Brazil's Long Term Growth Prospects Are Shaky

Last year, in the wake of the worst global economic crisis since the Great Depression, Brazil's GDP growth dropped only by 0.2%. And this year is likely to be even better. Indeed, renewed global demand for Brazil's exports, expansion of credit and government incentives are likely to make the biggest economy in Latin America to grow more than 6%. Yet, the fast pace of expansion may also lead to overheating of the economy, which can result in significant rise in consumer prices and endanger the long term development prospect.

Indeed, there are clear signs that growth in demand exceeds that in supply and the country is expanding above potential growth rate which may lead to pick up in inflationary pressure. In fact, since December industrial production has been rising at the average rate of 18% and in March it reached almost 20%. Also, in April, inflation went up 5.26% from a year earlier, the fourth consecutive month above the 4.5% central bank target. However, because of fears of attracting speculative capital, the Central Bank of Brazil Monetary Policy Committee (COPOM) has been very reluctant in initiating monetary policy tightening. In fact, only at the end of April, the Committee raised the SELIC benchmark interest rate by 75 basis points to 9.5%, its first increase since October 2008. Yet, although economists are expecting more rate hikes in the next few months, it may be too late to save Brazilian economy from  overheating and possibly having a hard lending.

Looking further, the long term growth prospect may be easily hampered by the huge role of the government on the economy. In fact, government spending accounts for more than 20% of Brazil's GDP. And even though the government workforce was reduced by 150,000 in the 1990s , since then it rose by twice that number. To make things even worst, a lot of last year stimulus money went on employing public sector workers and expanding pension and benefit plans instead of improving the country’s poor infrastructure. And even with rising revenues, the average 8% rise in annual rate of  federal-government spending may not be sustainable in the future without imposing higher taxes and lowering investments.

Anna Fedec,
5/13/2010 10:36:21 AM