Brazil in 2013: Five Storylines to Watch

2012 turned out to be quite an eventful year in Brazil. Dilma Rousseff settled into her role as president and became more assertive in pushing her agenda. The Supreme Federal Tribunal presided over a landmark corruption case. Major laws and executive orders were passed dealing with stimulus packages, infrastructure privatization, electricity generation, car manufacturing, affirmative action, forestry, a truth and reconciliation commission and petroleum royalties. More worryingly, the country’s economic downturn deepened, proving that the disappointing performance in 2011 was not a temporary blip but rather the beginning of a long-term shift.

Can we expect more of the same in 2013? Here are five storylines to keep your eye on in the year to come:

1. Will stimulus help the economy rebound, or is the new “Brazilian Miracle” over?

After robust growth throughout the 2000s and a quick bounce-back from the 2009 financial crisis, 2011 was considered a very disappointing year for Brazil. Growth slowed to a rate of 2.7%, the worst performance in Latin America and barely faster than the U.S. economy. Furthermore, inflation crept upward again, finishing the year at a dangerously high level of 6.5%, the upper limit of the Central Bank’s target. Many expected that the government’s fiscal and monetary stimulus would begin to take effect the following year, and that Brazil would rebound to a 4% growth rate in 2012.

In fact, the economy slowed even more drastically in 2012, growing at a meager rate of 1%. Rather than revive the economy, government stimulus measures simply ignited further inflation, which is set to finish the year at a still uncomfortably-high level of 5.8%.  Investment has poured out of the country this year, and the real lost about 10% of its value. The world economy as a whole performed worse than expected in 2012, primarily due to the ongoing crisis in Europe, which looks set to suffer through a lost decade. But the extent of the economic collapse in Brazil was truly surprising, and the markets have turned quite bearish on Latin America’s former shining star.

Once again, expectations are that the economy will rebound in 2013. The market is currently betting that the country will grow 3.3% in the coming year, although that number has already fallen quickly from 4% several months ago. I expect that these numbers will continue to deteriorate over time, and that the country will register subpar growth once again in 2013 (probably in the 2% range). The economy is suffering from long-term structural problems, principally a lack of competitiveness and productivity growth. This is not a situation that can turn around overnight, especially without major reforms by the government. Further stimulus measures look likely to fuel credit bubbles rather than long-term, sustainable growth. In addition to anemic growth, inflation looks likely to remain stubbornly high in 2013 due to a weakening currency, fuel price increases, and a new 9% increase in the minimum wage.

Rather than adopt a drastically new approach, Brazilian policymakers are doubling down on their traditional solutions: protectionism, cheaper credit, and salary increases to promote consumption. I have written before about Brazil’s labor cost problem and its antipathy toward free trade and how both policies have furthered the country’s loss of competitiveness. While I respect the government’s desire to reduce inequality and promote local manufacturing capacity, I believe that these policies will ultimately backfire and will only exacerbate the country’s weak macroeconomic performance. Brazil needs a new model focused on finding competitive advantages within open markets and increasing labor productivity.

The economic indicator that I will most keep an eye on in 2013 will be the unemployment rate. Despite Brazil’s mediocre economic performance in 2011 and 2012, the unemployment rate continues to drop, hitting a new low of 4.9% this month. There is no doubt that the surprisingly strong performance of the labor market has kept people from noticing the downturn and is a major factor in President Rousseff’s incredible 78% approval rating. As I have mentioned before, this success has a lot to do with the country’s booming construction market, which employs nearly 10% of the entire labor force. If unemployment remains low, popular discontent will remain minimal and the government will not be forced to take radical action. However, it seems likely that at some point the labor market will catch up to the rest of the economy and unemployment will begin to rise steadily. This will mark a major turning point for the country.

2. Will Aecio Neves emerge as a viable challenger for the presidency?

For background understanding of Brazil’s political environment, see my earlier posts on the country’s political history and the 2012 municipal elections.

