Brazil: Anyone But Dilma

WHO'S NEXT? The Planalto Palace, the seat of Brazil's president and government. (Photo: Roberto Stuckert Filho Jr/Brazil Government)

NO BETTER The investor conclusion is that a potential second term by President Dilma Rousseff will be no better than the first.(Photo: Roberto Stuckert Filho Jr/Brazil Government)

For much of the last six months, investor sentiment toward Brazil has been driven by ABD: Anyone But Dilma.


Inter-American Dialogue


Recent data suggest Brazil's economy is facing a difficult period ahead, with eroding business confidence and some sectors already falling into recession, as well as external challenges such as a slowdown in China's growth and economic problems in neighboring Argentina. While Brazil still has good access to international financing, the amount of capital required to fund massive infrastructure projects remains huge. In light of these challenges, what is the outlook for investment in Brazil, and how might the country's infrastructure needs be financed? Which economic proposals from presidential candidates are resonating with voters ahead of the October election? How will the race's outcome affect investor sentiment? 

Andrew Gunther, managing director at Darby Private Equity: 
Regardless of who wins the upcoming presidential election, Brazil will face a period of economic adjustment next year as inflation hovers near the upper band of the target range, the current account deficit has widened and growth has been sluggish this year. Due to drought conditions in 2014, the country will need to further increase electricity tariffs in 2015 to offset the higher cost of running thermal plants and could even face electricity rationing next year. Fuel prices are currently subsidized and will also likely rise because of the need to reduce or eliminate the cost of these subsidies which today are absorbed by state-controlled oil company Petrobras. The tragic death of presidential candidate Eduardo Campos and the likelihood that Marina Silva will replace him in the presidential race means that the outcome of the election is even more unpredictable than usual. Nonetheless, the winner of the election will face a huge infrastructure investment backlog, which is a drag on growth, but also an enormous opportunity for the country and for investors in that sector. Brazil is still a very large economy, with a highly competitive agribusiness and commodities sector and boasts a track record of roughly 20 years of economic stability and contained inflation. To take advantage of its economic potential, one key for the new administration will be executing on preparing good infrastructure projects to be tendered to the private sector and ensuring that the infrastructure regulatory environment is propitious for new investment. In that environment, both foreign and local investors will be attracted to invest in Brazil's infrastructure, and the resulting improvement in the sector has the potential to catalyze a virtuous circle of investment and economic growth.

David Ross, independent global market analyst: For much of the last six months, investor sentiment toward Brazil has been driven by ABD: Anyone But Dilma. Bad news, which in theory should aid in President Rousseff's defeat, is viewed positively by investors. Luckily for Brazil, there has been no shortage of bad news this year on the economic front with minimal growth and high inflation. The continued flow of bad news has encouraged international investor participation in the economy, stabilizing the currency and helping the local stock market to gains so far this year. While the tragic death of Eduardo Campos throws electoral calculations into disarray, it does not change the dynamics of investor antipathy toward a second Rousseff term. While policymakers tinker at the margins, focusing on stimulating demand ahead of the elections, Brazil's structural economic problems stem from a chronic lack of investment. Investment in Brazil's economy, as a percentage of GDP, has consistently lagged Latin America's high-performing economies. With Brazil's employment already at high levels, further increases in economic growth will have to come from productivity increases, not from increases in labor. However, the cumulative lack of investment over the years will make increases in productivity a difficult target to hit in the near and intermediate term. While none of the presidential candidates have outlined a program of needed supply-side structural reform policies, preferring to offer voters the economic equivalent of candy instead of medicine, the investor conclusion is that a second Rousseff term will be no better than the first.

