Brazil: Selected Issues and Statistical Appendix
Author: International Monetary Fund
Publication Date:
11 Jan 2001
eISBN:
9781451805901
ISBN:
9781451805901
Language:
English
Keywords:
ISCR; CR; government; exchange rate; real GDP; debt service; risk premium; service account deficit; GDP relative; Current account; Private savings; Current account deficits; Public sector borrowing requirements
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This paper analyzes several issues regarding fiscal sustainability and fiscal adjustment in Brazil during 1990 and searches for econometric evidence of a monetary dominant regime during some subperiods. The following statistical data are also presented in detail: macroeconomic flows and balances, industrial production, consumer price index, relative public sector prices and tariffs, minimum wage statistics, financial system loans, monetary aggregates, exports by principal commodity groups, direction of trade, detailed balance of payments, total external debt, central government operations, and so on.

Abstract

This paper analyzes several issues regarding fiscal sustainability and fiscal adjustment in Brazil during 1990 and searches for econometric evidence of a monetary dominant regime during some subperiods. The following statistical data are also presented in detail: macroeconomic flows and balances, industrial production, consumer price index, relative public sector prices and tariffs, minimum wage statistics, financial system loans, monetary aggregates, exports by principal commodity groups, direction of trade, detailed balance of payments, total external debt, central government operations, and so on.

X. Medium- and Long-Term Current Account Sustainability1

A. Introduction

1. Over most of the last 30 years, Brazil has run current account deficits of over 3 percent of GDP on average. Since 1980, rather sticky service account deficits—stemming mainly from a heavy external debt service burden—have offset trade surpluses averaging about 2 percent of GDP. This, together with public sector borrowing requirements of above 4 percent of GDP on average, have contributed to Brazil’s external vulnerability, in particular during periods of adverse movements in the terms of trade and/or heightened international concern about emerging market economies.

2. The adoption of a flexible exchange rate regime in early 1999 and strengthened macroeconomic management, however, have helped Brazil reduce external vulnerabilities and improve its terms of access to international capital markets. In this context, although the external current account is likely still to post a considerable deficit in 2000 (about 4.2 percent of GDP), concerns about short-term sustainability have abated, as foreign direct investments and other long-term capital inflows continue to be strong, and more than sufficient to meet Brazil’s external financing requirements. Concerns remain, however, about the persistence of large current account deficits and the sustainability of capital inflows in the medium and longer term, and their implications for the value of the real, macroeconomic performance, and the scope for policy makers to pursue growth-enhancing economic and structural policies.

3. This section investigates the relationship between current account balances and those variables (domestic and international) that are expected to influence the current account in the medium and long run through their impact on savings and investment. The prospects for Brazil’s external current account in the medium and long run are explored through macroeconomic simulations using the IMF’s multicountry dynamic model (MULTIMOD), which was modified to integrate Brazil.2 The dynamic reaction of the current and trade accounts to structural and macroeconomic shocks with different degrees of persistence are discussed.

4. According to the medium-term baseline scenario, fiscal discipline, a gradual improvement in the terms of trade, continued import substitution, and increased confidence toward Brazil in international financial markets would lead to a gradual reduction in Brazil’s current account deficit. Its share of the rest-of-the-world private savings would decrease and stabilize to about 0.2 percent by 2006—against an average of 0.5 percent over the period 1995–99—suggesting that future current account deficits would continue to be financeable. The simulations show, however, that Brazil remains vulnerable to domestic and international shocks as these tend to affect both the trade account and the debt service burden, through higher risk premia. They underscore the need for Brazil to run a prudent fiscal policy, to continue improving access to international financial markets, and to carry on with the necessary structural reforms to foster competitiveness—in particular by reducing fiscal, transportation and handling costs for exports—hence ensuring a sustainable current account position over the medium and long run.3

5. Section A summarizes the baseline medium-term external scenario and presents some alternative scenarios. Section B assesses the impact on the baseline scenario of specific domestic and international shocks in a small open-country setup, whereas Section C examines some of these shocks in a multicountry context. Finally, a possible extension to this line of analysis is briefly discussed in Section D.

