After three consecutive quarters of unexpectedly deep economic contractions and two years of severe recessionary conditions, the world’s seventh-largest economy may have finally slipped into a depression. Brazil, once the poster child for emerging-market economies, appears to have finally succumbed to a nonstop barrage of damaging macroeconomic events and self-inflicted wounds. Worse yet, crippling political corruption and socialist-laced policies are obstructing any possible course correction that could stop the country from going over an economic cliff. If Brazil is not currently in a depression, it is definitely on the brink, and there is nothing that can pull it back.
The Earmarks of an Economic Depression
If the definition of a depression is an intensely severe recession, then Brazil’s economy has most of the key indicators, including:
• Two continuous years of increasingly severe recessionary conditions;
• At least three consecutive quarters of deep gross domestic product (GDP) contractions;
• Rising unemployment;
• Stagflation conditions of increasing inflation in a shrinking economy;
• Declining private consumption;
• Declining investment; and
• Declining public confidence.
Economists are projecting another year of GDP contractions amid higher inflation, higher interest rates, and a continuing decline in consumer spending and confidence. As its currency continues to lose value against a strengthening U.S. dollar, fears of hyperinflation that engulfed Brazil’s economy in the 1980s and 1990s are igniting. The country’s central bank continues to increase interest rates to try to stave off inflation, but it has only led to higher unemployment and reduced consumer demand.
Brazil’s economic woes have been exacerbated by a malfunctioning political system paralyzed by corruption and infighting that is likely to lead to its president’s impeachment. Although the government has passed some budgetary policies that could stem the damage, many of the most damaging fiscal policies are baked into its federal constitution, which resembles a heavily pork-laden budget bill of the U.S. Congress. Brazil has one of the most complicated and arduous tax and regulation systems in the world, which is a major obstacle to reinvigorating business investment and output.
How Did Brazil Get Here?
Although many of the problems Brazil is experiencing are self-inflicted and have been mounting for some time, it has recently suffered through one of the biggest boom/bust fiascos of all time. The emergence of China as the world’s second-largest economy drove demand for commodity producers such as Brazil. As China’s economy grew, so did Brazil’s. However, in the wake of the sudden collapse of China’s economic growth, demand for commodities fell dramatically. While a key source of its economic output was declining, Brazil kept spending as if nothing was changing. At 70% of GDP, its debt is nearing Greek proportions.
The collapse of commodity prices and falling production spread over Brazil’s economy like a contagion, affecting jobs, wages, consumption and confidence. The contagion then grew to epic proportions when the U.S. Federal Reserve Bank decided to stop its quantitative easing and raise interest rates. That has sent the real, Brazil’s currency, into a tailspin, which has ushered in double-digit inflation.
Meanwhile, the Brazilian government has been paralyzed by political gridlock. Efforts to pass legislation to boost the country’s fiscal status and revive confidence have been hampered by deep partisanship and investigations of corruption. The government has only managed to take minor measures, such as temporarily shutting down parts of the government and freezing discretionary spending. However, the government can’t begin to address the major obstacle to economic growth: Brazil’s massive tax and regulatory infrastructure. In addition, its constitution, drafted in 1988, has codified so many social, political and economic rights, it leaves private enterprise very little flexibility or room for growth.
All indications are that things will get much worse for Brazil before they get better. As long as Brazil’s political infrastructure remains dysfunctional, there will be little in the way of any sweeping measures that could rescue the economy. High taxes and incredibly complicated regulations will continue to be a barrier to any economic recovery. In the meantime, the rest of the world should be very concerned. As the world’s seventh-largest economy, Brazil’s woes can very quickly become the rest of the world’s woes.