Ten points for an effective and fair fiscal adjustment in Brazil

The debate is open on how to make fiscal adjustments in the next term. I list ten points for one that is effective and fair.

1 – The adjustment must be made on the expense side. The tax burden is already high. Revenue increases encourage more spending, undermining adjustment. Additional revenues tend to come from low-quality taxes, such as those on exports, financial transactions or imports, harming growth.

2 – Tax benefits are a problem that goes beyond lost revenue. They imply high taxation on those who do not receive them, concentrate income and induce misallocation of capital. A rule in which part of the reduction in these benefits would be returned to society horizontally, via a lower CBS rate, would help with the adjustment, improve the quality of the tax system and create counterforce to lobbying by current beneficiaries.

3 – It is not possible to make large immediate cuts in spending, due to the mandatory, indexing and linking of expenses to revenue. What can be done is to slow down the growth of spending, reviewing the over-indexation of some expenses to the minimum wage and the linking of expenses to revenue.

4 – The possible adjustment will have to be gradual and increasing over time. For example, deindexing social security and assistance benefits from the minimum wage represents savings of just 0.1% of GDP in the first year, but reaches 1% of GDP in the tenth year. As we need to generate a large impact in the first few years, a broad package will be necessary, which includes super salaries, parliamentary amendments, oil royalties, etc.

5 – Social security and social program expenses represent almost 60% of total expenditure and are growing rapidly. There will be no structural adjustment without reform in these two areas. Given that in the last 15 years the cost of social programs has grown from 1.3% to 2.7% of GDP and lost quality, there is room for a reform that improves the situation of the poorest while controlling the growth of spending.

6 – In an unequal society, a fiscal adjustment focused on social security and assistance lacks political legitimacy. It is necessary to limit super salaries, parliamentary amendments and subsidies, creating a sense of justice.

7 – It will be a mistake to prioritize adjustment or replacement of the fiscal framework. Brazil has already shown that it does not have the maturity to obey fiscal rules. One should not spend the limited time on the legislative agenda discussing new rules and then creating loopholes and disobeying them. Leave the framework as it is, announce that the adjustment will exceed the goals of the fiscal rule and focus action on reforms that will reduce the growth rate of mandatory expenditure.

8 – Privatization and asset sales alone do not solve the chronic fiscal imbalance. They help to reduce debt, but they do not solve the problem of unsustainable growth in expenditure. They take time to happen due to the difficulties inherent in pricing, modeling and sales. They are delayed by judicialization.

9 – The criteria for sharing state and municipal participation funds and oil royalties, as well as regional development funds, need to be reformed. They waste resources, transform subnational finances into procyclical ones, and are therefore vulnerable to fiscal crises during recessions.