Guido Mantega, who became Brazil’s finance minister this week, spoke with Jonathan Wheatley, the Financial Times’ Brazil correspondent, in Brasília on March 30 2006. This was Mr Mantega’s first exclusive discussion with a major newspaper since he assumed his new role.
FINANCIAL TIMES: What are your immediate priorities as finance minister?
GUIDO MANTEGA: Look, our priorities are to continue with the execution of the economic policies that were already being executed. Those policies are not minister Palocci’s policies, they are the policies of the Lula government and would be maintained regardless of who is the minister. And they will be maintained because they are very efficient. They have given Brazil solidity and are taking it towards economic growth and sustainable development. So there is no reason to change successful policies. In fact I had already contributed to the definition of these policies when I spent two years as planning minister [in 2003 and 2004]. The planning minister, the finance minister and the president of the central bank are the nucleus of economic policy. The planning ministry draws up the budget and makes budget cuts and at the start of the government this is what we had to do.
FT: What was your contribution to economic policy?
MANTEGA: First of all to execute the necessary adjustments. We took over Brazil’s public finances in a delicate situation in 2003. The budget had to be adjusted. We began by making big budget cuts to be able to meet the primary surplus target. We increased the target, because we realised that to tackle the complicated situation we faced, we needed greater fiscal rigour, and we’ve been doing this since 2003. We increased the target from 3.75 per cent of GDP to 4.25 per cent, and we went further, it was more like 4.5 per cent. We repeated this target for 2004 and 2005. And we have met the target every year with room to spare. Last year the surplus was 4.8 per cent of GDP, although the target was 4.25 per cent.
This is one of the characteristics of this government. We have gone after a balanced budget in a more determined and efficient manner than the previous government, which also achieved surpluses but smaller ones. We wanted to reduce the debt to GDP ratio, and we succeeded. It is lower now than when we took over.
We have used monetary policy to reduce inflation. When we came in inflation was in double digits. It reached a peak of 17 per cent in 2002, but the average for the year was 12.5 per cent. We set inflation targets, we kept the inflation targeting system that was in place, and inflation fell to 9.3 per cent in 2003, to 7.5 per cent in 2004 and 5.5 per cent in 2005. And the target for 2006 is 4.5 per cent, with a two point margin. So monetary policy has been very successful.
Plus we gave strong support to Brazil’s foreign trade policy, which has also been very successful. In three years we doubled our exports, not because of chance or luck but through our policy of supporting Brazilian exports, by stimulating productivity and competitiveness, by getting the Brazil brand better known overseas.
In these three years we have seen leaps in terms of productivity. Brazilian industry, which was semi-stagnant for many years, since 2003 has become the leader of economic growth. Although services are a bigger part of the economy, it is industry that has pushed technological development and returned to growth. From 2003 to 2005 industry has seen satisfactory growth and an increase in productivity. And all this growth that Brazil is enjoying is healthy growth, with increased investment and productivity. So for this reason it is sustainable.
Brazil’s fundamentals are solid, Brazil has never had a combination of such solid fundamentals. The fiscal accounts are under control, inflation is under control, and vulnerability to external conditions has been reduced, not through any artifice but from the strong work of Brazilian companies, from efficiency in export markets, by conquering a slice of export markets through capacity and competitiveness.
This means Brazil has started to bring in foreign currency and balance its public debt. Foreign debt has fallen under this government. We have paid off the IMF. Even so reserves have grown. When we came in they were about $16bn, and today they are nearly $60bn, so we have tripled our reserves. This enabled us to repay our debts and retire our Brady bonds [the restructured bonds issued after Latin American debt default in the 1980s]. The composition of our domestic debt has improved. Before, dollar-linked debt was about 30 per cent of the total, now there is none. And we have lengthened maturities, the finance ministry and the treasury have offered longer maturing bonds that have been accepted by the market, demonstrating greater confidence in our accounts. We have managed to place domestic bonds maturing in 2045 and interest rates have fallen, we have been able to pay 8 to 8.5 per cent plus variation in the exchange rate.
