Tuesday, September 2, 2014
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Lula in the Shadow of Chávez

To many on Wall Street, the US State Department, and the IMF, the specter of Ché Guevara and past legions of bearded, bandana-wearing commandantés is haunting Latin America. Not without reason. Left-leaning military officers have been on a roll lately. But another ghost haunts the continent: economic ignorance about Latin America in the capitals of the West.

Brazil's new President Luiz Inacio Lula da Silva was elected with the same great expectations that brought the ex-paratrooper and coup leader Hugo Chávez to power in Venezuela three years ago. But it would be unwise to paint President Lula as a dangerous populist just because his political base resembles that of the wayward Chávez.

President Lula's poorest supporters undoubtedly expect him to transform Brazil from the world's most unequal society into a modern social democracy. His middle-class backers are no less eager to see their living standards grow. But despite these expectations, Lula is unlikely to pursue anything like the chaotic "Bolivarian Revolution" Chávez unleashed.

Expectations are always the hardest thing for leftist leaders to manage. For example, Lula's Workers' Party, which rejected pension reforms submitted by the previous Cardoso administration, expects Lula to preserve far more of the scheme than former President Cardoso believed possible.

More demanding are the expectations of speculators and investors in New York and London. They expect Lula to accomplish the equivalent of Nixon's trip to China--to be the leftist who hard-headedly balances Brazil's budget, eliminates foreign investors' fear of debt repudiation via hyperinflation, and gives them fat capital gains on their Brazilian stocks and bonds.

Unlike in Venezuela, there is a viable scenario in which both visions--macroeconomic orthodoxy and greater social justice--can be realized. Suppose Brazilian interest rates stabilize at a high but not astronomical 10%, the economy grows at 4% per year, and the government achieves a "primary surplus"--a surplus of taxes over program spending--equivalent to 4% of GDP. These are all feasible targets; if they are met, then Brazil's government debt will be a stable 60% of GDP.

Once investors see that Brazil's fiscal policy is sustainable, and they see continued low interest rates in the industrial core, Brazil will look more attractive. Foreign direct investment will flow in, bringing more access to world-class technology and further boosting economic growth.

Soon, Brazil's government would find itself able to roll over its short-term debt on more favorable terms, as interest rates drop below 10%. Reduced debt-service costs would mean that the debt/GDP ratio would start to fall, and government spending on infrastructure, education, healthcare, and redistribution could rise. Reduced government debt would also means more money available for private investment, providing a further boost to labor productivity.

But all of this would require extraordinary patience on the part of the Workers' Party and its supporters, whose hopes must be deferred as immediate priority is given to appeasing the bond market. Will Lula have sufficient command over Brazilian politics to keep his supporters and political cadres happy with promises of jam tomorrow when it is clear that there will be no bread today?

Indeed, a strategy of bond-market appeasement places may turn out to be futile, because it places a huge bet on the rationality of global financial markets. But the people in New York and London who set interest rates know little about Brazil. They know that Ipanema is a beach, that the Amazon is a river, that ex-US Treasury Secretary Paul O'Neill worried that money loaned to Brazil would re-appear in numbered European bank accounts, and that Lula is a president without administrative experience who heads a party with "workers" in its name.

Remember, these are the type of people who once thought that selling dog food over the internet was a brilliant business strategy, and that by 2010 Qualcomm would be able to sell two mobile phones a year to everyone in the northern hemisphere. If such people cannot be appeased, or if they panic for no particular reason, then everything goes down the drain. Lula becomes a failure and Brazil loses another decade as its economy sinks into a depression of uncertain length and suffers inflation of uncertain magnitude.

Once upon a time, Lula would have been able to rely on broad international support, as Cardoso did. The Clinton Administration and the IMF educated financial markets about countries that they believed were following sound policies and that had bright long-run growth prospects. The US Treasury under Robert Rubin and Larry Summers was unafraid to join the IMF in betting the store on Mexico, Thailand, Korea, and Brazil when they thought the odds were favorable.

Perhaps this assurance of broad international support made it prudent--or at least less imprudent--to appease the financial markets first. It is not at all clear that the Bush Administration and today's IMF can offer similar support. So Lula's odds do not look particularly high. But they still look better than the odds attached to any alternative political-economic strategy--and certainly than anything being offered by khaki-clad would-be commandantés.

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