Brazil’s Capitalist Revolution

In the past year in Brazil, three unthinkable events have occurred. Brazil’s seven million domestic servants, known as empregadas, were granted severance pay and overtime rates for the first time. Brazil’s Supreme Court convicted twenty-five politicians and officials in the mensalão (“big monthly”) scandal for receiving princely payments to vote for a (now former) president. And the favelas or shanty towns crawling across the hills around Rio de Janeiro and other major cities are being gradually pacified, improving the daily lives of their mainly Afro-Brazilian population. These flickerings of modernisation are telltale markers that something has changed in South America’s biggest country.

The economic reforms that were begun in the 1990s under Brazil’s former president, Fernando Henrique Cardoso, have made all the difference to its economy. By embracing the opportunities of global capitalism, and moving away from the statist model once so popular in Latin America, Brazil is liberating its citizens from poverty and securing a path to global power and influence. Just as the 2008 Beijing Olympics symbolised China’s advent as a global economic power, Rio de Janeiro’s hosting of the FIFA World Cup next year and the Summer Olympics in 2016 symbolises Brazil’s entry onto the world’s stage.

Although the rise of the BRIC nations—Brazil, Russia, India and China—was famously analysed by Goldman Sachs’s Jim O’Neill in 2001, the complex reasons for Brazil’s growth have often been buried under Wall Street marketing pamphlets about emerging markets. But to understand Brazil’s rise we need to know a little more about economic growth than we did in 1776, when Adam Smith published The Wealth of Nations. Smith posed the question of why some nations are richer than others. His insightful answer was that wealthier nations had a more developed division of labour and bigger markets to sell their products.

Nowadays, the political institutions lying behind an economy’s workings are also considered crucially important in establishing the ground rules for wealth creation. Are the rulers of a society, for instance, inclined to create democratic institutions so that the benefits of a market economy can be spread widely? Or do their institutions help a small monopolistic elite?

The answers to these questions have a bearing on the long-term wealth of nations. Brazil’s recent ascent to the status of an economic superpower is a case in point. We can be sure of one thing. Ever since the Portuguese first landed in 1500, Brazil always had the basic inputs for success, especially in natural resources, if not labour (they imported 10 million slaves from Africa to solve that problem). What was missing, until recently, was the right political and social framework—the institutions—to create the stability needed to utilise these resources to enrich all of Brazil’s citizens.

A continent-sized nation of almost 200 million people, Brazil’s recent economic success has put it firmly in the top ten of global economic powers. The mood of Brazil is now businesslike. The Girl from Ipanema has been supplemented by the swashbuckling entrepreneurialism of Eike Batista, one of Brazil’s wealthiest men. Brazil’s Gross Domestic Product is now more than US$2 trillion a year, making it the world’s seventh-largest economy. Over a decade its GDP per capita rose from about US$3000 to $12,600 in 2011, and it is expected to reach $16,000 by 2017.

Poverty and inequality, Brazil’s social vices par excellence, are also retreating as increasing wealth is being used to fund some of the most efficient anti-poverty measures in the world. Since 1993, the GINI coefficient, which measures inequality, has fallen from 60.8 to 54.7 in 2009 (a coefficient of zero represents perfect equality—Australia’s is about 32). And the number of people living on less than US$2 a day has fallen from about 30 per cent of the population in 1993 to 11 per cent in 2009.

In 2007, Brazil also discovered one of the world’s largest reserves of oil and gas off the coast of Rio, buried miles under a thick layer of salt. That find of about 14 billion barrels of oil makes Brazil an independent energy superpower and will entrench its position as Latin America’s leading economy. Brazil is already the world’s largest producer of ethanol and is a major producer of biodiesel fuel (derived from seeds) as well as a major exporter of soybeans, sugar, coffee, meat and orange juice.

