Courtesy Reuters

Brazil's Big Moment

A South American Giant Wakes Up

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After decades of stop-and-start growth and political disorder, Brazil today seems poised to finally fulfill its long-unrealized potential as a global player. The key features of Brazil's awakening are widely recognized: expanded exports, oil discoveries, financial stability, low inflation, growing foreign and domestic investment, booming consumer demand, social assistance focused on the neediest, and democratic political cohesion. Brazil's diverse economy is now founded on strong sectors in oil, mining, agriculture, and, more recently, biofuels -- all of which have benefited from a combination of technological advancements and strong incentives for private investment. The country now boasts a GDP of $1.58 trillion, which ranks in the top ten worldwide.

Brazil's ascendance is not the result of lucky breaks. Although global factors, such as rising commodity prices and easy access to foreign capital, have helped, there has been no tropical alchemy or voodoo economics. The secret of Brazil's current success lies in the continuity of its sound economic and political management. Over the past five years, under the leadership of President Luiz Inácio Lula da Silva (known as Lula), Brazil has continued the market-friendly economic policies begun by previous governments that tamed inflation and stimulated private investment.

Still, Brazil remains a work in progress. Continued stability and future growth will require avoiding the mistakes of the past while finding new solutions to the problems that remain. These include rampant corruption, stalled tax and labor reforms, low levels of domestic saving, inadequate achievements in public education, and not enough highly skilled labor. Successfully resolving such issues would allow Brazil's rise to continue, and Brazil -- long viewed as a peripheral country -- would finally become a global player.

MORE THAN A PETROSTATE

Brazil's booming economic growth and newfound geopolitical importance became especially clear last year with the discovery of major new oil and gas deposits under the South Atlantic continental shelf in Brazilian waters. An initial find in the Gulf of Santos was quickly followed by others, and by mid-2008 it was being hailed as "a new North Sea." Industry estimates of Brazil's oil reserves tripled, to 40 billion barrels, less than those of Iran, Iraq, Russia, Saudi Arabia, and the United States but equivalent to those of Nigeria and Venezuela. This placed Brazil in the ranks of the ten countries with the largest oil reserves, making headlines in a world reeling from oil priced at over $150 a barrel and fearful of another war in the Middle East.

It will take several years and at least $300 billion to bring the newfound oil and gas into full production. These offshore fields are the deepest marine properties in the world, three to four miles below the surface and covered by thick layers of salt. The cost of drilling and gathering the oil is high, estimated at $60 a barrel. Still, the payoff for Brazil in terms of energy security and economic growth will be enormous. Until last year, Brazil was struggling to maintain self-sufficiency in oil, producing two million barrels a day. The country's supply of natural gas depended on erratic imports from Bolivia. Now, Brazil stands to be a major exporter of crude, self-sufficient in gas, and a provider of high-value products from three large oil refineries currently under construction. With a coastline that starts at the border of French Guiana and ends 2,600 miles south when it meets Uruguay and with new exploratory drilling under way by the state-owned oil company, Petrobras, and more than 40 foreign oil companies, new finds are considered likely.

Brazil's status as South America's foremost economic power can only be enhanced by its oil discoveries. An abundant supply of natural gas will fuel thermal power plants to supplement Brazil's predominantly hydroelectric power system. Brazil's consumption of electricity is rising five to six percent a year to meet the demands of heavy industry, urban residential consumers, and rural electrification projects. Steel mills and other industries dependent on energy, such as the aluminum industry, stand to benefit.

New oil finds are not the only engine of Brazilian growth. Brazil's mining industry, too, is a world leader. This sector is led by the formerly state-owned Vale, the world's largest exporter of iron ore. Since Vale was privatized in 1995, it has expanded globally, buying nickel and copper producers in Canada and mining properties in Peru and across Africa, and has partnered with South Korean and Chinese investors to develop steel mills at home. Now the mining powerhouse is traded on stock exchanges around the world and competes with global leaders in the industry. Following Vale's lead, new private mining developers are investing heavily in mineral resources and searching for new deposits in Brazil's relatively unexplored subsoil.

Thanks to a diversified economy, such developments hardly risk turning Brazil into a petrostate, dependent on the export of oil and a few other commodities for all its revenue. Brazil's consumer market is supplied by the country's world-class industries and market services, and Brazil also boasts a dynamic agricultural sector. Indeed, Brazil is a land of agricultural plenty. Equivalent in size to the continental United States, it is the largest tropical landmass in the world; more than 80 percent of its territory falls within the intertropical zone that straddles the equator. Thanks to a habitat that combines abundant solar power, fresh water, tillable soils, and a warm climate, it can produce agricultural crops year-round and has enough pastureland to maintain the largest cattle population on earth. This production feeds a national population of nearly 190 million, and a growing surplus generates a substantial flow of exports.