So there is a set of positive factors that are the result of responsible and efficient economic policy. We have managed to combine fiscal and monetary stability with growth. Growth has not been explosive, because this is one thing president Lula has asked for: he preferred to achieve gradual growth, to gradually increase the capacity for growth instead of making a leap and then having to fall back. He preferred to avoid the stop and go cycle, or go and stop. So now the Brazilian economy is moving step by step towards more solid growth. It’s not easy to make the transition from a country viewed with a certain lack of confidence to one seen as being solid. In 2006 this transition will be complete, the economy will grow by 4 to 4.5 per cent, inflation is falling and is under control, public accounts are under control, the target for the primary budget surplus is being met rigorously, and we are creating jobs.
Growth is coming with an increase in the number of people in formal employment. In the first three years of the Lula government we created 3.7m jobs, which is extremely important. The main weapon that the government has against poverty is to increase the availability of jobs, and we have been successful in this. We are creating more than 100,000 jobs a month. This is the main antidote to poverty. The second antidote is our social programmes, which are more far-reaching and more rational than those of the previous government. The Bolsa Família today provides income support to 8.5m families, and obliges them to keep their children in school, so they only get it if children of school age are in school, or else they receive less. And they have to make sure their children get medical treatment, they have to take them to the local health centre to be vaccinated and so on. And this has had a big impact.
So in three years, with the Bolsa Família, more jobs, the economy heating up, we have taken 3m people out of misery, from below the level where they earn less than a dollar a day. So this is a government with very efficient and successful economic policies and they have to be maintained.
FT: In the past many business groups have expressed frustration at the austerity of economic policy. Are they going to be any less frustrated under minister Mantega?
MANTEGA: I don’t know if they were frustrated, my predecessor carried out the right economic policies. We had to have a very rigorous fiscal policy, and in the first year, 2003, there was no room for growth because of the severity of the fiscal adjustment. In 2004 we grew by 4.9 per cent, nearly 5 per cent, so even if interest rates were above the level of other countries, they allowed us to grow by nearly 5 per cent. So we can’t complain. There was a combination of lower inflation and growth, so that’s a success. In 2005 there may have been an excess of zeal or of conservatism, but central banks have to be conservative, it’s their job. Of course sometimes they can go too far above or below the ideal, so perhaps in 2005 interest rates were a little higher than they should have been and growth was a bit less. But since last year the central bank has been reducing interest rates and is carrying out the correct policy, interest rates are heading towards their correct level.
So interest rates are falling and so is inflation. So all’s well. It shows the efficiency of our economic policies. And growth will be higher. So if there were complaints last year, this year I think they will be answered, with more credit at lower rates. An important thing that explains this new phase in the Brazilian economy is that credit is growing. In the past it was always scarce and expensive. There was little guarantee to lenders of getting their money back. But Brazil has been through some important institutional changes, legal mechanisms have been strengthened, so credit is more abundant, banks are more secure about getting their money back. There is a new bankruptcy law that gives guarantees that loans will be paid back. And there are new more secure classes of credit. Payroll-backed credit has been growing, in which part of the borrower’s salary can be appropriated by the bank. This type of credit alone has grown by R$30bn, almost $14bn.
In 2003 credit was about 24 to 25 per cent of GDP, today it is more than 30 per cent. So credit is increasing, especially in the private sector. In the past banks were more interested in treasury operations, investing in government bonds. Today they are lending to consumers and to companies. The capital markets are being reborn. Our capital markets used to be very timid, today they are coming to life, offering a new source of credit that reduces the cost of intermediation. So new, secure types of credit are helping to stimulate the economy. There is more credit, more consumption, more jobs, more wages, and inflation is coming down. This shows the balance between supply and demand in the economy.
And even the inflation we have today, of 4.5 or 5 per cent, part of it is explained by indexed prices in Brazil. About one third of prices in Brazil are determined by things like the electricity industry, telephone services, which used to be in public hands and was privatised. When they were privatised, contracts were made to adjust tariffs according to price indices. This meant we ended up with a certain amount of indexation, which is not desirable. But the Lula government promised not to break any contracts, even the not very good ones were respected. This is one way President Lula’s government gained credibility.
Plus commodity prices have gone up. Brazil is an important producer of steel and iron ore and those prices have gone up. So even though our inflation is at levels above those of other countries, this is not the result of structural pressures but of factors that are outside the laws of the market. But this year managed prices will rise by less, because inflation has been lower, it was negative in March measured by the IGP-M [one of the indices used to set tariff adjustments], so with lower inflation, interest rates can fall and the economy will grow.
FT: Even with all your fiscal efforts, the debt to GDP ratio has been stable and even gone up a bit. Why is that?
