Werner Baer made significant contributions to understanding Brazil's economy over five decades through his empirical, historically-informed analysis. Brazil experienced a development success based on inclusive growth and macroeconomic stability until 2011-2013, when growth collapsed amid falling commodity prices, rising debt levels, and lack of infrastructure investment. To fully recover, Brazil needs structural reforms like diversifying its economy, improving education, tackling corruption, and enacting fiscal and pension reforms, though political challenges remain. Prospects for recovery include trade surpluses and potential regional growth, but debt levels constrain interest rate policy and full reform will be difficult.

1. Werner Baer, his intellectual legacy and
overcoming crisis in Brazil
Edmund Amann, Leiden University

2. Werner’s contributions
• An enormous legacy stretching over five decades
• The range of research is impressive – beyond the
seminal contributions on Brazil – notably “The
Brazilian Economy” - lies work on a slew of other
countries including India and Russia
• But I will reflect on Brazil, its current crisis and how
Werner’s approach to the subject matter can help us
to understand what is going on and whether current
changes in policy could help Brazil to recover

3. Defining Werner’s approach
• The importance of empirical validation – what
works in practice
• The importance of history and institutions and
even cultural factors in explaining economic
behavior
• The deft use of qualitative as well as
quantitative evidence
• The key insights to be gained from appropriate
cross country and intertemporal comparisons

4. • Understanding the close interplay between politics
and economics – Werner’s work in many senses is
political economy in a very pure form
• Understanding the importance of power
relationships in shaping economic decisions
• A skepticism regarding extreme ideological positions
whether they be represented by Pinochet market
fundamentalism or Chavista Bolivarianism
• Above all the importance of detailed evidence and
country knowledge

5. • In essence, Werner’s approach centers on the
structural characteristics of economies; only
through structural reform can performance
improve and sustainable, inclusive growth be
realized
• These considerations inform my review of the
current state of Brazil’s economy and its
prospects for recovery under the new
administration of President Temer

6. Brazil in crisis
• In what follows I draw on some of the
research produced under the IRIBA project
• Werner was part of the project and co-
authored one of the papers
• The papers are available to view in the QREF
Special Issue

7. Findings from the IRIBA Project

8. The rise of Brazil pre-crisis

9. Socialcontract/
consensus
Institutions of economic management
Innovative social policies
Finding 1:
The Brazilian ‘model’ was a blend of consensus
and conjuncture

10. I
RIBA yellow tint (background): Red=2248, Green=244, Blue=219 (#f8f4db)
Finding 2:
Brazil’s development success was based on inclusive growth
0
.2.4.6.8
0 .19 .38 .57 .76 .95
Percentiles (p)
Confidence interval (95 %) Estimated difference
( Ref. period = initial | Order : s=1 | Dif. = ( Q_2(p) - Q_1(p) ) / Q_1(p) )
Brazil Growth Incidence curve 2001-2012

11. How was greater equality achieved?
• Lower inflation protects real incomes of the
poorest
• Rise in employment incomes for bottom 5
deciles of the population relative to top 5
• Advent of social programmes, especially Bolsa
Familia CCT programme in the late 1990s and
early 2000s
11

12. Finding 3:
Macro stability underpinned progress
The Real Plan - implemented in the mid 1990’s - ended hyperinflation.
There’s been a sustainable expansion of credit to households & businesses.
The national development
bank (BNDES) has played an
active role – particularly
Following the Global Financial
Crisis

13. Finding 4:
Fiscal capacity was vital
Institutional responsibility
was established in the
battle against hyperinflation.
Brazil has benefited from tax
reform and capacity built
from the 1960s.

14. Finding 5:
Agriculture has been transformed
Since 2000, Brazilian agricultural
production and exports have
increased enormously.
The production of crops rose by
over 150%, while exports multiplied
eightfold from 1990 to 2012
Not the result of an overarching plan
– but the product of various
institutions mutually reinforcing
each other

15. Finding 6:
Brazil shows the ‘resource curse’ is not inevitable
High-valued wood products
Phytotherapics and
phytocosmetics components
Biotechnology
Leading firms re-organize and re-focus their
research activities to face the new economic
and institutional conditions of the 1990s
Electricity and steam
VCP-J
Suzano
Klabin
Leading firms strengthen their internal R&D
after the end of the IPEF/ESALQ external
Aracruz’s breakthrough innovation in
forestry with worldwide recognition
(Marcus Wallenberg Prize)
Suzano completes a six-
year research project
and becomes world’s
first paper maker from
eucalyptus pulp
Leading firms draw on their forestry
innovative capabilities to explore new
technological and market opportunities
Leading firms re-organize their forestry research
activities after the Genolypus project
Leading firms engage in the Genolyptus project
Aracruz structures its forestry R&D centre to tackle
eucalyptus diseases
1950s-1960s 1970s-1980s 1990s 2000s
Brazil is the 4th largest producer of forestry-based pulp and the 9th largest producer of paper

16. Finding 7:
Social policy focused on inclusion & productivism
Innovative antipoverty
transfers have:
1)Explicitly targeted human
development, rather than
simply acting as a more
traditional safety net for the
sick and old.
2)A productivist element,
concerned with economic
inclusion.
3)A focus on citizenship- and
rules-based transfers,
avoiding clientelism.