Until 1950, Brazil played a limited role in world agriculture as "the king of coffee." Now, it is a world leader in the production of soybeans, corn, sugar cane, animal proteins, cotton, orange juice, and tropical fruits, as well as cellulose and wood products. The agricultural and livestock sector's annual growth is currently over six percent, above national GDP growth of five percent. That sector generates exports that in 2007 accounted for more than half of Brazil's $40 billion trade surplus. The surplus contributed to the accumulation of international reserves of over $200 billion, making Brazil a net international creditor for the first time.

Two relatively recent developments underlie this agricultural revolution. One is the demographic shift in Brazil from a predominantly rural population, poor but self-sufficient, to a population of city dwellers, now 80 percent of the population, who demand low-cost food supplies. The second development is technological. Brazilian researchers learned how to adapt exotic plant varieties and foreign animal species to their tropical conditions. This know-how has led to impressive gains in yield per acre, which have contributed more to raising output than has the occupation of frontier lands that has been occurring in the central western region. "Smart" agriculture now boosts the entire economy, creating demand for fertilizer, farm machinery, transportation, and processing facilities -- all of which are receiving substantial investment.

The rise in the price of food staples has drawn attention to Brazil's potential as a global breadbasket. China and India are already major customers for Brazilian soybeans. Russia, as well as western Europe and the Middle East, consumes Brazilian chicken, pork, and beef. And as the world's largest sugar exporter, Brazil supplies sweet-toothed consumers across the globe. With about 170 million acres now under cultivation with annual and permanent crops and over 370 million acres in pastureland in the country, agronomists see a potential shift in land use toward food crops. Another 150 million acres of land suitable for cultivation or planted forests are still left unused, often because of inadequate transportation. No other country has such a large untapped reserve of land, water, and farmers with the technology and expertise to add value to natural resources. Farmers and ranchers have taken advantage of abundant government incentives that have encouraged them to invest in land and apply new technologies. With a large rural labor force, Brazil will continue to grow as a food supplier to a hungry world.

CLEARING LAND, AND THE AIR?

Brazilian agriculture stands to benefit not only because of demand for food but also because of its potential as a source of energy. The surge in oil prices since 2007 has added an energy dimension to Brazilian agriculture. Brazil is a world leader in biofuels, which offer a power-hungry world clean-energy alternatives. These include ethanol, an alcohol fuel produced from sugar cane, as well as biodiesel, which is extracted from oilseeds such as soybeans, palm nuts, and castor beans. Both ethanol and biodiesel are now required components of fuels sold at Brazilian gas stations. Both burn with lower emissions of carbon dioxide than fossil fuels such as coal or oil. Multinational oil companies and others are investing billions in Brazilian sugar properties and distilleries. Analysts believe that grain and oilseed production could reach record levels in a few years and sugar-cane output could triple, providing 85 billion gallons of ethanol. By financing foreign investments in refineries that use Brazilian sugar-alcohol technology, the Brazilian Development Bank is actively pushing ethanol production in Central America, which has preferential access to the U.S. market. Brazil is also trying to break into European markets with sugar-cane alcohol as an alternative fuel.

Ethanol has come under heavy attack from critics who see it as a threat to food production and an inefficient source of energy. But this claim depends on which raw material is used to distill the ethanol. The main source for U.S.-made ethanol is corn, the price of which has soared with the growing demand for ethanol in the United States (where a high tariff protects domestic output from lower-cost imports). Brazil's producers reply that when sugar cane is the source, ethanol is produced at a lower cost and with no accompanying reduction in food production because sugar cane is produced in such high volumes and is not a primary source of food.

Environmental activists have also raised an outcry over biofuels, blaming them for tropical deforestation associated with the expansion of Brazil's agricultural frontier. And to be sure, many new lands have been brought into cultivation or converted to pastureland in what is known in Brazil as Amazônia Legal, a division that covers 58 percent of the country. (Amazônia Legal includes two distinct ecosystems, the closed-canopy rain forest and the upland savanna known as the cerrado, where the forest cover is light and the soil quality is suitable for mechanized agriculture.) But Brazil's sugar-cane production has yet to affect the sensitive forested areas. The government has pledged to withhold financing for sugar cane planted on deforested land and, if necessary, ban sugar-cane planting in the Amazonian ecosystem.

