Lula’s promises and lack of punishment challenge targets

The new fiscal framework proposed by the government sets a limit to real spending growth, which cannot exceed 2.5% per year. But the history of public accounts and the size of mandatory expenditures indicate that, in order to fulfill the campaign promises of Luiz Inácio Lula da Silva (PT), it will be necessary to increase the collection significantly to pay the bill that is projected for the coming years.

That’s not the only problem. A long series of exceptions to the rule – 13 expenses will be excluded from accounting and may grow without limit – makes the challenge of ending the primary deficit next year, as proposed by the government, virtually unfeasible.

In addition, the complementary bill (PLP) 93/2023, which establishes the new framework, does not provide for the attribution of an infraction to the Chief Executive if the fiscal target is not met, which ends up making the model even less credible for analysts.

Almost 94% of federal spending is mandatory, and will grow with an increase in the minimum wage

The current spending cap rule, introduced in 2016, theoretically prevents annual spending growth above inflation. Despite having, in fact, contributed to curb the expenditure of public resources, the model ended up stifling the Union Budget, largely due to the growing share of mandatory expenditures, such as the cost of Social Security and civil service payroll.

With the vegetative evolution of expenses of a tax nature, the space to accommodate discretionary expenses, such as investments, was compressed year after year, even with a series of “holes” made in the ceiling. To give you an idea, before the approval of the so-called “ceiling” PEC, in December, the 2023 Budget was discussed with 93.7% of expenses already committed.

To give more flexibility to the Budget, the mechanism presented by the Ministry of Finance to replace the spending ceiling proposes a pace of increase in expenses equivalent to up to 70% of the increase in revenues – if annual revenue grows by R$ 100 billion, for example, the expense could advance R$ 70 billion. The project also places a 2.5% limit on the real growth of expenses, in the case of an extraordinary increase in revenue.

On the other hand, the proposal also assumes a minimum increase in expenses, of 0.6% above inflation, even when there is a drop in revenues – a kind of “expenses floor”, therefore.

And to prevent funds for investments from being compressed due to the increase in current expenses, there will be a minimum level for this type of expense, which should start from the R$ 75 billion forecast for 2023, with a minimum annual variation equivalent to inflation.

In an interview with the “O Antagonista” website, former Central Bank director Alexandre Schwartsman was skeptical about the viability of the new framework. “Until now, we have assumed that spending is limited to growing 2.5% a year above inflation. It is not what our history shows in the absence of the spending cap,” he said.

“In the absence of the spending cap, total spending grew by 4.5% [ao ano]. Mandatory spending grew at a rate of five percent a year. So the mandatory spending went up, we held back the investment”, he added.

For him, without changes in the dynamics of tax expenditures and with a floor for investment, there is no guarantee that spending will grow by a maximum of 2.5% in real terms.

“Social security will rise with the minimum wage and with an aging population. Functionalism will rise with the number of employees you are bringing in; will go up with the real increase that is being discussed now. BPC [Benefício de Prestação Continuada], which is also an important item, will rise with the minimum wage. Salary allowance will rise with minimum wage. Bolsa Familia will rise too. All these things are going up. Why are you going to limit yourself to 2.5% anyway?”

Lula promises to increase several expenses, and at the same time says he will limit expenses

Gabriel Hartung, chief economist at SPX Capital, and Mario Carvalho, the institution’s macroeconomic analyst, assess the framework as contradictory in relation to the current government agenda.

“The government will have the challenge of reconciling the policies it has been promising within a spending limit. Will the rule be able to simultaneously reconcile real increases in the minimum wage, income transfers to the poorest, increased investments, and expansion of health and education items?”, they question, in an article published on the blog of the Brazilian Institute of Economics (Ibre ) from the Getulio Vargas Foundation (FGV).

“The Brazilian experience with fiscal rules suggests that when the rule contradicts the prevailing political project, the loser is the fiscal rule.”

At the beginning of the government of Jair Bolsonaro (PL), the then Minister of Economy, Paulo Guedes, defended a plan that he named “DDD” – to “unindex, release and unlink”. Its objective was to eliminate or reduce as much as possible mandatory expenditures, expenditures indexed to the minimum wage and constitutional investment floors linked to revenue growth. Given the unpopular nature of the measures, however, the idea was barred by Bolsonaro.

Proposal expands exceptions to the tax rule

In the new framework project presented by the government, 13 situations are foreseen that will not have the scope of the limiter and that, therefore, may grow above the 2.5% real established by the main rule:

1. Constitutional transfers to states and municipalities;
2. Supplements for basic education in states and municipalities;
3. Extraordinary credits;
4. Transfers to state and municipal health funds for compliance with the nursing floor;
5. Expenses with socio-environmental projects or related to climate change funded with donations, and expenses funded by agreements signed as a result of environmental disasters;
6. Expenses – which are funded with own income, donations or agreements – of federal universities and institutions, public companies providing services to federal university hospitals, and other scientific, technological and innovation institutions;
7. Expenses incurred with funds arising from transfers from other entities of the Federation to the Union for the direct execution of works and engineering services;
8. Expenses with agreements for the payment of precatorios with a discount;
9. Expenses with Fundef writs owed to states and municipalities;
10. Non-recurring expenses of the Electoral Court with holding elections;
11. Expenses with capital increase of non-financial and non-dependent state-owned companies;
12. Legal transfers, to states and municipalities, of funds obtained from forestry concessions and the sale of Union properties; It is
13. Expenses related to the collection for the management of water resources by the National Water and Basic Sanitation Agency (ANA).