17. Finding 8:
Rising tax revenues have been redistributed
The tax system
prioritises revenue
raising over
efficiency.
This has funded the
expansion of
antipoverty
transfers and other
social policies.

18. Finding 9:
Human capital accumulation improved average wages, while
labour market institutions reduced earnings inequality
Brazil has invested significantly in
formal education – but also ensures
that effective vocational training is
provided, particularly through SENAI.
Rises to the minimum wage have
helped to reduce inequality since
2005.
The main factors behind the decline
of earnings inequality were reduced
gender, racial and geographical
differentials.
0.59
0.50
0.58
0.47
0.52
0.40.4
.45
.5
.55
.6
GiniIndex
1995 2000 2005 2010
year
Labor income 95% CI Household per
capita income
95% CI
Reduced household incomes and
labour earnings inequality

19. Finding 10:
There were always limitations to the ‘model’
Slowdown in growth
Lack of investment in infrastructure & instability in regulation is stifling
development
Reliance on natural resources
Institutional bottlenecks prevent the
effective prosecution of corruption
Increasing strain on the social contract

20. So What Went Wrong?
20

21. Growth Collapses
Source: IBGE/IPEA
%
21

22. A Brazilian Crisis?
• Between 2011 and 2013 annual GDP growth slipped from 3.9
to 2.7%, with growth of just 0.1% being realised for 2014
• For 2015 GDP contracted by 3.8%. For 2016 a contraction of
3% is forecast but positive growth of 1.6% is predicted for
2017
• The consensus forecast for consumer price inflation for 2016
is 7.25%, above the central target of 6.5%
• Inflationary pressure has forced the authorities to tighten
fiscal policy while raising interest rates. The current base rate,
at 14.25% , is among the highest for all emerging market
economies
• Brazil registered an annual trade deficit in 2014, the first in 14
years – but there has been a subsequent recovery
22

23. • In Jun-Aug 2016, unemployment reached
11.8% having attained a level much above the
record low of 4.3% achieved in December
2013
• The number of Brazilians below the extreme
poverty line rose between 2012 and 2013
(from 10.08m to 10.45m), the first time a rise
has been registered since 2003
• Accompanying this, social unrest in the run up
to FIFA 2014
23

24. Roots of the crisis: Commodities
• A key leg of the model – high commodity prices -
has been removed
• During the high growth years Brazil became
relatively more dependent on commodity exports
• This is a source of structural weakness which has
afflicted Brazil at many points in history, even
before independence from Portugal
• Since 2012, key commodity prices have
plummeted
24

25. IMF Primary Commodity Price Index (2005=100)
Source: IMF 25

26. Roots of the crisis: debt
• During the good years (2000-12) corporate and household
debt rose significantly
26

27. Roots of the Crisis:
Lack of Fiscal Discipline
• Meanwhile, failure to contain public spending.
Problem is partly constitutional – 90% of federal
spending ring fenced. Heavy focus on spending
on pensions, social security, transfers to states &
municipalities and debt servicing (the latter
approx 20% of GDP)
• Absence of reform to refocus spending on pro-
growth areas
• Recession magnified problem as revenues
evaporated – erosion of primary surplus
27

28. Real Change in Central Government
Revenues and Expenses, 2011-15 (%)
Source:
IPEA/Banco
Central
Red line: Expenditure; Blue line:
Revenues
28

29. Rising Public Debt
Red and blue lines: respectively net and gross
public debt as a percent of GDP
Source:
Treasury/IPEA 29

30. Roots of the crisis: long term failure to
invest in infrastructure
30

31. Roots of the crisis:
under-investment in education,
low productivity outside NRB sectors
Source: Palma,
2011 31

32. To exit the crisis Brazil will need
reforms in the following areas:
• On the supply side, to improve competitiveness
and diversify the economy away from
commodities. Measures such as indirect tax
simplification, better export-focused
infrastructure and, above all, better training
• For the public sector, tough measures to increase
the scope for discretionary expenditure in pro
growth areas. Above all, pension reform is
needed
• Better adherence to fiscal and monetary targets
32

33. • More transparency and less corruption in
bidding processes for large infrastructure
contracts
• A diversification of low cost credit sources for
fixed capital investment – the BNDES
development bank needs to be supplemented
• Reconfiguration of Mercosur customs union to
reduce exemptions and make it more
attractive for inward investment (could Macri
help?)
33

34. • In sum, as Werner and I discussed many times,
a range of measures are required and
structural issues cannot be ignored
• But all of these involve tackling vested interest
groups, the forging of consensus and, above
all, political will
34