Trade surpluses flowing from this agro-industrial behemoth have allowed Brazil’s economic managers to forget about calling on the IMF when strapped for foreign exchange. As of March 2013, Brazil had a massive US$377 billion in official reserve assets (compared, for example, with Australia’s reserves of US$50 billion). A decade ago Brazil went to the IMF to ask for a loan; now it is a creditor to the IMF and a creative member of the G20 group of nations. On the basis of its newfound wealth, Brazil wants a permanent seat on the United Nations Security Council, and has been flirting with Iran over solutions to global issues such as Iran’s nuclear program. In another sign of growing national influence, a Brazilian diplomat, Roberto Azevêdo, has been appointed as director-general of the World Trade Organisation, the most influential job in global trade policymaking.

Brazil’s President Dilma Rousseff, in power since 2010, talks of creating a middle-class Brazil and of doubling per capita income by 2022, unheard-of ambitions for a nation so poor for so long.

How did Brazil get to this happier situation?

A generation ago, when the military government that had ruled Brazil since 1964 was falling apart, Brazil was still a poor country by any standard. It was also one of the world’s most unequal societies in terms of income and wealth distribution. In 1985, its GDP per capita was about US$1600 and although the rate of inflation was not yet running at the skyrocketing levels it would reach after 1987, it was still a major problem. Inflation sapped the incomes of the poorest, made foreign investors skittish and bamboozled everyone’s sense of accounting, business and government alike.

Brazil’s new democratic rulers after the end of military rule in 1985 offered no clear directions on economic policy; in fact, quite the opposite. The military regime had been committed to economic development through major infrastructure projects such as hydroelectric dams like Itaipu and Tucurui, funded with foreign loans, and other nation-building projects in transport, energy, mining and nuclear power. As a result, Brazil had experienced periods of strong growth, especially between 1967 and 1974, when growth rates sometimes exceeded 10 per cent a year. Indeed in 1985 and 1986 Brazil’s GDP grew by about 8 per cent, a rate still not yet exceeded in any of the succeeding years.

Yet by 1985 the military’s pursuit of an import substitution policy had ground to a halt amidst Latin America’s debt crisis, brought on by the oil crisis of the late 1970s. Brazil’s economy was not just stagnating; its health and education systems, which had been neglected under military rule, were decaying. Despite its natural resources, Brazil lacked a durable formula for stable wealth creation, one that would avoid dramatic fluctuations in economic output, the exchange rate and the price level. In 1980, for instance, Brazil’s economy grew by 9.1 per cent; but in 1981, it fell by 4.4 per cent. Such fluctuation was unsustainable in a world where modern economic policy-making prized stability above all as the way to achieve long-term growth.

Bitter political divisions over how to manage the economy exacerbated the confusion. As in the rest of Latin America, Brazil’s politics had ossified into rigid left and right positions, leading to economic policies that had no fresh direction, merely a reliance on old solutions. The world was moving on in its approach to development and Brazil was lagging behind.

A new era of liberal economic policy-making had also begun. Exemplified by Margaret Thatcher’s government in the UK and Ronald Reagan’s success in the USA, this new era promised to liberate the powers of the individual and capitalism from the dead hand of the interventionist state.

The British economist John Williamson had encapsulated the new era in his famous 1990 article on the “Washington Consensus”, which spelled out the ten key policies deemed essential for sound economic management. They included many Brazil would later adopt in the reform period, including privatisation, deregulation, trade reform and fiscal discipline.

Despite a major hiccup when President Fernando Collor de Mello was impeached for alleged corruption in 1992, hopes for a period of economic and political stability finally began with the election of a former Marxist, the sociologist Fernando Henrique Cardoso, as President in 1994.

“My presidency was, at its most basic level, about trying to turn Brazil into a stable country,” Cardoso said in his memoir, The Accidental President of Brazil:

For our entire history, we had lurched from one crisis to another, mainly because of our refusal to follow rules. Amid such arbitrariness, the roots of a modern capitalist economy had failed to take hold, leaving much of our country mired in poverty.

This period in the mid-1990s, when Brazil rediscovered democracy and the power of global capitalism, laid the groundwork for its extraordinary economic trajectory in the first decade of the twenty-first century. Cardoso’s successful conquest of hyperinflation in 1994 was of fundamental importance, but so was his dream of changing the relationship between government and society, or the institutions underpinning the economy.

