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Paulo Guedes’ star fades as Brazil reform agenda stalls

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Jair Bolsonaro had some good news for Brazil’s young families ahead of Christmas. Taking to social media a few weeks ago, the country’s president announced that tariffs on imported toys would be slashed from 35 per cent to 20 per cent.

The move was part of his administration’s sweeping plans to revitalise the Brazilian economy through an ambitious programme of trade liberalisation, cuts to bureaucracy and structural reforms. It appeared to be a win for the rightwing populist leader, who took power in 2018, and Paulo Guedes, his free market finance minister.

But within days of the decision — made only after a year-long consultation with Brazilian manufacturers — the finance ministry faced a wave of industry lobbying and quickly backtracked. The reduction in tariffs would not start this month as planned but be implemented gradually over the course of next year, the ministry announced.

The laboriousness of a process that has been mired in vested interests exemplifies the difficulties facing Mr Guedes as he tries to pry open one of the most protectionist economies in the world. Brazil ranks alongside much poorer African nations on measures of protectionism, according to the trade freedom index of the Heritage Foundation, a US think-tank.

“The ministry was beaten from one side to the other. In the end, everyone was unsatisfied,” said a finance ministry official.

When he took the finance portfolio at the beginning of last year, Mr Guedes was hailed as a star who would restore Brazil’s economic fortunes.

The former fund manager notched up a notable early success, with the passage of a landmark reform of Brazil’s bloated pensions system, which is expected to save the government almost $200bn over the next 10 years.

But two years into his tenure, his glow has faded as his planned structural reforms, including a simplification of the tax system and administrative reform of the state, have foundered in Congress.

Successes on privatisation and cutting bureaucracy have also been rare. In August the two officials responsible for both portfolios quit, citing deep vested interests and a lack of political will.

The coronavirus pandemic has also thwarted Mr Guedes. Fiscal rectitude lay at the heart of his plans, but since April the government has handed out billions of dollars in crisis relief to Brazil’s poorest, tearing a hole in the nation’s increasingly shaky public finances and dominating the economic agenda.

“The Paulo Guedes that existed two years ago now faces reality. Reforms in Brazil are a slow, bit by bit process,” said one lobbyist in Brasília involved in the decision on toys. “Reforms are like heaven. Everyone wants to go, but just not right now.”

A toyshop in Rio de Janeiro. A plan by Brazil’s finance minister to cut tariffs on imported toys fell victim to industry lobbying © Dado Galdieri/Bloomberg

Camila Abedelmalack, chief economist at Veedha Investments, highlighted the government’s lack of progress on even the most routine tasks, such as setting next year’s budget.

“We are crawling. We thought the main challenges would be tax reform and privatisation,” she said. “But at the moment we are struggling to get clarity on even the management of the budget for the coming year.”

Some foreign businesses have begun to express frustration at the glacial pace of change. Following the delay on toy tariffs, the US toymaker Hasbro said: “The sudden and unjustified change of positioning contradicted the announced economic policy, representing contradictory behaviour that violates good faith.”

Critics of the lack of action have turned their fire on Mr Guedes, who is increasingly viewed as an obstacle to progress rather than a driver of change.

Known for a pugnacious personal style, he has an acrimonious relationship with Congress — which must vote on almost all the government’s reform proposals — trading frequent barbs with the speaker and bickering with deputies over his plans.

“The next two years are going to be tense given the difficult relations the government has with Congress,” said Sergio Vale, an analyst at MB Associates.

“The [finance] ministry is out of focus, not as organised as it used to be in the past and more playing a supporting role. The minister has been making promises for two years but has nothing to show for it.”

But Adolfo Sachsida, secretary for political economy at the ministry, described the past year as a “huge success”.

“In the middle of a pandemic, we approved legislation for private investment in sanitation and for bankruptcy protection and we improved legislation for gas [market investment]. We also have a vote on central bank autonomy upcoming in the Senate,” he said.

Defending the slow progress on tax reform, he said it was a “very hard agenda” with which Brazil had been grappling for decades. “You have major challenges: you have to have the support of local governments and state governments, the industrial sector and financial sector and citizens. It is a lot of people at the same table,” Mr Sachsida said.

On trade tariffs and privatisations there were a chorus of voices “representing legitimate interests and they have the right to do so”.

“People will disagree over the speed of tariff reduction. People will disagree over the number of privatisations. [But] everyone agrees that we have to open our economy,” he added.

Opponents of reform have different agendas but have converged “around fear of change”, said the lobbyist in Brasília. “Our tax system has for so long accommodated advantages for certain groups, which do not want to change. On trade, it is the same thing: so many sectors have been protected for forever that they depend on it,” the lobbyist said.