B. The Baseline Medium-Term External Outlook and Alternative Scenarios

6. Figure 10.1 presents the baseline medium-term external outlook for Brazil for the period 2001–25. This is predicated on the basis of the general macro economic assumptions, including continued fiscal discipline and a declining domestic public debt-to-GDP ratio, as discussed in Chapter 2 on fiscal sustainability.

7. Specifically with regard to the external sector, the trade account should perform increasingly, though not sharply, better, mainly because of: (i) a gradual recovery in the terms of trade after the large drop in 1998–99; (ii) improvements in nonprice export competitiveness as a result of further structural public sector reforms, including a reduction of distortions in the tax system, and productivity-enhancing investments in infrastructure; (iii) continued import substitution as the industrial structure of the economy expands and deepens; and (iv) a smaller impact of crude oil on the total cost of imports as a result of somewhat lower imported crude oil, which should also help mitigate the impact of oil price volatility.4

8. Developments in the service account, however, will continue over the next few years to offset in part the marginal gains in the trade account. Active management of Brazil’s external liabilities, with a view to establishing a benchmark yield curve in several currencies and to lengthening the debt profile, including through further debt exchanges, should continue to contribute to a steady reduction of the country risk premium in the context of sustained domestic and international economic and financial stability. The related positive impact on the service account will, however, continue to be somewhat compensated for by other factor and nonfactor service items. After a period of higher reinvestment, dividends and profit remittances will slightly increase in the outer years as these go back to their trend level as a share of the outstanding stock of foreign direct investments. Expenditures on services for transportation and travel will increase as trade and real wages recover amid foreign exchange stability.5

9. The current account deficit is, accordingly, expected to improve only gradually over the next few years to about 3 percent of GDP in 2006, and to reach its long-term level of 2 percent of GDP by 2011.6 The further opening of the telecommunication, energy, and financial sectors will continue to attract substantial foreign direct investments from leading international multinationals wishing to establish and/or to strengthen their foothold in the region. Similarly, the deepening of the domestic financial system will foster portfolio, in particular, equity capital inflows. Accordingly, foreign investments are projected to continue to finance most of the overall current account.

10. Private savings are projected to decrease somewhat to about 18 percent of GDP by 2006, partially compensating for increasing public savings (partial Ricardian offset), and to stabilize at around that level in the long term. Private investments are projected to follow a similar path; to rise to above 19 percent of GDP by 2005 and to remain at about that level thereafter. Both are consistent with the average historical ratios.

11. Scenario I explores the impact of higher public debt as a result of higher public sector liabilities, including previously unregistered liabilities, in the financial and nonfinancial sector. These additional liabilities—about 0.5 percent of GDP higher than in the fiscal baseline over the period 2001–10—are modeled as transfers to the nonhousehold sector; they do not, therefore, directly impact on household permanent income, hence, not directly affecting the path of consumption/savings. Scenario II considers the impact of higher public consumption (goods and wages) that is financed by additional debt. Current expenditure as a share of GDP is projected to be 1 percent higher than in the fiscal baseline over the period 2001–07 and to gradually fall to the baseline level by 2012. The weaker fiscal discipline, which could also reflect the political cycle in Brazil, would also adversely impact the confidence of international financial markets, and, hence, the risk premium.7 The different assumptions about risk premia in Scenarios I and II stem from the fact that, whereas in the former higher public debt results from the recognition of specific liabilities, in the latter higher public debt is the consequence of larger government absorption (on goods and wages), which could call into question the authorities’ commitment to fiscal discipline.

Figure 10.1.
Figure 10.1.

Brazil: Baseline Scenario

Citation: IMF Staff Country Reports 2001, 010; 10.5089/9781451805901.002.A010

Source: Fund staff estimates.

12. Scenario III assumes higher debt-neutral (tax financed) public social expenditure on health and education. The size and pattern of the shock to fiscal expenditure is the same as in Scenario II, but the expenditure mix and its financing is different. The improvements of the safety net provision and human capital, which these social expenditures are expected to have over the medium term, would also positively affect productivity in the economy. Accordingly, productivity is assumed to be 1 percent higher than in the baseline over the period 2005–10, and to fall gradually to its baseline level in the long run.8 Scenario IV explicitly explores the impact of a monetary shock (hard landing) in the United States, assuming a gradual contraction in the stock of money supply over the period 2001–03. This last scenario is best examined in the richer multicountry framework of Section C.

