Brazil’s debt has fallen in the last two years but is now projected to rise sharply

By Célio Yano

In October 2020, due to the emergency measures adopted by the government to face the Covid-19 pandemic, Brazil’s public debt reached 87.6% of the Gross Domestic Product (GDP), the highest level in the Central Bank (BC) historical series.

A year later, with the economy’s recovery, the indicator had already dropped to 80.4%, and the market consensus saw a downward trend to a level of 78.3% by the end of 2030.

The debt, however, fell much faster.

Good fiscal results over the past two years have caused the debt-to-GDP ratio to end 2022 at 73.5%, the lowest since July 2017.

Now, however, the financial market again projects an increasing trajectory for the country’s debt, with a debt equivalent to 90.4% of GDP by the end of the decade, according to the median of the projections collected by BC’s Focus report.

For the end of 2023, the midpoint indicates a debt of 78.6% of GDP, more than 5 percentage points above last year’s level.

The indicator is one of the references used by international rating agencies to assess a country’s solvency.

The drastic change in expectations in a few months results from a series of events beyond the change in the Presidency.

Still, it shows the challenge that the economic team of Luís Inácio Lula da Silva (PT) will face – starting with the new fiscal framework that it promises to present by April.

HOW THE PUBLIC DEBT FELL IN 2021 AND 2022

The first factor that helps understand the oscillation in the projections was the favorable global scenario that helped boost public accounts in the last two years of Jair Bolsonaro’s (PL) government.

At the beginning of 2021, the market estimated an upward curve in public debt, with forecasts of reaching 2030 with an indicator above 97%, which was revised throughout the year.

Luiz Guilherme Schymura, director of the Brazilian Institute of Economics (Ibre) of the Getúlio Vargas Foundation (FGV), explains, in an analysis published in January, that the positive surprise “derived in expressive part from positive factors that do not exactly reflect the current fiscal policy – although it is undeniable that the pension reform approved in 2019 and the real containment of the national minimum wage and nominal payroll of servers also contributed to the improvement of fiscal results.”

“We were in a moment of recovery of the world economy, which was followed by a very strong appreciation of commodity prices, with emphasis on the price of oil, which rose sharply at the end of 2021 and remained high throughout 2022,” says economist Tiago Sbardelotto, of XP Investimentos.

“This caused the government’s tax collection to grow in a way that surprised everyone.”

To have an idea, the net primary revenue estimated by the federal government in the Annual Budget Law Project (PLOA) of 2022, presented in August 2021, was R$1.596 trillion.

At the end of the year, the amount reached R$1.856 trillion – that is, R$260 billion more than projected.

The result was a primary surplus of a little more than R$54 billion for the Federal Government, against an original target of a R$170 billion deficit.

In the consolidated public sector (which includes states and municipalities), the positive balance was R$126 billion, against an initial estimate of a deficit of almost R$50 billion.

The revenues associated with the mineral extractive sector, mainly with oil and gas, corresponded to 1.8% of GDP in 2021 and 2.6% in 2022, well above the average of 0.9% between 2011 and 2020, according to the Ibre/FGV.

“We had until then a fiscal rule, the spending cap, which restricted the increase in expenses and which worked very well in those moments when we had a high collection,” says Sbardelotto from XP.

Collection increase aside, swap operations and amounts returned by the National Bank for Economic and Social Development (BNDES) to the National Treasury also helped reduce the public debt.

In 2021 and 2022 alone, the development bank settled R$135.3 billion in funds raised from the Federal Government.

As the main ruler of public indebtedness is calculated from the ratio of general government gross debt to GDP, the economy’s growth helped reduce the indicator.

“These factors were fundamental and more than enough to counterbalance a negative component we had in the period, which was the increase in the interest rate,” says the XP economist.

“The interest rate represents a cost for the public debt and had to increase from 2021 to 2022, weighing on the debt account, but not enough to offset these positive factors.”

WHY THE MARKET HAS ONCE AGAIN PROJECTED A RISING TRAJECTORY FOR THE PUBLIC DEBT

More than the increase in interest rates, constitutional amendments approved to allow the expansion of spending above the legal ceiling have deteriorated expectations regarding the future trajectory of the debt/GDP ratio.

If in October 2021, the median of the projections indicated a downward trend of 6.6 percentage points in the indicator between 2023 and 2030, today, we foresee a growth of 11.8 points in the period.

“It is no coincidence that these jumps in the expectation of the trajectory of the debt/GDP ratio until 2030 have happened after the approval of PECs [proposals for amendment to the Constitution] that, by so much circumventing, ended up completely demoralizing the role of fiscal anchor played by the federal spending cap created by EC 95/2016,” wrote Schymura, from Ibre/FGV.

The economist refers to the enactment of the PECs of Precatórios (Court-ordered debt), in December 2021, of Benefits (also called “Kamikaze”), in July 2022, and of Transition (or “ceiling-breaker”), in December 2022, which together allowed the governments of Bolsonaro and Lula to spend a total of R$248.45 billion outside the constitutional spending ceiling.

Faced with a slowdown in economic activity due to the interest rate – the market projects growth of 0.76% in 2023, according to the latest edition of the Focus bulletin – the increase in spending naturally leads to an increase in the debt/GDP ratio.

WHAT CAN BE DONE

In January, the Minister of Finance, Fernando Haddad, announced a fiscal adjustment package that could potentially reverse the Budget’s R$231.5 billion deficit foreseen for this year to an R$11.1 billion surplus, in an optimistic scenario.

However, the minister admits that the goal is bold and sees it as feasible to zero the deficit in two years.

The Independent Fiscal Institution (IFI) calculates that the country must make a primary surplus of 2.5% of GDP in 2023 to stabilize the debt.

For the coming years, the institution considers that a result of 1.5% would be needed, on average, to maintain the debt as a proportion of GDP, considering an average real growth of 1.9% and the implicit real interest of 3.9% per year.

“The way the question of the sustainability of the country’s public accounts will be addressed in the short term will represent an important element in dispersing uncertainties and regaining the credibility of fiscal policy,” says the IFI report published in January.

For Sbardelotto, from XP, the government can signal that it will stabilize the debt through the proposal of the new fiscal framework, which should be presented in the coming months.

“If the market verifies that the debt is sustainable, we have a process of improving expectations, both for economic growth and inflation,” he says.

“With this improvement in expectations, there is room for the Central Bank to promote a faster reduction in interest rates and, with this, reduce the cost of the debt. It is a virtuous circle that is created, but it depends, of course, on how this proposal will be,” he says.

He believes that the accounts have room for adjustment in the medium term.

The resumption of federal taxation on fuel, a reform of the tax system – which includes taxing profits and dividends and a ceiling for Individual Income Tax deductions – and the review of tax benefits are some of the options on the revenue side.

On the expenditure side, the revision of the registry of the Bolsa Família program is also pointed out by several analysts as a way to cut expenses since an exaggerated growth in the number of one-person households has been observed.

The Minister of Development and Social Assistance, Family and Fight against Hunger, Wellington Dias, indicated that the measure should be taken starting this month.

With information from Gazeta do Povo

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