Déjà Vu

The recent Asian market crisis has shaken Brazil badly. In response the government used what many Brazilians thought had been buried with the disastrous economic plans of the past: the pacote (package). The crisis shows Plano Real's lack of a solid fiscal foundation. Some of the measures being adopted might have been avoided had the congressmen moved faster to approve the constitutional reforms sitting on their tables for two years.

Marta Alvim

Just as the specter of past economic plans seemed to be fading from the memory of the Brazilian people, the country has been shaken by yet another government-sponsored "pacotão" (big package) as Brazilians call the infamous emergency decrees . On November 10, the government released a 51-item fiscal package in an attempt to absorb the shock waves of the ongoing international stock market crisis, which has cast dark clouds over Plano Real's hard-won stabilization.

The new austerity plan comes in the wake of successive plunges in the nation's stock market in response to the Asia crisis. The plan will attempt to achieve an ambitious $20 billion budget-savings by means of tax hikes, federal spending cuts, and other measures. By doing so, the government hopes to send a twofold message to the world: first, that President Fernando Henrique Cardoso (FHC) will go to any length to defend Brazil's currency, the Real, against speculators—even if some of the unpopular measures adopted may jeopardize his re-election bid. Secondly, it is an attempt to convince the international community that the Brazilian market is on much firmer ground than volatile Asia, and investors should keep their faith in the country.

Economists and major international financial institutions, such as the Interamerican Development Bank and the International Monetary Fund have applauded the government's swift response to the market turmoil. When the crisis arose and stocks began slumping around the world, the São Paulo Stock Exchange Index (Ibovespa) had the worst performance of all world markets. Just to have an idea, in eight days Brazilian reserves were down by over $9 billion as investors pulled their money out of the country. To stop the trend Banco Central (Central Bank) felt it had no choice but to raise interest rates, and it did so to excess, by nearly doubling the annualized prime lending rates to 43.3%.

After the initial losses were computed, 450 investment funds out of a total of 780 funds operating in Brazil had lost money in October. Steel maker Companhia Siderúrgica Nacional (CSN) lost $185 million with the devaluation of its shares by 5,88%. Recently privatized Companhia Vale do Rio Doce (CVRD) saw its shares price plummet 18%—a loss of 1,7 billion—while supermarket chain Pão de Açúcar had its shares devaluated by $86 million.

Although Brazil's current crisis may be in part a reflex of the international turbulence, it has also exposed Plano Real's lack of a solid fiscal foundation, as it had been previously pointed out by economic analysts. For one, the country imports more than exports, which leaves Brazil very dependent on foreign investments to finance the trade deficit. Moreover, the government spends more than it collects in revenues, and until now there has not been political will to fight the public deficit. Had the Brazilian congressmen moved faster to approve the constitutional reforms sitting on their tables for the past two years, perhaps some of the bitter measures adopted might have been avoided.

The proposed 10% hike on income tax, for instance, will inevitably punish the middle class, the majority of which has never participated in the stock market speculative game. The government team delivered the news in such a way that it sounded as if the increase was no big deal. For some taxpayers, though, the additional decision to impose a 20% limit for tax deductions and benefits would have resulted in an increase of three times as much as what they are currently paying in taxes. The decree, which must be approved by Congress, was met with such a fierce opposition that the government eventually relinquished, and decided to allow taxpayers to deduct 100% for medical and dependents' expenses.

As one would expect, any economic package drawn in a hurry will be likely fraught with inconsistencies and misguided measures. In this case, everyone agrees that the government's decision to dismiss 33 thousand civil servants from Brazil's bloated public work force is the right thing to do. At the same time, the government also expects to save close to $230 million/year by overturning 40 thousand fraudulent Social Security retirements. The problem is, among the 33 thousand federal employees to be dismissed, there are 1,800 auditors employed by the Ministry of Social Security and Welfare who have unveiled some 145 thousand illegal retirements in the past five years.

The new fiscal package also aims to save $1.7 billion in public expenditures in 1998, while vowing to spare important social areas, such as health and education. Nevertheless, six thousand health inspectors who work on the program to eradicate the dengue mosquito will be dismissed as well. In the event of a dengue fever epidemic, the government would spend far more than the $71 million it expects to save in this area just in treating those infected by dengue fever.

Another controversial measure was the increase in airport departure tax from $18 to $90 for international flights, which has now become the world's most expensive departure tax. The government expects to collect $500 million in revenues with the tax hike, assuming that 5.5 million tourists will visit Brazil next year. What the measure didn't take in consideration was that 60% of all foreign tourists visiting Brazil come from Mercosul countries. Some of those tourists will have ticket prices increased by as much as 50%, which may lead them to choose other destinations.


How could Brazil, with a relatively stable economy not seen in many years, be so much affected by the Asian imbroglio? So far, economists and financial experts have yet to come up with a definite answer. They have blamed the evils of globalization. They have searched for explanations in Karl Marx's theory that in the capitalist world the economy has a life of its own that defies reasoning and common-sense. On the other hand, critics of the exchange rate policy adopted by the government insist that as long as the Real remains artificially overvalued, market speculators will be always on the lookout for a currency crisis.

