BRICs Series – 3 : Brazil and its Recent Rise

Some Historical Background:

Brazil achieved independence from Portugal in 1822, but a constitutional monarchy was preserved until 1889. The old republic (1889–1930) was a highly decentralized state dominated by local political clans. Internal conflicts led to the collapse of the republic in 1930, again peacefully, and the arrival in power of the dominant figure in Brazilian politics in the first half of the twentieth century, Getúlio Vargas. Economic depression and regional disputes provoked a military coup in 1930, bringing the nationalist Vargas to power. Vargas developed policies to make the country self-sufficient and independent – developed manufacturing and chemical sector. Economic difficulties and the intensification of labour agitation led to another military coup in March 1964.

Brazil’s went through an “economic miracle” in 1968-73 (grew at 10% annually), when high rates of growth were accompanied by industrial diversification and some trade liberalisation. But Brazil was highly reliant on foreign capital inflows during these years.  The oil crisis of 1973 exposed this weakness and contributed to the faltering of growth, an increase in external indebtedness and an acceleration of inflation. As a result, the government saw the drive towards self-sufficiency as a national security imperative, and hence adjusted its national economy. It pushed firms into sectors they might not otherwise had entered into – example: energy sector. It invested heavily in hydroelectric power and undertook pro-alcohol program to harness its plentiful sugarcane harvests – a renewable / inexpensive energy source. These initiatives succeeded in reducing Brazil’s reliance on oil imports. Today, 46% of Brazil’s energy comes from its renewable sources (the world average is 13%). Following a period of gradual political liberalisation (1974-85), the military relinquished power.

During the 1980s, the government began to dismantle many elements of its import substitution industrialization policy – trade was liberalized, and unilateral tariff reduced. An economic stabilisation plan, known as the Real Plan, launched in 1994 by the then finance minister, Fernando Henrique Cardoso, finally succeeded in bringing the era of hyperinflation to an end. This paved the way for the election of Mr Cardoso to the presidency later that year. Between 1991-2001, the government sold $110 billion worth assets and became a “privatization’s poster child”. But the opening of the economy, an overvalued exchange rate and the lack of progress on fiscal reform resulted in large external and fiscal financing requirements. These left Brazil exposed to contagion from the Asian and Russian crises of 1997-98. Mr Cardoso was re-elected in 1998. Efforts to restore confidence and consolidate macroeconomic stability dominated Mr Cardoso’s second term.

Economy:
Structure – Services Sector – 65.8% of GDP, Industry – 28.7% of GDP, Agriculture – 5.5% of GDP.

Brazil has been growing at average rate of 3.6% between 2000-08. The main reason for the underperformance is that the government has been in the process of implementing a new stabilization program with a view to achieving macroeconomic stability. Over the years, its GDP has been constrained by high public borrowing needs, years of underinvestment in infrastructure, persistently high interest rates and a burdensome tax regime – hence, a high cost of doing business in the country.

Favorable external conditions (high prices for the commodity it exports and high demand for these commodities from China) boosted economic growth in recent years (growth of ~ 5% in past few years). Also, a recovery in private consumption due to the poverty alleviation policies, easy access to credit, and a period of monetary easing have also played a part in the recent economic growth.

Although the agricultural sectors accounts for a small portion of its GDP, it’s a very important sector for Brazil due to its significance as an employer in rural areas and its export intensity. Twenty percent of all formal jobs in the country are in the agricultural sector. Also this sector runs a large foreign trade surplus, and has been highly profitable.

Strengths:

– Natural resources (well endowed) – vegetation is diverse (amazon rain forest), large supply of fresh water, vast amounts of iron-ore, and newly found oil resource.

– Peaceful relations with neighboring countries.

– Climate – Tropical, conducive for agriculture.

– Inequality decreasing – millions moving out of absolute poverty – mainly due to a conditional cash transfer program called “Bolsa Familia”.

– Big domestic market.

– Successful inflation targeting by the government in recent years.

