Amid scandal and recession, Brazil seeks austerity

Amid scandal and recession, Brazil seeks austerity

The Petrobas corruption probe is severely undermining Brazil President Dilma Rousseff’s administration and fueling market distrust. Sinking deeper into recession, Rousseff has released a $17 billion austerity plan aimed at reliving financial woes.

Chinese slowdown of demand, paired with plunging prices of iron, oil and soy, has doomed Brazil’s extractive economy. But it was the political scandal of Petrobas that served as a catalyst, accelerating a chain reaction that facilitated a financial disaster.

Amidst calls for impeachment and a public popularity of barely 7%, Dilma Rousseff faces a lack of confidence from both Brazil’s citizens and world markets — neither seems to trust her capability to manage a nation in crisis.

On August 31st, the government submitted a federal budget revising its public accounts estimates from a 0.7 percent primary surplus to a 0.5 percent primary deficit for 2016, entailing some 8 Billion USD short in cash. This is expected to lead to a 3% contraction of its GDP.

Standard and Poor has downgraded Brazil’s credit rating from BBB- to BB+ , while shifting outlooks from ‘stable’ to ‘negative’, arguing an incipient ‘lack of cohesion’ within Rousseff’s cabinet amidst the mounting corruption scandal. Having the bonds displaced from the ‘investment’ to ‘speculative’ grade anticipates difficult times ahead for the nation’s financial health.

Trying to avoid market collision

Looking to revert the negative outlooks, Dilma Rousseff’s administration has offered a $17 billion austerity plan. The plan includes some 7 Billion USD in spending cuts, in an attempt to close the gap of Brazil’s expected 8 Billion USD deficit for 2016. Such measures would entail trimming large infrastructure projects, shrinking housing credit lines, and cutting down the size of the public sector.

Yet, additional financial effort is required; some further 9 Billion USD would be needed to swing the primary account from negative 0.5 percent to positive 0.7 percent of GDP, and this is expected to be achieved by boosting fiscal revenues through new taxes on banking operations.

Joaquim Levy, Finance Minster of Brazil, has stated that spending cuts are an ‘absolutely necessarily and indispensible effort to tackle the financial woes without having to ‘stop complying with its obligations’ with creditors.

Haircuts will prove to be challenging, however, given that roughly 90% of public-spending accounts are fixed by the 1988 Constitution. This means that structural financial reforms could only be possible by congressional vote, which would be difficult given Rousseff’s troubled relations with Congress. 

With over 370 billion USD in hard currency, Brazil would likely have enough wood to survive an expected long winter. However, regaining investor confidence could prove to be an insurmountable challenge. Moreover, should commodity prices remain low due a tepid Chinese recovery, Brazil’s extractive-dependent economy will struggle to attract foreign investment.

Brazil’s conundrum

Markets have proven resilient, but the full impact of Brazil’s crisis is yet to unfold. Savvy investors, however, should note that Brazil’s economic and financial risks are merely a function of the political uncertainty.

Brazil’s easy money out of commodity exports drastically accelerated its growth since the early 2000’s, but at the same time, the unprecedented cash-flow enabled government corruption to rise to endemic proportions. The Brazilian state, as many neighboring ones, became poisoned with the same nutrients that fostered its quick growth.

Brazil’s extractive economic model was nearly exhausted when the corruption scandal rose to surface, prompting an acceleration of an inevitable crisis. A vicious circle is then created, in which an administration affected by kickback scandals needs to reduce public spending to deal with a deficit driven by diminishing commodity revenues.

Paradoxically indeed, the administration, accused of diverting public funds from Petrobas, will attempt to install an austerity plan. This will likely alienate and infuriate the Brazilian population, making the austerity measures difficult to achieve, while increasing the likelihood of a presidential impeachment.

Should markets remain uncertain about Brazil’s capacity to successfully implement its austerity plan, financial woes will likely take a turn for the worse, making economic recovery a lengthy and sore process.

Categories: Latin America, Politics

About Author

Martin De Angelis

Martin F. De Angelis is a political and security risks analyst with a focus on Latin America. He has lived and worked in the US, UK and Cuba. He is a former US DoS Fulbright Scholar and UK FCO Chevening Fellow. Martin has been broadcast by BBC, AlJazeera, SkyNewsHD, Euronews and other media. He holds a Licentiate degree in Political Science from the University of Buenos Aires, an MA in Strategy and Geopolitics from the Army War College of Argentina and an MSc in International Relations Theory by the London School of Economics [LSE] with Merits.