Ahead of the Brazilian elections on the 5 October, Craig Botham, Emerging Markets Economist at Schroders, gives his views on the potential economic implications:
"Elections loom in Brazil, with the first round of voting taking place on the 5th of October. The presidential race had looked almost certain to be won by the incumbent, Dilma Rousseff, until the death of socialist party candidate Eduardo Campos in a plane crash in August. Subsequently his running mate, Marina Silva, came to head the socialist ticket and the polls, with voters preferring her to Rousseff in a second round run-off. The prospect of a Rousseff defeat tantalises investors, and the market has rallied on any news suggesting the likelihood of such an outcome has increased.
When reading a list of the problems facing Brazil, even the cheeriest of optimists can become depressed. Even if a new government comes in, a silver bullet solution seems unlikely. Opposition candidates Aecio Neves and Marina Silva do at least seem to recognise the need for change, promising a more orthodox policy mix than the status quo. Despite her socialist background, Marina has mostly embraced the relatively right wing economics espoused by the late Eduardo Campos, and has selected respected economists as her advisers for the campaign.
On the current account problem, there is little that can be done immediately to help exports. But allowing FX weakness would restore some competitiveness, so an end to the current programme of central bank intervention in the currency markets would seem to be in order. Ultimately though Brazil's export problem is that it chiefly produces and exports commodities and it will take time to rebalance the economy towards manufacturing. Trade liberalisation is another policy option – Brazil has an average tariff rate of 10%, high even by emerging markets standards – but again this is a long term play, removing protective measures should eventually see industry become competitive, but in the transition imports would likely increase before Brazilian industry adapted.
On the fiscal side, it has been argued that as the government is already running regular primary fiscal surpluses, there is not much scope for improvement here. But this overlooks the fact that the surpluses are reached increasingly through extraordinary measures, i.e. the surpluses we are seeing are not sustainable. Cuts will have to be made to BNDES subsidies and fiscal outlays more generally. The Brazilian tax burden is already high so it would appear the adjustment will largely have to come from the expenditure rather than revenue side. Government subsidies in Brazil are estimated to amount to about 6% of GDP, so there is definitely fat that can be cut. However, it will be a difficult process politically and will drag on growth initially.
Investment would benefit from price liberalisation and a less interventionist stance from the government generally. While it is true that regulated prices for some products are still high by EM standards, this does not mean they are at "appropriate" levels – other EM economies do not have the same added operational costs Brazil has. Naturally, this will lead to increased inflation in the short run, with the payoff in terms of investment and lower inflation coming later. Meanwhile, monetary policy will have to stay tight to counter the renewed inflationary pressures, suppressing growth.
Overall, policy can make a difference but there will not be any immediate turnaround. Any new government will not take power until January of next year, and policy implementation will not be immediate. There is also a question of whether Silva could win a strong enough mandate; her Socialist Party is small in comparison to the Workers' Party of Dilma and Neves' Social Democrats, and coalition building would be needed. She should be able to get the Social Democrats onside – as a defector from the Workers' Party support there is less likely to be forthcoming. Then, as discussed, the benefits will take time to accrue. 2015 is likely to be another disappointing growth year for Brazil; we expect growth of 1.0%, compared to City consensus of 1.4%."