Eduardo Campos, the popular governor of Pernambuco state and the leader of the Brazilian Socialist Party (PSB), made headlines last week when he announced that he would not run for the presidency in 2014 and would instead support President Rousseff’s reelection.* This cleared the way for a two-person race between the incumbent and Aecio Neves of the center-right Social Democrats (PSDB). Due to Ms. Rousseff’s high personal approval ratings and the low unemployment rate, Mr. Neves starts the race as a significant underdog. He will no doubt use 2013 to lay the groundwork for his campaign, and by the end of the year we should have a better sense of whether he represents a viable threat to the ruling party.

Mr. Neves faces two major tasks in 2013. The first will be to present a broad vision for the country based on center-right economic principles, outlining an alternative model of governance that capitalizes on the perceived weaknesses of the ruling Worker’s Party. Mr. Neves has hinted before that his agenda will focus on improved efficiency in public service provision, decentralization of federal powers, and promotion of the PSDB’s legacy of structural reforms during the 1990s. His second major task will be to enhance his name recognition among the public, as he is currently not well known outside of his home state of Minas Gerais. It has become clear that he plans to do this primarily through organizing a primary election within the PSDB, a tool that opposition groups in Italy and Venezuela used to galvanize voters with great success in 2012. The party is expected to announce that campaigning for its primary will occur between October 2012 and June 2013, giving Mr. Neves ample time to travel the country and introduce himself to voters. If the deteriorating economic situation begins to turn voters away from Ms. Rousseff, Mr. Neves will certainly be ready to take advantage of the opportunity. 

3. Will Ms. Rousseff get serious in her “war on the bureaucracy”?

During a state visit to Moscow this month, Ms. Rousseff announced that she was “declaring war” on bureaucracy in Brazil and plans to make public administration more efficient and transparent over the next two years of her presidency. Such strong language was significant, coming from a left-leaning politician with close ties to the nation’s powerful public sector unions. Bureaucracy is without a doubt a major problem for the country and Ms. Rousseff’s desire to cut through red tape and reduce wasteful spending is an encouraging development. 2013 will be the year for Ms. Rousseff to prove that she has bite to match her bark and is willing to confront the bureaucracy head-on.

In 2013, several of Ms. Rousseff’s signature transparency initiatives will take full effect, including a new tax transparency law that informs citizens of how much tax they are paying on products they purchase, a freedom of information law that government agencies are now phasing in, and open-data portals for reviewing budgetary information, complete with information on public employee salaries. Another law that she plans to put into effect in the upcoming year is a “clean slate” law for the public sector whereby anyone convicted of a serious crime is prohibited from working for the government for a period of ten years.

These transparency initiatives, as well as a refusal to cave under pressure to public union strikes this year, have been a welcome start in efforts to simplify the country’s byzantine system of public administration and mobilize public opinion against the bureaucracy. But Ms. Rousseff has so far shown little effort in implementing more meaningful restructuring. In her two years as president, Brazil has slipped steadily in the World Bank's "Ease of Doing Business" rankings from 127 in 2011 to 128 in 2012 and 130 in 2013. If Ms. Rousseff is serious about improving Brazil's competitiveness, she must begin to reverse this trend in the upcoming year.

4. Will the private sector bite on new infrastructure and oil-drilling contracts?

One of the biggest developments of 2012 was Ms. Rousseff’s proposal to update the country’s infrastructure by creating new contracts to open up the country’s roads, railways, ports and airports to private investment. This was a significant ideological reversal for the Workers’ Party, which had previously considered such privatization anathema, and marked a steadily emerging liberal consensus regarding the role of private investment in the country’s development. The scale of the proposed packages was unexpectedly large: $65 billion USD to modernize Brazil’s roads and railways, $27 billion USD for ports, $9 billion USD for airports, and $16 billion USD in urban mobility projects such as metros and bus rapid transit systems. All together, the government is looking to attract roughly $100 billion USD in private investment in infrastructure, nearly 5% of the country’s GDP. This is one of Ms. Rousseff’s signature initiatives to reduce production costs in Brazil and improve the country’s international competitiveness.

