Brazil’s woes are ‘Exhibit A’ for why Trump shouldn’t batter IMF

Oscar Wilde might have said of Brazil’s current political situation that to lose one president by impeachment might be regarded as a misfortune. However, to lose another president in the same manner, as Brazil now seems to be doing, looks like sheer carelessness.

This would especially seem to be the case considering that the battered Brazilian economy is yet to start recovering from its worst economic recession in the past 100 years while its public finances remain in serious disarray.

{mosads}Brazil’s troubled political and economic outlook should be of considerable concern to the Trump administration insofar as it is occurring right in the United States’ own backyard. With an economy of close to $ 2 trillion, Brazil remains the world’s ninth-largest economy and is by far South America’s biggest.

Accounting for around 60 percent of South American output, yet another Brazilian economic setback would have important consequences for the rest of the region, particularly for Argentina and Chile.

There is never a good time for a country to have a full-blown political crisis. However, the corruption scandal now threatening Michel Temer’s presidency would seem to be coming at a particularly inopportune time for Brazil. It comes at a time that President Temer has already lost half of his cabinet due to the Petrobras corruption scandal and his popularity is down to single digits. It also comes less than one year after Dilma Rousseff was impeached and barely 18 months before the country’s next scheduled elections.

Should Temer not step down soon, drawn out impeachment proceedings threaten the country with a prolonged period of political paralysis. That would almost certainly delay the implementation of the far-reaching economic reforms that the country so desperately needs in order to get its economy back on track.

This would seem to be especially the case considering how discredited the whole of the country’s political class seems, a consequence of a series of corruption scandals and the country’s dour economic performance of late.

The last thing the Brazilian economy needs is a further loss of confidence by both domestic and foreign investors. Over the past two years, Brazil’s economic output has declined by almost eight percent. Not long ago, Brazil was one of the world’s fastest growing economies. Meanwhile, its unemployment rate has now reached over 13 percent of its labor force.

Heightening Brazil’s need for an early economic recovery that boosts government revenues is the fact that its public finances are on a highly unsustainable path. The country is presently still running a government budget deficit above 8.5 percent of GDP while its public debt-to-GDP ratio will be close to 80 percent by year-end.

Absent an early turnaround in its public finances, Brazil’s public debt could rise to around 100 percent of GDP by 2020. It is little wonder then that the rating agencies are now contemplating whether or not to downgrade Brazilian government bonds further into junk-bond territory.

Another reason why one has to hope that the Brazilian economy begins to recover soon is the parlous state of the country’s corporate sector. Without an early economic recovery, it is difficult to see how Brazil’s corporate sector will avoid defaulting on its debt mountain. This is especially a concern considering how large a part of that debt has been contracted in dollar-denominated terms — as the dollar strengthens relative to the Brazilian real, those debts become more expensive.  

To its credit, Brazil’s current economic team fully recognizes how important it is for the country to quickly restore order to its shaky public finances. To that end, it has proposed a multi-year public spending reduction plan as well as very deep reforms to the country’s labor market and to its pension system. Sadly, those reforms are very unlikely to see the light of day should the country now become distracted by Temer’s political woes.

There is also the real risk that the country will lose any appetite for budget discipline and economic reform in the run-up to next year’s elections.

All of this would suggest that the Trump administration would be well advised to resist the temptation of beating up on the IMF. It is one thing for the United States to want a smaller IMF in relation to that organization’s European involvement. However, when it comes to real problems that might need IMF support in the United States’ own backyard, a smaller IMF would not seem to be a good idea.

Desmond Lachman is a resident fellow at the American Enterprise Institute. He was formerly a deputy director in the International Monetary Fund’s Policy Development and Review Department and the chief emerging market economic strategist at Salomon Smith Barney.

The views expressed by contributors are their own and not the views of The Hill.