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International Business Outlook
BRAZIL: IT'S TOO SOON TO SAMBA IN THE STREETS
So far, so good. Brazil's latest economic-stabilization plan, launched in February, has cut monthly inflation from 50% in June to less than 7% in July, and analysts expect August inflation to drop to 2% (chart). But with a presidential election and wage hikes looming, and with key elements of the plan still missing, the outlook for Latin America's most promising underachiever remains as cloudy as ever.
The sharp drop in inflation results from the plan's final step, the formal introduction on July 1 of a new currency, the real. Unlike previous plans, prices and wages have been de-indexed from their past movements. Indexing had sent inflation systematically higher, to 2,500% annually. With the real, prices and wages are now re-indexed to a dollar-anchored exchange rate whose value is assured by the central bank with Brazil's huge $38 billion in foreign-exchange reserves.
Initial reaction: Financial markets have rallied, foreign bankers are optimistic, and citizens are supportive. The real ushers in a de facto tightening of monetary policy. Although market interest rates have fallen, inflation-adjusted rates have risen sharply. That will support the real, help savings, and pull capital into Brazil. It will also slow growth in the economy down to the 1%-to-3% range for 1994, from 5% in 1993.
But can the good news last? The Oct. 3 presidential election--and likely runoff on Nov. 15--may tell. The plan's architect and presidential candidate, ex-Economy Minister Fernando Henrique Cardoso, is now even in the polls with Lus Ignacio Lula da Silva of the leftist Worker's Party, partly reflecting the plan's success.
As President, Cardoso would push for the plan's most vital--and most lacking--component: fiscal reform. That would include fewer federal transfers to state governments and a faster pace of privatization of state-owned monopolies--both opposed by Lula--with the goal of balancing the budget.
For the plan to succeed, inflation expectations must stay down. That's why the government's proposed 28.8% pay hike for federal workers and the September wage-review period for major business sectors are serious threats. Analysts believe that if inflation exceeds 10% per month before October, the plan and Cardoso's election bid will collapse--along with Brazil's best hope for economic stabilization.JAMES C. COOPER AND KATHLEEN MADIGAN