Great things are expected from Brazil in coming years and decades. Latin America's raw materials giant is now the sixth-largest economy in the world. By 2050, it is expected to become the fourth-largest economy in the world, according to forecasts by Goldman Sachs. Before that happens, Brazil will have to demonstrate its ability to perform as a developed power during the World Cup football matches of 2014 in 12 Brazilian cities, and at the Olympic Games in Rio de Janeiro in 2016.
Following the conclusion of the 2012 London Olympics, representatives of the international organizations that are involved in these events are now feeling the fear and pressure involved in dealing with obvious construction delays and communications weaknesses. Throughout Brazil, not just in Rio, there is a painful gap between the size and aspirations of the country's economy and the current level of its infrastructure. This gap presents a monumental challenge for Brazil's future growth and competitiveness.
In addition, the country’s economy has been cooling off, and the government’s GDP growth forecasts have been steadily dropping. At the start of 2012, its forecasts called for 4.5% GDP growth in 2012, but today, authorities admit that GDP growth could end the year below even 3%, as a result of the previous overheating of its economy and the impact of the European debt crisis. Because manufacturing is one of the most affected sectors, the government has announced stimulatory measures, such as reducing taxes on production and labor expenses.
The most important aspect of this initiative has been the recent launch of the government’s third Program for Accelerated Growth (PAC) in just the past five years. The first PAC was launched in 2007, and the second was begun in 2010. The latest PAC involves expenditures of some US$65.5 billion for the construction of 10,000 kilometers (6,000 miles) of new railroads and 7,500 kilometers (4,500 miles) of roads. The government of President Dilma Rousseff will also be looking to create new projects involving collaboration between the public and private sectors in order to improve the infrastructure of its ports and airports.
News of the coming investments has been widely praised by experts and analysts. According to Jonás Fernández, director of research studies at Solchaga Recio & Associates, which carries out economic and institutional research, the latest PAC will have a very positive impact because it acknowledges “the slow pace at which the previous plans were functioning. Now the government begins to reorient its strategy, moving from an eminently ‘statist’ [government-focused] position [in PAC 1 and PAC 2] to an option involving greater collaboration with the private sector.”
Felipe Monteiro, professor of management at Wharton, also praises these plans because he believes that “there is already no margin for maneuvering or any time to lose.” When Brazil began the first PAC, he says, “it was only a promise, but now the country is so close to [meeting its Olympics] commitments that it has to deliver results. There is no tomorrow; there’s just today.” The good thing about pressure, in this case, he adds, is that “given the nature of Brazil and its economy,” there are times when the country does not manage to get moving unless there is pressure. “Once and for all, they will get things done.”
The weaknesses in Brazil’s infrastructure are nothing new. Ever since the 1980s, investment levels in infrastructure have been very low, notes Adalmir Marquetti, professor of economics at the graduate school of the Pontifical Catholic University of Rio Grande do Sul (PUCRS). “At that time, Brazil’s foreign debt problems reduced the public sector’s capacity for investment. With the deregulation and privatization initiatives of the 1990s, the situation did not change too much because private sector investments in infrastructure were restricted to the communications sector.” Later, during the decade after 2000, “there was a slight increase in public investments in the expansion of super highways, as well as private investments in the expansion of the railways, but they were very low compared with Brazil’s needs,” he adds.
The problem is that the country began to grow at an average annual rate of 4% during the past decade. “They didn’t enact any plan for making fundamental changes in the country’s infrastructure; they only undertook small projects involving maintenance,” notes Monteiro. More fundamental investments in infrastructure were not enacted and bottlenecks continued to slow down development until the arrival of President Lula in 2007. After Lula made Dilma Rousseff his Chief of Staff, she enacted the first PAC.
Anita Kon, professor of economics at the Pontifical Catholic University of São Paulo (USP), notes that the delays have had important repercussions on the country’s competitiveness, especially internationally. That’s because “it raises production costs for Brazil companies to the point where they have to bear significant additional costs for distribution and marketing, which are also known as the ‘Brazil cost.’”
