Might Renewed Growth Help the Fiscal Adjustment?

BRAZIL ECONOMICS - Report 19 Oct 2015 by Affonso Pastore, Cristina Pinotti, Marcelo Gazzano and Caio Carbone

Brazil today is facing a complex set of problems. Beside a moral crisis, the country is experiencing two other interconnected crises: a fiscal crisis and a political crisis. The government is weak and does not have sufficient support to carry out the needed fiscal adjustment, which negatively affects the economy, aggravating the political scenario. One of the effects of this situation is a sharp depreciation of the exchange rate, which together with the recession has been causing a major reversal of the current account deficits, whose shrinkage along with the large stock of reserves attests that Brazil does not have a problem of external solvency.

But is this current account reversal, with generation of a high level of net exports, sufficient to put Brazil on the path toward growth, alleviating the political crisis and giving more leeway for the fiscal adjustment? The response is that this effect will not occur, at least for the remainder of this year and next.

Why? It’s necessary to pay heed to the tyranny of a budget constraint, by which net exports are the excess of GDP over total domestic absorption (the sum of household and government consumption with gross fixed capital formation). In this work we enumerate a series of reasons why fixed capital investments and household consumption will continue falling, reducing (or totally eliminating) the potential contribution to growth from the increase in net exports.

The conclusion is that the government will not be able to benefit from an early return of growth, making execution of the fiscal adjustment even harder.

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