IMF Package to Aid Brazil Could Help, Could Hinder

This month, Brazil is expected to finally receive a $30-billion bailout assembled by the International Monetary Fund to help solve its deepening financial crisis, ending a period of suspenseful negotiations that have involved global leaders from President Clinton on down.

But the deal designed to save the world’s ninth-largest economy from a crippling devaluation and possible economic collapse will also lead to hundreds of thousands of layoffs, soaring taxes and an almost certain recession.

That will probably set off another round of intense debate on the wisdom and efficacy of IMF bailouts: Do they cause more problems than they solve? Do they postpone an inevitable day of reckoning?

As was the case with assistance packages to Indonesia, Thailand and South Korea last year, the Brazil aid is designed to shore up investor confidence and reverse the flight of foreign capital. But critics say that in return for the bailouts, the IMF demanded actions that were too draconian, made recessions deeper than necessary and fueled the contagion now plaguing the world.

Might the same thing happen in Brazil?

“There is no evidence that this is a recipe that works. There is evidence that these packages may make things worse. Brazil has a political problem that the IMF is not suited to address,” said Ian Vasquez, project director at the Cato Institute, a free-market think tank in Washington.

Financial experts at last week’s joint IMF/World Bank annual meeting thought the chances were small that a bungled Brazilian bailout could somehow set off another round of regional contagion, Latin-style. That would make matters worse for neighbors such as Argentina and Chile, which are beginning to experience the malaise.

“Brazil has a strong tax base, unlike Russia, a sound banking system, unlike Korea, and there isn’t the corporate rot and private over-indebtedness there like you had in Thailand with the tremendous overspending in factories and office buildings,” said Michael Gavin, economic research director at the Warburg Dillon Read investment bank in Stamford, Conn.

Vasquez said the real danger to the region is if Brazilian politics foil the IMF’s reform mandates. “At the end of the day, the IMF bailout might simply turn into a gift to the speculators,” he said.

Coming on the heels of unsuccessful IMF interventions in Indonesia and Russia--failures that critics say helped fuel the current global crisis--there will be enormous pressure to make the Brazilian rescue succeed.

That pressure may be why the package has taken longer than expected to negotiate, why it comes with so many strings attached and why some observers are wondering aloud whether even $30 billion is enough to do the job.

“What they should not do is give an insufficient amount, or it will be Russia redux,” said Guillermo Calvo, a noted Latin American economist at the University of Maryland.

Is $30 billion enough?

“Personally, I think it’s insufficient,” Calvo said.

In hearty agreement is Mexican central bank Gov. Guillermo Ortiz, whose country was helped out of a jam with a $17-billion IMF loan--part of a $50-billion international rescue plan--in 1995 during the “tequila effect” caused by Mexico’s peso devaluation.

“The fundamental point is that aid packages have to be sufficiently large, both in domestic spending-cut measures and in terms of the funding.” If you need to do 100 and you do 98, that’s insufficient. You need 102,” said Ortiz, interviewed last week at an Inter-American Development Bank meeting in Washington.

What is certain is that Brazil will pay a steep price for IMF aid.

The IMF’s precise demands are not yet known, but Brazil’s newly reelected president, Fernando Henrique Cardoso, has already begun to anticipate them by ordering massive spending cuts and government layoffs. Just last week, the federal economics ministry announced 12,500 job cuts in coming months.

That’s just the start. By Oct. 20, Cardoso has promised to present a three-year plan expected to eliminate $20 billion or more from the country’s yawning $55-billion budget deficit by next year, a goal that would cost 500,000 government employees their jobs, said Luis Fernando Lopes, chief economist at Banco Patrimonio of Sao Paulo.

Higher taxes are also on the way in Brazil, already the most heavily taxed country in South America. The 0.2% transaction tax that every Brazilian pays to write a check or make a bank withdrawal may be doubled. And the nation’s rich are likely to be hit with a “wealth tax” similar to one now levied in Mexico.

There also will be cuts in public spending, agrarian reform, education, medical and poverty programs, Lopes said, that are sure to cause social pain. The fiscal plan will be “front-loaded,” Brazilian officials say, to achieve quick budgetary results.

The IMF money is expected to be given in increments to make sure Brazil follows through on reducing its budget deficit, now running at an annual rate of 7.9% of economic output. That’s more than twice the 3% benchmark for fiscal safety.

The IMF has good reason to be cautious. While Cardoso has succeeded in pushing through reforms such as privatizing state-owned industries and opening up the country to foreign investment, other efforts have been repeatedly blocked by entrenched interests in Congress.

Before Cardoso can fire government employees, for example, Congress must pass legislation detailing how the layoffs are to be implemented--including who, specifically, will be laid off.

Cardoso also needs further powers from Congress to enforce existing laws intended to limit states to spending 60% of their revenue on wages. The law is routinely ignored, with some states spending as much as 90%.

Even if Cardoso succeeds in getting the short-term reforms through, his work is just starting. The $20 billion in budget deficit reductions would simply prevent the country’s debt load from growing, not reduce it, said Paulo Levy, an economist at the Institute for Applied Economic Research, a quasi-governmental think tank.

And there is the politically daunting task of overhauling Brazil’s lavish pension system, which runs a staggering $9 billion a year in the red.