21 April 2008

Brazil's Development Conundrum

by Paulo Gala Currently in Brazil heterodox economists form the majority in President Lula's government. This is a very different situation compared to Lula's first term. Brazilian Keynesians and development economists are now in key positions in the Brazilian Development Bank (BNDES), Finance Ministry, research institutes, at the World Bank and even the IMF. To name a few, Guido Mantega has been historically connected to developmentalism and so have economists in his team such as Nelson Barbosa. BNDES' president: Luciano Coutinho is one of the country's leading industrial policy specialists. Marcio Pochman, Joao Sicsu and a number of others are now the leading thinkers at IPEA: one of the most important government institutes for long term planning and research in the country. The Brazilian representative at the IMF, Paulo Nogueira Batista, is a long time critic of the Central Bank and neoliberal policies in Brazil. The President's small circle of influential advisors are also composed of hetorodox economists. Delfim Netto is a former USP (University of Sao Paulo) professor and was "czar" of the economy during the Brazilian miracle in the seventies. Luiz Gonzaga Belluzo is a former UNICAMP's (Universirty of Campinas) professor and long time critic of neoliberalism in Brazil. Conceicao Tavares is a former UFRJ's (Federal University of Rio) professor and has been advising the President since his first term. But the overwhelming presence of heterodox economists in these influential positions does not mean that developmentalist policies are comprehensively adopted. This is particularly because the central bank remains orthodox with total control over monetary and exchange rate policies. Though quantitatively in the minority these economists remain very powerful because of their close connection to the President and the fears of inflation that still haunt him. As some say, the Central Bank is the bunker of orthodox economists in Brazil today, the ones that survived from Lula's first term. Backed by the Bank's President Henrique Meirelles, these economists have been dictating key pillars of economic policy for a long time now. One cannot find a single economist close to a developmentalist viewpoint on the board of directors of the Central Bank. With a fully orthodox team, the central bank's main objective is to keep inflation under control. The result of this ambiguous composition of government is a twofold economic policy, as some have observed. Dialogue between the Finance Ministry and the Central Bank is harsh, to the extent that it exists at all. Policies adopted by the Ministry usually run in the opposite direction to what economists in Bank are doing. This has reached the stage where in a recent interview Guido Mantega mentioned that for every basis point of interest rate increase by the Bank, the Ministry levies taxes of the same amount on capital inflows to avoid exchange rate appreciation. This tax (the IOF) has been raised to 1,5% this year. It goes without saying that the economists in the Bank couldn't disagree more with these measures. The same phenomenon can be observed with respcet to fiscal policy. Through the new "Plano de Aceleração do Crescimento" (PAC) the central government has been increasing public investment in infrastructure, thus stimulating demand and growth. The Central Bank fears overheating of the economy and has been arguing for budget cuts, particularly with respect to government consumption. Actually, this is where most Brazilian economists seem to be in agreement. A cut in government consumption expenditure (as opposed to investment expenditure) would help manage aggregate demand. It would avoid the negative consequences of further interest rate hikes in the form of exchange rate appreciation and disincentives to investment in tradable sectors of the economy. President Lula doesn't seem to like this kind of reasoning, though. On April 16th, the Brazilian Central Bank decided again on the level of interest rates. There is a wide consensus among economists in the financial sector that the rate should be raised by at least 0.25 bps. According to some, inflation might be going out of control again. There is a chance that the target of 4.5% per year imposed by our inflation targeting system will not be met. According to the economists in the Finance Ministry there is no need to increase short term rates now because capital accumulation is growing strongly in the country (15% per annum). Installed capacity will increase in the near future which is the main guarantee for keeping inflation rates under control in the long term. But once again, the Central Bank and development economists don't agree on this. In conclusion, it seems fair to say that economic policy in Brazil has been split by the president into two often contradictory parts. The developmentalists in the Finance Ministry manage fiscal policy and the orthodox economists in the Central Bank manage monetary and exchange rate policies. The outcome of this arrangement will be neither developmentalist nor monetarist. Rather it will result in moderate growth and moderate inflation.
Paulo Gala received Master and PhD degrees in Economics from the Sao Paulo School of Economics, Getulio Vargas Foundation. He is the author of several papers, articles and book chapters on the following subjects: Macroeconomics, Development Economics and Economic Methodology. Currently, he is a professor at the Sao Paulo School of Economics, Getulio Vargas Foundation.pgala3@gmail.com


  1. Dear Paulo,

    Thanks for this interesting description of the current Brazilian economic policy environments. Apart from both fiscal and monetary side of economic policy, can you observe any distinct industrial, trade policy measures?


    Hee-Young (Econ student, NSSR)
    2006 CAPORDE participant

  2. Dear Hee-Young,

    Industrial policy is a bit different because the president of the BNDES is taking care of it together with Guido Mantega. Trade policy is also in the hands of the Finance Ministry so I guess things look better in these two fronts.

    Paulo Gala

  3. Dear Paulo,

    In times of Brazilian investment grade, what should be the consequences of the two positions (developmentalists and monetarists)? Now the economy is supposed to the economic growth, and in my point of view we need investments in infra-structure. What do monetarists say about that now?


    Celina Ramalho (FGV-SP, Ordem dos Economistas do Brasil)

  4. Dear all:
    I think that another result of the mix of policies between developmentalists and monetarists is the actual current account deficit. In that sense, it would be interesting look to the evolution of the external sector during these period with the apretiation of de RER and its effects.
    I like very much the article
    Federico Pastrana
    CEDES, Buenos Aires, Argentina

  5. The unexpected (in the short run)investment grade gives more power to the central bank. And we are still lacking investments in infra-structure.