Kon notes that in recent years, “in addressing these problems and the international financial crisis, the government’s macroeconomic measures have focused on an aggressive effort to make fiscal and credit measures more flexible [in 2011 and after], which made it even more difficult for governmental investments to reduce the blockages in the logistical infrastructure.” As a result, “the international competitiveness of [Brazilian] industry has been deeply affected by the so-called ‘Brazil cost,’ which has affected the country’s output in 2012.”
For example, Brazil is the world’s second-largest exporter of soy beans, after only the U.S., and the distances from internal soy-producing areas to the sea are about the same in the two countries — that is, from the states of Matto Grosso to the Atlantic Ocean, in the case of Brazil, and from Minnesota via the Mississippi River to the Gulf of Mexico, in the case of the U.S. Despite the fact that actual soy production costs are lower in Brazil than they are in the U.S. — because land and other costs are lower in Brazil – the total cost of soy production and distribution in both countries winds up being about the same — US$250 a ton. According to a report by the Inter-American Bank of Development entitled, “The Age of Productivity: Transforming Economies from the Bottom-Up,” this is because railroads are virtually non-existent in Brazil and its network of roads is poor. In many cases, roads are unpaved. The latest PAC hopes to do away with these inefficiencies by constructing two large railroad connections between the states of Matto Grasso, Matto Grasso del Sur, and the Atlantic coast.
Until now, notes Monteiro, companies such as Vale, the world’s second-largest mining company and a diversified producer of metals, have had no alternative but to improvise by buying portions of railroads to assure themselves that their products would be transported. “Companies choose survival solutions,” he says, “but it is obvious that they lack a bigger plan.” This particular big plan was already laid out and launched during the two first phases of PAC, “but [the first two phases of PAC] were highly deceptive because there was a significant disconnect between the expectations they created and the ultimate result,” he says.
Monteiro notes that the earlier plans failed not because of any planning problems on the part of the government but because of execution problems. “It isn’t that they don’t know what has to be done; [it’s about] how to do it in the necessary time,” he says. Fernández agrees, noting that “the likely reason for these failures can be found in the other bottleneck that must be reformed: the administrative and bureaucratic structure.”
Experts agree that one of the problems with previous plans was that most of the projects were designed in a government-supervised system that provided direct awards of the contracts. The good thing about the latest plan is that it is different in that regard. “Now the substance of the investment will be channeled through concessions that will be able to help smooth out development of the project itself,” notes Fernández. An additional problem was last year’s corruption scandal, which involved the Minister of Transportation, and ended up with the firing of 27 officials.
An Opportunity for Investors
The high-speed rail line project for connecting São Paulo with Rio de Janeiro provides a clear example of how previous plans failed. According to previous PACs, that line had been expected to be operational in time for the World Cup soccer championships of 2014. But the project has not even gone beyond the planning phase yet. The three bidding processes wound up without any company winning a construction contract. Now authorities have decided to separately award, on the one hand, the contract for construction of the rail infrastructure and to award a separate contract, on the other hand, for the procurement of the trains. That way, authorities will be able to award the project in separate portions (tranches), rather than entrust the project to a single licensee, according to El Pais, the Spanish daily newspaper. At the moment, various foreign companies are scrutinizing the project, including Talgo, the Spanish train manufacturer whose representatives accompanied the King of Spain on his visit to Brazil last June.
Other Spanish companies are interested in the possibilities offered by the Brazilian government’s new plan. That is because Spanish civil engineering firms are among the international leaders in the sector. “The strong development of activity in Spain during the latest boom has enabled it to accumulate an outstanding stock of human capital that is called upon to work beyond its own borders,” notes Fernández. In addition, in view of the [current] slowdown in [construction] activity in Spain, this [example of] internationalization provides an opportunity for all of the [Spanish construction] companies,” he says.