MANTEGA: This is a result of interest payments. Last year we had a primary surplus of R$90bn. Interest payments were R$150bn. So the public debt went up a bit. Now we are heading towards a different level. Interest rates are falling this year, so debt service will be smaller and our GDP will be bigger, so the ratio will fall this year, by the end of 2006 it will be less than 50 per cent.
FT: There has been some debate recently about aiming for a zero nominal fiscal deficit. Is that a target?
MANTEGA: There was some discussion of this but the government has not adapted a zero target as a strategy, although there is nothing to stop us from getting there. Evidently the government always tries to improve its nominal result. And this will be done, we will maintain the target of a 4.25 per cent primary surplus this year, there is no intention to reduce this level. On the other hand interest rate payments are falling thanks to falling inflation. So we will reduce the nominal deficit. It is about 3 per cent today and can head towards zero as long as there is a systematic reduction in interest rates. So long as inflation allows, which is the main objective of the central bank, if the central bank can meet its inflation target with lower interest rates, which is what is happening now, then we can reduce the nominal deficit. I don’t know if it will reach zero but it is coming down.
FT: So there is no longer any need to exceed the 4.25 per cent primary surplus target?
MANTEGA: No, there is no need. Let me just remind you that Brazil has achieved 4.25 per cent four years running. It may have been higher at isolated points in the past, but only for short periods. In 1994 it was a bit higher, but not in 1995 or 1996. In 1999, 2000 and 2001 there was a surplus but it was 3.6 per cent, 3.5 per cent on average. We are one point above that.
FT: Minister Palocci talked about the need for a “social pact” to resolve Brazil’s fiscal situation. Can you balance the budget with lower interest rates or do you need to tackle pensions and social security reform?
MANTEGA: It wasn’t very clear what Palocci meant by a social pact, he didn’t go into detail, so it’s hard to comment on an abstract idea. But anyway, a social pact is done in Congress, when the government sends its budget proposal and establishes the level of spending it thinks necessary – so much on health, education, the Bolsa Família, and so on. It discusses this with the representatives of the people, the deputies and senators, and they reach a conclusion. This is making a pact. They can increase the budget or reduce it. When the government sends a proposal for a surplus of 4.25 per cent and it is accepted, Congress is committing itself to fiscal discipline. This is what has happened.
FT: Is pensions reform still on the agenda to meet those targets?
MANTEGA: Pensions reform has been done. We reformed public pensions and the system is on the road to stability.
FT: Is this reform enough?
MANTEGA: Along with the reform, what we have is action on management of the pensions system. The new pensions and social security minister, who worked with me at the planning ministry, is an experienced manager. He is carrying out a re-registering of all pensioners as a way of fighting fraud. And we are unifying the inspectorates of the pensions system and the tax system. The revenue board is a benchmark of efficiency. And we are centralising the inspection machine, which will increase efficiency. So spending will fall, or grow by less, and the deficit will be reduced.
The private pensions system was reformed under the previous government. So that has been done. I don’t believe we need more reforms. What is needed is better management.
FT: In recent years there has been an increase in current expenditure at the federal level of 14 to 16 per cent a year. At the same time the tax take has been going up by the same amount. But the tendency is for spending to go on rising and for taxes to run out of upside. How do you resolve this situation?
MANTEGA: Let me explain the increase in spending. It’s not 16 per cent of all spending. There has been an increase of 16 per cent in spending on pensions and social security, but this includes a skeleton left in the closet by the previous government. To calculate a worker’s pension, in the past you used to take the last five years in work, so if you retired in 2000 you would take your earnings from 1995 and arrive at an average. In 1994 with the Real Plan [the inflation-busting reform plan launched in 1994], the economy was de-indexed and according to pensioners who retired in this period, they lost 30 per cent of their 1994 salaries as a result. They went to court and won: 1.2m retirees who had 1994 in their calculations, went to court and won nearly R$12bn. The case was ruled on in 2004 and 2005 and the government had to pay. So part of the increase has to be removed from the account. It isn’t a recurring expenditure. The pensions system is the biggest item of expenditure in Brazil, after debt repayments, almost a third of public spending. Pensions spending was R$145bn last year. But if you take out this skeleton the increase is much smaller.
