Financial markets’ renewed fondness for Brazil—the country’s stock market has rallied 60 percent this year—is hard to square with the country’s increasingly worrisome political and economic realities.
While markets bask in the post-impeachment glow following the official ouster of former president Dilma Rousseff, prospects become starker for the Temer administration. Michel Temer, who officially assumed office on August 31, will need to reverse a fiscal deficit of 10 percent of GDP—four times larger than the average during 2009–13—a debt-to-GDP ratio of some 70 percent of GDP, and a drop in per capita GDP of more than 6 percent between 2015 and 2016. To put that decline into perspective, the deep recession has left nearly 12 million people without a job. The unemployment rate has continued to climb, inflation is falling at a much slower pace than Brazil’s central bank expected only a few weeks ago, and protesters are out in the streets complaining about corruption, the impeachment trial, and dismal economic prospects. Worse yet, the impeachment vote itself has opened a can of worms that may do considerable damage to Temer’s frail coalition, putting the ambitious reform effort at risk.
It is impossible to think about Brazil’s economic outlook under Temer without taking stock of the implications of the unusual twist to Rousseff’s removal. In a surprising turn of events, the vote to remove Dilma Rousseff was split into two: one aimed at imposing a verdict on whether or not the former president had committed so-called crimes of responsibility, another to rule on the sanctions or penalties Rousseff should face. According to the Brazilian constitution, “crimes of responsibility” automatically carry an 8-year suspension from holding elected or other public office. Guided by the supreme court justice presiding over the proceeding, Brazilian senators decided, however, that Rousseff had indeed committed crimes of responsibility—by 61 votes to 20—but, in a separate vote, maintained her rights to hold public office by simple majority. The split vote has triggered a de facto constitutional crisis in Brazil, with many allies of Temer’s party, the PMDB, questioning the voting procedure at the supreme court. It is unclear when the supreme court will rule on these motions. What is clear is that uncertainty will continue to plague the Temer administration, contrary to expectations that impeachment would ease them considerably.
Signs of strain in the governing base can also be seen in recent statements by government officials on fiscal reform efforts. One of the cornerstones of Brazil’s reform agenda is social security—pensions and other benefits currently account for some 10 percent of GDP. Estimates suggest this overly generous system may lead to runaway spending and the inability to sustain benefit payments in the next few years. Recognizing the urgency of this problem, Brazil’s finance minister had promised to send a reform proposal to Congress as soon as the impeachment trial was over. In a recent press conference, however, Finance Minister Henrique Meirelles revised his position, saying pension reform will be subject to parliamentary scrutiny “in due course,” meaning its consideration by a shaky Congress could take longer than anticipated.
Questions have also risen with respect to the government’s proposed expenditure ceiling, another pillar of fiscal reform. In order for the expenditure ceiling to be a binding restriction, preventing government spending from completely outpacing the capacity to generate revenues as it has for several years, a number of constitutional amendments must be approved. These include the elimination of inflation indexation mechanisms that lead to runaway spending, as well as implementing caps on spending in health and education—a number of education and health spending items are automatically adjusted by indexation rules hardwired in Brazil’s constitution.
Passing these notoriously unpopular reforms would be challenging under any scenario, let alone one plagued by questions over the impeachment vote, doubts over Temer’s legitimacy as evidenced by spreading street protests against him, and signs of a fractured coalition. It’s also important to recall Temer’s mid-presidency mandate is just over 24 months. In just over a month, highly charged municipal elections will take place, and by early 2017, the 2018 general elections will likely drive all the attention away from any reform effort by the current administration.
To its credit, the Temer-led government is trying to pull together a privatization program to capitalize on improved investor perceptions of Brazil’s economic trajectory. Temer’s recent trip to China has also sparked Chinese investors’ interest in major infrastructure and oil and gas projects in Brazil. Still, the promise of foreign investment flows is unlikely to provide the urgent uplift the economy, and Temer himself, so desperately need.