Brazil: Brazil deserves some sort of policy prize for its handling of the recession. Its 1.9 per cent rise in second-quarter GDP and relatively modest 1.2 per cent year-to-year decline from 2008 makes it among the world’s best performing big economies. With high real interest rates and a small budget deficit, Brazil followed monetary and fiscal policies directly opposite to the global consensus - and they look to have yielded better results.
Brazil’s policy response to the global recession was constrained by its entry point. It had suffered a near-bankruptcy experience in 2002, and had thereafter been working down its excessive foreign debt. Thus fiscal policy was necessarily conservative, and once a global credit crisis kicked in, forced to remain so.
Monetarily, Brazil entered the recession with very high real interest rates – the Banco Central’s Selic short-term rate was 13.75 per cent, around 8 percentage points above the rate of inflation. As a consequence it could lower interest rates to stimulate domestic demand while keeping returns on savings adequately high and without fearing an inflation surge.
Brazil’s low deficit, high interest rate policies seem to have worked. Domestic demand has revived, without government having to defibrillate it – government consumption was down in the second quarter. Inflation has remained quiescent. Interest rates, at 4.4 per cent above current inflation, are reasonable, as is the budget deficit at 2.6 per cent of GDP.
Longer term, the government’s new oil revenues plan clouds the outlook. If oil prices decline, this could deter international investment in the pre-salt region, where energy resources are particularly expensive to extract. It also creates the prospect of a huge slush fund, maybe 5 per cent of GDP annually, to be spent by politicians.
Brazil’s public spending is already both high and corrupt; its economy does not need the burden of this new addition to the non-market sector. Oil revenues could much better be used to alleviate Brazil’s income distribution problem through a Milton Freidman-style negative income tax, putting money where it is most needed, in the hands of the poor.
Those hurdles aside, Brazil’s success should be an object lesson to other economies whose response to the crisis has been monetary profligacy and fiscal stimulus. Both carry the far greater risks of rising inflation and a crowding-out of investment.