The cause of speculative attacks that force the kind of devaluation that occurred in Asia is the perception of a vulnerable economy and of a fragile currency. Had the Brazilian government done its homework regarding the external and public sector debts as well as the trade deficit, the country would probably be safe from speculators. After all, Brazil's reserves are over $50 billion, inflation is low, the banking system is reasonably solid and the privatization program has been carried out successfully—all of which are essential factors to discourage speculation.

Some of the countries least affected by the international crisis, such as Italy, Sweden, the Netherlands and Chile are the very ones whose governments have set a solid economic base by means of competent management of their economies. If Chile, for instance, escaped the market turmoil, it was due in large part to its reputation of sound economic administration. Its current account deficit of 3,8% is the lowest in Latin America, yet the government is already taking steps to reduce it even further next year.

What's Next?

In the meantime, Brazilians brace for lean times, since an economic slowdown or even recession will certainly follow as a result of the new rules. Although the government expects to maintain the high interest rates for only a few months, no one knows for sure when they will be lowered. It all depends on the global market uncertainties, which have recently chosen mighty Japan as the latest victim.

Analysts predict that the automotive sector will be one of the hardest hit. This industry, which has thrived in the past three years thanks to low inflation and easy access to credit, is expected to shrink by as much as 40%. Ford has already canceled production for 18 days, and its employees fear layoffs will ensue. General Motors announced it will reduce production by 25%. The same feeling is shared by other sectors, and several companies have put their investment plans on hold until the clouds hanging over the country's future have dissipated. Brahma, Latin America's largest brewer has postponed investments of $270 million.

If there is any comfort amid the chaos is that for the first time in Brazil a President has launched such tough and unpopular measures just 11 months before presidential elections. However, FHC's adversaries contend that he had no real choice. They claim that if the Asian hurricane had not swept the international market, the president would have waited until he was re-elected to take the steps he did. Even if that's the case, by taking speedy action in face of the crisis that hit Brazil, FHC has boosted his credibility among the international community, portraying an image of a serious statesman committed to the nation's interests, not his own.

Until now, FHC had been riding on Plano Real's achievements, specially the victorious battle against inflation. His re-election was all but guaranteed. How much the fiscal package will influence voters has yet to be seen, but analysts predict that the sense of urgency in face of the financial crisis will minimize Brazilians' reaction against the president.

A survey conducted by the Vox Populi polling institute for Brasília's Correio Braziliense newspaper just hours after the announcement of the emergency plan showed that Brazilians continued to support FHC. Out of the 500 people polled across the country by telephone, 55% considered the measures necessary, while 61% kept their faith in the government.

However, a more targeted poll in São Paulo only—conducted by Datafolha, and published by Folha de São Paulo newspaper—showed a sharp decline in FHC's popularity. Only 28% of the people surveyed said they would vote for the president if elections were held now against 33% in June. The survey, which has a margin of error of plus or minus 4%, also showed that FHC would still beat his nearest rival, former São Paulo mayor Paulo Maluf, who would get only 20% of the votes.


According to the experts, gross domestic product (GDP) growth for next year is expected to remain between 2%-2.5%, with a strong possibility that the country may fall into recession. However, the slowdown of the economy, together with the government's incentives to exports, should account for a 15% increase in that area, which would soothe the pain of an eventual recession.

No matter how bad the stock market is, that should not be a deterrent to foreign investors as far as the privatization of state-owned companies is concerned. Dutch bank ING estimates that if the government keeps to scheduled privatization program, some $35 to $40 billion in receipts could be brought into the country in 1998 alone. Overall, foreign investors will be more reluctant to pour their money into Brazil, but investments should not come to a complete halt. The potential of the Brazilian economy will always be attractive to international investors.

Altogether, the $20-billion fiscal package is ambitious if not perfect. The government must succeed in implementing its main measures in order to achieve the much-needed deficit reduction. If it fails, the consequences can be disastrous; if it succeeds, Brazil will be coming out of this crisis stronger and heading for the next millennium as one of the world's most important economies.


Revenue Increases:

. Increases personal income tax by 10% effective in 1998.

. Establishes a limit of 20% for tax deductions and benefits on personal income taxes.

. Temporarily increases oil, oil derivatives and fuel alcohol prices.

. Increases the IPI (Industrialized Product Tax) on alcoholic beverages, tobacco and automobiles.

. Increases airport departure tax from $18 to $90 for international flights; domestic flights are not affected.

. Reduces the exemption on goods purchased in Duty Free shops from $500 to $300 in 1998 and 1999.

. Establishes new customs laws and puts in place a thorough inspection of the $500-exemption on goods purchased abroad.

. Reduces all regional and sectorial incentives by 50%.

. Raises import taxes (which will affect some 9 thousand Mercosul's products).

