Real(ity) Check

Real(ity) Check

After three years of success with inflation brought to its lowest level
in 40 years there are few skeptics left who doubt the efficiency of Plano
Real. The plan, however, still has major challenges ahead, namely the reduction
of the budget deficit and sustained growth.

Marta Alvim

On July 1st the Brazilian government’s much lauded Plano Real celebrated
three years of success in rescuing a chaotic economy once on the brink
of disaster. Even the skeptical Brazilians, so many times taken for a ride
by previous failed plans, have accepted the success of the stabilization
achieved by this plan. Opinion polls conducted all over the country show
that the population’s approval of Plano Real has increased, and any doubts
about its efficiency have been gradually dissipating.

At the government level, President Fernando Henrique Cardoso (FHC)—considered
Plano Real’s mentor—celebrated while counting on the plan’s achievements
to take him to a victorious bid to a second-term mandate in next year’s

Nevertheless, some of the government’s officials, including minister
of finance Pedro Malan, were reluctant to join in the celebrations of Plano
Real’s third anniversary, expressing caution as to the future of the plan.
Despite the general optimism of the population and of FHC’s allies and
adversaries alike, there is a consensus that Plano Real is about to enter
a delicate phase, which will be decisive for its consolidation. With inflation
in decline and at its lowest level in 40 years, the plan still has major
challenges ahead, namely the reduction of the budget deficit and the continuity
of stability with sustained growth.

Just to give an idea, the public sector debt is expected to reach 5%
of gross domestic product (GDP) at year’s end. Translated into numbers,
those 5% represent approximately a $40 billion deficit incurred by the
executive branch; the 27 states and 5.525 municipalities; the Social Security
system and the public enterprises owned by federal, state and city governments.
As there are limits to the extent for both borrowing and increasing revenue,
administrative and fiscal reforms must take place in order to solve these
problems. According to minister Malan, if only the Social Security reform
had been approved in 1996 the country would have saved $1 billion this

The visible result of the debt is the deterioration of infrastructure
as well as of vital public services, such as health, education and law
enforcement. Recently, major Brazilian cities witnessed a bloody strike
led by Polícia Militar (uniformed state-owned police force), whose
demands for higher salaries could not be met by state governments—themselves
on the verge of bankruptcy. The population, often overburdened by taxes
hikes to make up for the public deficit, were left to fend for themselves
against the resulting upsurge in crime.

However, the stalemate continues as the proposed constitutional reforms
introduced to Congress two years ago have yet to be approved. And with
election season about to begin, it is even more unlikely that they will
be voted on before 1999 since expenditure reduction proposals are unrealistic
in election times. No politician in his right frame of mind would risk
his (or her) political ambitions by getting involved in controversial measures
that might upset their electoral bases.

So far the receipts brought in by the ongoing privatization process
have somehow helped the government compensate for the deficit, but Brazilian
economists unanimously agree that, without the reforms and the consequent
reduction of public spending, privatization is only a partial solution
to the problem. If the government doesn’t create mechanisms to avoid new
debts , the sell-off of its patrimony will be only enough to pay interests,
leaving the principal unchangeable.


Another point of concern is the trade deficit, expected to reach $12
billion this year according to the latest estimates. The balance of payments—which
records the trade flows of imports and exports of goods, services and capital—registered
a $2.1 billion deficit in the first six months of ’97, while during the
same period of 1996 it registered an $8.2 billion surplus. The latest figures
reflect the increasing deficit in current transactions (the negative result
from the sum of the services and trade balances) which reached $15.6 billion
in the first six months of this year against $7.7 billion during the same
period in 1996.

That means the inflow of foreign capital, albeit strong, was not enough
to cover the deficit, forcing the government to use $2.147 billion from
the country’s reserves to finance its overseas transactions in the period.
Analysts estimate that the current account deficit will reach $36 billion
by the end of the year compared to $17 and $24 billion in 1995 and 1996

On the other hand, Banco Central’s (Central Bank) recent announcement
that foreign reserves had reached $60.3 billion in July—an increase of
$2.8 billion from June—shows that investors are confident that the trade
balance will not cause a currency crisis in the short-term.

Looser monetary policies and a devaluation of the real (which some believe
is 20% overvalued) have been suggested as a way to stop the balance of
payments’ increasing deficit. Proponents of such measures contend that,
by modifying the current exchange rate policy, an increase in exports would
follow as the price of Brazilian goods would again become attractive to
overseas markets. Unfazed by the pressures, government officials have refused
to adopt such alternatives, betting that Brazilian companies themselves
will find solutions to become competitive by ways of modernization, productivity
and cost reduction.


The deindexation of the economy, together with the exchange rate policy
adopted by Plano Real’s management team, are considered by far the most
important measures that led to inflation reduction. Before the plan, the
perverse indexation mechanism tied salaries and price indexes readjustments
in such a vicious circle that inflation kept feeding itself until it reached
a record high of 7000% in June of 1994. On top of the deindexation process
and the adoption of a strong currency, the government also put in place
high interest rates that slowed consumption, while removing tariff barriers
to imports.

Although not heterodox like previous plans which imposed price freezes
and confiscation of bank deposits, the measures adopted by Plano Real have
also had a significant impact on Brazilian society: On the up side, it
increased the low-income population buying power and reduced poverty. Statistics
show that in 1996 25.1% of the population had been classified as poor compared
to 33.4% in 1994, and 27.8% in 1995. On the down side, it put a strain
on the middle class budget due to the combination of high prices of goods
and services and lack of salary adjustments in the past three years.

However, price indexes have been showing a downward pattern. The Finance
Ministry predicts an annual inflation of 5% in 1998, while economists are
even more optimistic, predicting a 4% rate for next year.

With inflation under control, the question now is whether it’s possible
to maintain a long-term sustainable growth in investment, employment and
productivity of the economy. According to studies conducted by the Applied
Economics Research Institute (IPEA), an entity linked to the Ministry of
Planning,, the answer is yes.

The Institute, usually very conservative in its estimates, has recently
published a 424 page book titled O Brazil na Virada do Milênio
(Brazil at the turn of the Millennium) in which it shows that in the year
2006 Brazil will have approximately 178.5 million inhabitants and a gross
national product at $1.3 trillion. GDP growth should be 7% annually, unemployment
rates will be very low and inflation should be at a rate of 4%. Furthermore,
the expected increase in productivity and resulting growth of the economy
should make for a 52% gain in wages in real terms.

IPEA stresses that economic projections are always subject to mistakes.
However, if the necessary fine-tuning of Plano Real is done, and if the
Brazilian economy is not affected by unexpected international crises, then
the plan will have achieved its consolidation goal.


Despite the plunge of Brazilian stocks last July, the stock market has
been by far the country’s best investment in the past six years or so.
In 1991 the Ibovespa (index used by financial specialists to measure the
average yield of shares) was around 1200 points. In mid-August it reached
12500 points. During this 6-year period, the Ibovespa had gains of 930%
in real terms compared to the 420% yielded by CDB’s and the 123% profitability
of savings accounts.

The upsurge in foreign investments, the privatization of state-owned
companies and controlled inflation are credited for the spectacular stock
market profits. In 1991, for instance, Telebrás (state-owned telecommunications
giant) shares were valued at $6.6 per block of a thousand shares. Today
they are trading at $116.

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

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