Opinion – Nelson Barbosa: 2015 economic policy in the 2014-16 recession

Continuing last week’s theme, Return to the Causes of the 2014-16 Recession to analyze 2015 economic policy.

At the end of 2014 inflation was rising, the GDP (Gross Domestic Product) was stagnant and the Budget, unbalanced. Despite this scenario, the 2015 LOA (Annual Budget Law), approved in the 2014 election year, contained a rosy scenario: growth recovery, primary result increase, moderate Selic and high discretionary spending. The account did not close with reality and the adjustment came in two ways.

On the fiscal side, after changing the economic team (when I returned to the government), the second administration of Dilma Rousseff (2015-2016) started reducing the growth projection and the primary result target. Even so, it was necessary to contingency expenses in relation to the unrealistic goals of LOA 2015.

The fiscal adjustment at the beginning of 2015 arouses criticism from the left until today, but it was correct in the scenario at the time. Critics are faced with the challenge of showing how LOA 2015 would sustain itself in the macroeconomic scenario at the beginning of that year.

On the monetary side, the Central Bank (BC) began to raise interest rates at the end of 2014 and continued the process in 2015. Given the acceleration of inflation driven by the exchange rate, the measure was correct. Even when the inflation shock is not a demand shock, it may be necessary to raise the Selic rate to prevent inflation from consolidating at a high level.

Several heterodox colleagues criticize the BC’s stance in 2015, saying it was better to let inflation fall naturally. Our monetary history shows that such an option is highly risky.

If fiscal contingency and the Selic increase were right at the beginning of 2015, where is the error in economic policy that year? In the abrupt adjustment in the price of energy, which quickly ended the subsidies adopted in 2012-14 and transferred the effects of the drought immediately to tariffs.

The 2015 energy bill reached almost 60%. As every economist learns in the first year of the course, it was a classic adverse supply shock, reducing GDP and increasing inflation. Ideally, a more gradual transition to realistic pricing, as has been done since then, would be ideal.

For example, we are experiencing another adverse energy shock, but now the government makes loans to generators, diluting the price increase over several years. In 2015 most of the adjustment was immediate and this was a mistake (self-criticism).

Even with tax restrictions and the increase in the Selic rate, at the beginning of 2015, market expectations indicated growth in that year. The abrupt readjustment of energy prices in a context of water crisis quickly changed the scenario.

Alongside economic policy, other factors pushed the economy down in early 2015: the collapse in commodity prices, which I mentioned last week, and the economic impact of Operation Lava Jato and the bombing agenda in Congress, which I’ll address next week.

To complete today’s text, I remind you that, given the rapid fall in the level of activity, the Dilma government changed its strategy in mid-2015. The BC stopped raising interest rates and, on the fiscal side, the economic team proposed a new reduction in the result primary, the “Deficit Budget”, which remains today.

Due to the political climate at the time, the relaxation of fiscal policy, proposed in July 2015, was only approved by Congress in December of that year. The opposition to Dilma decided to bet on “the worse the better” and delayed the stabilization of the economy. I come back to this topic next week. Happy Christmas to everyone!