Lula’s push to boost spending in Brazil rocks markets

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RIO DE JANEIRO (AP) — On the campaign trail, Luiz Inácio Lula da Silva pledged to maintain a massive welfare program, increase the minimum wage, and increase health and education spending. Now Brazil’s President-elect is trying to make good on those promises – and investors are concerned.

Da Silva’s transition team submitted a draft proposal to Congress Wednesday night to circumvent a constitutionally-imposed spending cap by creating a welfare spin-off. At Thursday’s climate talks in Egypt, he reiterated that he paid little heed to whether his plans to run a socially responsible government might prompt nervous speculators to sell out.

As trading opened on Thursday, the Brazilian currency slipped to its weakest level against the dollar since July, and the benchmark Bovespa stock index fell more than 2.5%. Traders have started pricing in next year’s rate hikes rather than cuts as da Silva’s proposal “confirmed the (tax) risk that was previously just a rumor,” said Sérgio Vale, chief economist at MB Associados.

On several occasions, da Silva has said that market reactions seem overdone, claiming that investors hold him to a different standard than incumbent President Jair Bolsonaro. He has highlighted his achievements in generating inclusive growth while adhering to fiscal responsibility during his previous two terms as President, 2003-2010.

But the current state of the Brazilian and global economy is in stark contrast to the heady days of the commodity super cycle, and da Silva has much less room for maneuver. In his last year in office, more than 21% of his executive branch’s budget went to discretionary decisions, up from just 6.3% in 2023, according to a congressional report on next year’s budget.

Investor skepticism about his left-wing Labor Party’s commitment to fiscal restraint was reignited by the 2023 spending proposal, da Silva’s comments and his possible choice of finance minister, all published in Brazilian news outlets.

“It’s hard to see any positive points; I only see problems,” said Zeina Latif, an economist at consultancy Gibraltar, on the spending proposal. She added that she regretted that technocrats were not involved in its development. “It’s a purely political conversation, with no expertise, no commitment to pass reforms, just asking for more spending,” Latif said.

The budget does not include funds to keep Brazil Aid’s welfare program at its monthly level of 600 reais (US$110). Under the terms of the proposed constitutional amendment, the entire program – estimated to cost 175 billion reais ($32 billion) – would be exempt from the spending ceiling. An additional 18 billion reais would go to families with young children, who would receive an additional 150 reais per month.

The market had been expecting a deficit for next year, but at a level about half that proposed, said Latif, who also criticized Bolsonaro’s repeated use of constitutional changes to circumvent the cap.

Some of da Silva’s comments have made investors suspicious. On November 10, he delivered an impassioned speech in the capital, Brasilia, in which he vowed to prioritize the fight against hunger regardless of market concerns.

“If after the end of this mandate every Brazilian had coffee, lunch and dinner again, I will have accomplished the mission of my life,” he said as his voice choked. He then criticized the market’s fixation on fiscal discipline and said the time had come for a “new paradigm”. On that day, the currency lost nearly 4% of its value against the dollar.

“There’s no point in just thinking about financial responsibility because we have to start thinking about social responsibility,” da Silva said on Thursday. He added that the spending cap takes money away from health, education, technology and culture.

“Ah, but if I say that, the stock market will fall, the dollar will rise,” he continued. “Be patient. Because the dollar isn’t rising and the stock market isn’t falling because of serious people, it’s because of speculators.”

Da Silva’s proposal must pass both chambers of Congress before the end of the year to take effect in 2023. Senate President Rodrigo Pacheco, who traveled to Egypt with da Silva, has said he supports removing the social program from the spending cap.

Economists say da Silva’s first term from 2003 to 2006 was one of financial responsibility, even as his policies lifted tens of millions out of poverty. Spending increased during his second term in response to the 2007-2008 global financial crisis.

Concerns stem primarily from the tenure of his hand-picked successor, Dilma Rousseff, who also comes from the Labor Party. During her two terms as president, she continued and expanded da Silva’s policies, and Latin America’s largest economy plunged into its worst recession in a century.

Rousseff was eventually charged with violating tax liability laws. The spending cap was introduced by its successor in 2016 to regain market confidence.

“People look at Lula like he’s Dilma,” noted Brazilian economist and Johns Hopkins University professor Monica de Bolle, referring to da Silva by his nickname. “But Dilma didn’t listen to anyone. Lula is the exact opposite: he’s a political animal, not a technocrat. Above all, Lula is very pragmatic.”

Da Silva’s election as vice president speaks in favor of this approach: Geraldo Alckmin, a former rival of the centre-right party, served three terms as governor of the state of Sao Paulo, Brazil’s economic powerhouse.

Henrique Meirelles, a former central bank governor and finance minister who was the most outspoken supporter of introducing the spending cap, has also backed da Silva’s efforts to get approval for additional spending to cover continued social assistance.

“The new government faces the challenge of negotiating a budget that clearly does not reflect the true needs of the country,” Meirelles said on Twitter on Tuesday.

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