The state of the Brazilian economy as the country prepares for the World Cup…and an election

12th May 2014

With the World Cup just over a month away, all eyes will soon be trained on Brazil. Sophia Whitbread, co-manager of the Newton Emerging Income fund, looks at the state of the Brazilian economy and the political picture as the country prepares to go to the polls…

Riots and widespread unrest dominated last summer’s Confederations Cup, the traditional precursor to the World Cup and there are concerns further protests will be in evidence during this year’s tournament. What’s more, there are elections looming in October. All is not well within Brazil. With an increasingly fragile economy, stubbornly high inflation and poor infrastructure resulting in a lack of competitiveness, President Dilma Rousseff faces a tough challenge to get re-elected.

Indeed, Dilma’s presidency has increasingly been characterised by protectionist policies – the tax on imported goods is a case in point – while government intervention has become the norm. A 20% cut in electricity prices at the end of 2012 despite the very real threat of power shortages is one of many examples. Such action provides a significant disincentive to investors. Meanwhile, as far as infrastructure is concerned, according to The Economist, Brazil invests just 2.2% of its GDP in infrastructure, well below the developing-world average of 5.1%.

Populist policies

Dilma is in trouble in the polls as approval ratings for her government were 36% in March, down from 43% at the end of 2013 and she has turned to more populist measures as a means of boosting support for the government. Last week, the Brazilian government announced a 10% rise in payments under the Bolsa Família programme, a social welfare platform implemented by her predecessor, President Luiz Inácio Lula da Silva. The programme provides financial aid to poor Brazilian families. This increase exceeds official inflation, currently running at around 6%, and should aid one-fifth of the population. We do not believe Brazil can continue to afford such generous hand-outs without causing bigger problems in the longer-term.

Only a year ago, Dilma’s re-election was seen as a given, with little opposition of note. However, this has changed. Two opposition candidates – Marina Silva and Eduardo Campos – joined forces in October 2013 and they share many of the policies pursued by both Dilma and the former president, Lula. More importantly, though, they have been placing emphasis on the importance of pre-Lula policy such as the maintenance of a proper primary surplus and greater fiscal discipline. Meanwhile, support for Aécio Neves of the Party of Brazilian Social Democracy has also been growing in recent months.

For vast swathes of the population – the 80% not reliant upon Bolsa Família – the fight against inflation is an election deal-breaker. World Cup glory on home turf might subdue the unrest but away from the pitch Dilma faces a real battle to stay in government. Whether she is re-elected or not, one thing is for certain: change is needed. Quite simply, the current policy approach is unsustainable.

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