Mar 18th 2014, 19:57

BRAZIL’S government has been trying hard of late to burnish its economic credentials, dented by years of perceived interventionism, weak growth and high inflation. In January the president, Dilma Rousseff, sweet-talked investors in Davos for the first time since she took office in 2011. A month later her finance minister, Guido Mantega, presented a revised budget for 2014, with 44 billion reais ($19 billion) in cuts and a target for the primary surplus (ie, before interest payments) of 99 billion reais, or 1.9% of GDP.

In the past few days, however, the government’s credibility has taken a knock. First, on March 13th, Mr Mantega conceded that the 9 billion reais set aside to prop up electricity utilities, reliant on hydropower but forced by lack of rain to tap pricey thermal plants, would not be enough. Another 12 billion reais would be needed, he said.


The Treasury would stump up 4 billion reais, financed in part by raising already-high taxes. The remaining 8 billion reais is to come from bank loans to the Electrical Energy Commercialisation Chamber (CCEE), a clearing house for the electricity market. The cost would be passed on to consumers, albeit only after the general election in October. Why private banks would lend that sort of money to a private entity with no assets to speak of is unclear. State-controlled lenders may end up having to step in, ultimately putting the government on the hook.

Then, on March 17th, the social-security minister, Garibaldi Alves, told Valor, a business daily, that the 40 billion reais pensions deficit included in the revised budget, widely deemed too rosy, “had not been discussed with us”. Mr Alves reckons the figure will be closer to 50 billion reais, same as last year and in line with private-sector estimates.

With headlines like these it is small wonder that Brazilian investors are gloomy. More perplexing is the fact that their foreign counterparts appear to be less despondent. Is this because Brazilians, fed a daily diet of bitter news such as the above, are better informed than foreigners about the country’s true condition? Or are local opinions soured by a supplement of accompanying editorials and op-eds, which tend to range from highly critical of Ms Rousseff to rabidly anti-government?

In a recent article in Valor Tony Volpon of Nomura, a broker, offers an alternative explanation. Whereas a typical local investor’s portfolio is dominated by Brazilian assets, foreign ones are more diversified. “When we say that foreign investors are ‘more upbeat’ about Brazil, we must always add ‘in relation to other emerging markets’.” An important reason for foreigners’ relative optimism is the robust state of Brazilian foreign reserves. But another happens to be one the main causes of local discontent: high interest rates pushed up by persistent inflation of around 6% a year. Western institutional investors can still borrow cheaply at home and park money in Brazil, where they can expect to earn 12.75% a year over five years, compared with 11.1% in Turkey, 8.95% in India, 7.9% in South Africa or 5.1% in Mexico.

But Mr Volpon also thinks that foreigners, including ratings agencies like Standard & Poor’s, on a visit to Brazil last week to assess whether to downgrade the country’s sovereign debt, are rightly banking on better policies after the election (which is Ms Rousseff’s to lose). He points to an inverse correlation between capital flows and quality of economic policy-making. External factors (such as high commodity prices or low rich-world interest rates) push capital into emerging markets, giving them room to pursue bad ideas.

This, Mr Volpon argues, happened in Brazil: it was at the height of the commodity boom in 2011 when Ms Rousseff, flush with cash, humoured her interventionist instincts. Yet it was not until the US Federal Reserve hinted an end to its ultra-loose monetary policy that foreign investors started to stir. As global liquidity dries up, the argument goes, Ms Rousseff will have no choice but to get her act together.