Brazil, Country of the Future No More?

SANTIAGO – During a visit to Rio de Janeiro last year, US President Barack Obama told a cheering crowd that Brazil is the country of the future no more. “For so long, you were...told to wait for a better day that was always just around the corner,” Obama said. “Meus amigos, that day has finally come.”

Is Obama right? At first blush, the answer would seem to be an unambiguous yes. Brazil today is democratic, and its president gets to sit next to Russian, Indian, and Chinese leaders at much-publicized “BRIC” summits. The economy weathered the crisis triggered by Lehman Brothers’ collapse in 2008, and mounted a vigorous recovery in 2010. Brazil not only remains a top football power, but it will host the World Cup in 2014 – and the Summer Olympics two years after that.

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For a while, financial markets were engrossed in a torrid love affair with Brazil. In the aftermath of the crisis, capital poured into the country, bidding up asset prices. Oil giant Petrobras raised $67 billion in its IPO, which until then was the world’s largest.

But dig a little deeper and a more complex picture emerges. An apartment in a fashionable São Paulo neighborhood may cost as much as it would in London or New York, but, when it comes to competitiveness, Brazil ranks 53rd on the most recent World Economic Forum index – just ahead of Mauritius and Azerbaijan, and behind Malta and Sri Lanka.

Of course, Brazil’s macroeconomic situation is vastly better than it was a decade ago, when capital fled the country and the exchange rate collapsed in the months before Luiz Inácio Lula da Silva was elected President. Years of primary fiscal surpluses, which began under President Fernando Henrique Cardoso and continued after 2002 under Lula, have brought public debt under control and earned Brazil an investment-grade credit rating.

But how fast Brazil can grow, and for how long, remains in question. After the 2010 boom, economic growth slowed precipitously. Indeed, by the third quarter of 2011, growth had stalled. Economic activity has picked up a bit since then, but forecasts for 2012 put real GDP growth at only 3.5% or less.

The key growth constraint is lack of domestic savings. If Brazil raises its investment rate to 23% of GDP from today’s 19% (as it must to build all that World Cup infrastructure), it will have to run a current-account deficit and rely on external savings equivalent to 3-4% of GDP for years to come. That gap can be easily financed with today’s abundant global liquidity, but a disorderly European default or an eventual US monetary tightening (yes, it will happen one day) could change that.

Moreover, because investors do not view Brazilian and non-Brazilian assets as perfect substitutes, low domestic savings mean perennially sky-high (nominal and real) domestic interest rates. Brazil is a country where traders get excited whenever the Central Bank’s short-term interest rate drops below 10%.

To offset the impact on investment of such high capital costs, the state-owned Brazilian Development Bank (BNDES) offers tens of billions of dollars in long-term loans at zero or negative real interest rates. That certainly benefits the firms that can get such loans; unfortunately, those firms are not necessarily Brazil’s most productive.

Both the private and public sector in Brazil under-save, but the government’s dearth of savings is the bigger problem. It is not for lack of revenue: Brazil’s tax receipts as a share of GDP are the highest in Latin America. The problem is a state that invests far too little because it has locked up too much money in inflexible current expenditure.

Public-sector pensions are a good example. A recent report by the bank Itaú estimates that in 2010, the social-security system covering private-sector workers spent 6.8% of GDP on benefits granted to 24 million people. In the same year, the system for public-sector workers spent about 2.1% of GDP on benefits – but for fewer than three million people. In other words, the average government pensioner’s benefits are 2.5 times higher than what the average private-sector retiree receives.

President Dilma Rouseff is aware of the problem, and her government is shepherding through Congress an ambitious pension reform. But progress, perhaps inevitably, has been slow. The reform is expected to be approved by the lower House imminently, and then move on to the Senate – a mere 15 years after it was first introduced.

The point is to free up resources for the public investment that Brazil desperately needs. In a continent-sized country far from Asia’s markets, transport costs are key. Brazil must build new roads, ports, and airports, and not just for football-mad tourists in 2014. It must build them to create the new exports and the higher-paying jobs needed to reduce Brazil’s continent-sized income inequality. If and when that happens, Brazil will be the country of the present and the future.

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