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Is Brazil headed for an Economic Mineirazo?

Brazil may be on the road to recovery as far as soccer is concerned with their recent one – nil victories over Columbia and Ecuador in international friendlies, the former game seeing acclaimed striker Neymar play in his first game as captain and score the winning goal. But on the other hand, things do not look very good for Brazil’s economy and therefore also for the incumbent Ms. Rousseff and the left leaning party to which she belongs – Worker’s Party (International Business Centre) The country’s economy is in a recession as it has seen negative growth in two consecutive quarters. The first and second quarter of 2014 have both seen negative growth in the economy. The first quarter saw a contraction of 0.2% while in the second quarter the economy shrank by 0.6% (“Brazil’s Economy Falls into Recession, Latest Figures Show”). This comes at a time when the 2014 FIFA World Cup was projected by many to be of great assistance to the Brazilian economy. According to a report by Ernst and Young, one of the four major leaders in the professional service industry, the tournament was forecast to bring in C$54.66 billion into the Brazilian economy (“Sustainable Brazil: Social and Economic Impacts of the 2014 World Cup”). The direct impact on the country’s GDP was expected to be an increase of C$31.1 billion and 3.63 million jobs were projected to be created annually, 2010 – 2014 (“Sustainable Brazil: Social and Economic Impacts of the 2014 World Cup”). While it may still be too early to speculate on what the full impacts of the World Cup are, a report from Brazil’s National Confederation of Industry brings some bad news. Based on data, the manufacturing sector appears to have been affected, possibly because of a lack of demand to sustain production since construction for the 2016 Summer Olympics, another large project requiring new infrastructure appears to be delayed and work has not even begun on certain sites (Darlington). The following statistics provide a better representation of the effect on manufacturing – crude steel production declined by 4.9% in June, in comparison to last year, and was at 2.7 million metric tons, while the production of automobiles declined by 33% in the same month (“World Cup Hit Brazil’s Economy Hard”). According to an election poll on the 3rd of September, Rousseff’s major opponent Marina Silva, from the Brazilian socialist party is tied neck and neck with the incumbent and has benefited from the problems with the economy. According to polling firm Datafolha, Roussef’s approval rating stands at 35% while the same rating for Silva stands at 34% (Boadle). Silva who till only a month ago was still the vice – presidential candidate for the Brazilian Socialist Party has managed to get far more support than the original presidential candidate Eduardo Campos who was killed in a plane crash (Boadle). However even if Silva does become the next president, an increasing likely outcome given that a poll conducted by the Brazilian Institute of Public Opinion and Statistics for the second round of voting, shows Silva winning 46% and Rousseff winning 36% of the overall vote, she would not only have to deal with overspending during the World Cup but also implement measures to ensure its growth (Phillips). This will be no easy task and whoever wins the election has a lot of work to do, as the main causes behind the current status of the Brazilian economy are Rousseff’s aggressive policy of fiscal expansion, poor performance of the manufacturing sector and finally the Brazilian economy’s dependence on exports to Argentina.

Rousseff during her tenure has greatly increased public spending. An example of this would be the amount of money spent on developing infrastructure for the World Cup. It is estimated that nearly C$12.04 billion were spent on developing infrastructure for the 2014 World Cup (“Dilma Rousseff, Brazilian President, Defends World Cup Spending”). Also, income taxes were cut and the number of cash handouts was increased by 10% for families in the Bolsa Familia social welfare program which supports 36 million people (Biller). While this is certainly helpful for those affected, these measures were implemented in the month of April during the current year, just a few months before the elections. This move is based on very short term thinking and comes at the wrong time. These are a few examples of excessive public spending in Brazil. Furthermore, Moody’s has threatened to lower Brazil’s credit rating from “Baa2, as the outlook on it has been changed from negative to stable (“Moody’s Threatens to Downgrade Brazil as Economy Stalls”). The rating agency blames the failure of the government to rein in its loose fiscal policy and take action on the high level of public debt for its decision. Moody’s forecast Brazil’s debt to GDP ratio to hit 62% by the end of this year (“Moody’s Could Cut Brazil Rating Outlook If Economy Disappoints”). Standard and Poor’s and Fitch, two other rating agencies also have Brazil in the second lowest investment rate grading, but the former has already lowered Brazil’s outlook to negative. With this kind of an environment for investors, it is safe to say that not many would want to invest in the country. With little foreign money coming in, bringing the economy out of a recession would become an even more difficult task. Another indicator of an excessive expansionary policy is a high inflation rate and a sharp increase in the central bank’s interest rate. This is something that has happened in Brazil too. As of the month of April in 2013, the central bank’s interest rate was 7.25% (a record low), but it has been increased from then on and is currently at 11% (Lewis, Jelmayer and Trevisani). The inflation rate is currently at 6.51%, above the bank’s target rate of 4.5% (Lewis, Jelmayer and Trevisani). With high inflation and low growth, any change to monetary policy creates a catch – 22 situation since hiking the interest rate discourages people from spending and thereby not encouraging economic growth whereas decreasing the interest rate encourages price increases and makes loans more attractive. The central bank’s priority until early 2016 seems to be to control inflation and not focus on growth (Lewis, Jelmayer and Trevisani). The Brazilian government’s expansionary fiscal policies have left Brazil with higher public debt, a high inflation rate and turned away investors (many already wary of corruption in the country). Surprisingly, Rousseff has not signalled a willingness to change fiscal policy, Silva on the other hand has promised to cut public spending (“Moody’s Threatens to Downgrade Brazil as Economy Stalls”).

