You know that feeling you get when you buy something expensive just to find out that the income you were counting on to pay for it won’t materialize? Well, if politicians in Brazil were responsible, that’s how they would feel. The country won its bid to run its budget a little bit more into the ground by hosting the Olympic games this coming August at a time when the country faces economic and politic disaster.
The Economist had a few excellent pieces on the issue in the last week. For instance, this piece brutally describes the sad state of the country:
On December 16th Fitch became the second of the three big credit-rating agencies to downgrade Brazil’s debt to junk status. Days later Joaquim Levy, the finance minister appointed by the president, Dilma Rousseff, to stabilise the public finances, quit in despair after less than a year in the job. Brazil’s economy is predicted to shrink by 2.5-3% in 2016, not much less than it did in 2015. Even oil-rich, sanction-racked Russia stands to do better. At the same time, Brazil’s governing coalition has been discredited by a gargantuan bribery scandal surrounding Petrobras, a state-controlled oil company. And Ms Rousseff, accused of hiding the size of the budget deficit, faces impeachment proceedings in Congress. …
At 70% of GDP, public debt is worryingly large for a middle-income country and rising fast. Because of high interest rates, the cost of servicing it is a crushing 7% of GDP. The Central Bank cannot easily use monetary policy to fight inflation, currently 10.5%, as higher rates risk destabilising the public finances even more by adding to the interest bill. Brazil therefore has little choice but to raise taxes and cut spending. …
By the end of 2016 Brazil’s economy may be 8% smaller than it was in the first quarter of 2014, when it last saw growth; GDP per person could be down by a fifth since its peak in 2010, which is not as bad as the situation in Greece, but not far off.
To make matters worse, the inflation rate is about 12 percent — roughly equal to the president’s approval rating.
At the heart of the problem is the big government policies implemented by the president Dilma Rousseff and her party:
Brazil’s suffering, like that of other emerging economies, stems partly from the fall in global commodity prices. But Ms Rousseff and her left-wing Workers’ Party (PT) have made a bad situation much worse. During her first term, in 2011-14, she spent extravagantly and unwisely on higher pensions and unproductive tax breaks for favoured industries. The fiscal deficit swelled from 2% of GDP in 2010 to 10% in 2015.
Another article in the magazine adds:
[Since 1988] federal outlays have nearly doubled to 18% of GDP; total public spending is over 40%. Some 90% of the federal budget is ring-fenced either by the constitution or by legislation. Constitutionally protected pensions alone now swallow 11.6% of GDP, a higher proportion than in Japan, whose citizens are a great deal older. By 2014 the government was running a primary deficit (ie, before interest payments) of 32.5 billion reais ($13.9 billion) …
Taxes already consume 36% of GDP, up from a quarter in 1991.
Tax compliance is also excessive:
A typical manufacturing firm spends 2,600 hours a year complying with the country’s ungainly tax code; the Latin American average is 356.
And this is a good reminder that a constitution can used for both good and bad purposes:
Poor though her record has been, some of these problems have deeper roots in what is in some ways a great achievement: the federal constitution of 1988, which enshrined the transition from military to democratic rule. This 70,000-word doorstop of a document crams in as many social, political and economic rights as its drafters could dream up, some of them highly specific: a 44-hour working week; a retirement age of 65 for men and 60 for women. The “purchasing power” of benefits “shall be preserved”, it proclaims, creating a powerful ratchet on public spending.
Tyler Cowen points to a paper a few days ago that shows that the Brazilian fiscal policy has been excessively pro-cyclical:
Our results confirm Brazil’s pro-cyclical fiscal drive evidenced in the literature, with a negative correlation between the policy stance (measured by the structural balance) and the action of automatic stabilizers such as tax collection (measured by the cyclical balance). We also note a recurrent use of budget-enhancing one-off operations in times of fiscal consolidation or cyclical downturns.
We conclude that the current policy setting – based on non-structural primary balance targets – produces a pro-cyclical fiscal policy bias: in booming years, it leads to overspending; in recession years, it leads to tightening and a search for extraordinary revenues.
We shouldn’t be surprised by the collapse of Brazil. For years now the government has been growing faster than economic growth, which is a formula for disaster. And we shouldn’t be surprised that a country that models its labor laws on those of Mussolini’s Italy ends up in trouble.
Reforms, obviously, will be hard when you have so many people and firms depending on government handouts for what they believe is their survival and when politicians are not only corrupt but convinced of the benefits of big government.
So, as this new year begins, I would like to wish those in charge of reforming the Brazil’s disastrous public finances good luck and extreme courage.