Brazil’s Debt Challenge Calls for Lasting Spending Reforms, Economist Argues

Brazil’s gross government debt has risen from 71.7% to 82.9% of GDP over the past four years, reaching its highest level since 2021, economist Cecilia Machado writes. She argues that the country’s fiscal rules have failed to provide a predictable debt path or anchor expectations about the government’s ability to meet its obligations.

When the fiscal framework was introduced in 2023, government projections pointed to debt stabilizing at 76.5% of GDP in 2026, with a decline if interest rates fell. Instead, rates rose. Machado says fiscal stimulus contributes to inflationary pressure, while doubts about debt stabilization lead lenders to demand higher returns, further increasing the cost of servicing the debt.

Machado cautions against four approaches she describes as appealing but ineffective. The first is tightening fiscal rules while relying on higher revenue rather than reviewing spending. She says much of the revenue increase came from temporary gains, while mandatory spending grew faster than the rules allowed; items excluded from fiscal targets still add to the debt.

The second is raising the inflation target in the hope of lowering interest rates. Machado argues that changing the target could lead businesses and workers to expect further increases, pushing inflation expectations up and requiring higher rates from the Central Bank. She also says debate over the target in 2023 unsettled expectations and delayed rate cuts.

She also warns against weakening the Central Bank’s independence through politically aligned appointments, saying this could undermine its credibility in fighting inflation. And she argues that broad price subsidies, such as those for fuel, are costly and benefit higher-income households as well as those in need. Direct support for people who need it most, she writes, has a lower fiscal cost. Holding prices down delays rather than removes increases and shifts the expense to public accounts.

Machado’s central argument is that fiscal changes without spending reviews, a higher inflation target, political appointments to technical roles and price controls all promise immediate relief while passing costs forward. She says a durable adjustment should begin with a review of government spending.

Sources: Folha Mercado.