond
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Edmund Amann
to the interest charged on sub-prime credit card borrowing in countries
such as the UK.
On coming to office, the pronouncements of the Lula administration on
its committment to increase expenditure on basic education and poverty
alleviation were received with great enthusiasm and hope both inside and
outside Brazil. At the heart of the government’s poverty alleviation strategy stood the Zero Hunger and its associated Family Grant programme
(Programa Fome Zero, 2003; O Estado de São Paulo, 2003). Briefly stated,
these programmes aimed to tackle directly Brazil’s endemic poverty
through a mixture of investment in social infrastructure and direct provision of resources to needy families. Unfortunately, both programmes have
been hampered with organizational problems as well as fundamental
design flaws.
A further difficulty encountered by the programmes stemmed from
budget allocations considerably lower than those originally projected. The
reductions in available resources stemmed from the government’s decision
to tighten fiscal policy and run higher primary surpluses in 2003–04. This
involved a R$5bn cut in resources available for social spending. The government’s widely-praised commitment to raise educational spending, too,
suffered from the fiscal tightening which has characterised Lula’s first 2½
years in office. No less than R$341m was trimmed off educational spending in 2003–04. Perhaps significantly, the volume of the government’s pronouncements on the need for social reform, poverty alleviation and
spending on education has quitened noticeably over the course of its term
in office. This in turn has led to considerable dissent and disappointment
within the ranks of the PT, President Lula’s party.
The difficulties encountered by the authorities in attempting to raise
growth-potential enhancing expenditures on education, poverty alleviation and in other key areas point to the real consequences of a decision to
accord primacy to fiscal and monetary orthodoxy. As Table 5 makes clear,
the government’s scope for discretionary, non-debt related expenditure
has narrowed appreciably since the end of the 1990s. This is especially
true of capital spending, an item which is of vital significance for the
growth potential of the economy. The key driver in reducing the scope for
discretionary spending, whether on capital projects or programmes such as
Zero Hunger, is the combination of high interest rates (which raise debt
servicing costs) allied to self imposed restrictions on spending (embodied
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Table 5: Brazil—federal government expenditures
(% distribution)
1994 1995 1996 1997
1998 1999
2000 2001 2002
2003 2004
Current expenditures
Wages and benefits
Public debt service
Transfers to states and
local governments
Social security
Other current expenditure
50.0
12.9
7.1
55.2
16.2
7.1
53.0
14.2
6.6
43.8
11.5
5.4
40.2
9.6
6.2
38.4
8.8
7.5
40.6
9.4
6.3
48.8
10.8
8.8
50.2
11.1
8.2
44.1
9.1
7.6
48.4
9.8
8.2
8.6
12.1
9.3
9.1
13.7
10.0
9.0
14.2
9.0
7.7
11.8
7.4
7.6
10.8
6.0
7.1
9.8
5.2
8.4
10.5
6.0
10.0
12.4
6.8
10.8
12.9
7.2
9.2
12.4
5.8
10.1
13.5
6.8
Capital expenditures
Investments
Financal investments
Amortization of debt
25.7
2.9
4.4
18.6
9.0
2.0
4.2
2.8
21.7
2.0
16.4
3.3
20.6
1.6
14.2
4.8
15.6
1.2
9.8
4.6
10.5
1.6
1.8
7.1
14.9
2.5
3.3
9.1
14.8
1.5
3.1
10.2
12.5
0.7
2.6
9.2
11.5
1.2
2.4
7.9
Amortization refinancing
24.3
38.0
34.5
39.2
46.0
48.9
36.3
35.0
43.4
40.1
Total
8.7
.2.1
2.9
3.7
36.1
100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0
Source: Minsterio da Fazenda, Tesouro Nacional
in the IMF-approved primary surplus targets). However, the pursuit of fiscal and monetary orthodoxy alone cannot wholly explain the government’s
practical difficulties in allocating spending to overcome growth-inhibiting
structural obstacles. As will be noted in Table 5, spending on social security (which in fact disproportionately benefits middle class public sector
employees) has increased as a percentage of total government spending
since the end of the 1990s (Rands, 2003). The powerful interest groups
representing the beneficiaries of the social security system have proved
adept at limiting the scope of reforms which might have freed up
resources for use elsewhere.
Conclusions
Brazil remains one of the great enigmas of the global economy. Despite an
enviable resource base, undoubted areas of technical expertise and a large
and entrepreneurial population, the Brazilian economy has continued to
punch below its weight. Far from matching the recent economic record of
its Asian counterparts, lately Brazil has struggled to emulate its own performance during the oft-maligned ISI period. This article has argued that
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Edmund Amann
for a step change in economic performance to occur, Brazil will have to
take concrete action to overcome the structural obstacles standing in the
way of sustained and equitable growth. The government of President
Lula has not been reticent in identifying the policy measures that it
believes necessary to face up to this challenge. However, given its commitment to the pursuit of fiscal and monetary orthodoxy, the government
has severely limited the scope for putting these policies into practice. For
this reason, the Brazilian economy has yet to realize its undoubted
potential.
Of course, it could be argued that a phase of economic orthodoxy, in
allowing the government to build up credibility among investors, might
provide a springboard to a period in which bolder reforms were attempted.
Unfortunately, such a sequence may not be politically feasible in Brazil
right now. The government of President Lula is currently embroiled in the
most serious corruption scandal to affect an administration since the days
of President Collor in the early 1990s (see Veja, 2005). The scandal, which
centres on allegations of improper party funding, has already prompted the
departure of several senior government figures including the President’s
former Chief of Staff. Against this background, the legislative agenda has
been thrown into disarray and the President’s authority to champion
much-needed reforms in Congress has been perhaps fatally weakened. At
the time of writing there was very little immediate prospect of much forward progress in the structural reform programme. As has been argued,
such reform remains essential if Brazil is to embark on a path of sustained,
accelerated growth.
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