What Really Sank Brazil
The media blame oil prices. The true culprit is years of antigrowth policies. ENLARGE
Brazilian President Dilma Rousseff in Brasilia last month. PHOTO: AGENCE FRANCE-PRESSE/GETTY IMAGES
It’s easy to blame plummeting oil prices for the economic crisis in Brazil. It’s also wrong. Brazil’s wounds are self-inflicted by an antigrowth policy mix dating back to 2008. The results were predictable.
The Brazilian economy contracted a whopping 4.5% in the third quarter from a year earlier. The International Monetary Fund forecasts that for 2015 Brazil’s gross domestic product will shrink by 3% and another 1% in 2016. That follows flatline growth in 2014.
In September, Standard & Poor’s stripped the country of its investment-grade rating. On Wednesday Moody’s said that it is contemplating a similar downgrade of Brazil’s debt. The annual inflation rate at the end of November was 10.5% and CIBC Capital Markets forecasts a fiscal deficit this year of 10.5%.
The international news media blame the Brazilian bust on oil prices brought low by a strong dollar and a slump in global demand. But Brazil is one of the most closed economies in the G-20, and its goods exports as a percentage of GDP in 2014 were only 10.5%. Mexico’s were 18.24%, according to CIBC Capital Markets. All Latin American commodity exporters are feeling the oil and commodity downturn but none has been laid low quite like Brazil. Chile and Peru, giant commodity exporters, are still growing. Moreover, lower commodity prices also offset the high cost of doing business in Brazil. In 2014, 40% of Brazilian imports were linked to commodities, including fertilizer, gasoline, aluminum for steelmaking, and sweet crude.
A decade ago there was reason to hope that greater Brazilian prosperity was just around the corner. Such optimism hinged on the economic, fiscal and monetary reforms introduced by President Fernando Henrique Cardoso from 1995-2002.
President Lula da Silva of the Workers’ Party (PT) took office in 2003. His personal history as a militant labor-union leader and disciple of Fidel Castro panicked markets. To stop the stampede to the exits he pledged not to mess with central bank autonomy or the stability of the Brazilian real, and not to radically alter economic policy.
Geanluca Lorenzon, the chief operating officer of the Mises Brazil Institute in São Paulo, told me in a telephone interview last week that Mr. da Silva even deepened the government’s commitment to fiscal restraint for a time. But in 2008, in his second term, the global financial crisis hit Brazil. And he buckled.
Mr. Lorenzon says Mr. da Silva turned to stimulus spending, while the central bank, supposedly autonomous, began to allow higher inflation as a way of boosting growth.
For a political culture predisposed to abuse government power, breaking the rules established during the Cardoso government—which were designed to constrain that power—triggered a return to bad behavior.
Since the 1960s Brazil has pursued industrialization through high levels of protectionism and subsidies for domestic producers. The failure of that strategy is manifest. But letting uncompetitive businesses fail had political costs that Mr. da Silva and his successor, President Dilma Rousseff, weren’t willing to pay.
Instead they increased protectionism and subsidies, and rapidly expanded credit through the Brazilian Development Bank (BNDES) and other state-owned banks. They also financed large government deficits with mostly domestic borrowing. The deficits were exacerbated by the tripling of the civil service during the PT governments and unjustified increases in the minimum wage and welfare and retirement benefits.
The Mises Institute Brazil noted in a Nov. 2010 website post that from May 2009 to September 2010, total credit expanded 25%. Not coincidentally, in 2010 Brazil grew 7.5% but not, as is well understood now, because of productivity gains. Looking back on the misallocation of capital, the institute wrote this February that “what really happened is that the Brazilian economy was kept lively by new and increasing doses of state credit.”
The BNDES credit was cheap for the politically connected companies that the government wanted to save, but it has cost the nation. Subsidized credit also went to households. Mr. Lorenzon told me that currently the average Brazilian family is carrying an annual debt-service burden equal to 46% of its income. Currently the government’s largest real-estate lending program has a default rate of almost 22%.
To salvage its loans to domestic companies Brazil has raised import duties and promoted consumption of made-in-Brazil products. This has damaged innovation and development. Large offshore oil reserves aren’t likely to be developed as long as investors are hamstrung by Brazilian content rules requiring their equipment to be made domestically.
Brazil is reaping the fruits of a national industrial policy that cannot produce growth and prosperity. The credit bubble has burst. Consumers, businesses and government won’t get back to even without a painful adjustment. Don’t pin it on oil prices.