Santiago – It was the kind of politics Brazilians thought they had left behind: One day the sitting president appoints a popular former president to her cabinet in order to save him from prosecution, and pundits are quick to conclude that he is in charge. The next day, a federal judge blocks his appointment, claims and counterclaims are filed before the courts, millions take to the streets demanding the president’s impeachment, and no one is quite certain who is in charge.
Brazil is facing its biggest political crisis since the restoration of democracy in 1985. President Dilma Rousseff has done much to earn her single-digit approval ratings. Until recently, she seemed likely to muddle through to the end of her four-year term in 2018, if only because opposition parties were reluctant to clean up the economic mess her government created.
Today, no one is sure. By trying to save her predecessor, Luiz Inácio Lula da Silva, Rousseff made it harder to save her own presidency. Now that the Brazilian Democratic Movement Party (PMDB), once the largest government party, has quit the ruling coalition, the two-thirds vote in Congress needed to impeach Rousseff is within reach.
The good news is that certain institutions of Brazilian democracy are working well. After all, it is not in every democracy that prosecutors and judges have the autonomy needed to go after billionaire businessmen or a once-popular former president.
The bad news is that the political leadership needed to pull Brazil out of its crisis is nowhere in sight. Latin Americans everywhere are telling pollsters they are sick and tired of establishment politicians. Brazil’s political legitimacy problem is particularly acute. Not only are government leaders under fire; when opposition leaders joined the street protests two weeks ago, they were booed.
The dismal state of Brazil’s economy makes strong political leadership especially urgent. The economic contraction of nearly 4% in 2015, together with a similar dip anticipated for this year, implies the deepest recession in a century. Part of the problem is imported: The collapse in commodity prices and the tightening of international financial conditions hit Brazil hard. Yet other commodity exporters in South America are in much better shape. The contrast suggests that a good share of Brazil trouble is homemade.
The world applauded when Brazil stepped on the fiscal accelerator to offset the domestic effects of the 2008 financial crisis. Being able to implement a counter-cyclical fiscal policy was rightly viewed as a sign of economic maturity. But the Rousseff administration forgot to take its foot off the accelerator once the crisis was over. Last year, the total fiscal deficit exceeded 10% of GDP. Because Brazil has some of the highest nominal and real interest rates in the world (interest payments on the public debt exceed 7% of GDP), snowballing debt dynamics are particularly tricky.
Brazil may be the only country in the world where higher short-term interest rates can increase inflation, because they add to the fiscal deficit and to debt accumulation, in turn igniting fears of future monetization. Fortunately, the debt is mostly denominated in domestic currency, making a run on the public debt (which would leave the government unable to fund itself) unlikely.
But this should not obscure the fact that Brazil’s fiscal situation is unsustainable. As the American economist Herbert Stein famously put it, “If something cannot go on forever, it will stop.” A corollary to Stein’s law is that the longer it goes on, the more likely it will end badly. That could well be the case of Brazil.
Financial markets have celebrated each and every one of Rousseff’s travails. The Brazilian real, which took a beating last year and during January 2016, has appreciated just as the government’s standing depreciates. But investors betting on a quick reversal of fortune for Brazil are likely to be disappointed.
Even if Rousseff is impeached, it is far from clear that her successor would have the political will and support to make the necessary economic changes. Investors like to fantasize of economic reforms carried out by a post-Rousseff government headed by current Vice President Michel Temer and supported by Temer’s PMDB and parts of the opposition Brazilian Social Democracy Party of former president Fernando Henrique Cardoso. Such a government would be an improvement over the current one, but it might not have the will – or the votes in Congress – to pursue economic reforms. And according to a recent poll, only 16% of Brazilians would support it.
Moreover, the size of the challenge is daunting. Some trimming here and there will not be enough to solve Brazil’s structural fiscal difficulties. A misconceived pension system is at the heart of the problem: Brazil spends more than 13% of GDP on pensions, more than any large industrialized nation except Italy, where the population is much older than in Brazil.
More than 70% of fiscal expenditure is linked to entitlements, and there is little or no room to increase taxes (total revenue as a share of GDP is already the highest in Latin America). Fixing Brazil’s fiscal woes will require a team of politicians with as much talent, skill, and ambition as Brazil’s national football teams used to have.
Fixing fiscal policy is necessary not just to reassure investors. Without a solution, there will be no sustained economic growth and job creation. Dissaving by the government contributes to a dismally low national savings rate. Every time investment picks up, the current-account deficit grows too large for comfort. Once spooked foreigners begin to refuse to finance it, investment is forced down, impeding growth. And spending so much on interest payments will leave Brazil’s government with few resources for much-needed infrastructure investments.
At a conference I attended in São Paulo last year, an academic expert compared the current scandals in Brazil with Italy’s mani pulite (“clean hands”) investigations in the 1990s. In Italy, citizens wanted to be rid of a tainted political elite, but “got Berlusconi, who was worse than any of them!” The message was clear: Brazil could face a similar fate. Populism often thrives when the legitimacy of political institutions declines.
But Brazilians deserve better than a Berlusconi (or a Trump). Brazil and Italy have met twice in World Cup finals (1970 and 1994) and both times Brazil outperformed Italy. May the same happen again, this time off the football pitch.
Andrés Velasco, a former finance minister of Chile, is Professor of Professional Practice in International Development at Columbia University.
Copyright: Project Syndicate, 2016.