In 2013, moving these plans off the drawing board will be the government’s top priority. The year will be spent organizing auctions and designing contracts, with construction not likely to begin until 2014 at the earliest. The government will face a major test as it moves forward in terms of setting clear, sensible auction rules and designing transparent contracts that promote the best possible investment at the lowest cost for taxpayers and end-users. It will also have to reduce red tape to ensure that the projects begin quickly and will not suffer time-delays due to confusing bureaucracy or other setbacks.

Most importantly, the government needs to hope that top-notch private sector investors are willing to partner with them on these projects. As I mentioned above, the macroeconomic situation is deteriorating quickly and investment is fleeing the country. Brazil is not the attractive destination for foreign investors that it was several years ago. Furthermore, public-private partnerships to manage infrastructure projects in the developing world have produced disappointing returns over the last several years, most notably in India. The government’s $100 billion target is very ambitious, and until the auctions begin next year there will be considerable hand-wringing regarding the government’s ability to attract the investment needed to turn these infrastructure plans into reality.

In addition to infrastructure contracts, the government is preparing to auction new licenses for oil-drilling in its pre-salt offshore reserves in 2013. After Congress spent most of 2012 bickering over the distribution of future royalties, a law was finally passed at the end of the year and the government is eager to let the drilling begin. However, further political quarrelling regarding the royalties could continue to hold the process up and make investors even jumpier. The finalized law that passed the Congress this year called for increased royalties on existing oil contracts to be distributed among non-coastal states. Ms. Rousseff vetoed this portion of the law, arguing that the new royalties distribution should only apply to future concessions because the government needed to honor the contracts it had already signed with the private sector. However, Congress is likely to override the veto in January and Ms. Rousseff has declared that there is nothing more she can do to stop this from happening. Oil companies as well as the coastal states benefitting from the current royalties distribution are likely to take the fight to Brazil’s judiciary, which means that the uncertainty regarding the pre-salt oil concessions should continue well into 2013. This could severely undermine one of the most dynamic sectors of Brazil’s economy.

5. Will there be new victories in the battle against corruption, or is it back to business as usual?

2012 was a landmark year in Brazil’s struggle against corruption, thanks to the first elections held under the country's new "clean slate" law as well as a watershed verdict in the Mensalão case that saw numerous politicians convicted of serious crimes and sentenced to years in prison. With the case now closed, attention in 2013 will turn to three other high-profile corruption scandals that will test whether the Mensalão trial was a one-off event or a sign of a broader, long-term shift. The Supreme Federal Tribunal will be pressured to move forward in judging the Mensalão Mineiro, a similar vote-buying scheme run by the opposition PSDB in the state of Minas Gerais. Also, the Federal Police will be expected to continue its investigation of an influence-peddling scheme run by an aide of former president Lula that could further damage the reputation of the man once considered “the most popular politician on Earth”.

However, the biggest test in Brazil’s struggle against corruption in 2013 will be in the case of Carlos Cachoeira, an organized crime boss who was revealed last year to have deep ties to several major political parties, including the opposition PSDB and the ruling PMDB. The Cachoeira scandal dominated news coverage for several weeks and a high-profile congressional inquiry was assembled to investigate. However, the assembly was quietly disbanded this month without approving a detailed report, as politicians from various parties came together to sweep the case under the rug as the public was distracted with the Mensalão case and end-of-the-year festivities. It now falls to the attorney-general, Roberto Gurgel, to investigate the case on his own. Unfortunately, he is suspected of having ties to Mr. Cachoeira as well, which means that he is unlikely to lead the charge for any further inquiries. The future of the Cachoeira case thus represents the biggest test yet of Brazil’s efforts to deal with corruption. If the public rallies behind this cause and pushes for further investigations and indictments, 2013 could be another banner year in the country’s struggle against impunity, especially once Mr. Gurgel steps down in June. If, however, the issue falls out of the spotlight and no one is ever brought to account, then it will be back to business as usual for the country’s politicians.

* Mr. Campos has since backtracked on these statements, and continues to play coy about his presidential ambitions. The possibility of his entry into the 2014 campaign continues to be a matter of much speculation in the media, and a major worry for the PT.