“Brazil is a corporatist and clientelist country,” said Lucas de Aragão, a partner at consultancy Arko Advice. “There are battles that the government has identified as just not worth fighting,”

Additional reporting by Carolina Pulice



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Emerging Markets

Brazil poised for biggest interest rate increase since 2003

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Banco Central do Brasil updates

Brazil’s central bank is expected to enact its biggest interest rate rise in almost two decades on Wednesday, with economists predicting an increase of 100 basis points to curb the risk of spiralling inflation.

Latin America’s most populous nation is witnessing a sharp acceleration in prices as its economy recovers from the Covid-19 pandemic, pinching households and putting pressure on the Banco Central do Brasil, or BCB, to act.

A weak exchange rate, buoyant worldwide demand for raw materials and rising electricity bills due to the worst drought in almost a century have all contributed to Brazilian inflation that exceeded 8 per cent in the 12 months to June, more than double the official target of 3.75 per cent for 2021.

A majority of economists polled by Reuters expect the BCB’s Selic rate will be lifted from 4.25 per cent to 5.25 per cent, which would be its fourth consecutive rise. The benchmark was at a historic low of 2 per cent until March. The decision is expected on Wednesday evening.

A full percentage point jump would represent a step up from the 75 basis point increases announced after the three previous meetings this year of the rate-setting committee, known as Copom. It would be the sharpest increase since its last 100bp rise in 2003.

As a commodities boom and pandemic-related bottlenecks in global supply chains feed an international debate about whether a return of inflation will be temporary or long-lived, central bankers in some countries are already tightening monetary policy. 

Russia, Mexico and Chile have all recently raised interest rates, while the US Federal Reserve is edging closer to a decision on slowing its massive monetary stimulus.

The BCB, which gained formal autonomy this year, is at the forefront of emerging markets pursuing an aggressive approach, said William Jackson, chief EM economist at Capital Economics.

However, he noted that Brazil’s gross domestic product was still below the level of 2014, before a deep recession struck.

“That would suggest the economy is operating below its potential and that monetary policy should be stimulative,” Jackson said. “But with the inflation threat as it is, there’s a belief that can’t continue for the time being.”

In a country that experienced runaway prices and hyperinflation only a generation ago, monetary policymakers will have to strike a balance between shielding consumers and encouraging growth.

Cristiano Oliveira, chief economist at the business lender Banco Fibra, suggested Copom should accelerate rate increases to bring estimates of future inflation closer in line with its objective.

“In 2022, the centre of the inflation target is 3.25 per cent, but inflation in the previous year should be close to 7.5 per cent. In other words, the central bank has a difficult job ahead of it, which is to reduce the inflation rate by more than 50 per cent”.

Food costs have pushed millions of people into hunger, with unemployment near a record in Brazil since data collection first began in 2012. Transport and housing have also become more expensive lately.

At the same time, low reservoir levels have affected hydroelectricity production, the South American nation’s main source of power, forcing utilities to turn on more costly thermal plants.



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Bolsonaro faces investigation over election fraud claims

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Brazilian politics updates

Brazilian president Jair Bolsonaro’s legal problems have multiplied after a court opened an investigation into his unsubstantiated warnings of voter fraud in presidential elections next year, a probe which could lead to him being disqualified from running.

The judicial inquiry comes as the far-right leader’s ratings are on the slide following accusations of his incompetent handling of the Covid-19 pandemic, which has claimed the lives of more than half a million Brazilians.

Rising living costs and allegations of corruption in vaccine procurement within his administration have damaged Bolsonaro’s standing further.

With political pressure building, the populist has increased attacks on the electronic voting system in recent weeks, reiterating calls for the adoption of printed paper receipts in order to avoid manipulation.

Opponents fear the former army captain is seeking to cast doubt on the legitimacy of the vote, in preparation for refusing to recognise a potential defeat. A group of 18 current and former Supreme Court justices have defended the current ballot system, which was introduced in 1996, insisting that Brazil had eliminated election fraud.

The Superior Electoral Court this week opened an administrative probe into Bolsonaro over his claims, for which he has provided no evidence. It also asked the Supreme Court to investigate whether the president had committed a crime by disseminating fake news about the voting system.

The president hit back on Tuesday. “I will not accept intimidation. I will continue to exercise my right as a citizen, to freedom of expression, criticism, to listen, and to meet, above all, the popular will,” Bolsonaro told supporters in Brasília.

The electoral court’s intervention showed the judiciary was striking back against Bolsonaro’s attacks, said Carlos Melo, a political scientist at Insper in São Paulo. “He [Bolsonaro] is harming the rules of the game, of democracy and the institutions,” he added. “It’s not different to what [Donald] Trump did, and demagogues in other countries. His intention is to question the electoral process without proof.”

Both moves by the electoral court could in theory eventually pave the way for Bolsonaro being barred from standing in the 2022 poll.

“There is a long way until this can bring actual legal consequences against the president which might affect his eligibility,” said Rogério Taffarello, a partner in criminal law at Mattos Filho and professor at the Getúlio Vargas Foundation. “[This] does not mean, of course, that the existence of such investigations cannot generate political consequences”.

