In one sentence, the Brazilian economy seems to be suffering from lack of productivity yet an excessive public sector. On the one hand, the run-of-the-mill performance of productivity in Brazil in recent decades has limited its GDP growth potential. On the other, the excessive expansion of public spending has become progressively unsuited with such limits in the potential expansion of GDP, particularly since productivity has not been achieving socioeconomic results.
Last month, the World Bank released a set of public policy notes suggesting three reform paths with which the country can rediscover a course of collective prosperity. In addition to the former, the notes suggested reforms in the governance model of the Brazilian public sector, complemented by a review of public spending as the main element of an essential alteration in public accounts.
As has been mentioned, Brazil has had insipid increases in productivity of goods and services. More than half of per capita income growth over the past two decades has been brought by increases in the share of the economically active population, a source of expansion that will decline with the ongoing aging of the population - change is necessary.
Considering the period from the mid-1900s to now, Brazilian production per employee has been increasing by only 0.7% a year, somewhat because the level of physical investments has remained low, but mainly due to the stagnant efficiency related to human and material resources.
The World Bank suggested the implementation of a program of trade liberalisation, since productivity levels are precisely one of the consequences of the aggravated closure in Brazilian foreign trade.
That being said, there are also factors that limit competition in domestic markets - lack of logistics infrastructure, differentiated state tax regimes, subsidies to specific firms and so on - that make the rate of survival and resource preservation in less efficient companies higher than in other countries. Policies to support the private sector need to shift from compensation for high internal costs to strengthening the adoption and diffusion of technologies.
The unfavourable business environment for entrepreneurs also undermines productivity. Among the components of such an environment, the complexity and imbalance of the tax system is a priority item for reform. The lack of investments in infrastructure and their declining quality in the recent past is another source of toil on productivity.
On the other end of the spectrum, annual current public spending has risen sharply in real terms over the past decades: 68 per cent between 2006 and 2017. As a proportion of GDP, public expenditures rose to 40 per cent in 2017 yet public investment declined and made up less than 0.7 per cent of the GDP of 2017.
It is no surprise that fiscal adjustment is another of the paths suggested by the World Bank, noting that such a path of gradual improvement could allow the return to a fiscal and sustainable debt trajectory in 10 years.
In addition to, the World Bank highlighted that the existing opportunities to reduce current public expenditures while minimising impacts on income are related to expenditures on social security, the public sector payroll and subsidies and tax exemptions.
The third path outlined by the World Bank is state reform. The mismatch between the limited growth potential and the growing public spending is provoked by a clear inefficiency in the provision of several services, comprising an excessive public sector. As to the sources of such inefficiency, the World Bank points to an excessive number of rules and budget rigidity; fragmentation of service delivery; poor planning, monitoring and evaluation of projects and policies; human resource management without positive performance incentives; and growing risk aversion in the bureaucracy.
Keeping the protection of the poor and the young in mind, the application of a gradual but steady treatment to heal the Brazilian economy will be the responsibility of those elected in October. The upcoming election results are crucial, as a more market friendly candidate will possibly pursue a reform path. Brazil remains a crucial economy for the EM world, thus the economic reform would be an important aspect also for other economies.
Disclaimer:
This article was issued by Maria Fenech, investment manager support officer at Calamatta Cuschieri. For more information visit, www.cc.com.mt. The information, view and opinions provided in this article are being provided solely for educational and informational purposes and should not be construed as investment advice, advice concerning particular investments or investment decisions, or tax or legal advice.