August 28, 2023
- The new fiscal framework introduced by President Lula da Silva in March 2023 was approved by the Brazilian National Congress, the first major legislative victory for the administration.
- Congress made adjustments to the text in order to reduce the framework’s main vulnerability: its over reliance on revenue increase.
- As a next step, the administration will likely continue to push its revenue-increase agenda to sustain the new framework while congressional leadership might opt for a debate on spending cuts, including a potential reform of the federal government payroll cost.
On Tuesday, August 22nd, the House of Deputies of the Brazilian National Congress held a final vote on President Lula da Silva’s proposed new fiscal framework for the country (discussed in this blog post). The bill was approved with 379 votes in favor and 64 against, a demonstration of the political strength of the Speaker of the House, an ally of President Lula.
The new fiscal framework is part of an economic policy focused on three main goals: fiscal stability to reduce inflationary pressures and allow the Central Bank to continue to reduce the benchmark interest rate (SELIC), tax revenue increase to sustain the new framework, and the approval of a major tax reform to simplify the Brazilian tax system on consumption (discussed in this blog post).
The approval on Tuesday is the first major legislative victory of the administration, that has seen more successes than losses in its initial months (discussed in this blog post).
The new fiscal framework establishes a ‘fiscal anchor’ based on an annual primary budget surplus target, from -0.5% of GDP in 2023 to 1.0% of GDP in 2026, growing in 0.5 pp increments per year. This surplus target will be pursued within a tolerance range between +0.25% and -0.25% of GDP of the year’s target.
In addition to the target, growth in spending will be pegged to revenue increase at 70%. If the target is not achieved, the peg is reduced to 50%. However, the spending increase has both a ‘floor’ of 0.6% and a ‘ceiling’ of 2.5% of revenue increase. In other words, the 70% or 50% of the peg will fluctuate between the ceiling and floor, shielding it from both excessive increase or a decrease in revenue.
Reliance on revenue increase
While the annual primary budget surplus target is largely seen as a continuation of a relatively successful economic policy adopted in Brazil since the 1990s, the fact that spending will be pegged to revenue and will increase even in a scenario of revenue reduction is seen by many as a vulnerability of the mechanism.
The administration frames it as a counter-cyclical provision that would allow the federal government to spend in order to reignite growth during a recession, but critics see it as a fiscal policy over reliant on revenue increase that will either come from allegedly unreal expectations of economic growth and/or tax increase.
In this context, Congress adjusted the original text to slightly reduce the number of exceptions to the new fiscal rule, to include mandatory fiscal adjustment measures in case of non-compliance with the targets, and to limit the amount of additional spending the administration may do in the form of investment in a scenario of extraordinary surplus.
These adjustments were largely focused on building cost-reduction provisions into the framework.
Congress will now send the bill to President Lula for signing. Lula can veto specific provisions of it but Congress would have a final vote on his vetoes.
Once Lula signs the bill, the administration will likely continue to push its revenue-increase agenda through tax enforcement, reduction of tax-related subsidies, and tax increase.
However, congressional leadership, primarily led by the Speaker, might go in a different direction by beginning the discussion of spending reduction measures, including a potential reform of the federal government payroll cost, initially introduced in Congress by the previous administration of former President Jair Bolsonaro.