When Luiz Inácio Lula da Silva was elected as Brazil’s president last year, investors shuddered. Many feared a return to the fiscal profligacy that characterised the previous government of his Workers’ Party, which ended in 2016 in a deep recession. Yet six months after he took office, markets are warming up to Lula’s administration. In a recent poll of 94 Brazilian fund managers and analysts, just 44% had an unfavourable view of the government, down from 90% in March. On July 26th Fitch, a ratings agency, upgraded Brazil’s long-term foreign-currency debt for the first time since it was downgraded in 2018.
Brazil’s improving fortunes are partly the result of things outside Lula’s control. Russia’s invasion of Ukraine put exports from two of the world’s largest grain producers (Russia and Ukraine) at risk. China has lifted pandemic restrictions, driving up demand for foodstuffs. Both factors have made Brazilian grains more in demand. Soyabean exports alone could account for a fifth of economic growth this year. This is increasing the country’s trade surplus, which is already hefty (see chart 1).
Similarly, rising tensions between the United States and China, and the possibility that the United States may lower interest rates next year, are causing many investors to look to emerging markets. Last year Brazil received over $91bn of foreign direct investment (FDI), making it the fifth-largest investment destination in the world. This was double the figure it received in 2021. The jump occurred despite the fact that global FDI inflows in 2022 fell 12% compared with 2021. “People are definitely looking at Brazil now in a way they haven’t for the past ten years,” says Robin Brooks, of the Institute of International Finance in Washington.
It also helps that Brazil’s central bank is independent. Lula has frequently thrown barbs at its president, Roberto Campos Neto. Lula blames Mr Neto for dampening growth by maintaining an interest rate of 13.75%, among the highest in the world. But the bank’s policies appear to have paid off. Annual inflation fell from 12% in April last year to 3.2% today (although it is predicted to end the year at about 5%). The bank is expected to lower rates this week. One factor which could help keep inflation low is that the real is appreciating against the dollar.
A heady mix
Several policies from Lula’s government have buoyed investors’ spirits, too. Many economists credit Fernando Haddad, the finance minister, for much of the optimism (pictured, above, with Lula). He is behind the two major reforms which could put Brazil on a more stable footing. On July 7th the lower house passed a constitutional amendment to push through a tax reform that has been three decades in the making. And later this year Congress is set to approve a new fiscal framework to stabilise public finances.
Consider the tax reform first. It is much needed: currently the federal government, all 27 states and over 5,000 municipalities set their own taxes. In 2019 the World Bank estimated that it takes companies 1,500 hours per year to comply with Brazilian tax law, compared with a global average of 233 hours. The tax reform will merge five taxes on goods and services into two value-added taxes, one federal and one local. It is expected to be approved later this year. Mr Neto has said that within the first year of its implementation, GDP could grow by 1.5%.
The fiscal framework will replace a rigid spending cap dating from 2016, which has consistently been broken, with a flexible rule. The new rule limits increases in primary spending by the federal government to 70% of the previous year’s revenue growth, aiming to achieve a balanced primary budget (ie, before interest costs) next year and a primary surplus from 2025 onwards. If the government does not reach its targets, spending growth will be tightened to only 50% of the previous year’s revenue growth and the government will not be allowed to increase wages of public workers, among other restrictions. Over time this should stabilise Brazil’s gross public debt, which currently stands at 74% of GDP, according to the central bank. (The central bank excludes debt it holds itself. On the IMF measure Brazil’s gross public debt is around 90% of GDP.)
Even those who are sceptical think that debt will eventually come under control. Felipe Salto of Warren, an investment firm, says that, earlier this year, “there was a lot of pessimism among our clients”. Now many see “a few years of bonanza ahead”.