Nevertheless, it is not easy to enter the Brazilian market, which “is probably one of the most complicated ones to get into,” Fernández argues. In part, he says, this is because of the administrative barriers, complicated by the powers of the various states, which have their own laws. Beyond that, the Brazilian economy continues to be relatively closed to foreign private investment, he adds.
As a result, “despite the fact that Spanish companies lead the world in the sector [of civil engineering], it hasn’t been easy for them to get into Brazil,” says Fernández. Six months ago, things went wrong for Spanish firms Ferrovial and a consortium formed by OHL and Aena, when they bid for airport projects in São Paulo and Brasilia. However, not everyone has had the same luck. For example, in 2008 the Brazilian subsidiary of Abertis, Spain’s largest manager of highways, managed to take over almost half of the 4,764 kilometers of federal highways that are administered by the private sector.
Monteiro believes that when it is time to compete in the Brazilian market for concessions involving energy, communications and so forth, the ideal thing for Spanish engineering firms would be to do so in association with local partners. On the one hand, “Brazilian companies could benefit from the know-how of the foreign [non-Brazilian] firms, and foreign firms could learn from the locals about the way to work together with the government, about how things work in the country, and so forth.” Brazilian companies that lack technological knowledge about infrastructure could lose a significant opportunity if they don’t get involved in the process of knowledge transfer, he adds.
According to Fernández, the problem in Brazil is that there is still “clear nationalism in business — a characteristic shared by most emerging large economies.” Monteiro agrees, adding that in today’s Brazil there is “a certain obsession with local content; that is to say, with things that are produced domestically. The government wants to generate jobs from that, but that is not a good reason for them not to take advantage of foreign know-how.” He also warns that in order to get involved with these infrastructure programs “you need a lot of capital that will have to come from outside” the country.
Considering that there is a shortage of Brazilian savings for addressing current infrastructural needs, notes Kon, “Foreign Direct Investment in infrastructure projects would be very welcome, whether it comes from Spanish companies, Latin American firms or others.” Moreover, Kon believes that private-sector firms would play a positive role in the areas addressed by the government’s latest plan because their specialized skills would help reduce execution time and accumulated delays.
The End of Short-term Thinking
Despite everything, Monteiro is worried about the possibility that a consensus will be achieved for infrastructure initiatives without thinking about the long term. “In Brazil, they have already held large scale events such as the Rio ECO 92 (the United Nations Conference for the Environment and Development) and the Pan American Games of 2007. But the things that they manage well have been directed toward short-term goals.”
As a young democracy, Brazil has constantly faced problems of inflation and hyperinflation, and it has always had a short-term view about its infrastructure, focused on “doing everything for next year; not with a view toward ten or twenty years,” Monteiro notes. “The only time they enacted long-term projects in this area was during a very sad period for Brazil — the military dictatorship (1964-85), when there was continuity in the government, which enabled it to make long-term investments.” Although the country has had little experience in making long-term investments in infrastructure, it is now confronting a tremendous opportunity to change history.
The key to success for its infrastructure plans, adds Monteiro, will be if the government has enough strength to enact projects that look toward the [longer term] future, “so that they don’t find themselves dealing with the same old problems in 2017.” On the other hand, elections are also around the corner, this October, and they could cause politicians to get distracted, says Monteiro. “It is very hard for things to move ahead during election campaigns, but I am confident that the intervention of the president will call attention to what these sorts of moments really mean. The president has an executive character, and she can use her personal strength to carry this out. She is very tough and she has known the PAC from its beginnings,” he notes.
While it has been a good thing for Brazil to gain so much international visibility lately, its people have to remember that all eyes with be trained on their country if things turn out poorly, Monteiro concludes. “The time has come for Brazil to show that it is getting things done. There is a window of opportunity now, and the whole world is watching, so they can’t let it get away.”