Over the past year, there has been growing concern in U.S. political and financial market circles about the global economic fallout from a slowing Chinese economy. Yet there does not seem to be the same sense of concern or urgency about an even more immediate and intractable threat to the global economy that is brewing closer to home in Brazil, the world’s sixth-largest economy. This is rather surprising considering the depth and breadth of Brazil’s economic and political crises as well as the fact that there appears to be no easy path for the country to extricate itself anytime soon from those crises.
{mosads}A measure of the seriousness of Brazil’s economic crisis is the fact that its real gross domestic product (GDP) has now fallen by more than 7 percent over the past eight quarters. This has already resulted in a 10 percent decline in per capita income in that country, which makes it the worst economic recession that Brazil has experienced since the Great Depression of the 1930s.
It is particularly troubling that the underlying causes of this recession show little signs of easing. China’s voracious appetite for Brazilian commodities, which underpinned Brazil’s strong economic performance before 2014, is very unlikely to return anytime soon. At the same time, it would appear that the easy global liquidity conditions that allowed Brazilian companies to go on a borrowing spree have now begun to tighten. Those liquidity conditions are only likely to get tighter in the period immediately ahead as the Federal Reserve tries to normalize U.S. interest rates and as financial markets become more risk averse.
A deepening economic recession is hardly going to be good news for Brazil’s shaky public finances. Over the past two years, Brazil’s public deficit has widened to over 10 percent of GDP, while its public debt has increased rapidly from around 50 percent of GDP at the end of 2013 to 67 percent of GDP at present. Without a major budget adjustment program, it appears that the country’s public debt to GDP ratio is well on the path to exceeding the dangerous 80 percent level within the next two years.
Equally troubling is the likelihood that, as the recession deepens, there will be an increase in corporate bankruptcies and a spike in nonperforming loans in the Brazilian banking system. This will very likely require a government bank bailout that could further substantially boost Brazil’s public debt to GDP ratio.
Economic troubles on the scale of those currently being experienced by Brazil would be worrying even in good political circumstances. However, these are certainly not good political times for Brazil. Support for Dilma Rousseff, the country’s embattled president, continues to dwindle as the Petrobras scandal deepens and as public anger about the country’s rampant public corruption mounts.
Rousseff’s declining popularity has already forced her to replace Joaquim Levy, her reform-minded and well-respected minister of finance, with someone less committed to face up to the country’s formidable economic problems. Considering that the next Brazilian presidential election is only scheduled to take place in 2018, it is difficult to see how Brazil will have the political will in the period immediately ahead to put its public finances on a more sustainable path. Nor does it appear probable that Brazil will be in a political position to undertake those economic reforms that might place the country on a higher economic growth trajectory.
It would seem that U.S. policymakers would be downplaying the Brazilian economic and political crisis at their peril. As Latin America’s largest economy, one must expect considerable spillovers to the rest of the Latin American economy from a further deepening in the Brazilian crisis, especially at a time of heightened global economic insecurity. Sadly, this makes it all too likely that, far from being an engine of global economic growth in the period immediately ahead, the emerging market economies will constitute a significant drag on both the U.S. and the global economic recoveries.
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.