Since we last met in the spring, challenges to global growth have been on the rise, with remaining uncertainties regarding China’s deceleration, changes in US monetary policy and possible financial consequences, mainly for emerging markets. Currency volatility has also increased since mid-year and the IMF has slightly adjusted downwards the outlook for global growth, signaling higher trade and financial risks.
In Brazil, we have not been complacent about the end of the commodity cycle including through a significant adjustment in the external sector. Market expectations for the trade balance have increased over fourfold in the last six months and the current account should narrow down to less than 3% of GDP next year. FDI is also bound to surpass last year’s figure and cover around 90% of the external gap according to market estimates.
The main short-term challenge is on the fiscal side. A fiscal consolidation programme is underway and spending cuts of over 1.25% of GDP have been adopted over the originally approved budget for 2015. Still, revenues have declined substantially, requiring the adjustment of the original fiscal target for the primary surplus down to 0.15% of GDP. The 2016 budget proposal incorporates a fiscal target of 0.7% of GDP for the primary surplus. Congress is discussing it, as well as the tax and revenues measures proposed to support it. Getting the 2016 budget approved is essential to provide a north for fiscal policy and the economy as a whole. Experience shows that when fiscal uncertainty melts, economic activity rebounds in Brazil. A solid budget would also help monetary policy ensure the convergence of inflation towards its target in 2016.
With the short term fiscal consolidation efforts in place in the next months, a second step would be to increase demand, mainly through investment, possibly by the beginning of next year. The decline in interest rates — first long-term, then short-term yields — will allow for investment to recover, helping to kick off a new virtuous cycle. The recovery of demand would provide an outlet for the increase in productivity at the company level fostered by several measures taken since the beginning of the year.
These measures have helped to turn positive the contribution of the external sector to economic growth, after many years of negative contribution. Adjustments in tariffs and in energy prices changed inflation expectations, which started to converge to the inflation target, after many years hovering around the top of the target band.
SUPPLY SIDE REFORM
We are taking measures to ensure that rigidities in the supply side will not hamper the recovery after a few months of an buoyant economy. Besides structural measures to correct the fiscal side, we are working to create a more competitive and predictable business environment. Many of these reforms have been incorporated in the Brazil Agenda, a co-operative effort of the executive and the legislative branches to create a legal framework friendly to job creation and economic growth.
We will announce a reform of the federal VAT, and the Senate is moving forward a resolution that will simplify state VAT. On the labour market, new legislation for outsourcing could introduce more flexibility and opportunities to workers, while guaranteeing full coverage from the social security and the fund to finance severance payments.
Making the fight against inflation more efficient requires addressing the issue of contract indexation, a practice still prevalent in Brazil. We are starting to address that. Wage increases in the public sector are now linked to forward inflation, as indicated by the ‘Focus’ index published by the private sector. Also, new contracts in the energy sector have included forward-linking provisions.
TRADE AND INVESTMENT
Brazil needs to increase its integration into the global economy. The government is stepping up negotiations toward free trade agreements with the European Union and Mexico. The trade and agriculture ministries are also working on new trade facilitation agreements with regional and global partners. We continue to pursue multilateral negotiations but with a more active focus on other bilateral or plurilateral arrangements and the elimination of regulatory obstacles to trade. These efforts are moving pari passu with a review of the tariff regime.
Finally, we are taking many steps to support the $50bn concession programme on roads, railways, ports and airports, as well as the $40bn expansion of electricity production, notably through wind and solar plants. There are several initiatives aimed at ensuring increased competition for new infrastructure concession bids and attracting a broader spectrum of local and international players in the construction sector.
We are confident that our political and institutional leadership will bring us toward a strong 2016 budget and the implementation of many of the reforms needed to ensure a lasting recovery. This will allow us to widen opportunities of development and growth for individuals and companies, and consolidate the gains obtained by so many Brazilian households and businesses in the last decade, furthering the social inclusion and lift-off from poverty to which we all aspire.
Joaquim Levy is the Minister of Finance of Brazil