35. The nub of the problem is political
• Over-reliance on commodities, low investment in
productive capacity and build up of excessive
debt were long-term, foreseeable structural
problems
• Governments of Fernando Henrique Cardoso
(PSDB-Social Democrat) and Lula (PT – Workers’
Party) strong reformers
• Were effective in bolstering the supply side and
tacking inflation (FHC) and in better distributing
the fruits of growth (Lula)
35

36. • But neither administration effectively tackled
key issues such as commodity over-
dependence or low productivity
• Could have been a solid policy agenda for
President Dilma Rouseff (PT) (2010-16)
• But instead, policy inertia on these fronts and
misguided interventionism in oil sector and
automobile industry, for example
• Failure to build on Lula’s social reforms, a PT
strong suit
36

37. • Inertia, combined with growing economic pain
has led to drastically low popularity and
credibility for Rousseff administration –
contributed to impeachment in August 2016
• Harder to muster support in Congress where
multi party representation means careful
coalition building is vital
• But President Temer is beginning to push
ahead on his own agenda despite distractions
of Lava Jato and progress looks possible on
fiscal reform…
37

38. Economic prospects and reform
under the Temer administration

39. Prospects for fundamental reform
• Prospects for fundamental reform in medium run are
not great given political turbulence. Efforts so far
centre on privatization and oil sector deregulation.
Unlikely to be externally imposed (as in 1980s) by
WB/IMF intervention. Why? Healthy foreign reserves
and low incidence of foreign currency denominated
debt/GDP whether sovereign or corporate. No need to
seek official finance
• Eruption of intensified domestic reform movement,
concerted campaigning from business more likely
sources of impetus. In other words any change likely to
be internally rather than externally driven
39

40. Fiscal Reform
• In Oct 2016 administration has introduced
measure that would freeze spending in real
terms for at least 10 years. Strong support in
Lower House
• In the absence of pension and social security
reform, the adoption of the measure would
severely squeeze the scope for discretionary
spending, a problem long recognized by
Werner (Amann & Baer, 2006)

41. • So the second major item on Temer’s
legislative agenda is pension and social
security reform. This has been super
problematic in the past and constitutional
amendments may be required to ensure
success
• There is also the prospect of trying to loosen
the grip of minimum salary adjustments on
public expenditure – very controversial

42. Issues around the
current fiscal reform agenda
• Its imposition is understandable, given that the
economic crisis has deep political roots and investor
confidence needs to be restored
• But big question is whether this new fiscal rule will
be any more achievable in the long term than the old
primary surplus targets
• Also, will it squeeze out growth-enhancing public
investment and poverty alleviation strategies,
notably Minha Casa, Minha Vida and Bolsa Familia?

43. Can Brazil hang on?
• In the absence of fundamental reform, a full
sustained recovery is not possible.
• However, assuming Finance Minister,
Henrique Meirelles, can achieve modest
success in achieving fiscal and inflationary
targets, can a prolonged 1980s-style crisis be
avoided?
43

44. The recovery of the trade balance
• The steep depreciation of the Real and reduced
domestic demand has resulted in a trade surplus,
despite a decline in the demand for key exports
• If Argentina’s growth accelerates under Macri,
the trade balance should continue to move
further into the black
• This should reduce still further the possibility of
difficulties in meeting foreign debt repayment
obligations
44

45. The trade balance:
a route to recovery?

46. Other factors might help
• Cheap Brazilian assets likely to encourage the
entry of less risk averse foreign investors
• A reversal of the commodities price slump
would create valuable demand side pull.
• A broader regional recovery, perhaps led by
Argentina but potentially embracing a post-
Maduro Venezuela?
46

47. Debt is a worry
• As indicated, the rise of public and private
debt has been significant
• But comparatively little of it is foreign
currency denominated. The stock of this is
only 2.4% of GDP for the federal government
• The bigger problem is Real (R$) denominated
debt
• The default rate for non-personal debt rose
from 3% in March 2011 to 5.9% in May 2016
47

48. However, the scope for the debt issue triggering a full-
blown crisis is limited by:
• The absence of a liabilities currency mismatch issue
• Well capitalised and regulated banking system
• The option of recapitalising the banking system with R$
if a domestic currency denominated debt crisis did
emerge
But real problem with extent of debt is that it limits
freedom to raise interest rates - and inflation is above
target
48

49. Conclusions
• Recovery will require real structural reforms and
the disciplined pursuit of realistic macro targets
• Achievement of the former will be a challenge in
the short to medium term given levels of political
turbulence, but there are signs of progress
• Risk that new fiscal regime may damage growth
• Some positive impetus is likely to be felt from the
turnaround in the trade balance
• A full blown 1980s-style foreign debt crisis is
unlikely given the low incidence of foreign
currency denominated debt and the scale of forex
reserves
49

50. • The accumulation of significant public and
private Real-denominated debt does pose
risks but these are in part mitigated by the
presence of a well-capitalised banking system
• So Brazil might just hang on even if progress
slow on fundamental reform, but is anyone
willing to tolerate another “lost decade”?
• All this raises a much broader question: are
Brazil and other key emerging economies
locked in a middle income trap?
50

51. A final vignette