Bolsonaro pushes for ambitious pension reform
Jair Bolsonaro won the presidential election in Brazil last October. His promise to rule the country with an iron fist and fight corruption and crime created hope for many Brazilians after painful years dominated by scandals and economic crises. During the election campaign, several international media described Bolsonaro as the Brazilian Donald Trump, due to his extremist discourse, anti-establishment stance, fondness for weapons and politically incorrect statements – to put it mildly.
Somehow, the comparison with Trump was validated in a short time. Controversies over two of Bolsonaro’s sons dominated the headlines and in a recent poll of 109 congressmen, 61% said that the relationship with the administration is bad or very bad. By bad luck, the economic outlook has worsened. Before the elections, the consensus of economists projected economic growth of 3% for 2019. Currently, only 2.2% economic growth is expected. It is true that, in this economic slowdown, external factors (trade tensions, recession in Argentina, currency volatility) have a greater weight and it would be wrong to blame the president.
In any case, it is clear that the future of the Bolsonaro administration depends on the economic situation. It is key to continue and even accelerate the process of reforms that his predecessor, Michel Temer, had started. The most important piece is the reform of the pension system that has created a huge hole in the nation’s public finances. The current pension system is completely unsustainable, the government currently spends 12% of GDP on pensions, compared to 8% among developed countries. According to a recent UBS report, if nothing changes, by 2026 pension spending will account for 79% of the national budget.
Bolsonaro awakened hopes for a profound reform by appointing Paulo Guedes, a former investment banker, as his minister of economy. The proposal presented by the president last February 20 has exceeded high expectations. His plan foresees a saving of 1,167 trillion reais in 10 years. This is significantly higher than the amount originally proposed by the previous president, which was 780.8 trillion. Most of the savings will come from changes in the rules for retirement for public and private workers, as the minimum age is increased to 62 for women and 65 for men. The proposal also includes an increase in the contribution rate for households with higher incomes, while the contribution rate for workers with lower incomes is decreased.
The next step is the approval of the proposal by Congress, a process which is quite complicated. Recent tensions between Bolsonaro and Rodrigo Maia, the president of the Chamber of Deputies, have created doubts and nervousness among investors. There are also tensions within the cabinet, which is divided into three groups: The technocrats, the ideologues and the military, including General Hamilton Mourão, the vice president, who has often contradicted Bolsonaro’s sons.
However, it is very likely that the reform will be approved. The government seems to be still enjoying a honeymoon period. The technocrats and military in the administration have the technical capacity that Bolsonaro lacks. Meanwhile, the president still maintains a high level of approval (although it has dropped a bit recently) that gives him political capital to push for reform. In addition, he enjoys broad support among a number of key interest groups, including governors who face serious problems in their own pension systems and the private sector, which believes that economic conditions will not improve without the impetus provided by pension reform to end Brazil’s fiscal crisis.
The most important point is that congressmen and senators probably do not want to be blamed for possible economic turbulence and the likely negative reaction of financial markets if no reform is passed. Taking this into consideration the main risk is rather a dilution of the proposal or a delay in approval. The good news is that, if the reform passes, Brazil would be better positioned to finally recover from the deep recession it experienced between 2014 and 2016.
For the new government, the starting point is not as bad as many commentators perceive it to be, with historically low inflation levels, low interest rates – which are unlikely to rise this year – recovering commodity prices, and a trade agreement between the US and China almost complete, the economic outlook in Brazil looks very favorable.
Real GDP Growth in Brazil (YoY)
Resource: Bl
Pascal Rohner, CFA
CIO, Katch Investment Group
* With the collaboration of Eduardo González Ciccarelli.
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April, 2019