Three events were critical to this success story—the restoration of democracy, the end of the Cold War, and the rise of a capitalist China whose economy needed energy, natural resources and food to fuel its industrialisation and feed its workforce. They helped to transform Brazil’s economic fortunes by setting the stage for its economic take-off in the next decade.

Democracy opened up the economic policy debate to a broader spectrum of views and liberated it from the elite managers who had run the economy under the military government without having to care much for the broader population’s needs. The fall of the Berlin Wall in 1989 and the end of the USSR in 1991 demolished the reputation of Soviet-style economic management (though not China’s model of state capitalism) and left the ideological space open for new, more liberal ideas. And China’s insatiable demand for Brazil’s commodities added a floor of export demand to Brazil’s economy that has sustained its economy ever since.

Another lesson of 1989 was that the End of History had arrived for the Latin Left, as it had for left-wing movements around the world. No longer could the Left believe in a utopia based on old-fashioned state intervention. The era of state-managed import substitution development was over and awareness was developing that globalisation and market forces had to be utilised or else nations would suffer the decay of Castro’s Cuba or the resource looting of Hugo Chavez’s Venezuela.

This had major consequences for the economic policy of the two main political parties in Brazil that became rivals after the dictatorship: the left-wing, union-based Workers Party (PT)—Luis Inacio Lula da Silva’s or “Lula’s” party—and the centrist, middle-class Brazilian Social Democratic Party (PSDB) of Cardoso. Brazil was luckier than some other Latin American nations in having political leaders who to a large extent respected these new realities.

As Jorge Castaneda, Mexico’s former foreign minister and the author of a biography of Che Guevara, has pointed out, the Left in Latin America comes in two forms. There is the pragmatic, internationalist and market-friendly variety, oddly formed out of the shells of the hardcore communist parties; and there is the populist, nationalist variety (exemplified by Juan Peron) suspicious of internationalism, the market and globalisation, and authoritarian. Brazil along with Chile and Uruguay generally belonged to the former; Venezuela, Cuba and (maybe) Argentina belonged to the latter.

Castaneda wrote in Foreign Affairs in 2006:

The communist, socialist, and Castroist left, with a few exceptions, has been able to reconstruct itself, thanks largely to an acknowledgment of its failures and those of its erstwhile models. Meanwhile, the populist left—with an approach to power that depends on giving money away, a deep attachment to the nationalist fervour of another era, and no real domestic agenda—has remained true to itself.

For Brazil, Castaneda’s take on the Latin Left is especially relevant for two reasons. The market reforms of the 1990s were enacted and strengthened by former Marxists who had turned economic technocrats when they became president. But Brazil also had experience of being governed by populists, like former president Getulio Vargas, who used state revenue to pursue populist causes, such as giving the state oil firm Petrobras the monopoly on oil and gas exploration in 1953. 

Before he became president, Cardoso had been a professor of sociology and a brave opponent of the military regime. A member of Brazil’s elite, he came to active politics late but he brought ideas that would have a big impact on his economic policies. They bore little relation to his earlier Marxism.

As a young scholar Cardoso had founded an influential Marxist seminar of fellow academics in Sao Paulo which he continued when he fled into exile to Chile in the 1960s. His magnum opus on dependency theory, Dependency and Development in Latin America, appeared at the end of the 1960s.

Dependency theorists argued that the ills of the undeveloped world were based on its exploitation by the developed world; the poor at the periphery in countries like Brazil were like that because they were victims of exploitation by the rich centre. Apart from revolution, the only way to escape this trap was for the state to isolate its economy from the global system using tariffs and focus on developing industry through import substitution.

The distinguished Argentine economist Raul Prebisch, “Latin America’s Keynes” as the Economist once called him, influenced this approach to development, promulgated by the UN’s Economic Commission for Latin America and the Caribbean. Prebisch had pointed out in the 1940s that export prices for commodity-producing nations at the periphery fell faster than for nations exporting manufactured goods at the centre. This imbalance in the terms of trade meant it would be harder for poorer nations to be able to afford the investments needed to industrialise. In effect, they would be trapped unless barriers were erected to protect the economy as it grew.