Investors are also looking at Brazil’s potential to produce clean energy, and Lula’s ambitions to make the country a green power. This month the government is set to introduce a package of around 100 environmental initiatives, including a law to create a regulated market in carbon emissions and one to boost green industries. The government reckons the package will require hundreds of billions of dollars of mostly private investment. A free-trade deal could also soon be signed after more than two decades of negotiations between the European Union and Mercosur, a trade bloc composed of Brazil, Argentina, Paraguay and Uruguay (though protectionist instincts, in both Brazil and the EU, could yet sabotage this).
Yet optimism should be tempered. For a start, the success of the tax reform and fiscal framework are not guaranteed. Details of the tax reform have yet to be thrashed out. This means it is not yet clear what the new VAT rate will be, nor how many sectors will have a reduced rate or an exemption from it. The agribusiness lobby has pushed for the wording of the rule to include tax exemptions for food, which could include a large number of products.
The more other sectors get special treatment, the higher the overall standard rate will be, says Eduardo Fleury, a consultant who advised the government on the reform. The service sector, which will see its tax burden rise the most, is pushing back hardest. “We need a tax evolution, not a tax revolution,” says Guilherme Mercês of the National Confederation of Commerce, Services and Tourism.
Taxing times
It is also not certain that the government will get its finances in order. Instead of cutting spending or focusing on growth, the government hopes to reach a primary balance by increasing revenues by an extra $26bn next year (worth around 1.1% of GDP), according to Simone Tebet, the budget minister. Much of this will come from clamping down on tax evasion, reforming income tax and taxing online betting. Congress also recently voted to restore to the executive the ability to resolve deadlocked judgments on tax appeal cases. This right, lost in 2020, is worth $8bn a year in uncollected taxes, Ms Tebet estimates.
However, the government is unlikely to meet its targets, says Vilma Pinto of Brazil’s Independent Fiscal Institute (IFI). Because of the difficulty of recovering money lost to evasion and the time it takes to approve new taxes in Congress, the IFI estimates the government will be able to collect only $18bn next year. Ms Tebet confidently asserts that the administration would cut spending if it is not on track to reach a balanced budget next year. “This government is aware that there cannot be social welfare without fiscal responsibility,” she says. “Without fiscal responsibility inflation will explode, and that is the most perverse tax of all.”
Ms Tebet is a moderate at the top of government. But her boss is less keen on orthodoxy. Lula increased social spending in his first 100 days with an increase worth $24bn annually. He also recently introduced a subsidy which gave tax breaks to manufacturers of cars, trucks and buses. It is a one-off worth $300m for cheap vehicles, and is a sop to the middle class. On July 12th he proposed doing the same for white goods.
And history cautions against too much ebullience. Brazil has huge potential but has consistently punched under its weight. After growing for ten years during a commodities boom, real GDP contracted on average by 0.3% a year between 2014 and 2019. Productivity outside agriculture has not grown in three decades (see chart 2). Though growth has rebounded since the end of the pandemic in 2021, it has trailed far behind countries such as China or India. The global backdrop and Mr Haddad’s prowess are boosting investor optimism now. But it will take consistent good policy to buck Brazil’s long-term trend. ■
VICTORIA – British Columbia is forecasting a record budget deficit and a rising debt of almost $129 billion less than two weeks before the start of a provincial election campaign where economic stability and future progress are expected to be major issues.
Finance Minister Katrine Conroy, who has announced her retirement and will not seek re-election in the Oct. 19 vote, said Tuesday her final budget update as minister predicts a deficit of $8.9 billion, up $1.1 billion from a forecast she made earlier this year.
Conroy said she acknowledges “challenges” facing B.C., including three consecutive deficit budgets, but expected improved economic growth where the province will start to “turn a corner.”
The $8.9 billion deficit forecast for 2024-2025 is followed by annual deficit projections of $6.7 billion and $6.1 billion in 2026-2027, Conroy said at a news conference outlining the government’s first quarterly financial update.
Conroy said lower corporate income tax and natural resource revenues and the increased cost of fighting wildfires have had some of the largest impacts on the budget.