– Use of technology to reverse disadvantage of lack of oil – as a result booming energy sector.

– Political stability – small government (politically that is).

Weaknesses:

– Education – Poor quality – hence skill of labor force is very low, and labor productivity has lagged.

– Ineffective public investment in R&D, and very little private investment in R&D. The investment is not generating innovation.

– Limited interaction and collaboration between private firms and universities. Brazilians firms seems to relying too little on international technology transfer. The universities tend to limit, instead of expanding human resource international exchanges.

– Low Savings and investment rates – government borrows a lot, beyond its means.

– High tax rates, interest rates, cost of labor – hence, high cost of doing business in the country.

– Economy too closed for trade.

– Bloated public sector.

– Government – flawed democracy – need to modernize institutions, and needs political and judicial reform – to improve efficiency and reduce costs (corruption).

– Infrastructure Poor – a huge bottleneck to its economic growth.

– Crime rate high, threat of violence due to illegal drug cartels.

– Uneven income distribution – although huge improvement made in recent years.

– Rigid Labor Market – unions, regulations, taxes.

Threats to Brazil:

– illegal drug war spillover from neighboring countries.

– drop in the currently high commodity prices that it exports.

– environmental issues – deforestation of the amazon, international pressure.

– Dutch disease.

– dependence on monsoon for agricultural output – percentage of irrigated land is low.

– its focus on trading with the South, and ignoring the North.

– further appreciation of the Real (currency is over valued).

– the rise of India and China will provide competition to its exports.

Opportunities…and things Brazil needs to do:

For its continued success, and an average 5% annual GDP growth from here on, Brazil needs to tackle the difficult structural problems that are dragging its competitive edge:

– it saves and invests very little – flawed fiscal policies.

– its economy is relatively closed to trade – lack of competition, and high cost of doing business in the country – high tax rates, interest rates, cost of labor.

– poor quality of education – results in low labor productivity.

– its institutions – needs for implement structural reforms to improve and modernize its institutions – governance, judicial, law.

The government is large in Brazil, and become even larger under the recent President Lula administration. The social benefits have become a huge burden on its economy….as a result of which, the taxes are very high. Also, Brazil’s manufacturing part is going down, and it is increasingly becoming natural resources oriented. This can be difficult in the future if the natural resources are not managed correctly. Hence, it also needs to invest in R&D, education, infrastructure and it needs to reforms the size of its government and benefits for working in the government.

Other recommendations:

– trade liberalization. Pursue multilateral trade agreements, especially with the North.

– implement comprehensive labor reform – labor laws to suit dynamic and competitive services-oriented economy.

– privatize public services – to increase efficiency and competitiveness, and to reduce costs.

Brazil’s recent economic boom has been mainly due to the high commodity prices, and due to its trade with a booming China. And even with its discovery of huge oil deposits recently, its economic policies are flawed, and risky. For long-term sustainability of its economic growth, it needs to integrate into the global market, reform its fiscal policies, and try to get away from its traditional big government philosophy.

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About pritamkabe

Originally from Bombay, India. Relocated to the United States in 1997 for attending graduate school at The University of Texas. Completed my Masters in Electrical Engineering in 1999 and then worked in the Hi-Tech industry for the next 11 years in Austin, Texas. I have a passion for travelling, meeting new people, and experiencing new cultures...and i've been very fortunate to have gotten the opportunity to travel quite a bit. Sports and food are my other big passions in life. Some life-changing experiences in my life a years ago changed my perspective of life, after which, just have an engineering job was not meaningful to me anymore. Hence i quit my engineering career, and I'm now motivated to give back to society and make a positive impact in some way. To get started on that journey, i went back in graduate school, and recently graduated as a "Mid-Career Fellow in Foreign Service", from the Edmund A. Walsh School of Foreign Service, at Georgetown University, Washington DC. Currently in New Delhi, India, on a research fellowship, to learn about the educational issues in India, and brainstorm my ideas about technological interventions for resolving those issues.
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