. Eliminates exemption given to health, educational and sport institutions.

Budget Reduction

. Reduces public expenditures by approximately $1.7 billion in 1998, excluding health, education, social security and agrarian reform.

. Fires 33 thousand public servants without guaranteed job security from the Federal Public Administration.

. Freezes wages and pensions of 1.1 million federal employees during 1998.

. Eliminates 70 thousand vacant civil posts in the Executive branch of the government.

. Eliminates the incorporation of commissions to salaries.

. Reduces the number of commissioned posts by 10%.

. Limits the creation of public civil posts to 1/3 of granted retirement and vacancies in the previous fiscal year.

. Reduces service contracts by 20% (a $580 million cut).

. Reduces around $500 million in the sum allocated to new projects in 1998.

. Cuts teaching and research grants by approximately $100 million.

. Creates mechanisms that make it harder for states and municipalities to get bank loans.


. Increases federal company revenues by close to $1.8 billion.

. Cuts approximately $900 million in personnel expenditures, including dismissal of employees and a hiring freeze.

. Reduces the limits of federal companies' indebtedness.

. Reprograms federal companies' investments.


. Accelerates the privatization of the basic sanitation system.

. Includes the Brazilian Reinsurance Institute (IRB) and federal highways in the National Privatization Program.

. Offering of Eletrobrás issues on the international market.

Export Incentives

. Creates a support fund for small and mid-sized companies, aimed at increasing exports and investments.

. Allows access to external credit to producers of agricultural inputs used in exportable products.


(1986 -1997)

A Brief History

February 1986 - Plano Cruzado. Among other measures, the plan launched by President José Sarney replaced the old currency—the Cruzeiro—by the Cruzado, and froze prices, salaries and exchange rates. The dream of a new economic era under "zero inflation", as proclaimed by the government, ended a few months later due to the plan's lack of structural basis.

November 1986 - Plano Cruzado II. An attempt at mending the failures of the previous plan.

June 1987 - Plano Bresser. Named after Minister Luiz Carlos Bresser Pereira, it was just

another unsuccessful attempt to bring the Brazilian economy back on track.

January 1989 - Plano Verão (Summer Plan). Third and last plan under Sarney's administration, it introduced yet a new currency, the Cruzado Novo, but again failed to tame inflation. At the end of his mandate, Sarney and his economic advisors left a legacy of an 84% monthly inflation.

March 1990 - Plano Collor I. Promising to kill the "inflation tiger" with one single bullet, President Fernando Collor de Mello delivered this heterodox plan and shocked the population by "temporarily" confiscating savings accounts and other investments. The plan also replaced the Cruzado Novo by the old Cruzeiro again. Inflation remained out of control, and seven years later Brazilians affected by the confiscation are still fighting to get their money back.

August 1993 -Plano Collor II. It established the Cruzeiro Real as the country's new currency, but failed to bring inflation down. A few months later Collor was impeached on charges of corruption.

July 1994 - Plano Real. President Fernando Henrique Cardoso's plan adopted a strong currency, established high interest rates to slow consumption and eliminated prices indexation and tariff barriers to imports. It succeeded in bringing inflation down to historical low levels but still lacked some adjustments, specially in the fiscal area.

November 1997 - Fiscal Package. Entitled "Fiscal Adjustment and Competitiveness Measures" the plan is the latest attempt by FHC's administration to fight off the negative impact of the international market's crisis on the Brazilian economy. It also carries out some of the structural reforms needed to consolidate Plano Real.


In spite of a more stable scenario both at home and abroad, it is still early to predict how the Brazilian stock market will perform in the months ahead. Stocks have had some gains in recent trading sessions, but the market needs speculative capital in order to sustain a good performance. Since foreign investors are still wary of the uncertainties faced by the country, it may take months before the market starts to fully recover.

In the meantime, the Central Bank has vowed to find out the culprits for the market crash in October. The bank is already investigating the losses suffered by financial institutions. If proven that the banks acted recklessly by being too dependent on high-risk operations, the Central Bank may change the rules that govern the financial system in order to protect investors in times of international crises.

Bank officials also want to know who speculated against the Real. Analysts believe that the Central Bank will never be able to prove if investors intentionally bet against the currency, or if they just reacted to defend their patrimony against an eventual currency devaluation. Either way, investors who speculated in the Chamber of Trade and Futures have lost close to half a billion dollars in anticipation of a currency crisis.

On the other hand, companies such as Telebrás, CSN, Brahma, Electrolux, and others are buying their shares back at a time when their prices have become very attractive. Telebrás, for instance, will spend $100 million in re-buying its shares, which are valued at $112 per block of a thousand shares—a drop in value of nearly $60 after the market crash. The companies' decision to re-buy their own shares is a good indication. It means they believe the market will rebound in spite of more pessimistic predictions about the future of the Brazilian economy.

Marta Alvim is a Brazilian journalist, freelance translator and interpreter. You can reach her at mltdalvim@yahoo.com