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Insurance Markets

The eyes of the world are on Brazil

Many people thought in 2007 that the upcoming World Cup would give Brazil an economic boost. Today such hopes seem a long way from being realised. Many reforms are still on hold.

10.06.2014

The 20th World Cup begins in a few days in Brazil. People had great hopes back in October 2007, shortly after the start of the financial crisis, when the decision on the venue for this year's tournament was announced: It was believed that Brazil's supposed economic miracle would receive a further boost. The infrastructure investments associated with major events like the World Cup and the Olympic Games were expected to provide additional stimulus for the country's social and economic development. Today such hopes seem a long way from being realised. Brazil's economy is faltering. In the five years prior to the start of the financial crisis, its economy experienced relatively stable annual growth of 5% on average. However, in the World Cup year of 2014, the expected rate of growth is just 1.8%. In the entire Latin American region, only Argentina and Venezuela are likely to experience lower growth rates.

Inadequate infrastructure is the biggest single obstacle to Brazil realising its economic potential.
Michael Menhart
Head of Economic Research

The once so promising BRIC state of Brazil has today slipped to become a member of the "fragile five" group. Along with India, Turkey, Indonesia and South Africa, Brazil was one of the countries that proved particularly vulnerable when the US Federal Reserve merely announced its intention to increase interest rates, thereby signalling a scaling back of its policy of quantitative easing. Investors promptly withdrew their money from the above countries. Since the middle of last year, the Brazilian real has declined sharply in value against the US dollar. The rapid depreciation is making imports more expensive, and the resulting pressure on prices is leading to high inflation, well above the government target of 4.5%. To counter this trend, the Brazilian Central Bank responded with repeated rises in interest rates, thereby accepting further reduction in economic growth.

The current problems are the consequence of long overdue economic reforms

Inadequate infrastructure is the biggest single obstacle to Brazil realising its economic potential: Its container ports long ago reached the limits of their capacity, just 15% of the roads in Brazil are sealed, and with only 30,000 km of track, the railway network is fairly insignificant by international standards. All of these factors are restricting the country's growth. The expansion of transport routes that has already begun is progressing at much too slow a rate. A further problem is that Brazil is much too dependent on exports of its raw materials. Rises in raw material prices bolstered the high growth rates the country enjoyed up until the financial crisis. But prices have been falling since 2011. By contrast, industrial production is barely competitive. Investments in education, tax reforms, and most importantly, labour market reforms, are all urgently needed. The cost-intensive pension system, which is characterised by high benefit levels and an early entry age, also requires reforming, and this step could produce some positive effects: if the population was encouraged through savings incentives such as tax rebates to make personal provision for pensions, it would firstly reduce the burden on the state system, and also allow savings deposited in banks by companies to be used for investment. This would reduce Brazil's dependency on foreign investors, and the impact from capital outflow would be less serious than it is today. Last but not least, economic processes are being hobbled by bureaucracy and corruption. According to the World Economic Forum, these are two of the five most problematic factors when doing business in Brazil. Protectionism is also hindering market liberalisation and the opening up of the market that is required for growth. For example, it poses an obstacle for international reinsurance, since by law, 40% of each reinsurance cover must be placed with a local reinsurer. Brazil will be unable to avoid tackling some painful reforms if it wishes to realise its full potential. That the potential is there is beyond question. The country ticks all the right boxes for sustainable economic growth: it has a middle class that has been expanding for years, a relatively young population, a wealth of raw materials and a relatively well-developed financial system. There is no doubt that growth will come, though not as quickly as was expected a few years ago. The World Cup will do nothing to alter this fact: it is no substitute for the reforms themselves, but it may perhaps alter the mood in the country, and not just if the Seleção prove victorious. And as we witnessed in Germany in 2006, this can be quite an important factor.

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