Brazilian president Luiz Inácio da Silva has been under pressure ever since the middle of last year when the first accusations of corruption against his government and his party (the Workers’ Party) emerged. As if that were not enough, a new case has shaken the government’s very foundations. An ordinary gardener/caretaker has provoked the dismissal of Antonio Palocci. Once the government’s “strong man,” Palocci is now its former Finance Minister.


A man called [Francenildo] dos Santos [Costa] accused Palocci of paying several visits to a house maintained in Brasilia by Palocci’s former partners. In that location, dos Santos alleged, secret business deals took place involving influence peddling. Following those accusations, Jorge Matosso, president of the Caja Economica Federal, a bank administered by the Finance Ministry, illegally accessed personal banking information about dos Santos and delivered it to Palocci. The report revealed some financial transactions that were questionable, given the man’s salary. However, the illegal way this information appeared in the press was considered a low blow and an attempt by the government to damage dos Santos’ image, even as he was accusing Palocci of misdeeds. Eventually, this led to Palocci’s resignation.


Continuity in Economic Policy


Guido Mantega has been named the country’s new Minister of Finance. For two decades, he has been a friend and partner of the president. He is the former president of BNDES (Brazil’s national bank for economic and social development), and was formerly Minister of Planning in the current administration. Nevertheless, some players in financial markets are reluctant to approve Mantega’s arrival as Minister of Finance.


Mantega has always been opposed to the economic policy of Palocci and Central Bank president Henrique Meirelles which relies on high interest rates to control inflation. Brazil currently has one of the highest interest rates in the world, 16.5%, and this policy has restricted its economic growth. Nevertheless, this is an election year, and the government of President Lula is still counting on economic stability to provide the political capital it needs in order to be reelected. As a result, it will be hard to make deeper changes in the current landscape, according to experts interviewed by Universia-Knowledge at Wharton.


According to Fabio Kanczuk, professor of economics and management at the University of São Paulo, Mantega has very little time to make any significant changes during the first term of President Lula. Indeed, when he assumed his new post, Mantega stated that he is “not going to change anything.” Nevertheless, according to Kanczuk, Mantega’s rhetoric does not match up with his ideology. “It’s well known that he has a different approach, which is pro-development.” Kanczuk suggests that the way Mantega manages the next few months will give the country a good idea about the way Lula’s economic policy will evolve during his second term, providing Lula is reelected.


Rogério Arantes, professor of politics at PUC-SP (Pontifical Catholic University of São Paulo), agrees with Kanczuk. “Lula has no reason to make this change (of ministers) into an opportunity to alter the direction of economic policy. He is committed to this model, and he is not going to run the risk of any balancing act during the electoral campaign.”


For their part, financial markets also appear to believe that the appointment will lead to few changes in the government’s economic policy. In addition, the markets have reacted positively to the nomination of the two main advisors to the Finance Ministry: Bernard Appy, to become Executive Secretary of the Ministry, and Carlos Kawall, to become Secretary of the National Treasury. There was some slight volatility in the markets, with the rise in the dollar, as well as increased country risk, and a drop in stock prices on the day after Palocci’s resignation. However, financial markets have reacted positively to Palocci’s replacement.


On March 31, Mantega provided further proof that he was steering a more moderate course than he had in his earlier rhetoric. For the first time, as head of the Ministry of Finance, he participated in the quarterly meeting of the National Monetary Council (CMN), which establishes long-term interest rates used to set loans provided by the BNDES. The Council reduced its annual rate from 9% to 8.15%. Before assuming his new post, Mantega had defended the idea of dropping the rate to 7%.


Fears about a Second Term


Nevertheless, not everyone has reacted positively to the change. “Mantega is the worst person – perhaps along with (Aloizio) Mercadante (the economist and senator from Lula’s Workers’ Party who was mentioned as a possible new minister) – that you could imagine as a substitute for Palocci,” Kanczuk says.


