Brazilians have been engulfed in the worst crisis to afflict the country since the end of the military dictatorship in the mid-80s. Although Brazil impeached its first democratically-elected president in 1992, suffered through bouts of hyperinflation, confronted several failed attempts at economic stabilization, and was victimized by serial financial crises during the 1990s, it has never faced a crisis quite like the current one. The entire political system has come under pressure from corruption investigations, and the Workers’ Party’s thirteen-year-long rule looks set to end with the impeachment of President Dilma Rousseff. Brazil’s lower house recently approved moving the impeachment process forward in a landslide vote, and the Senate has already signaled that the odds of ousting Rousseff are high. What does this mean for Brazil’s economy, politics, and the chances that a government led by current Vice-President Michel Temer will be successful in achieving the urgent reforms the country desperately needs?
Much has been said about Temer’s lack of “legitimacy,” and it is widely expected that his government will prove to be all too similar to Rousseff’s. A recent poll by Ideia Inteligência, a Brazilian pollster, found that 65 percent of the population expect no improvement of the economy if a Temer government emerges, although the same 65 percent support Rousseff’s ouster. However, very low expectations regarding a potential Temer administration could actually be a boon for the incoming president, should the Senate vote to move ahead with the impeachment process in mid-May. If a majority of the population believes not much will change, any improvement, no matter how slight, may produce a much stronger credibility effect than would have been the case if a Temer-led government carried positive perceptions. Hence, the chances of an auspicious “legitimacy by performance” scenario are not negligible, despite Brazil’s many challenges and uncertainties.
The recognition that Rousseff’s government is likely coming to an end has sparked a flurry of speculation about what a potential Temer-led administration would look like. Evidently, Brazil watchers and market participants are mostly concerned about who might be appointed Finance Minister and what that would entail for policymaking. Although several names have appeared in the press, the most likely candidate seems to be Henrique Meirelles, former President Luiz Inácio Lula da Silva’s Central Bank governor. Meirelles is not only close to the Vice President but also to former President Lula, whom he served for two consecutive terms. While Meirelles has the right credentials for the job, there’s also a clear political strategy in his potential appointment that should not be ignored. Namely, nominating Meirelles as Finance Minister could weaken opposition from the Workers’ Party, as well as from Lula himself. Although no formal announcements have been made, recent press reports strongly suggest that Meirelles would accept the post if offered.
In a recent op-ed for a major Brazilian newspaper, Meirelles laid out his vision for Brazil’s future. He wrote of the need to restore investor confidence, not only locally but also outside of Brazil, and of the necessary steps to do so. Much of his argument supports what is contained in a document published by Temer’s party, the Brazilian Democratic Movement (PMDB) in October of last year, entitled “A Bridge to the Future.” In that document, now perceived as Temer’s de facto government plan, addressing Brazil’s severe fiscal imbalances was identified as a priority, entailing both “emergency measures” as well as a substantial reform effort. Interestingly, the CPMF, a controversial tax on banking transactions which the Rousseff government had been pushing Congress to approve, appears to be off the list of emergency measures that a Temer-government would seek to adopt. In recent days, the Vice President has stressed that he does not view the CPMF positively, in line with what has been spelled out in “A Bridge to the Future;” “Increasing Brazil’s already high tax burden – some 36 percent of GDP – is not only dysfunctional, but damaging to the country’s competitiveness.”
Without the reintroduction of the CPMF—a regressive and very distortionary tax—it is not clear how an incoming Temer government would address Brazil’s short term fiscal challenges. The ongoing recession, rising unemployment – now at 10.2 percent – falling wages, and a severe slump in investment all imply that Brazil is set to have a substantial deficit in 2016, close to or possibly higher than last year’s 10 percent of GDP. This said, the PMDB document puts greater emphasis on measures to reform the fiscal framework over the medium-term, implicitly recognizing that Brazil might not be able to reverse fiscal results and their impact on the rising debt-to-GDP ratio any time soon. Specifically, Temer and those closest to him have been stressing the need to remove legislation, including Constitutional entitlements, that generate an automatic increase in spending that bears no relationship to the economy’s capacity to generate revenues. Hence, it is likely that measures to remove indexation mechanisms, and revenue and expenditure earmarking would be at the top of the fiscal agenda and amongst the first to be announced. Approval by Congress will be Temer’s first test of political clout.
On monetary policy, reducing interest rates while restoring the Brazilian Central Bank’s inflation targeting credentials will be key. Inflation has eased recently as a result of the economic slump but remains far above the inflation target ceiling. It is not unthinkable that a Temer government would take the bold step of introducing legislation to make the Central Bank independent of the Finance Ministry. This would probably pass Congress without much trouble, particularly if other traditional parties, such as Brazil’s social-democratic movement (PSDB), keep their current promise to aid PMDB in passing the necessary reforms. These are mostly reforms that PSDB itself has defended in the past.
Of course, a Temer-led government will have to work under the permanent shadow of the corruption probe, and uncertainties over what investigations may reveal could hamper some important reform initiatives. Moreover, allegations of illegal campaign financing in 2014 will continue to haunt him, as well as Rousseff.
Hopefully, however, the country that emerges from this terrible crisis is one that continues to appreciate the value of democratic institutions in spite of the unseemly politicians that have surfaced, and one where the population gains greater awareness of its own crucial role in electing future change.
Monica de Bolle is an Adjunct Professor at SAIS | Johns Hopkins University and a Nonresident Senior Fellow at the Peterson Institute for International Economics.