In the second place, what really increased was social spending. The Bolsa Família that in the previous government was R$3bn, increased to R$7bn. But this was explicit, this is social spending. And the other thing that went up was spending as a result of the increase in the national minimum wage, which had a real increase [after inflation] of 5 to 6 per cent last year. So the increase in the minimum wage led to the increase in pensions spending. But this is a decision taken by the government, so it isn’t current expenditure. Current expenditure is what you spend running the machinery of government, on travel, desks, computers and so on. This spending went up a little. So if you take out from pensions the skeleton and the minimum wage, and isolate social spending, current expenditure didn’t go up. The increase in spending was done while meeting the primary surplus target.
You can say this is because income went up, yes, but we met the target. It’s important to say that the increase in income was not the result of more taxes, our taxes did not increase. On average they fell – some went up and others went down. The government began a policy of tax reduction last year. On average there was a fall in taxes. But there was bigger growth in the economy and an increase in company profits. Last year our income grew by 7 per cent in real terms over 2004, the income managed by the federal government. But because of economic growth, because of company profits, and because of the efficiency of the government machine, our income has gone up, and not through an increase in the tax burden.
FT: But will you be able to go on balancing spending? After all, the minimum wage will go on rising.
MANTEGA: This will be covered by part of our income. The rise in the minimum wage will result in extra spending of about R$5bn. This is in the budget, it is covered by tax income. By Brazil’s budget rules you cannot increase spending without a matching source of income, or you break the fiscal responsibility law. The savings that will be made by fighting fraud – for example we are re-registering all retirees, which is a delicate process, you’re dealing with elderly people, so it has to be done in the right way. But those who don’t re-register in time will stop receiving their pensions. A lot of people who died and are still getting their pensions will stop getting them. This will produce savings of R$4bn to R$5bn that will cover the increase in spending resulting from the minimum wage.
FT: But surely these are one-time benefits, not recurring ones?
MANTEGA: Increases in efficiency and fighting fraud will start out producing gains of about R$3bn to R$4bn a year, and should generate a total of R$15bn, at least four or five years of increased income. This is a machine that hasn’t been touched for a long time and now it is being modernised. So this year alone from the unification of the inspectorates, which is not easy, thousands of inspectors are being put under the same command, this will deliver, with expenditure of R$150bn, if we save 10 per cent, that’s R$15bn, so these are very big numbers. So it’s not once and for all.
FT: But that’s a few years, what happens after that?
MANTEGA: After that we’ll think of something else.
FT: There has been talk recently of giving the central bank a double mandate, to pursue an inflation target and a growth target. What do you think of that?
MANTEGA: I think the inflation targeting system doesn’t allow you to set a target for growth. You either look at one thing or the other. Who takes care of growth isn’t the central bank, nor who sets the inflation target. It’s the National Monetary Council, which in fact is the government – it consists of the planning ministry, the finance ministry and the central bank. Who looks at growth is the planning ministry and the finance ministry, and the central bank once the inflation target is set. So in setting an inflation target you are defining a growth target. If you set a very low inflation target, if you set the inflation target at 2 per cent in Brazil, you know that the economy won’t grow. If the target is 4 per cent, growth will be 2.5 to 3 per cent. If the inflation target is 4.5 to 5 per cent, growth will be 4.5 to 5 per cent. So growth is defined by the inflation target.
FT: Is 4.5 per cent inflation a reasonable target? Is that the target for 2007?
MANTEGA: Yes, it’s the same target and it is reasonable, especially with a margin either way of two points. So it’s perfectly attainable, taking into account that with Brazil increasing its participation in the global economy, we are subject to prices on international markets, for oil, steel and so on. We have no control over commodities prices. Although last year, when steel prices in Brazil went up, we reduced import tariffs and prices fell again.
FT: That’s another ongoing debate, about reducing import tariffs.
MANTEGA: The debate hasn’t begun yet. But this environment is very favourable for importers. With the valuation of the real you reduce the price of imports, which is like reducing tariffs. If the exchange rate was more stable, around R$2.50 to R$2.60, imports would be more expensive. As the dollar has fallen against the real, it’s like reducing tariffs. And the result is that imports are growing.
FT: What are the obstacles that face you as finance minister?
MANTEGA: I’d have to say that the outlook is pretty favourable, I don’t see many obstacles. One challenge is to increase the level of investment in Brazil, because balanced growth is achieved with robust investment. And we need investment in infrastructure, to reduce costs. Another challenge is to increase credit and reduce financial costs, to level the playing field for producers in Brazil compared to their competitors in other countries. Those are the main challenges.