Although the deep Amazonian ecosystem of western Brazil is still intact, there are serious concerns about the eastern perimeter, where the agricultural frontier is advancing and where there is extensive encroachment into areas that should be legally preserved. Loggers extract valuable timber; wildcat miners strip riverbeds of gold, tin, and diamonds; and swarms of squatters clear plots to plant subsistence crops. Many then sell out to ranchers who bring in cattle. It is literally a wild west.

Controlling this area is a problem of governance. Brazil's space agency maps the advance of deforestation by remote sensing satellites, and vigilant nongovernmental organizations monitor the evidence and mount campaigns for a moratorium on deforestation. But the federal and state environmental agencies charged with administering vast protection areas, Native American reservations, and national forests are woefully underfunded and understaffed. There are excellent environmental protection laws that exist on paper, but they are poorly implemented. There are frequent reports of corruption.

The issue of deforestation transcends the limits of Amazonia because forest burning there for land clearance, which consumes an area the size of Connecticut each year, is a major source of atmospheric carbon emissions. Although Brazil's hydroelectric and ethanol energy matrix is clean, providing 90 percent of the country's electric power, the forest burning makes Brazil the fourth-largest producer of greenhouse gases in the world. This puts Amazonian deforestation at the center of the climate-change debate. An adequate response is essential if Brazil is to establish credibility as a responsible member of the international community.

The outlook is not entirely gloomy, however. Recent developments in the Amazonian region show that deforestation is acquiring political importance. Governor Eduardo Braga, of the Amazonas state, the largest in the region, has launched the Amazonas Sustainable Foundation in partnership with Brazil's largest private bank, Bradesco. The foundation supports 34 strategically placed forest communities where local populations are paid a monthly stipend to guard against deforestation. These communities will receive technical assistance, bank loans, and marketing contracts for the sale of forest products that provide employment but preserve the natural environment.

STOP-AND-GO

If Brazil is to continue its economic success, it will have to overcome a set of political obstacles. Political disorder has often prevented sustained progress in Brazil's recent history. In 1964, the Brazilian army toppled an inept civilian government and imposed an authoritarian regime that lasted 21 years. Although the military tolerated a limited legislative role by an elected congress with an opposition party, repression of resistance was violent. Initially, the military brought order to economic policy, and by the early 1970s Brazil was enjoying an investment boom that had pushed annual GDP growth to over ten percent. Large-scale infrastructure projects, such as the Itaipu and Tucuruí hydroelectric dams, fueled growth, and Brazil emerged as the undisputed industrial leader in the region, earning the title "the Brazilian miracle." But the boom fell apart when oil prices doubled during the 1979 international energy crisis. Brazil had taken on huge foreign debt without raising its exports enough to pay the bill. In 1982, the economy contracted, and three years later an elected civilian government replaced military rule.

With authoritarianism gone, new political parties blossomed. The most important newcomers were the Workers' Party (PT) and the Brazilian Social Democratic Party (PSDB). The PT is based on a union movement that emerged with industrialization and financial services in São Paulo. Brazil's current president, Lula, was one of its founders. Born dirt poor in the arid backlands of Pernambuco, Brazil's Appalachia, he migrated as an illiterate boy to São Paulo, where he became a blue-collar factory worker. The PSDB, on the other hand, is led by middle-class professionals and academics.

The two parties are rivals, but both carry in their political DNA a history of opposing military rule and a commitment to democratic government and social welfare. Competition between the PT and the PSDB has dominated Brazil's political scene for over 20 years. Political polarity began under the government of Tancredo Neves, who died before taking office in 1985, leaving the task of restoring democracy to a weak vice president. Uncontrolled inflation and default on the foreign debt produced an economic crisis and deep distrust of the government. The two parties not in power, the PT and the PSDB, gathered strength, but the election of 1989 produced a surprise. A newcomer, Fernando Collor de Mello, an unknown but energetic young state governor, won the presidency campaigning against corruption and for economic modernization. Collor, an admirer of former British Prime Minister Margaret Thatcher, threw open the economy to imports and began privatizing state enterprises. But he failed to build a congressional base, and an opposition campaign, led by the PT, resulted in his impeachment on corruption charges.

