This is an excerpt from an article written couple weeks ago by Mr. Ruchir Sharma, the Managing Director and Head of global emerging markets at Morgan Stanley. His original article was published on Foreign Affairs and is called “Bearish on Brazil,” an excerpt from his new book “Breakout Nations.”
Article’s highlights below…
“Until recently, the consensus view of Brazil among investors and pundits was almost universally bullish… This decade of success has made Brazil one of the most hyped emerging-market nations, with one of the two top-performing stock markets in the world and receiving more foreign direct investment than most other countries.
Yet this glowing image of Brazil rests on an extremely shaky premise: commodity prices… The problem is that the global appetite for those commodities is beginning to fall. And if Brazil does not take steps to diversify and boost its growth, it may soon fall with them.
Over the last ten years, global markets have developed an insatiable desire to invest in emerging-market countries, particularly those in which China was purchasing energy supplies and natural resources. According to the logic behind this trend, as China continued to boom… nations such as Brazil, a leading exporter of those commodities, would thrive.
But problems loomed behind that veneer. For a nation supposedly taking its place as one of the world’s major economic powers, Brazil has proved strikingly cautious.
High interest rates in Brazil stymie the country’s growth by making it almost prohibitively expensive to do just about anything… that influx of investment has driven up the value of the Brazilian real, making it one of the most expensive currencies in the world. As a result, restaurants in São Paulo are more expensive than those in Paris, and office space is pricier there than in New York. Hotel rooms in Rio de Janeiro cost more than they do along the French Riviera, bike rentals are more expensive than in Amsterdam, and movie tickets exceed the price of those in Madrid.
At the same time, the expensive real boosts the price of exports from Brazil, undercutting the country’s competitiveness in global consumer markets. Although many major emerging-market currencies have risen against the dollar over the last decade, the real is in a class by itself, having gone up 100 percent. This may help manufacturing in the United States, but it harms it in Brazil…
China’s growth over the last decade made it by far the world’s largest consumer of industrial raw materials, and Brazil has capitalized on that explosion: in 2009, China surpassed the United States as Brazil’s leading trade partner.
China’s lagging growth signals the end of an era in which emerging markets experienced unusually rapid expansion, spurred by the torrent of money that began gushing out of the United States … Now, as the consequences of the 2008 credit crisis continue to unfold, the easy money is drying up.
[Bolsa Familia] has reduced Brazil’s inequality, but at the expense of growth.
Since the era of hyperinflation, the Brazilian government has funded this growing safety net by increasing spending as a share of the country’s economy, from roughly 20 percent in the 1980s (a typical ratio for the emerging markets) to nearly 40 percent in 2010. It has underwritten this expansion by raising taxes, which now equal 38 percent of GDP, the highest level among emerging-market countries. This heavy load of personal and corporate taxes leaves businesses with less money to invest in new training, technology, and equipment, leading to sluggish improvement in Brazilian business efficiency. Between 1980 and 2000, Brazil’s productivity grew at an annual rate of 0.2 percent, compared with four percent in China, where businesses invested much more heavily. This is one way in which Brazil’s spending priorities make the country so inflation-prone; if productivity is flat — if, in other words, each worker is not producing more goods per hour — then businesses have to raise the prices of those goods to cover rising hourly wages.
… China built this system largely at the expense of its citizens; Brazil, meanwhile, adopted the opposite model, focusing on stability and protecting its people rather than increasing productivity and growth. That is largely why for the last three decades, China has grown four times as fast as Brazil.
… Brasília spends only two percent of its GDP on infrastructure — a paltry amount compared with the emerging-market average of five percent and the Chinese rate of ten percent.
That failure to invest is a major reason why the Brazilian economy is so lethargic and expensive. The failure to build roads and ports has made even simple tasks, such as moving around the country, a nightmare.
Brazil’s economy suffers similar bottlenecks on every front… Normally, as a country grows richer, students stay in school longer. But in Brazil, they remain in school for an average of just seven years, the lowest rate of any middle-income country; in China, which is much poorer, the average is eight years. As a result, although unemployment is now at a decade-low six percent, businesses complain that they have no choice but to hire unqualified applicants. In manufacturing and services, a shortage of engineers and technical workers is already straining the economy.
… chronic underinvestment has made the Brazilian economy prone to cooling off at a relatively slow rate of growth compared with other emerging markets. If businesses must pay extra to hire competent workers or move goods across the country, then they will pass those charges on to customers.
Arminio Fraga, Brazil’s former central bank president, told me that he fears a “lost decade” of relative decline, similar to the 1980s, if Brazil does not shake off its “Iberian roots” — the sleepy welfare-state tendencies it seems to have inherited from its European colonizers.
The recent news that Brazil’s economic growth has begun to slow may prompt an overdue debate in the country about how to fix its high-cost, commodity-dependent economy… So much of Brazil’s consumer boom has been driven by income from commodity sales that the domestic market will not provide much of a cushion in the event of such a slowdown.
Brazil must recognize that the era of easy growth in emerging markets and high commodity prices is ending. To avoid falling behind, Brasília needs to take risks and open up the economy… if it fails to reform, its commodity-driven surge will soon begin to wash away.”