FT: Is there room for more investment given the fiscal situation?
MANTEGA: There is private sector investment.
FT: But can the private sector do the job?
MANTEGA: Yes, it can. In electricity, for example, the government has offered concessions to the private sector so that investments are made partly by the public sector, in the minority, and partly by the private sector with finance provided by the government. I would say that the energy question is resolved in Brazil. We have energy guaranteed to 2010, 2012. This year we are doing energy auctions for generation in 2011 and 2012, and the private sector is reacting well and taking part.
The rail sector is practically all privatised and the private sector is investing, the networks are being modernised and extended. In ports we are having a bit more difficulty but the government is allocating resources for modernisation. In highways we are increasing the number of concessions. The federal government has seven big sections of highway to be put out to the private sector this year, so the private sector will take those on. So the private sector is making the necessary investments. Public private partnerships [under new legislation] will get going at some point.
In the public sector, Petrobras for example is increasing its investments. There are limits on what the federal government can invest, but investment is increasing. Public sector companies are doing their part. Adding together public and private investments in infrastructure, we are on our way to a more comfortable situation.
FT: Antonio Palocci made his mark on the finance ministry. What will be your mark?
MANTEGA: The biggest objective of the finance ministry is to create the conditions for long-term sustainable growth. If I can manage to consolidate this cycle I think I will have fulfilled myself as a minister. I don’t think this will make me any different from the previous minister. But we have taken up the job with Brazil in quite different situations. Minister Palocci took over in a more difficult period when growth tended to be slower. He was very successful and the situation is now more comfortable. So I will be able to show higher rates of growth, with the fundamentals in place, which will allow for an increase in employment and an improvement in standards of living. So there will be continuity, but at different phases.
FT: One thing that has changed is the team. Mr Palocci had Murilo Portugal, for example, known as Doctor No.
MANTEGA: He was only here for a short time. In the first two years under Minister Palocci the executive secretary was Bernard Appy. I don’t know when Murilo came in but it was only for a few months. And who have I just appointed, but Bernard Appy, whom I’ve known for a long time, who is an economist linked to the PT [the Workers’ party of President Luiz Inácio Lula da Silva]. We will continue to be vigilant on public spending. I have also appointed Carlos Kawall as treasury secretary [replacing Joaquim Levy] who has worked at the BNDES [the national development bank, of which Mr Mantega was president before taking up the finance ministry] and at Citibank, so he will do a very good job.
FT: Markets seem to have calmed down a bit after their jitters earlier this week. Is Brazil on auto pilot, do politics matter?
MANTEGA: Minister Palocci fell and what happened on the markets? Almost nothing. Brazil is more mature and the economy is more solid. In the past politics were more relevant. Brazil was a weak country that depended on foreign funds to balance its accounts, we had debts to pay, we had high inflation, so the markets were more worried about what was happening. In the past when there was a presidential election there was a lot of turbulence, Brazil had small reserves, nobody knew if we would default on our debts. Today nobody even asks. Investors know Brazil will continue on the road of fiscal responsibility.
We are in a structurally new situation that is permanent and consolidated, so the dynamic of politics doesn’t interfere in the economy. Everyone knows President Lula is a serious person, that he doesn’t use the economy for political ends. So much so that he has kept the economy on course. The finance minister is seen as a powerful person, and if he changes from one moment to the next that could upset markets, but the reaction this week showed that markets know we will continue with fiscal responsibility. Last year we had a political crisis in Brazil, with accusations, problems of corruption that involved some people in the government, but it didn’t upset the economy, there was never any question of that. This is an evolution.
FT: You say stability is permanent and consolidated. Are there no more big adjustments needed? No more reforms?
MANTEGA: Yes, there is the need for some reforms. Tax reform was only partly done and needs to continue, and we need to enact labour reform to modernise the trades union system. The reforms will continue.
FT: What are the top priorities?
MANTEGA: Those that I mentioned, the tax reform, of which we did only the federal part. State taxes still need to be modernised and simplified. And we need to modernise the trades union system. And micro-economic reforms, to improve competitiveness. There is a bill in Congress to unify the instruments of control of economic power, the competitions watchdogs, to combat the abuse of monopolies and put the instruments in place that guarantee free competition.