Martin Wolf: Brazil’s crisis presents an opportunity

Brazil is in economic, political and moral crisis. This is not my judgment. It is the judgment of a former senior official I have known for decades.

It is hard to argue with this: the economy has suffered a huge recession, with real incomes per head down 9 per cent between 2013 and 2016; growth is structurally too slow; the fiscal position is unsustainable; and a corruption scandal has engulfed the political elite and leading businessmen.

Indeed, the Supreme Court has authorised investigations into one-third of current cabinet members, one-third of senators, and one-third of state governors, as well as the president, leaders of congress and of the main political parties. Not surprisingly, politicians and parties are discredited. As I learnt when in Brazil last month, local experts fear this may lead to an extreme polarisation of politics. Yet a crisis can also lead to change. Brazil should seize that opportunity.

Stability

One must not exaggerate the gloom. Life expectancy has risen from 60 years in 1970 to 74 in 2017, while the fertility rate has fallen from five children per woman to just 1.7.

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The energy of the judiciary in pursuing the Lava Jato, or Car Wash, investigation into corruption is admirable. The recession has even turned into a mild recovery: the International Monetary Fund forecasts growth at 0.7 per cent this year and 1.5 per cent in 2018. The latter could be too pessimistic. The monetary stability gained in the 1990s persists, with year-on-year consumer price inflation down to 2.5 per cent in September.

Nevertheless, the structural economic and political challenges are huge. Income inequality remains among the highest in the world. That is not offset by fast growth: between 1995 and 2016 real gross domestic product per head rose just 25 per cent, putting Brazil behind Argentina, Mexico, Colombia and Chile. Relative to the US, Brazil’s real GDP per head has stagnated over the past quarter of a century. It is a little over a quarter of US levels, which makes this failure to catch up disturbing.

According to the Conference Board, Brazil’s total factor productivity – a measure of its rate of innovation – fell, at an average rate of 0.7 per cent a year between 2000 and 2016. Brazil’s national savings rate, always low, was just 16 per cent in 2016. Consequently, the central bank’s real short-term rate has averaged just under 5 per cent over the past decade. As a result, investment rates are quite low, too. Moreover, the population is ageing. In all, the growth rate of potential GDP is probably below 2 per cent.

Position

Poor growth prospects make the dire fiscal position worse. Brazil has a huge structural fiscal deficit: the IMF thinks it will reach 11 per cent of GDP by 2022. Revenue is already quite close to 30 per cent of GDP. This should rise with the recovery, but not by enough to close the deficit and bring the rise in public indebtedness under control, since spending is close to 40 per cent of GDP. The government’s mandated spending cap will run into mandated spending, especially on pensions. By the early 2020s, it would have to eliminate all discretionary spending.

Brazil needs comprehensive economic and fiscal reform. The most important economic reforms include: opening up a relatively closed economy; tax reform; labour market reform; higher investment in infrastructure; and policies aimed at raising national savings. The latter connects with the fiscal reforms. These must include a comprehensive pension reform, to bring spending under control. A funded pension scheme could raise national savings. The government must also have the freedom to control the numbers and pay of civil servants. Doing all this would liberate resources for other areas.

It would be a mistake to see the needed reforms as technical. They are highly political. They involve making fundamental changes in the way the state, politicians and officials operate.

The system needs to move from corruption to honesty, opacity to transparency, discretion to predictability, and from looking after the privileged to serving the people. That is what the corruption scandals, the slow-burning fiscal crisis, the inefficient pattern of government spending and the longer-term economic weaknesses are telling Brazilians.

Particularly in a free and democratic society, making such deep changes poses a huge challenge. This is especially true when the situation is improving in the short term. Furthermore, the embattled current government (perhaps surprisingly) and the central bank (far less so) have done a decent job of restoring confidence in Brazil.

Problems

Yet political problems need political solutions. Here, the omens for the presidential election in 2018 are bad. Luiz Inácio Lula da Silva, under sentence for corruption, is leading in the polls, but may be prevented from standing. Second in the polls is Jair Bolsonaro, a rightwinger who makes Donald Trump look moderate and self-disciplined. Neither of these people would provide the reforms Brazil now needs, for different reasons: Mr Lula is discredited; and Mr Bolsonaro is a populist authoritarian. Better candidates exist. But support for them is still modest. Where, one wonders, is Brazil's Emmanuel Macron?

It is impossible to visit Brazil, even for a short time, and not be enthused by the warmth of its people and the vitality of its culture. But the country has fallen on hard times.

Yes, the short-term position is improving, a little. But too many people are unemployed, the economy is too feeble, the politics too corrupt, and the state too captured. That is what history and recent events tell Brazilians. Brazil needs a political and economic rebirth. The crisis makes this necessary. If that does not happen, the future looks sad.

Copyright The Financial Times Limited 2017