On Wednesday morning, Brazil’s Senate voted to formally impeach President Dilma Rousseff on a vote of 61 to 20. Charged with illegal accounting practices, the president will now be removed from office and prohibited from holding any political position for the next eight years. Rousseff’s vice president, Michel Temer (who has been serving as acting president since May), will now formally take her place.
Politically, Temer faces an uphill battle. Many Brazilians see his accession to the presidency as illegitimate, and his center-right political orientation as a betrayal of the voters who elected the left-wing Rousseff. As such he may have trouble uniting the fragmented National Congress, which seats more than two dozen political parties, to support a comprehensive slate of economic reforms. His own party, the Brazilian Democratic Movement Party (PMDB), has outlined a promising agenda of trimming state spending and loosening labor laws, but it only controls a fraction of the seats in each chamber of the Congress.
Temer inherits a mess. Thanks to longstanding interventionist and protectionist impulses among the country’s leaders, the nation faced 10.7 percent inflation in 2015, and unemployment reached 11.6 percent this month. The economy contracted by 3.8 percent in 2015. For comparison, the U.S. economy contracted 2.8 percent in 2009, the worst year of the Great Recession. And that does not even touch the fallout from revelations of corruption centering on the state-owned oil company, Petrobras.
Reining in inflation, tackling corruption, privatizing state-owned enterprises, and cutting the budget deficit are all worthy goals for the new president. However, should political forces necessitate Temer pick and choose his priorities, he would do well to focus on Brazil’s nightmarish trade regime, the economic horrors of which I will struggle to fit into this column.
According to the World Bank, Brazil imposes a weighted-average tariff rate of 7.8 percent, higher than neighbors Argentina (5.6 percent), Uruguay (4.1 percent), and Bolivia (3.7 percent). By contrast, the U.S. applies an average tariff of just 1.5 percent.
However, these figures understate the true extent of Brazil’s protectionism. Brazilian consumers may avoid imported products with very high tariffs, meaning weighted averages will not reflect those tariffs. According to World Trade Organization data, the simple average applied tariff among roughly 5,200 product categories is a heftier 13.5 percent. Duties on essential products such as clothing can reach 35 percent.
Moreover, Brazil has a habit of changing tariff rates from year to year, making exporters in other countries more reluctant to sell goods there due to the uncertainty. In 2015, Brazil raised its tariff on aircraft seats from 1 percent to 18 percent. The tariff on ethanol went up from 10 percent to 20 percent. Simultaneously, Brazil cut its tariff on peaches from 48 percent to 35 percent. When hesitant exporters do not sell to Brazil, consumers must buy from pricier domestic companies instead, raising the cost of living.
Protectionists argue that high tariffs are necessary to support Brazilian industry, but they really keep Brazil from attaining its full potential. When Brazilian firms must substitute for imports to provide for consumers’ every need, resources are diverted from Brazil’s most productive industries, slowing the economy and holding down wages. Not to mention that the regime raises prices for consumers, who are feeling enough pain with inflation in double digits.
Bringing down that inflation will necessitate tighter monetary policy, which economists warn could drive up interest rates and choke off investment. But were President Temer to pursue a tariff-slashing policy, he could bring the price level for consumers down quickly and give the Central Bank of Brazil leeway to pursue monetary tightening at a slower pace.
Tariffs are far from Brazil’s only problem with trade policy. According to the Office of the U.S. Trade Representative, various nontariff federal and state taxes can double the cost of imports. In addition, Brazil prohibits outright the imports of some products, such as used cars. Importers must also frequently acquire licenses and subject their products to lengthy inspections, which add time and costs to the import process. This not only raises prices for consumers, but for producers—restrictions apply to certain types of farm and construction equipment, which make it more difficult for industries which utilize those products in their supply chains to thrive.
The list does not end there. Foreigners may own or lease no more than 25 percent of the land in any given municipal district, which chokes off external investment in the agricultural industry. Restrictions on foreign investment are also present for media and insurance companies. State-owned enterprises must also give preference to domestic companies when contracting services, even if prices are higher. Subsidies for exports bust the federal budget and force domestic consumers to pay higher prices to compete (a phenomenon mirrored in America’s Export-Import Bank).
Hacking through this thicket of taxes, regulations, and subsidies will be no small challenge for President Temer, but the payoff will be well worth it for Brazil’s economy. Opening borders to trade will challenge the dominance of Brazilian state-owned enterprises, which drag down the economy with their inefficient use of resources. Slashing tariffs may actually increase tariff revenue (and lower the budget deficit) if consumers are encouraged to buy more imported products. Allowing more foreign investment would create jobs and reduce unemployment.
With an economy in as bad a shape as Brazil’s, it can be hard to know where to start. But for Michel Temer, trade liberalization likely offers the best economic return for his political capital. Brazil welcomed athletes from around the world for the Olympics. It should welcome goods and services from around the world, too.
Preston Cooper is a policy analyst at the Manhattan Institute. You can follow him on Twitter here.
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