Brazil May Be About to Give Up its Financial Sovereingty

These are strange times. For those who have been drowning in the craziness milk-shake that is the United States presidential campaign and have not been able to follow other world events (we do not blame you), it should come with some assurance to know that the rest of the world is not doing much better. Case and point is that the acting president of Brasil, Michel Temer, who came to power for being the VP of impeached president Dilma Rousseff, is trying to make Brazil the least financially autonomous nation in the world.

Temer and his cabinet, who have been working towards the implementation of austerity measures in Brazil since they came to power, have proposed a constitutional amendment that will severely limit Brazil’s flexibility in government spending. It would be the 93rd amendment to Brazil’s ‘young’ 1988 constitution. In short, the Constitutional Amendment Proposal 241* (PEC 241 in Portuguese), would create an artificial limit to government spending, which would become pegged to the previous year’s inflation.

The Brazilian economy is facing a dire recession even though the Bovespa stock index and real currency BRBY rank among the world’s best-performing assets this year. The pressure towards austerity is coming from both internal and external players, and the financial markets have rallied well to the prognostic of the amendment’s approval. Despite its failure to produce meaningfully positive results elsewhere, austerity is still seen positively by international financial markets.   

The amendment makes Brazilian fiscal policy hostage to inflation, thus inverting the hierarchy of economic policy in the country; instead of using of its taxes and spending to control inflation, inflation would control Brazilian economic policy. On one hand it makes the job of lawmakers and policymakers a lot easier, on another it takes away powers granted by the constitution to the Brazilian congress and it is, as put by Brazil’s Attorney General, unconstitutional.

brazil

The amendment has been approved by a special commission in Brazil’s lower house on the 6th, and four days later was approved by the lower house as a whole. It comes as a victory to Temer’s austere aspirations for austerity measures had been failing to be implemented in Brazil even during the final days of the previous government. Temer’s own efforts had been facing serious challenges until now.

It is not to say that it all good sailing weather for PRC 241. Portions of the public have come out against the measure. Notably, economists have argued that the debt problem in Brazil is caused by a fall in tax revenue and not because of overspending. Indeed, the high unemployment rates combined with high inflation – among other factors – have caused a real decline in revenue of 2.5%. Meanwhile small business owners in retail have experienced decreases of as high as 30% to their revenue streams.

For those versed in Functional Finance and Modern Monetary Theory this will seem as completely nonsensical. Brazil, currently, is a financially sovereign nation to a good extent. It prints its own currency and taxes on that currency. It, however, has emitted debt in foreign currency, namely the dollar. The amendment would limit this sovereignty, making the Brazilian economy work only within the limits set by the (interior and exterior) factors that affect inflation.

If you have followed our posts for a while, you have read some strong arguments on why austerity is not the remedy for countries facing as recession and that smart fiscal stimulus is much more likely to succeed.

*Some of the sources for this article are in Portuguese.

*This post was written by Carlos Maciel