The president is already the subject of a criminal investigation into whether he failed to act on warnings about alleged irregularities by public officials in negotiations over vaccine purchases. Bolsonaro and the government deny any wrongdoing.

Protesters have taken to the streets in cities over the past two months calling for the impeachment of Bolsonaro, who in polls is trailing former leftwing president Luiz Inácio Lula da Silva, also a likely frontrunner in next year’s election.

Bolsonaro had long promised to present evidence of cheating in elections, even claiming that the 2018 ballot he won was tampered with. Yet last week he admitted to not holding any proof, only “indications”.

Despite his falling popularity, Bolsonaro retains backing in Congress from an amorphous grouping of centre-right political parties known as the Centrão, or “Big Centre”. Analysts said for now this support appeared to be holding.

Additional reporting by Carolina Pulice



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South Korea looks to fintech as household debt balloons to $1.6tn

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South Korea Economy updates

After her family business of ferrying drunk people home was hit by closures of bars due to Covid-19 curfews and social distancing, Lee Young-mi* found herself juggling personal debts of about Won30m ($26,000).

The 56-year-old resident of Suncheon in South Korea was already struggling to pay off or refinance four credit cards, but now faces the prospect of those debts rapidly multiplying after her husband was diagnosed with cancer.

“We’ve had little income for more than a year as not many people are out drinking until late into the night,” said Lee. “Now my husband won’t be able to work at all for the next three months after his surgery.”

Lee’s story is playing out across Asia’s fourth-largest economy as self-employed workers, who make up nearly a third of the labour force, have seen their incomes reduced sharply due to coronavirus restrictions. Now, after struggling for years to keep a lid on household debts that hit a record Won1,765tn ($1.6tn) in March, Seoul is looking to fintech companies and peer-to-peer lenders for answers. 

Chart showing increase in South Korea's household debt

Among them is PeopleFund, which touts tech-based investment products backed by machine learning that allow borrowers to refinance their higher-interest loans from banks and credit card companies.

The company has loaned at least $1bn to more than 7,500 customers since it was established in 2015. Its products allow borrowers to switch their debts to fixed-rate, amortised loans at annual interest rates of about 11 per cent, a change from the riskier floating rate, interest-only loans common in South Korea. 

PeopleFund has received about Won96.7bn in financing from brokerage CLSA, and along with Lendit and 8Percent is one of the first among the country’s 250 shadow banks to win a peer-to-peer lending licence. 

“The country’s most serious household debt problem is with unsecured non-bank loans, whose pricing has been too high. We can offer more affordable loans to ordinary people unable to receive bank loans,” Joey Kim, chief executive of PeopleFund, told the Financial Times.

The proliferation of digital lenders and fintechs in South Korea, where higher-risk borrowers are often cut off from bank financing, has been encouraged by the country’s government.

“We hope that P2P lenders will help resolve the dichotomy in the credit market by increasing the access of low-income people to mid-interest loans,” said an official at the Financial Supervisory Service.

South Korea’s household debt situation has become more pressing since the onset of the pandemic, with increases in borrowing for mortgages, to cover stagnating wages and to invest in the booming stock market. South Korean households are among the world’s most heavily indebted, with the average debt equal to 171.5 per cent of annual income.

South Korea’s household debt-to-GDP ratio stood at 103.8 per cent at the end of last year, compared with an average 62.1 per cent of 43 countries surveyed by the Bank for International Settlements.

Much of the new debt has been risky. Unsecured household loans from non-bank financial institutions were Won116.9tn as of March, up 33 per cent from four years ago, according to the Bank of Korea, much of it high interest loans taken out by poorer borrowers.

Getting on top of the problem has taken on national importance. In a rare warning in June, the central bank said the combination of high asset prices and excessive borrowing risked triggering a sell-off in markets and a rapid debt deleveraging.

“If financial imbalances increase further, this could dent our mid-to-long-term economic growth prospects,” BoK governor Lee Ju-yeol said in July.

The country’s economic planners, however, are struggling to contain debt-fuelled asset bubbles without undermining South Korea’s fragile economic recovery.

The government has attempted to address the danger by tightening lending rules. Regulators in July lowered the country’s maximum legal interest rate that private lenders can charge their customers from 24 to 20 per cent.

Economists caution that rising debt levels increase South Korea’s vulnerability to an economic shock. 

They also warn that the asset quality of financial institutions could be hit by a jump in distressed loans when the BoK rolls back monetary easing, expected in the fourth quarter.

“Monetary tightening is needed to curb asset bubbles but this will increase the household debt burden, holding back consumption further,” said Park Chong-hoon, head of research at Standard Chartered in Seoul. “The government is facing a dilemma.”

For Lee Young-mi, however, the 11 per cent rate offered by the PeopleFund is still too high. “I am not sure how to pay back the debt.”

*The name has been changed



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