Dependency theory was all the rage in the 1960s and 1970s. Although Cardoso’s book was de rigueur reading for young revolutionaries and opponents of US policy in Asia and Latin America, they should have looked at the fine print. As Cardoso pointed out many years later, the essence of his book was not really left-wing at all, at least in terms of where he thought the future was heading. He had already begun to hint at different, less orthodox ways of thinking about economic development. Even though these views were heretical, Cardoso believed poorer countries like Brazil could make progress in an unequally structured global economy. They were not trapped; they had good choices if they had the courage:

We pointed out that Latin American leaders were capable of making influential, self-determining decisions within that world. The problem faced by Latin America was political in nature rather than economic. Our backwardness was our own fault, not anybody else’s.

This shift in his thinking away from dependency theory began a long intellectual road for Cardoso, which by 1989 had culminated in a basic philosophy that Brazil had to get its politics and institutions right before its economics would follow. That required recognising that Brazil’s old mercantilist model of development was on the ropes; that inflation and the budget deficit had to be brought under control; and that the private sector had to do more to create wealth.

It also meant changing Brazil’s institutions and society. Cardoso set out to make Brazil more rational, more bound by capitalist rules. He wanted to end the practice of jeitjinho, Brazil’s fabled game of cutting legal corners and wriggling out of legalities. “We were proposing much more than any one isolated reform—we were promoting a fundamental overhaul in the relationship between people and their government.”

The return of democracy to Brazil and the end of the Cold War soon after crystallised this thinking. As Cardoso put it, after 1989 it was clear there was a rich nations club and that the admission price for poorer nations was to fashion their economies on the Washington Consensus. “Countries everywhere realised that some version of free market capitalism was the only path to prosperity. Perhaps keeping the economy closed had been a good idea in the past, but it wasn’t possible any more.”

By the time Cardoso was called on to solve Brazil’s inflation problem in 1993, he was ready to go with his ideas for reforming Brazil’s economy. Introduced in 1994, at a time when inflation was running at 3000 per cent, the Plano Real (Real Plan) worked fabulously. Along with a major effort at fiscal consolidation, and a clean-up of the financial sector, these policies served to centre Brazil’s economy. On the basis of this success Cardoso was elected president in 1994 and then again in 1998.

Cardoso’s economic reforms opened Brazil’s economy to foreign investment, especially through a major privatisation of state assets such as the telephone company, Telebras. This provided the state not just with revenue, new technology and skills, but also improved services for Brazilians. As well, Petrobras, Brazil’s largest company and a giant in the oil and gas business, lost its monopoly on exploration and drilling in 1997 and now shares the field with dozens of other rivals.

Cardoso also reduced tariffs in an effort to introduce more competition into the domestic market and ease pressure on consumer prices. At the same time, he funded anti-poverty campaigns and with a greater focus on health and education, including a highly effective Aids prevention program. The culmination of his fight against inflation and the need to get state spending down was the floating of the real in early 1999, executed successfully during a currency crisis and proof that broader reforms to the economy were working.

Whether Cardoso’s approach is called “neo-liberalism” or is just Brazil’s version of the Washington Consensus, what matters is that the major political players agreed on a common market framework for economic policy. Not that there were no disagreements or rivalry. Lula, who succeeded Cardoso, lost three presidential elections as the Workers Party candidate before he adjusted his economic policy and abandoned talk of defaulting on foreign debt or renationalisation.

An impassioned unionist and socialist, Lula became perhaps the most popular Brazilian president ever, leaving office in 2010 with an 80 per cent popularity rating. In many ways he was the first representative Brazilian to be elected president, a man of the people, a negotiator with a social conscience. A former lathe operator who grew up desperately poor in Brazil’s north-east, Lula was a victim of an industrial accident that removed one of his fingers, and also suffered a family tragedy in which his wife and child died. Despite these setbacks, he went on to found the Workers Party in 1980, successfully oppose the military regime and become a powerful champion of the poor.

