Analysis: Rousseff price controls fail to stoke Brazil investment

RIO DE JANEIRO/BRASILIA (Reuters) - When President Dilma Rousseff took office just under two years ago, she pledged to “eliminate the obstacles that still inhibit the dynamism of our economy.”

Brazilian President Dilma Rousseff speaks during her meeting with Russian President Vladimir Putin in Moscow's Kremlin December 14, 2012. REUTERS/Maxim Shemetov

At the time, Brazilians could be forgiven for believing her. Latin America’s largest economy was rebounding from the global financial crisis, growing at an annual rate of 7.5 percent.

These days, though, the economy is anything but dynamic.

For a year and a half, Brazil has been at a near standstill. During the third quarter, the economy grew just 0.6 percent from the previous quarter - less than half what economists expected.

It is not that Rousseff, a left-leaning former bureaucrat with an economics degree, isn’t trying. But her efforts, rather than stimulating the sort of investment she hopes will stoke the economy, appear to be doing the opposite.

Since stagnation set in, Rousseff launched a battery of stimulus measures and new regulations, most of them designed to reduce the so-called “Brazil cost,” the combination of taxes, transport bottlenecks, and other obstacles that hinder growth by making business in Brazil costly compared to other major economies.

By cutting that cost, the thinking goes, Brazil can build an economy fueled by businesses investing - not the consumer spending that sustained growth before the slowdown.

The problem, economists say, is Rousseff’s approach.

Rather than seek comprehensive reforms to cut costs across the economy, Rousseff has chosen scattershot initiatives targeting prices in isolated sectors. Instead of tackling onerous tax and labor regulations, for instance, she is settling for cheaper gasoline, electricity, and bank loans.

“There is no overall plan, just a series of short-term measures replete with contradictions,” says John Welch, Latin America strategist at CIBC World Markets Inc, in Toronto. “Is it any surprise that growth is disappointing?”


The measures, critics argue, are highly selective, condemning any sector not targeted to the costly status quo. But they are also prompting a pullback in some areas of the economy, as companies, wary of intervention, retrench.

The result is less investment, not more.

Already, Brazil invests far less than most other big, emerging economies - less than 20 percent of gross domestic product, compared with over 40 percent in China. And investment is falling further, declining in each of the past five quarters.

Presidential aides and supporters say Rousseff is focusing on what’s possible. In Brazil’s chaotic, multi-party democracy, they argue, she is unlikely to gain traction with restive allies in Congress, let alone opposition lawmakers, for deeper reforms.

“This isn’t China, where the government just does what it wants and then everyone falls in line,” says Jose Ricardo Roriz Coelho, the director of competitiveness at the Federation of Industries of the State of Sao Paulo, a leading business group.

Each of Rousseff’s efforts has caused unwanted consequences.

Power rates next year will go down after the government forced utilities to lower charges in exchange for renewed rights to hydroelectric dams and transmission lines. But the plan cost Brazilian utilities more than $15 billion in market value, as investors dumped their shares.

“Brazil needs cheaper electricity,” said João Augusto Castro Neves, an analyst with the Eurasia Group consultancy. “But the way they handled it - by imposing rules on private companies - led people to ask if Brazil was becoming another Argentina.”

And consider Rousseff’s push for lower interest rates.

When growth began to flag last year, she urged the central bank to lower rates that remain among the highest of any major economy. The bank complied, slashing rates to historic lows.

Rousseff then forced state-run lenders to follow suit, putting the squeeze on private-sector banks, who could lower their rates in turn or be rendered uncompetitive. To protect their profit margins, though, banks also began cutting their costs and growth plans, even jobs.

Then there’s Rousseff’s longstanding refusal to raise gasoline prices. Despite a steady increase in the cost of oil, the policy is designed to control costs for consumers, business and industry, reducing inflation.

But state-run oil company Petroleo Brasileiro SA PETR4.SA, or Petrobras, has lost more than $8 billion this year because of it. The company, which doesn't have the refining capacity to cover Brazil's gasoline needs, is forced to import the fuel and sell it at a loss.

Meanwhile, the gasoline policy has also crippled Brazil’s ethanol producers. The industry, once hailed as a global pioneer in alternative fuels, is priced out at the pump because sugar cane producers cannot afford to compete with the cut-rate gasoline.


Combined, the policies are a misguided effort “to micromanage economic activity,” warned Arminio Fraga, a former central bank president, with a colleague in an editorial that ran in Brazil’s biggest newspapers last weekend.

Some economists believe the meddling could derail government plans to attract private investment to Brazil’s old and overburdened infrastructure. Upgrades to roads, ports and airports are crucial to clear crippling logjams in the flow of goods and services, especially as Brazil gears up to host the 2014 World Cup soccer tournament and the 2016 Olympics.

The rate of return offered on some recent infrastructure projects has been so low that investors have shown little interest. An auction last year for a $17 billion high-speed rail link between São Paulo and Rio de Janeiro, the country’s two biggest cities, failed to draw a single bidder.

“The government should accept that it needs to provide a high rate of return to cover uncertainty,” said Ilan Goldfajn, chief economist at Itau Unibanco, Brazil’s largest private-sector bank. “Brazil has improved but there is still uncertainty about the economy.”

Additional reporting by Alonso Soto in Brasilia; Editing by Todd Benson, Kieran Murray and Tim Dobbyn