13. In some of these scenarios, more than one control variable is shocked at the same time to take account of the intertwined nature of their economic effects. For instance, as noted, higher debt-financed public consumption (Scenario II) is likely to impact negatively the country’s risk premium, including by weakening the likelihood for a debt upgrade. In this context, uncertainty about a country’s willingness/capacity to meet its debt service obligations can impinge upon the sustainability of a country’s current account beyond the constraints imposed by pure intertemporal solvency.

C. The Small Open-Country Framework

14. Figures 10.2, 10. 3, and 10.4 summarize illustrative simulations for the period 2001–25, expressed as deviations from the baseline, under Scenarios I, II, and III, using the open small-country version of MULTIMOD for Brazil.9

15. In Scenario I, higher public sector borrowing requirements would have the usual crowding-out effect on private investments through higher interest rates and a more appreciated real effective exchange rate. Lower government savings—as taxes are not raised initially to offset the higher interest bill—would more than compensate the increase in private savings during the period of the shock—reflecting an expectation of higher taxes in the future.10 The impact on the current account would be mild overall. The appreciated real effective exchange rate would impact negatively on net exports of goods and nonfactor services well beyond 2010. After 2010, the higher public debt is reduced mainly through increases in taxation, resulting in lower private savings-to-GDP ratios. The current account would deteriorate and net foreign liabilities would be about 2 percent of GDP higher by 2025.11 The current account as a share of rest-of-the-world private savings would, however, remain substantially unchanged.

16. Scenario II is a case of laxer fiscal discipline. The channels through which laxer fiscal discipline affect private savings and investment, and the current account are higher government absorption and risk premia on Brazilian financial instruments.12 The impact of debt-financed higher spending on the current account are similar to those discussed in Scenario I, but substantially stronger overall. In this case, higher risk premia, for the duration of the shock, would point toward a more depreciated currency than in the baseline scenario, offsetting the real appreciation generated by higher public sector absorption and public sector borrowing requirements. The initial impact on net exports of goods and nonfactor services, and the current account would therefore be positive. After 2005, the positive impact on net exports would start to fade away and the current account would begin to deteriorate by up to more than 1 percent of GDP in 2009 and remain worse than in the baseline scenario for several years. Net foreign liabilities would be higher from the outset, reflecting the valuation impact of a depreciated currency, and about 8.5 percent of GDP higher than in the baseline by 2020. In terms of share of rest-of-the-world private savings, Brazil’s external financing requirements would increase by almost 0.2 percent by 2010, reaching a share that is double that in the baseline.

Figure 10.2.
Figure 10.2.

Brazil: Scenario I

Citation: IMF Staff Country Reports 2001, 010; 10.5089/9781451805901.002.A010

Source: Fund staff estimates.
Figure 10.3.
Figure 10.3.

Brazil: Scenario II

Citation: IMF Staff Country Reports 2001, 010; 10.5089/9781451805901.002.A010

Source: Fund staff estimates.
Figure 10.4.
Figure 10.4.

Brazil: Scenario III

Citation: IMF Staff Country Reports 2001, 010; 10.5089/9781451805901.002.A010

Source: Fund staff estimates.

17. In Scenario III, debt-neutral higher government spending on health and education is financed through higher taxes, leaving the public sector borrowing requirement unchanged. Higher government absorption would not be matched by higher private savings, as taxes would increase from the start. Accordingly, the current account would deteriorate somewhat—up to about 0.3 percent of GDP in 2007—before returning to its baseline level by 2025. The deterioration of the current account would be explained mainly through smaller net exports of goods and nonfactor services as a result of real appreciation due to larger government absorption. Compared to Scenarios I and II, however, economic activity would grow substantially stronger, reflecting the envisaged increase in productivity triggered by the improvement in human capital. Net foreign liabilities would be at most about 3 percent of GDP higher than in the baseline by 2012, while the current account as share of rest-of-the-world private savings would remain substantially unchanged.

