BRAZIL-It's all HIS "fault"!

Just look at what he did!

Henry Ford is reported to have once said that “History is bunk!”

The fact that history is usually written by the “winners” lends support to Ford’s comment.

I am not an historian so I have no idea how the current situation in Brazil will be eventually recorded. I have some expectations, of course, that are based on how the 1964 military takeover and subsequent government was explained to my kids in a PT-oriented school in Rio de Janeiro.

Because I managed to be working in Brazil during the first two years of the military regime and its last few years when I returned, I had a frame of reference and experiences that were clearly not part and parcel of what I later read and heard from my kids relating what their teachers had told them.

I had the same sort of experience with the 1980s sovereign debt crisis in Latin America and I referred to what I thought were some distortions in the period as recorded and reported by the governments involved.

The impeachment of Dilma Rousseff is another watershed moment that will one day be analyzed by historians and is also likely to be just as distorted as the other cases cited above.

So, just for the record, I will lay out my own view of how this all came about. Historians can make of it what they will.

The whole affair is Fernando Henrique Cardoso’s “fault”. When he imposed the Real Plan, he effectively showed Brazilians: 1) the cost of kleptocracy to a society; and 2) that chronic inflation did not have to be tolerated and was certainly not inevitable.

Brazil’s leadership had, for years, been very clever in dealing with the ravages of inflation. In the late 60s it began indexing the economy for inflation and adjusting prices accordingly. The indexation went by the name of “monetary correction” and it was based on accumulated inflation from a previous period to restate values of assets in the current period.

Workers would receive salaries “corrected” for the previous month’s inflation. Because current month inflation would most likely be higher than the previous month’s, workers would immediately run out and purchase what they needed as soon as they received their paychecks. By the end of the current month, the rising inflation had consumed the value of the correction from the previous month and they would once again be scraping their bank accounts until the next paycheck would arrive.

Because this had been the pattern for years, it almost seemed inevitable that those in the lower income strata would never break the cycle.

The Real Plan showed that this was far from inevitable. When the mechanisms for breaking the inflationary cycle were created and current month’s inflation was lower than the past month’s (i.e. the basis for the correction) some small amounts of money began to show up in the bank account. Over time, the small amounts got bigger and the real income of the Class D consumers rose. They could now afford to, for example, buy an extra pair of shoes or a soccer ball, or some other item that had previously gone “unpurchased” for lack of cash flow.

However, the most important result was the sudden realization that Brazil’s inflation was simply the result of the way Brazil had been doing things and this could be changed – and was.

The realization that inflation was little more than the result of the behaviors of kleptocrats who used inflation to confiscate the value of assets was an important moment.

When an independent judiciary some time later began to look at some of the actions of this group, it began to pinpoint the corruption of crony politics and prosecute those involved. This led to the historically unprecedented sentencing of members of the kleptocratic elite to prison sentences. Suddenly, Brazilians realized how much had been lost to its status as a colony of its own elites (as mentioned in yesterday’s post).

Enter the time-worn phenomenon of populism with the election of Lula. Lula began as a “popular populist”. He had charisma and represented the victory of the working class over inflation. He successfully sequestered credit for the results of the Real Plan and promised to make life even better for Brazil’s disenfranchised poor.

Perhaps only history and/or a good psychiatrist can explain why Lula opted for a model of power in perpetuity rather than seize the long-term opportunity that the Real Plan offered. The standard of living of 40 million Brazilians had risen with the decline of inflation. They had not been represented in the political system and were hungry for leadership that could consolidate their new position in society. Perhaps it was the age-old phenomenon of hubris – that always attracted the anger of the gods.

In any case, Lula basked in the glory of the Real Plan’s forward inertia that carried the economy forward until 2010. Events abroad contributed markedly to the dynamism. A financial crisis in 2007-8 and a commodity price boom found Brazil in a unique position to build on both. 

The Brazilian banking sector had not been heavily involved in the financial nonsense that sparked the crisis and it had all the commodities necessary to gain from the price increases. In 2010 the Brazilian economy grew an impressive 7%. 

Lula ended his second term in the same year and his popularity allowed him to elect a successor who would keep his chair warm until he returned as president in 2018. That would result in the PT remaining in power for at least 20 years – long enough to permit for changes that would ensure permanence in power.

Lula’s choice of his successor was not a wise one. He apparently valued loyalty over competence. Moreover, his successor seemed to have an ideological “bias” in favor of a model of government more akin to the “socialist” dictatorships of the 60s in Latin America.

It has been alleged that Dilma Rousseff did not govern Brazil. I tend to disagree. She most certainly did govern. She intervened, exercised strong personal control over the affairs of state, and virtually ignored the other branches of government in her quest to create a “new economic framework” that was supposed to take Brazilians to “paradise”. She governed, but not the way the Brazilian populace wanted or expected.

Over the past few days her “sins” have been repeatedly exposed (to the point of boring those following events in the Lower Chamber, I suspect). Today her fate will be sealed.

She will either face impeachment or “walk” (impeachment being the most likely scenario), Neither outcome will prove sufficient to recover the economic damage caused by 13 years of PT rule.

If she is impeached she will be succeeded by her Vice-President, formerly titular president of the PMDB – another party associated with kleptocracy. 

It is almost amusing that recent polls have shown that 61% of the populace wants to see Dilma impeached. However, 58% also support the eventual impeachment of the Vice-President as well. Moreover, a new Vice-President in the person of the President of the Lower Chamber (according to the rules of succession in the Constitution) has an even lower popularity rating with 75% of the populace wanting to see him out of the picture as well.

In effect, Brazil is facing one of those choices best described by the rhetorical question: “Do you want to be shot or hanged?”

As I wrote yesterday, Brazilians seem to simply want its government to do the right things the right way. They want a brighter future for themselves and their children and grandchildren, sustainable progress and growth, an open system that sanctions transgressions and punishes corruption regardless of the socio-economic standings of transgressors. In short, they want a reformation of Brazil from its five-centuries of mismanagement and advantages for “friends of the king”. 

They want the government to value competence over loyalty to whomever happens to be in power. They have learned that poverty is not inevitable and that owning one’s own decisions is a good-enough definition of “paradise”.

Whether the PT responds to the current situation with violence, urban guerrilla operations, or simply creating chaos simply delays the reformation but, in my view, will not change the eventual outcome. We should remember than many of those supporting the PT in rallies around the country are reportedly being paid to do so. It’s unlikely they will be willing to sacrifice life and limb to satisfy the egos and hubris of the party’s leadership.

Those 40 million arrivistes will not be denied. They no longer believe their situation to be inevitable. They have had a taste of honey and they liked it. As the head of East German intelligence remarked when the Berlin Wall was breached, “It’s the end!”

In fact, it’s ironic that Brazil has also built a “wall” in Brasília to keep PT supporters and those favoring impeachment from mixing it up. A picture in yesterday’s press illustrated the efficacy of such a move. It showed those on both sides of the wall using its presence to play volleyball! (Hmmm!) That hardly suggests “class warfare”!

Or no?

As investors, your challenge is to evaluate the possible timeline for a reformation. Overcoming five centuries of kleptocracy won’t be easy and the path won’t be smooth. It’s up to you to evaluate what opportunities might exist in the transformation and act accordingly.

Good luck!