Palocci, he adds, “was always very clear about conducting a policy of keeping interest rates high in order to contain inflation. His fundamental characteristic was orthodoxy, despite the fact he was not an economist but a doctor. He had the idea of being rigorous in economic terms, and about not letting inflation rise. Mantega, like Mercadante, has a past, and he has a very different vision about these things. The two men belonged to a group know as the ‘development’ group, but in reality they think that Brazil has excessively high rates, and they want to set very low targets for inflation. They would reassess this goal of economic policy and go toward something that means more inflation and lower interest rates. It seems to me that this is totally wrong — a mistaken diagnosis,” says Kanczuk.



In this sense, Kanczuk is fearful about a possible second term for Lula. “They are going to let Alfonso Bevilacqua (director of economic policy at the Central Bank) run policy the way they have been doing it. Already, interest rates are lowering, independent of any ministerial changes, and they will continue falling, even if slowly,” says Kanczuk. However, in a second Lula administration, things could be very different because “you won’t be able to catch any glimpse of Henrique Mireilles and Alfonso Bevilacqua at the Central Bank. Perhaps there will be someone with the track record of Carlos Kawall or Mercadante, whose approaches are more or less along the same lines. One will head the Central Bank, and the other will run the Ministry of Finance.”


A Questionable Reelection


Many people are wondering if this latest scandal will hurt Lula’s chances for reelection. Rogério Arantes believes that Lula’s chances of getting reelected will depend on two sorts of political capital. First, they will depend “on his proximity to the poorest sectors of the population, his ability to represent them, and to speak to those sectors that still remain largely loyal to” him. Secondly, Lula will need to find a way to transmit the same sense of security to the economic and financial elites in Brazil and overseas as he did in the past. “Even during the 2002 election campaign, he was quite firm about informing people that he would adopt a position of fiscal responsibility and of respecting legal contracts, and [that he would ensure] legal security throughout his government.”


For his part, Kanczuk notes, “The good thing about this news – about Palocci’s foolishness – is that it means there is less likelihood that Lula will be reelected. The impression people have is, ‘If Lula is going to be reelected, it is going to be a nightmare.’ Despite the fact that I voted for Lula in the past, I am delighted by the fact that he will have less opportunity to win now.”


Kanczuk believes that Geraldo Alckmin (who cut his ties with the government of São Paulo State in order to become a presidential candidate for the PSDB, the main opposition party) has a good chance of winning the upcoming election. According to Kanczuk, Alckmin is already looking for economists to head the Ministry of Finance and the Central Bank. “He has maintained some contact with the group surrounding Fernando Henrique Cardoso (who was President of Brazil between 1995 and 2002). One example is Luiz Carlos Mendonça de Barros, who paid a visit to the Institute of Economic Policy Studies a few weeks ago to see what people were thinking there.


“This is a more pro-market group, including Lara Rezende, Pérsio Arida and Edgar Bacha,” adds Kanczuk. “I don’t think these people want to be ministers but they would like to provide guidelines about appropriate economic policy. Alckmin himself is even looking around but he has to take an approach focused on these guidelines. It would involve an independent Central Bank, an approach that Lula has been following, to his credit. Their vision involves making cost-cutting into a governmental priority. It would also involve pension reform, which seems correct to me.”


On March 29, the CPMI (the bicameral parliamentary investigation commission) released a final report of its conclusions about the corruption case now known as the “Mensalón case.” The report confirmed that parliamentary votes had been illegally purchased through a corruption scheme headed by the former management of the Workers’ Party, as well as by some government representatives, including José Dirceu, the ministerial chief of staff, and Marcos Valerio, a publicist. Nevertheless, the report absolved President Lula of playing any role in the scheme. The members of the CPMI have yet to vote on the report, and it could undergo some changes. However, no one foresees any other major area where the report could do further damage to the image of Lula’s government. Further developments in the story of Francenildo dos Santos remain to be seen, along with the outcome of the opposition’s efforts to harm Lula’s leadership during the presidential campaign.