The Brazilian manufacturing industry has also struggled in the past few months of this year. It accounts for around 20% of the country’s G.D.P, therefore having an influence over the performance of the economy (Schneider). The HSBC Brazil Purchasing Managers’ Index decreased from 49.3 to 48.8 in the month of May, but as of August sits at 50.2 (“Brazil Manufacturing PMI”). For this indicator, a reading above 50 signifies expansion in the manufacturing industry while a value below the figure means that a contraction has occurred (HSBC). The same report also described the drop in production as the most “pronounced for two and a half years”. The total manufacturing output was said to have decreased for the very first time since August 2013 (Levine). The capacity utilization of Brazil’s industry dropped below 70% in June, 2014. This means that of the total production facilities in Brazil, businesses have been using increasing less of them over the years. With weaker economic growth and with the central bank the raising interest rate, comes weaker domestic demand since people are encouraged to save money rather than spend it. Apart from this, the cost of manufacturing in Brazil has steadily increased over the years. In 2004, manufacturing was cheaper by 3% in Brazil when compared to the U.S.A but now 10 year later Brazil is 23% more expensive for manufacturers than the latter country (Wiseman). Whoever wins the elections will have to pay really close attention to this sector of the economy and come up with an action plan to make it successful.

Something else very concerning for the Brazilian economy is its dependency on Argentina, which defaulted on its payments to creditors this year. For the month of June, 7% of Brazil’s total exports went to Argentina, an amount close to C$7.77 billion (Brandimarte and Cascione). While 7% may not seem to be a very large figure, given Brazil’s current economic situation, even a slight drop in exports could affect the manufacturing sector and prevent any kind of economic recovery with jobs in the sector also being affected and posing a problem to whoever wins the election. Robert Wood, from the Economist Intelligence Unit (a part of the group that owns the Economist Magazine) stated that “In a worst-case scenario the Argentine default could cost Brazil as much as 0.5% of G.D.P growth in 2014”(Brandimarte and Cascione). In particular, Brazil’s automobile industry is expected to be particularly hard hit, since as of July, 90% of its automobile exports were destined for Argentina (Brandimarte and Cascione). This effect on the automobile industry could in turn have an impact on the steel industry because of their close relationship.

Whoever wins these elections has a lot of work to do. As of now the most eligible presidential candidate may seem to be Silva because of her promise to rein in public spending but this creates an environment very unconducive for economic growth because both fiscal and monetary policy become very tight. This period of low growth and high inflation is an economic nightmare or something known as ‘stagflation’. Despite this, public spending will still have to be controlled. Despite the government’s efforts to play up the role of the World Cup which saw a lot of excess spending, the tournament seems to have done nothing to aid the Brazilian economy and the quarter in which the tournament was held actually saw the economy sink into a recession. Alongside this measure, the manufacturing sector should be encouraged. Investments in research and development and infrastructure could help. But if the economy comes back on track, and domestic demand increases, output should increase. At the same time, Brazil should look for markets abroad, the government could encourage businesses that enter new markets by providing them with extra support through subsidies and grants. Less dependence on Argentina during these times would only be good for Brazil. The country’s economy can recover, but this would rest solely on the shoulders of the leadership elected.


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