Although Lula had promised to change Cardoso’s economic model if he won the presidency, it never really happened. He did not need to: Brazil’s average growth rate in the 2000s was healthy enough to fund a greater emphasis on social policy, especially by the introduction in 2003 of Bolsa Familia (Family Grant), a targeted anti-poverty and human capital program widely regarded as one of the most successful such programs in the world.

Costing about US$4 billion a year, the grant, which is paid directly to about 11 million mothers and which benefits about 50 million people, is conditional on families sending their children to school and ensuring regular medical check-ups. Other social programs, such as Fome Zero (Zero Hunger), aim at reducing or eliminating hunger and extreme poverty by setting up cheap restaurants and providing subsidised vitamin supplements.

Despite sticking with the Washington Consensus, Lula has been reluctant to recognise Cardoso’s economic achievements. “If we had continued the Cardoso policies, Brazil would be bankrupt,” Lula told the New Yorker. “Brazil worked out only because we changed his policies. The only thing we kept was fiscal responsibility. One thing—that’s all.” Cardoso’s response was curt: “I did the reforms. Lula surfed the wave,” he told the Financial Times.

Lula’s claim has also been disputed by John Williamson, who said in 2003:

The basic notions that were embodied in the original concept of the Washington Consensus—macroeconomic discipline, the market economy, and opening up the economy to foreign trade—were precisely the things that Lula embraced in the course of moving to the centre of the political spectrum to make himself electable.

But Lula’s real point might have reflected more than political rivalry or distaste for his predecessor. Lula sees spending on anti-poverty measures not just as a way to ease the lives of millions and reduce inequality, but also as a way to expand the economy and create a bigger market. It’s a growth strategy that has more of the flavour of state intervention than Cardoso’s more classically liberal economic philosophy, but it is not necessarily inconsistent with the Washington Consensus emphasis on the need for incentives to create wealth. “We have to distribute wealth in order to grow,” Lula told the New Yorker. “The economists were always agonising over this. We proved that it was possible to grow, to distribute income, and to do so with social inclusion without inflation,” he said.

President Rousseff, his successor, has gone out of her way to give due credit to Cardoso but she has continued with Lula’s economic approach. That includes using the Brazilian Development Bank to provide long-term funding to some of Brazil’s flagship companies.:

We need to keep the economy growing, without inflation, and generate revenue to continue our income distribution policy. We have raised millions of Brazilians into our middle class. We created our own market, with huge effort. It could not have grown without our reducing inequality.

The daughter of a Bulgarian immigrant, Rousseff was a committed Marxist-Leninist in her twenties and a member of an underground guerrilla organisation before being arrested, then tortured by the military and jailed for three years. After being released from prison, she went on to study economics. A tough technocrat, she later ascended the ranks of the bureaucracy and attracted the professional eye of Lula enough to be appointed energy minister, his chief of staff and then his political successor. In 2010 she was elected President and she is showing no sign of backing away from assistance to the poor or indeed privatisation.

Whether Cardoso and Lula have permanently changed Brazil’s institutions for the better will be determined by future economic performance. Brazil scrambled through the global financial crash better than most, but its economy is slowing and the challenges are piling up. China’s demand for Brazil’s commodity exports is likely to ease; inflation has re-emerged, along with higher interest rates; America’s policy of quantitative easing is making US exports more competitive and pushing up the value of Brazil’s currency, the real; and there is a need for more investment in infrastructure and education.

Yet perhaps the biggest challenge is the long-term direction of economic policy. Can Brazil stick to the market reforms that have worked so well, or will Brasilia find itself tempted to return to populist policies to reduce inequality, eliminate poverty and restore growth?

Cardoso himself seems ambivalent about his achievements and pessimistic about the future. “We don’t know yet to what extent competitive capitalism is making progress or the old model of bureaucratic capitalism is still alive,” he told the New Yorker. He cautioned that China’s model of state capitalism was making an impression on Brazilian economic thinking, something he would regard as a “backward movement” because of the level of government involvement required.

If Cardoso is right, the next few years will be a testing time for Brazil’s high-wire act of using market forces to create wealth while at the same time trying to reduce poverty and inequality. Whichever way it goes, Brazil has for now broken the mould and is in the process of creating its own form of market capitalism that suits its own developmental interests.