“I want to acknowledge the economic uncertainties,” she said. “While global inflation is showing signs of easing and we’ve seen cuts to the Bank of Canada interest rates, we know that the challenges are not over.”
Conroy said wildfire response costs are expected to total $886 million this year, more than $650 million higher than originally forecast.
Corporate income tax revenue is forecast to be $638 million lower as a result of federal government updates and natural resource revenues are down $299 million due to lower prices for natural gas, lumber and electricity, she said.
Debt-servicing costs are also forecast to be $344 million higher due to the larger debt balance, the current interest rate and accelerated borrowing to ensure services and capital projects are maintained through the province’s election period, said Conroy.
B.C.’s economic growth is expected to strengthen over the next three years, but the timing of a return to a balanced budget will fall to another minister, said Conroy, who was addressing what likely would be her last news conference as Minister of Finance.
The election is expected to be called on Sept. 21, with the vote set for Oct. 19.
“While we are a strong province, people are facing challenges,” she said. “We have never shied away from taking those challenges head on, because we want to keep British Columbians secure and help them build good lives now and for the long term. With the investments we’re making and the actions we’re taking to support people and build a stronger economy, we’ve started to turn a corner.”
Premier David Eby said before the fiscal forecast was released Tuesday that the New Democrat government remains committed to providing services and supports for people in British Columbia and cuts are not on his agenda.
Eby said people have been hurt by high interest costs and the province is facing budget pressures connected to low resource prices, high wildfire costs and struggling global economies.
The premier said that now is not the time to reduce supports and services for people.
Last month’s year-end report for the 2023-2024 budget saw the province post a budget deficit of $5.035 billion, down from the previous forecast of $5.9 billion.
Eby said he expects government financial priorities to become a major issue during the upcoming election, with the NDP pledging to continue to fund services and the B.C. Conservatives looking to make cuts.
This report by The Canadian Press was first published Sept. 10, 2024.
Note to readers: This is a corrected story. A previous version said the debt would be going up to more than $129 billion. In fact, it will be almost $129 billion.
NANAIMO, B.C. – Former Bank of Canada governor Mark Carney says he’ll be advising the Liberal party to flip some the challenges posed by an increasingly divided and dangerous world into an economic opportunity for Canada.
But he won’t say what his specific advice will be on economic issues that are politically divisive in Canada, like the carbon tax.
He presented his vision for the Liberals’ economic policy at the party’s caucus retreat in Nanaimo, B.C. today, after he agreed to help the party prepare for the next election as chair of a Liberal task force on economic growth.
Carney has been touted as a possible leadership contender to replace Justin Trudeau, who has said he has tried to coax Carney into politics for years.
Carney says if the prime minister asks him to do something he will do it to the best of his ability, but won’t elaborate on whether the new adviser role could lead to him adding his name to a ballot in the next election.
Finance Minister Chrystia Freeland says she has been taking advice from Carney for years, and that his new position won’t infringe on her role.
This report by The Canadian Press was first published Sept. 10, 2024.
HALIFAX – The Nova Scotia government has introduced a bill that would kick-start the province’s offshore wind industry without federal approval.
Natural Resources Minister Tory Rushton says amendments within a new omnibus bill introduced today will help ensure Nova Scotia meets its goal of launching a first call for offshore wind bids next year.
The province wants to offer project licences by 2030 to develop a total of five gigawatts of power from offshore wind.
Rushton says normally the province would wait for the federal government to adopt legislation establishing a wind industry off Canada’s East Coast, but that process has been “progressing slowly.”
Federal legislation that would enable the development of offshore wind farms in Nova Scotia and Newfoundland and Labrador has passed through the first and second reading in the Senate, and is currently under consideration in committee.
Rushton says the Nova Scotia bill mirrors the federal legislation and would prevent the province’s offshore wind industry from being held up in Ottawa.
This report by The Canadian Press was first published Sept. 10, 2024.
