During this year, the Brazilian government promoted sterilized interventions in the FX market, acquiring international reserves , which now exceed $170 billion. It seems that upon reaching a certain amount, the government may use a share of its international reserves in a fund geared towards the promotion of industrial policy. In our view, this fund tends to further expand public expenses in a way that may damage the country, especially if we consider Brazil’s previous experiences with similar ideas.
A significant share of public expenses is ‘invisible’ and recorded ‘below the line’ in the budget through the increase in public spending. Take, for example, the data regarding the net and gross general public debt. The gross general public debt reached $0.87 trillion (R$1.66 trillion) in August, equivalent to 65.4% of GDP. From this amount we subtract receivables in an approximate amount of $0.27 trillion (or R$0.52 trillion) to reach the net public debt: $0.58 trillion (R$1.1 trillion) or 43.1% of GDP. The two main components from the receivables are the international reserves and the unemployment insurance funds (FAT) that reached $66.32 billion (R$126 billion) in August. Such an amount is transferred to the banking system for loan operations from the National Development Bank (BNDES), and the National Treasury receives, as revenue, 6% per year. A share of the public sector debt is external and hence denominated in US dollars. However, in August it accounted for $131 billion, less than half of the total international reserves. The remaining indebtedness is denominated in domestic currency (BRL) and accrues market rates (fixed or variable). Therefore, subtracting the revenues from the gross debt to reach the net debt may have an accounting meaning but lacks any economic reasoning. This is so because in the case of the unemployment insurance (FAT), the receivable grow at slower rate than the debt and in the case of international reserves there is a currency exposure in the balance sheet has gone against the Treasury lately. In brief, even in a scenario of balanced budget (or fiscal equilibrium) ‘above the line’, the net debt would still be increasing since the liabilities grows faster than the assets. The difference portraits the so-called ‘invisible expenses’ and reflect the subsidies not included in the government budget balance sheet.
Such expenses have always been present in the Brazilian economic policy. A major component that explains the recent increase in the public sector indebtedness is the 1998 sale of public securities indexed to the USD or ‘swaps’. These securities were acquired by the private sector and used as a ‘hedge’ against any devaluation. However, after the 1999 devaluation such sale proved to be extremely expensive for the Treasury besides being useless since it did not prevent the devaluation. Afterwards, with the implementation of a flexible exchange rate regime it was expected that the Treasury to get rid off such a ‘trap’. However, despite the government statements reassuring the continuation of the current exchange rate regime, it is also actively intervening in the exchange rate. This behavior shows that spending other people’s money is always easy, especially when it is done in an ‘invisible’ way.
The spending of tax payers’ money for the unattainable goal of preventing exchange rate appreciation ,has been justified on the grounds of an imaginary ‘Dutch disease’ and to irreparable damages to the country that are not clearly spelled out and which would possibly occur in unpredictable future. Still, it seems that the worst is yet to come and the government wants to move one step further by using the slogan of industrial policy to ‘help’ companies and industries that somehow are considered worthy in the industrial chain. This is because according to the news, the government may use a share of Brazil’s international reserves in a fund whose main goal is to support Brazilian companies that are willing expand abroad. The fund would provide the resources for the government to subsidize these companies. Alternatively, the fund could be used to raise the BNDES capital to alow it to increase the volume of subsidized loans to the private sector.
According to the government, the project was inspired by the sovereign wealth funds (SWF) that are being created with excess reserves by a few emergent markets like China. However, the goal of such funds is to spread out the risk into different asset categories. The assets of these funds are basically securities and stocks of companies located outside the country. However in the case of Brazil, in either one of the two alternatives, the government would transfer the international reserves to national entities in exchange of liabilities issued by them. The process would work as if the government gets into debt as a way to increase spending using the resources to subsidize companies. In turn, the project bears no similarity whatsoever with the asset allocation of the China’s SWF. Indeed, it resembles a new way of implementing industrial policy, with a ‘modern’ look that makes it less noticeable. The initial USD purchase by the government becomes irrelevant once it would avoid a greater demand from companies that were willing to invest abroad or it would be exchanged by domestic currency and geared towards an increase in investment in Brazil. In both cases, the final impact on the exchange rate would be zero. A similar impact would be achieved without Central Bank intervention.
The above idea has two major flaws. First it represents an increase in the expenditures that are not in the government balance sheet. Second, the idea necessarily implies that ‘winners’ will be chosen in advance to be the privileged ones. The international experiences with similar policies have displayed extremely poor outcomes. The French government, for example, wasted billion of Euros between 1960s and 1990s to attempt, without success, the creation of winners in the technology field1. In Brazil we have countless examples of huge amount of resources wasted with similar policies.
In the last three years, we have observed an exceptional performance of the capital markets. In the same period, the financial system, through the ‘private equity’ funds have provided an increasing amount of resources to Brazilian companies. This important development proves that there is no shortage of financing for good projects and ideas. The sound Brazilian companies that need financing for export or internationalization purposes can obtain these resources through the private sector, without using the proposed fund. Such fund, in turn, tends to bring back a system of privileges and waste of resources, triggering a set of bad habits mostly because the core foundation of such system goes against a good allocation of resources.
Excess of money without ‘ownership’ and appropriate accounting is a key for disaster. The government should stop acquiring reserves. However, in case it keeps the same policy, it is fair to claim that the costs of such policy to be explicitly shown to society.
__________________________ (1) See Alesina, A. and Giavazzi, F. The Future of Europe. Reform or Decline, MIT Press, 2006. Originally published by Valor Economico and translated to English by RGE monitor.