The stage was set for the first major showdown between the PT and the PSDB in 1994, with Lula running for president against Fernando Henrique Cardoso, a respected sociologist who had been exiled for several years under the military government before becoming finance minister in a democratic one. PSDB economists, led by Cardoso, had mounted a successful anti-inflation policy called the Real Plan. The popularity of price stabilization among wage earners and housewives, after years of hyperinflation, won the election for Cardoso.

Under Cardoso, the PSDB continued privatization, ended the Petrobras oil monopoly, granted railroad and highway concessions, and recovered the national banking system, selling off state banks. In the arena of social policy, Cardoso developed a strong community health program; began conditional income transfers to poor families, which kept their children in school; and pushed agrarian reforms that settled 400,000 families on subsistence plots. Cardoso won reelection in 1998, again defeating Lula. But by 2002, the political tide had turned in favor of the PT. The economy had suffered a major setback as the result of an energy crisis in 2001 that aborted growth and raised unemployment. Cardoso could not run again under a constitutional two-term limit, and the PSDB coalition split. The tenacious Lula won the presidency on his fourth try.

ENTER: LULA

The prospect of a national government led by the PT alarmed the financial world, because so many of Lula's supporters hailed from the left. Indeed, Lula often employed class-conscious rhetoric on the campaign trail. But Lula pledged to honor contracts, respect private property, exercise fiscal discipline, and pay off Brazil's foreign debt. These commitments in hand, the Cardoso government obtained, with U.S. backing, a $32 billion loan from the International Monetary Fund that paved the way for a smooth takeover by Lula.

Once in office, Lula continued the prudent economic policies begun by the Real Plan. He named Henrique Meirelles, an international banker, as head of the Central Bank, and despite cries of protest from "developmentalist" critics, Meirelles has not flinched from raising interest rates when necessary. Under Lula, fiscal surpluses to service the federal debt have been higher than they were under the Cardoso administration, and social spending has been financed by tax increases instead of deficits. This orthodox fiscal management has been the key to the consolidation of the free-market model of sustainable economic development in Brazil.

Now midway into his second four-year term, Lula is enjoying rock-star popularity, with approval ratings of over 60 percent. This is unsurprising: his government's sensible economic policies have stimulated the boom while bolstering a social welfare network that now protects 11 million of the poorest families from hunger. Foreign investment is pouring in, not only because of Brazil's natural-resource endowment but because private investors, and the banks that back them, feel confident investing in Brazil (as they do not about investing in today's "populist" Venezuela or Argentina). Meanwhile, Brazil's notorious gap between the rich and the poor has been steadily shrinking, with the income of the poorest 20 percent of the population increasing as a share of the country's GDP.

Lula's term ends in 2010, and Brazil is approaching a new moment of political transition. Lula has repeatedly declared that he will not seek reelection, which would require a constitutional amendment. The next presidential campaign has already begun, and Lula has not yet endorsed a successor. There are some signs that Brazilian politics in the near future could be characterized by cooperation rather than the polarity and paralysis of the past. The political season opened in October with mayoral elections in Brazil's 5,560 municipalities; the results were watched closely to see if Lula's personal popularity would carry over to PT candidates. The old PT-PSDB rivalry characterized the race in São Paulo, where the PT candidate, Marta Suplicy, strongly backed by Lula, ran against the losing 2006 PSDB presidential candidate, Geraldo Alckmin. But this year's elections also offered a surprising new twist. In Belo Horizonte, the capital of Minas Gerais, Lula backed a candidate for mayor put forward jointly by the governor of Minas Gerais, Aécio Neves, of the PSDB, and the incumbent mayor, Fernando Damata Pimentel, a PT stalwart. Depending on its success, this alliance is expected to back Pimentel for governor of Minas Gerais in 2010, when Neves may run to succeed Lula. Such bipartisanship could transform the national political scene if it leads to cooperation between the PT and the PSDB on overdue reforms that Brazil needs in its tax structure, social security system, labor laws, and political parties.

There is much work to be done. The present dispersal of political power across 20 parties engaged in a perpetual scramble for public money -- through welfare benefits, subsidized credits, and government jobs, payrolls, and contracts -- breeds endemic corruption and waste that holds back growth and productivity. Whereas China's GDP grows at ten percent annually and India's at eight percent, Brazil's growth rate is only five percent. Brazil's slow growth, in comparison to these extra-large developing countries (which are, of course, also growing from a lower base income), can be explained mostly by inflated government spending in proportion to investment. China, for instance, invests at an annual rate of 40 percent of GDP and the government consumes only 14 percent. In Brazil, investment is 18 percent of GDP and government consumption is nearly 20 percent.