Margaret Hayes, principal at Evidence Based Research Inc. in Vienna, Va., and professor of security studies at Georgetown University: Brazil is having a rough year. GDP will grow at about 1 percent this year, and has been in decline since 2010 when growth was 7.5 percent. Inflation, while receding, persists. Some of this is a consequence of a global economy that has not rebounded from the financial crisis of 2009. China, which fueled the Brazilian boom of the early 2000s, has cut imports to slow its own inflation pressures. Growth in the mid-1990s and 2000s raised millions out of poverty and into the middle class, but domestic spending relied heavily on credit debt. Today's economic performance reflects slowing external demand, the high interest rates that the central bank is using to contain inflation and maxed-out credit accounts. 2014 is an election year, and the field of candidates has been unremarkable. President Dilma Rousseff lacks the charisma and political savvy of her mentor Lula da Silva and has been a lackluster and inconsistent manager. Nevertheless, she enjoys a steady though modest lead over her rivals, garnering less than 50 percent of support in the July poling. With the tragic death of PSB presidential candidate Eduardo Campos, the election prognosis can change. Marina Silva (…) could be a real challenger. No matter who wins the election, Brazil must energetically address its overall lack of efficiency. High taxes, burdensome labor laws, burdensome and costly bureaucracy and a serious lack of adequate infrastructure and competitive skills all contribute to the 'Brazil cost.' Protests last year focused on the demands of the middle class for better schools and 'FIFA quality' health care. Each presidential candidate has talked about the need to address these deficits, without saying how. Infrastructure is a top priority, and there appears to be adequate financing--much of it from private equity sources--to begin to tackle it. The government has begun to reach out to the private sector to manage ports, airports and rails and road right-of-ways. Brazil is still an attractive investment opportunity, and resources will be available if an energetic government can begin to seriously tackle the Brazil cost. 

Carlos Biedermann, partner and capital projects & infrastructure leader for Brazil at PricewaterhouseCoopers: There is no doubt about the huge amount of capital required for infrastructure in Brazil. I am sure that no matter who will be president next year, there will be an effort to reduce the gap on infrastructure, including energy. There is a consensus today that the public sector does not have the resources to invest, and we have to open our minds to international capital. To be able to attract it, we have to offer the minimum legal and contractual stability, and the projects must be economically viable. The opportunities are tremendous in many sectors, not only in energy, but also in airports, ports, roads, railroads, passenger trains and metros, among others. I am sure that we will attract the capital we need. We do have the PPPs, which are an excellent alternative and have not yet been used on a large scale. I am also optimistic about our country; we are a full democracy with stable institutions, and we will not be significantly affected by Argentina. There will be some differences depending on who is the next president, but it is too early to make any prediction, especially after the death of Eduardo Campos.

Bret Rosen, managing director at Jamestown Latin America: Brazil has a low savings rate relative to its neighbors, which in turns contributes to its low investment/GDP ratio, currently at 18 percent. Some of Brazil's regional peers, such as Colombia and Peru, have investment/GDP ratios in the high 20s and hence have higher potential growth rates. Clearly, there are attractive investment opportunities in Brazil across a variety of sectors, ranging from infrastructure to real estate to energy. Additionally, unlike a couple years ago, when in certain industries there might have been 'too much capital chasing too few deals,' valuations in particular sectors look more reasonable. Nonetheless, the government must formulate a more transparent investment environment for capital. The 'Brazil cost' remains a challenge and is embodied through the substantial bottlenecks and red tape that many investors encounter. Furthermore, it is very onerous and time consuming to comply with the tax regime. Improving the country's infrastructure can also go a long way toward lowering the Brazil cost, with private-public partnerships a reasonable path to pursue. Brazil has deficiencies in its ports, airports, roads and bridges, and the 'Growth Acceleration Program' (PAC) of the current Workers' Party (PT) government has made only minimal progress in improving the country's physical infrastructure. In terms of the presidential election, the tragic passing of PSB candidate Eduardo Campos shifts the potential scenarios that can play out. Nonetheless, investor sentiment would improve if the PSDB's Aécio Neves emerges victorious, as he is viewed as more centrist than the current PT administration, is backed by a market-friendly economic team and would be apt to improve the transparency of policymaking. Additionally, the market expects that fiscal performance would improve under his government, while a more hawkish stance toward inflation--another concern for investors--would emerge."

Republished with permission from the Inter-American Dialogue's daily Latin America Advisor

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