Merrill Lynch Bulletin
8 September 1998
Francis Freisinger
Manager, Latin American Economics
Latin America Economics: Brazil's Fiscal Measures Not enough to offset interest expenses
ú The spending measures announced today are insufficient to offset the
additional interest expenses likely this year even under a relatively positive
interest rate scenario in the coming months.
Broadly, the finance ministry has reaffirmed existing budget targets for the Central
Government accounts in 1998 and 1999. But they have issued a decree that will give extra
powers to cut spending to meet these targets if revenues are inadequate. For 1999, there will
be bimonthly targets to ensure steady progress.
For 1998, the Central Government is now targeting a surplus of R$5bn. This compares with a
budgeted surplus of R$4.3bn and our pre-announcement forecast of R$2bn. Spending cuts of
R$4bn from the "Other Current & Capital Spending" line in the treasury accounts have been
announced to reinforce the target. These cuts are exactly what we suggested were likely in
the bulletin we released earlier today ("Brazil Hikes Rates").
Overall, our forecast for the consolidated primary balance in Brazil moves from a deficit of
0.4% of GDP to a zero balance, on the assumption the government meets this target. The
consolidated fiscal deficit for the year we now expect to reach 7.4% of GDP, assuming that
overnight interest rates begin to fall in October and reach 23% by year-end. This compares
with our previous forecast for the fiscal deficit of 6.9% of GDP. In other words, after the
additional primary spending cuts, the deficit will still have worsened by 0.5% of GDP as a
result of additional interest expenditure in a fairly optimistic interest rate scenario.
For 1999, the government has simply restated the Central Government budget announced last
week of a surplus of R$8.7bn. Based again on a gradual fall in interest rates in 1999 to 18%
by year end, our forecast for the consolidated fiscal deficit would be 5.7% of GDP, with a
consolidated primary surplus of 0.5% of GDP.
The 1999 target in particular looks unambitious at first sight. The Central Government
surplus is only programmed to increase by R$3.9bn (from R$5bn to R$8.9bn), or just 0.4%
of GDP. But the 1999 budget is based on optimistic growth assumptions of 4% real GDP
growth and 3.5% inflation. This gives nominal GDP growth of 7.5%, whereas Merrill Lynch
expects real GDP growth of just 0.4% and inflation of 2%. So significant spending cuts will
be required to ensure compliance with the new target.
The limited nature of the announcement highlights the fiscal constraints facing the government.
Unwilling to cut health and education, and unable to cut social security, 75%-80% of all
primary expenses are beyond reach. If further interest rate increases are necessary, the
government's narrow fiscal options will be highlighted still further. Tax increases could be the
only way to improve the primary result further. |