AN OPPORTUNITY FOR PARTNERSHIP

Historically, politically, and culturally, Brazil is part of the West. It was for many decades a strong supporter of pan-Americanism, the doctrine of Western Hemispheric cooperation sponsored by the United States. During World War II, Brazil fought with the Allies, and afterward it was one of the 46 nations that drafted the United Nations Charter. But in the era of globalization, Brazil has shifted to a more independent position, seeking to develop global ties while building a regional trading bloc in South America.

During the overlapping presidencies of George W. Bush and Lula, personal relations between the two leaders have been cordial, but little substantive progress has been made on key issues. Brazil has resisted U.S. efforts to negotiate a Free Trade Area of the Americas and has pursued instead a vision of regional integration based on the South American common market, Mercosur. When Brazil began pushing ethanol as an international commodity, the United States erected tariff barriers and subsidized its own corn-belt version. Brazil argued strongly in the Doha Round of international trade negotiations for reducing agricultural subsidies in the United States and the European Union but came away with little. The climate-change debate on carbon reduction has left Brazil and the United States exchanging recriminations, far apart on how to contain deforestation in Amazonia.

Behind this failed agenda is an underlying resistance in the Brazilian political psyche to any hint of subservience to the United States. Brazilians have always cultivated a strong spirit of nationalism. For example, during Brazil's colonial period, when the country was part of the Portuguese empire, settlers drove off successive military incursions by Dutch, French, and Spanish rivals seeking to establish footholds in the huge, largely uninhabited territory.

Of course, nationalism can take many forms. One is an introverted, defensive nationalism that exalts the exercise of sovereignty and seeks to guard the national culture against alien influences. This type has been a strong undercurrent in Brazilian politics, exemplified by the 1950s nationalist campaign that was led by the slogan "O petróleo é nosso!" (The oil is ours!), which led to a state oil monopoly and a ban on exploration in Brazil by foreign oil companies -- an exclusion reversed in 1995. The same attitude inspired the state-centered telecommunications policies that left Brazil far behind in the global technology revolution until they were abandoned and the sector was opened to private investment, resulting in dramatic growth.

But there is another kind of nationalism, an outward-looking one, which is the kind now taking hold in Brazil. The dream of being an internationally respected country is one shared by many Brazilians. There is a growing awareness that Brazil's economic horizons extend beyond its national borders. Brazilians take pride in the almost daily announcements of acquisitions abroad by Brazilian multinational companies, which are investing worldwide, from Africa, China, the Middle East, and the United States to neighboring South American countries. Brazil's regional status grew this year when São Paulo's stock and commodity exchanges merged to create one of the biggest private capital markets in the world. A massive inflow of international equity investment followed. Such market developments place Brazil in the mainstream of the global economy, not on the periphery.

In the diplomatic arena, Brazil aspires to permanent membership in the UN Security Council, and it has provided the main military contingent for the UN peacekeeping force in Haiti. This context of a more internationally active Brazil is favorable for building a mutually beneficial U.S.-Brazilian partnership. At the head of the agenda should be the ethanol issue. If the two countries can get on the same page in promoting green-fuel alternatives as global commodities, that cooperation would improve the prospects of their working together on climate-change issues, such as the reduction of deforestation in Amazonia.

Global food supply is another area in which the United States and Brazil could construct a partnership, in this case to help the world's most vulnerable countries, those in tropical Africa. If local solutions are to be found for Africa's chronic food deficiencies, Brazil's expertise in tropical agriculture, supported by international financing, could prove vital. Embrapa, Brazil's agricultural research agency, recently opened an office in Ghana and is providing technical missions to other African countries. Petrobras is active in offshore oil production in Angola and Nigeria. Brazil's mining giant, Vale, is building a railroad in Mozambique to transport coal from an inland mine to a port on the Indian Ocean. A Brazilian international contractor is planning a 1.5-gigawatt electric plant in Mozambique to electrify the rural interior and export surplus power to South Africa. These initiatives involve food, energy, education, poverty, and health -- issues high on the African agenda -- and could benefit from a combination of Brazilian know-how and U.S. public and private financing.

The United States, then, should construct a strategic partnership with Brazil on the basis of common interests regarding energy, food, climate change, and regional security. With a new administration taking over in Washington next year and Brazil electing a new government in 2010, it is time to rethink relations between the two great democracies, North and South, that anchor the Western Hemisphere.

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