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Strong Real fuels 'de-industrialisation' fears
Jonathan Wheatley
12/31/2005
The Brazilian busmaker Marcopolo was in the spotlight last month at a South-South Conference in Mumbai organised by the International Finance Corporation (IFC) and the Financial Times. The company, which makes half the buses sold in Brazil, has been expanding overseas since 1991, opening factories in Portugal, Argentina, Mexico, Colombia and South Africa.
As well as brand strength, its success was attributed to the adaptability and agility of its people and processes characteristics typical of the best Brazilian enterprises.
Unfortunately for Marcopolo and the rest of Brazilian industry, the rapid appreciation of Brazil's currency, the Real, has put this flexibility to a test in ways "tha neither we, our bankers or our advisers could have foreseen", says José Rubens de la Rosa, Marcopolo's CEO. He warns that if the Real remains close to current levels, as it is expected to do, the result could be "the deindustrialisation of Brazil".
Since January 2003, the Real has advanced from about R$3.50 to the dollar to about R$2.30 today, thanks largely to soaring exports riding on global demand led by China. To a degree, Marcopolo was able to pass on rising costs in dollar terms to its overseas customers. But when the 'Real rose above R$2.80 Lo the dollar a year ago, it had to take other steps.
First came a squeeze on costs, including redundancies, of about 10 per cent across the board. Then Marcopolo began sourcing more raw materials and components from outside Brazil. The next, more radical, step was to cut production in Brazil and increase it overseas. "This is the big change for Brazil," Mr de la Rosa says. "It is more expensive to operate here, so manufacturing is moving away."
Unlike carmakers, which typically assemble vehicles using components made by others, busmakers produce many components themselves. Whereas Marcopolo used to ship kits to overseas factories for assembly, it increasingly uses those factories to make components, too.
"This is not something we planned," Mr de la Rosa says. "We simply saw the need and had to do it."
Such investments, once made, will not be reversed. "We cannot put the health of the company at risk by hoping the exchange rate will go back to where it was," he says. The company is working on plans to build factories in Russia, India and China.
Marcopolo is far from an isolated case. Across Brazil's diverse manufacturing industry, competitiveness is being eroded and investment is falling.
When figures for third quarter growth showed a contraction of 1.2 per cent from the second quarter -- far worse than predicted -- the lpea, a government linked economics institute, blamed falling investment: instead of rising by 5.3 per cent, as expected, investment declined by 0.9 per cent.
Many blame high interest rates and a climate of uncertainty caused by a corruption scandal that has dogged the government since May, as well as the strength of the Real.
But low growth, high interest rates and the overvalued Real are all symptoms of the government's failure to enact fundamental reforms needed to address the quality of public spending, reduce government debt and spur investment.
As Edmar Bacha, senior consultant at Itaú BBA, an investment bank in São Paulo, points out, cutting interest rates more quickly at the margin might have produced marginally faster growth.
But a sustainably faster growth rate requires fundamental change. That will come only when the government tackles distortions in public spending. Investment fell from 16 per cent of public spending in 1987 to 2.2 per cent in 2003 (and has since fallen further), says Raul Veloso, a specialist in public finances. Earmarked spending such as payroll and pensions, over which the government has no control, has risen to about 90 per cent of the total -- and the government has little control over most of the rest.
Most alarmingly, Mr Veloso says, earmarked spending has been rising at more than 15 per cent a year for the past five years. The government has been able to pay its bills only because the tax take has been rising even more quickly. But there is little room for that trend to continue.
Unless the government cuts spending and debt, interest rates will remain high and growth will remain slow.
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