Temer Corruption Allegations Cloud Brazil's Reform Prospects

05/24/2017 - 15h37

President's impeachment would lead to economic uncertainty, say experts

Since the political version of what markets call a "flash crash" hit his government last week, Brazil president Michel Temer has sought to paint himself as indispensable to Latin America's largest economy.

Blindsided by a scandal in which an executive of Brazilian meatpacker JBS secretly taped a conversation that showed the president allegedly endorsed bribe paying, Mr Temer is burnishing his reformist credentials amid growing calls for his impeachment.

"Brazil will not go off the rails," he said during an address in which he rejected the allegations and claimed the tape had been doctored. "We are completing the reforms to modernise the Brazilian state. My government is going in the right direction."

Indeed, for foreign and domestic investors in Brazil, the biggest potential casualty of the scandal is not Mr Temer but the ambitious reform programme his young government has authored and is nudging through congress.

Brought to power by the impeachment of his predecessor, leftist former president Dilma Rousseff, last year for budgetary violations, Mr Temer and much of his ruling coalition were heavily implicated in corruption investigations sweeping Brazilian politics even before the latest scandal.

They have tried to counter this lack of legitimacy by attacking some of Brazil's thorniest issues, including a ballooning budget deficit of 9.2 per cent of gross domestic product and an unaffordable pension system, analysts say. While Mr Temer has pledged not to stand again for president, his coalition partners need to revive the economy, which is suffering its worst recession in history, before elections next year.

The reforms, which include extending the minimum retirement age for men to 65 and for women to 62 from the low 50s, have been lauded by economists as essential for long-term prosperity. Brazilian equities were the best-performing in the world last year on the programme. "Our fiscal challenge is such that if nothing is done it will get worse over time," says Marcos de Barros Lisboa, a US-trained economist who heads São Paulo's Insper business school. "The longer the delay, the greater the bill."

The main question for many economists is whether the reform programme would survive a Temer government. If Mr Temer resigned or was impeached, congress would choose a stopgap president to serve out the rest of the current term, which ends in 2018. Many are calling for snap elections but this would require difficult constitutional changes.

Analysts speculate that any interim president might keep Mr Temer's highly credible economic team, including finance minister Henrique Meirelles and central bank governor Ilan Goldfajn. This would argue for a continuation of the reform programme.

There is even speculation that Mr Meirelles, a former private sector banker who has also served as central bank governor, might be appointed caretaker president.

But Mr Meirelles might face uncomfortable questions in that situation, market sources say. He was chairman of J&F, the holding company of JBS, before he became finance minister last year.

The secret tape recording of Mr Temer was made by Joesley Batista, chairman of JBS. Mr Batista is one of seven JBS and J&F executives who have entered plea bargains in which they have admitted to millions of dollars of corruption payments.

But others argue the big question is how long it might take to resolve the crisis. The best case scenario would be a rapid resolution through Mr Temer convincingly refuting the allegations or resigning. The worst case would be an impeachment, which took nine months with Ms Rousseff.

"A more negative scenario would see prolonged political uncertainty as the country would face another impeachment process with potentially rising social tensions and a return to an economic scenario akin to what Brazil faced in the second half of 2015," said Tony Volpon, economist with UBS in a report.

But most argued that even if Mr Temer staged a drawn-out defence, the country's underlying economic situation, while grave, had improved since Ms Rousseff's rule, with inflation hitting 10-year lows and interest rates falling.

Marcos Casarin, economist with Oxford Economics, said assuming the impasse did not run to an impeachment, the pension reform votes could still be held in the second half of this year, either under this or another president. "The economic implications of this latest turmoil are obviously negative, but we caution against over-reacting to the news," he said.