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Contributions from
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Tribune
Failed poverty reduction: making poor users pay can result in their becoming even poorer
Guatemalan health promoters, Hurricane Stan and day-to-day life
Puzzling trade issues for Brazil’s government after the failure of import substitution
Why cultural industries matter for the development of poor countries
12/2005
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[ Trade ]
In search of a new strategy
Brazil, Latin America’s biggest nation, depends on foreign trade. The government is forging alliances with other developing countries, as demands made by the USA and the EU seem exceedingly tough. It is obvious, however, that there is no turning back to the earlier strategy of importsubstitution.
[ By Fernando J. Cardim de Carvalho ]
Foreign trade is a tricky issue for a big developing economy with a large population. The temptation of autarchy as a goal is always strong. In fact, the years when the Brazilian economy grew most rapidly, from the end of World War II to the mid-1970s, were precisely those when import substitution was at the core of its development strategy. Ample reserves of natural resources encouraged the view that it was possible and desirable to grow quickly and to overcome under-development by letting local producers satisfy local demands.
Import substitution, however, involves a paradox. Although the ratio of imports to aggregate supply may sink, the dependence on imports actually rises. All imports fall in two groups. The first includes goods and services that can be easily substituted, like non-durable consumption goods, certain types of capital goods, et cetera. The second group, however, includes goods that are impossible or very difficult to produce domestically, for instance goods that embody advanced technologies. This group may also include goods with production processes marked by important economies of scale or of scope, so that the attempt to produce them domestically will run into rapidly increasing costs. Finally, even a country with a large natural resource base may lack some strategic raw materials. In the case of Brazil, the missing commodity was oil.
All summed up, import substitution reduced the need for foreign currency to pay for imports at the price of making imports much more rigid than before, since they would tend to consist of goods the supply of which could not be compressed if growth of domestic output and employment was to be sustained. A sensible and efficient foreign trade policy, in this context, must also stimulate exports to be able to pay for indispensable imports.
In Brazil, however, promoting exports was never a priority until after the extended recession of 1962/3 to 1967. In the heyday of import substitution, exports were actually punished by exchange rate policies designed to transfer incomes to the rising industrial sector and to facilitate investments. Exports consisted mostly of a few agricultural goods, notably coffee. There was no policy to diversify or expand exports, which many saw only as diverting locally produced goods abroad.
Paradigm failed
The resulting model, however, proved unsustainable. Even if import substitution succeeds in curtailing superfluous imports, economic growth requires an increasing volume of imports because of the essential character of the remaining imports. As exports were punished by highly unfavourable exchange rate policies, imports could only grow thanks to expanding foreign debt. Lenders, however, proved increasingly reluctant to supply funds to countries unable of generating currency inflows. In the end, import substitution led to balance of payments crises and domestic recessions.
The early 1960s recession was already a sign that Brazil’s strategy had to change. The Government began promoting exports, giving them heavy tax and credit subsidies. The policy did not change, however, in relation to imports. In fact, the two oil shocks of the 1970s only strengthened the view that the country had to increase its independence from foreign suppliers of strategic goods. New barriers to imports were created, especially of an administrative nature. After heavy trade balance deficits in the 1970s, the Brazilian balance of payments in the 1980s was characterised by the large trade surpluses – caused by the combination of export promotion and import repression. The 1980s were, after all, marked by the external debt crisis that hit Argentina, Mexico and Brazil early on. The perception of acute scarcity of foreign currency dominated policy-making in that period.
Many events contributed to changing this orientation in the late 1980s. First, import substitution was considered to have become obsolete, as it could not overcome bottlenecks. Secondly, the strategy demanded wide support from the state, but state intervention in the economy was becoming less and less functional. Thirdly, foreign trade partners, especially among developed economies, intensified their demands for liberalisation of imports and tariff reductions. Last but not least, having being caught in the foreign debt crisis of the 1980s, Brazil was put under close surveillance by the IMF. The Fund demanded structural reforms, among which trade liberalisation stood paramount.
Import tariffs were drastically reduced in three steps, in 1988, 1991 and 1994. In addition, policies to stimulate exports were also curtailed, most of which ruled out by the Uruguay Round of trade negotiations.
In the late 1990s Brazil experienced yet another balance of payments crisis. In 1994, an anti-inflation plan was adopted, in which cheap imports would constitute the main weapon against domestic price increases. The newly-created currency, the Real, was strongly overvalued in order to cheapen imports. Imports soared while exports collapsed. Debt replaced exports as the main conduct to finance imports. The drying up of external loans in the aftermath of the Mexican, Asian and Russian crises, from 1995 to 1998 led to a balance of payments crisis in Brazil in late 1998/early 1999. The country adopted a floating exchange rate regime and embarked on an export drive that, after some delay, showed strong positive results. Sustaining export growth became a national priority.
Having given up on exchange rates as an instrument to promote the growth of exports, all the weight of sustaining export growth fell on the shoulders of export promotion and on trade negotiations. Talks with the USA and the EU have stalled, however. In both cases, the demands of the prosperous economies were considered unacceptable because they would deprive the Brazilian government of instruments deemed essential to promote development. As a result, the orientation of Brazilian diplomacy has been to seek partners in the developing world. The constitution of the G 20 in the Doha Round is to be seen in this context.
Relations with developing partners are not necessarily easier, however. In particular, the Brazilian government has not found the right approach to China, since the latter’s interests seem hard to reconcile with the Brazilian (and other developing countries’) interests. From a commercial point of view, China is seen as a threat rather than as ally. Chinese manufactures are competing successfully with Brazilian goods in third markets (such as textiles, clothing and shoes markets in the USA). Moreover, it is feared that Chinese competition may soon hurt local producers in Brazil’s markets. The Brazilian government sought an alliance with China mostly for geopolitical reasons. On the one hand, the adherence of China would strengthen the G 20 in negotiations. Furthermore, the Brazilian government hoped that China would support its bid for a permanent seat on the UN Security Council. This expectation, however, did not materialise.
Two other candidates for privileged relations are India and South Africa. India is not a competitor of Brazil in any important market, including the markets for agricultural goods (in contrast with China that competes with Brazil for the soy bean markets). That makes it possible to engage in a process of mutual support. Difficulties with India are mostly rooted in the historical lack of contact between the two countries. With South Africa, the contacts are more advanced, both in political and economic terms. As in the case of India, Brazil and South Africa do not compete for the same markets. Even more importantly, perhaps, political and diplomatic relations with South Africa have been cultivated ever since the end of apartheid.
As one can see, the alliance that sustains the G20, which is a vital element of the Brazilian strategy for international trade negotiations (and perhaps beyond that) is still plagued by some important fragilities. At this point, Brazil faces a difficult dilemma. The delusion of autarchy is gone, but it is not yet clear what the new overall strategy for foreign trade and development should be. In this context, trade negotiations seem more a threat than an opportunity. WTO dealings, however, are preferable to regional agreements because they allow Brazil to seek new partners with similar interests. But without a clear definition of what these interests actually are, Brazilian diplomats are in a difficult position and may find slowing-down proceedings an attractive option.
Prof. Dr. Fernando J. Cardim de Carvalho
teaches economics at the Federal University
of Rio de Janeiro.
fjccarvalho@uol.com.br
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