D. The Multicountry Framework

18. To assess the impact on Brazil’s external balance of Scenario IV, illustrative simulations were generated using the multicountry version of MULTIMOD.13 This richer multicountry setting provides additional information on the likely international feedback to domestic shocks in Brazil, but, more importantly, given Brazil’s relative small share of the world economy, on the first- and second-round effects on Brazil external balance of a shock in a major G7 country.14 Such a shock to the international outlook is explicitly considered in Scenario IV. Figure 10.5 summarizes the simulation results, expressed as deviations from the baseline.

19. Scenario IV shows the impact of a strong tightening of monetary policy in the United States.15 The shock to Brazil’s economy come through three main channels: domestic consumption and savings, the trade account, and interest payments on net foreign liabilities.16 Given a certain level of fiscal balanced, higher interest payments on net foreign public debt would require higher taxes, and therefore reduce disposable income. Private consumption, and hence real GDP, would decrease amid a contraction in private savings. The depreciation of the real effective exchange rate would curb imports and somewhat offset the drop in exports generated by the slowdown in the U.S. Despite the improvement in net exports of goods and services, the Brazilian current account would deteriorate by about 0.7 percent of GDP on average in the period 2001–05. However, the impact on Brazil’s required external financing as a share of rest-of-the-world private savings would be smaller than 0.1 percent on average. From the outset, net foreign liabilities would increase by about 6 percent of GDP relative to baseline, before gradually falling back to the baseline level in the long run.

E. Further Research

20. In this section we explored the impact of alternative scenarios about public sector policy and international developments on Brazil’s external balance through macroeconomic simulations using MULTIMOD modified to integrate Brazil. Promising future research could further extend MULTIMOD to incorporate other important Latin American economies so that spillover effects of domestic, regional, and international economic and financial developments on both a single country and the region more widely could be examined in a fully interactive multicountry dynamic framework.

Figure 10.5.
Figure 10.5.

Brazil: Scenario IV

Citation: IMF Staff Country Reports 2001, 010; 10.5089/9781451805901.002.A010

Source: Fund staff estimates.

STATISTICAL APPENDIX

Table 1.

Brazil: Macroeconomic Flows and Balances

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Sources: Brazilian Institute of Geography and Statistics (IBGE); and Fund staff estimates.

Includes changes in stocks.

Table 2.

Brazil: GDP and Real GDP per Capita

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Source: Brazilian Institute of Geography and Statistics (IBGE).
Table 3.

Brazil: National Accounts at Current Prices

(In millions of reais)

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Sources: Brazilian Institute of Geography and Statistics (IBGE); and Fund staff estimates.
Table 4.

Brazil: National Accounts at Constant Prices

(In 1994 millions of reais)

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Sources: Brazilian Institute of Geography and Statistics (IBGE); and Fund staff estimates.

Contribution to growth.

Table 5.

Brazil: Industrial Production

(Annual percentage change)

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Source: Brazilian Institute of Geography and Statistics (IBGE).

Production in the January-June 2000 period compared to that of the same period of the previous year.

Table 6.

Brazil: Real Retail Sales in the São Paulo Metropolitan Area 1/

(Seasonally Adjusted)

(1992 average = 100)

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Source: State of São Paulo Commerce Federation.

Deflated by IPCA.

Includes durable, semidurable and nondurable goods.

Table 7.

Brazil: Price Statistics

(Monthly percentage change)

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Sources: Brazilian Institute of Geography and Statistics (IBGE); and Getulio Vargas Foundation.

A weighted average of the IPA-DI (weight of 0.6), INCC (weight of 0.1), and the IPC-DI consumer price index (weight of 0.3).

Table 8.

Brazil: Consumer Price Index (IPCA)1/

(Monthly percentage change)

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Source: IBGE.

Consumer price index of 11 major cities in Brazil.

Table 9.

Brazil: Relative Public Sector Prices and Tariffs

(Janaury 2000=100)

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Sources: IBGE e ANP.