Most of these expenses were already exempt from the expenditure ceiling, but the project adds new exceptions, such as transfers of forest concession resources, expenses related to the management of water resources and the monetary restatement of precatorios registered in the year. On the other hand, in the case of state-owned companies, the project establishes that only eventual capitalizations of non-financial companies and not dependent on the Treasury will be excluded from the calculation.

“In the case of revenue exceptions, one can clearly see the government’s initiative in being able to use, outside the framework rule, extra revenues from concessions, those arising from state-owned companies – already a known pattern of the PT – and from the exploitation of our commodities – something that we do it with excellence as a country”, comments Rodrigo Correa, chief strategist and partner at Nomos.

Formula used for spending readjustments should inflate limit for 2024

Gabriel Hartung and Mario Carvalho, from SPX Capital, point out that an artifice used by the economic team in the methodology for updating expenditure limits may further increase permission to spend next year.

They point out that revenues from Refis or withdrawals from inactive accounts of the PIS/Pasep fund, for example, are not classified in PLP 93 as atypical. Furthermore, the text innovates by accumulating nominal revenue for 12 months and deflating its variation against the previous 12 months by the IPCA, year on year, instead of obtaining a real series deflating month by month and extracting growth from there.

“This subtle detail generates a big difference for next year due to the disinflation we had in the second half of 2022, largely due to the drop in ICMS on some items in the same period”, they say. For them, the periods of the deflators were “carefully chosen to maximize spending growth in 2024”.

According to the text, the revenue variation will be calculated considering the period up to June of the previous year, but the readjustment of expenses will consider the IPCA projection until December.

“In this way, the nominal expenditure of 2024 will be the level of LOA expenditure [Lei Orçamentária Anual] 2023 inflated by the 2023 IPCA (approximately 6%) and will still have a gain of 2.5% due to the real growth of the chosen recurring revenue measure”, say the economists. “As a consequence, public spending in 2024 should show a nominal growth of 8.5% and a real growth of 4.3% (using the IPCA expected by Focus for 2024).”

For economists, without a relevant increase in the tax burden, it is unlikely that the government will obtain, as it wishes, a neutral primary result in 2024, a primary surplus of 0.5% of GDP in 2025 and 1% of GDP in 2026.

They estimate that, if the rule is maintained for a long period, the country would only have a primary surplus in 2031, “if the GDP grows in line with the potential in each of the next eight years”.

Tiago Sbardelotto, economist at XP Investimentos, recalls that the use of inflation between January and June and estimated inflation from July to December already exists in the current spending ceiling, but that any deviations are minimized by updating projections as in which the Annual Budget Bill (PLOA) is discussed in Congress, between September and December.

“According to the government’s proposal, however, there is no possibility of updating this projection, and only the value forwarded in the PLOA should be considered”, he points out.

To give you an idea, in 2022, the approved Budget considered an inflation projection of 7.2%, but at the end of the year the indicator was 5.8%, which allowed for an additional increase in the ceiling by R$ 24 billion .

Sbardelotto, considers, however, that the biggest concern is in the changes related to the primary result target. “In addition to not including the goals for the coming years in the proposal, the government relaxed the penalties, released the contingency and imposed only a temporary burden on expenses in case of non-compliance with the goal”, he says, in a report for investors. “This ends up creating a disincentive for the government itself to pursue fiscal adjustment in the coming years.”

For Marcos Mendes, a researcher at Insper and former special advisor to the Ministry of Finance, the lack of sanctions points to an abandonment of the expenditure limit rule and also of the primary result targets. “What appears is that the government weakened the primary target because it will not be able to meet it, it will not be able to raise all the necessary revenue or cut expenses in the way that would be necessary”, he told “Valor Econômico”.

“Improvements to the rule include considering an IPCA realized in 12 months until June of the current year or an estimate closer to the actual one, adopting a revenue concept as close as possible to recurring revenue and imposing a heavier burden on the government in case of non-compliance with the target” , evaluates Sbardelotto.

For Marcelo Cursino, from Braza Bank, the proposal is “conservative in some parts, but very vague with regard to expenses”, which should make it difficult to reduce the basic interest rate, as defended by the government.

“The text leaves a very expansionist bias in spending and says little about the origin of revenues”, he says. “In short, the concern with the tax returns with a reflection of high future interest rates and devaluation of the real. The possibility of cutting the Selic is getting more and more distant.”