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Economics Update

Economics Update (July-September 1997)

Brazil: Shifting from Vast Bureaucracy
to Managerial State

by Elizabeth McQuerry, economic analyst

U ntil recently, reform efforts in Latin America generally aimed at taming inflation and privatizing state-owned enterprises. One of the goals of these efforts was to allow governments to become more efficient in providing basic services like health care and education. Given the progress by many Latin American countries in achieving macroeconomic stability, their focus is turning to areas where reform can be deepened. In Brazil the government has undertaken a campaign to revamp its bureaucracy as a necessary component of fiscal adjustment.

Brazil's new president, Fernando Henrique Cardoso, stressed the need for additional reform when he took office in January 1995 by establishing the Ministry of Federal Administration and State Reform. Headed by former Finance Minister Luiz Carlos Bresser Pereira, the ministry laid out an ambitious program designed to depoliticize the bureaucracy, make the work rules more flexible at the state, national and local levels and provide services more effectively.

Growth of Public Sector Workforce

Strictly speaking, Brazil's problem is not the inability to reduce public employment. In fact, between 1988 and 1995, the number of federal employees fell from 700,000 to 576,000 as a result of attrition, retirement and a hiring freeze from 1990 to 1993.

The basic problem is that jobs and salaries for public workers are not merit based. Rather, many government jobs are awarded to political allies who then keep their positions over time. This situation originated with a law put into effect when Brazil revised its constitution in 1988. The law grants public employees the right to retain their positions after only two years of service. And this job security is conferred without regard to performance ? nearly 90 percent of all public workers are currently vested.

The fiscal burden of this law is demonstrated in the increase in the percentage of GDP that reflects federal employees' salaries. In 1988, salaries for these employees accounted for 3.9 percent of GDP, while in 1995 that figure had risen to 6.7 percent. The federal budget for personnel in 1996 was equivalent to 47.5 percent of total revenues, or 62 percent of discretionary/nonentitlement spending.

The expense of the public workforce is evident at the state level as well. Although public employees make up less than 6 percent of the total workforce, the average state-level expenditures for public workers is 74 percent of revenue. Some states actually spend more than they collect and issue debt to pay employees.

Brazil's Federal Goverment Personnel Expenditures
(as a percentage of discretionary spending)

*Forecast
Source: Brazilian Ministry of Federal Administration and State Reform
Reform Measures

The reform proposed by the new administration would permit the dismissal of public workers (including those with job security) if personnel costs exceed 60 percent of revenue. It would also increase to five the number of years of service required to be eligible for job security, and this "tenure" would be performance-based, thereby laying the formal foundation for a professional public service. The reform would also allow the hiring of contract workers (not eligible for job security) and impose salary caps. Finally, the reform would move these matters from the constitutional to the administrative level, allowing future changes without constitutional amendments.

Despite the reform's straightforward nature and the fiscal imperative to reduce costs, the measure faces an uncertain future. Some lawmakers rely on organized public employees as a main constituency. In addition, a constitutional amendment has a high threshold for passage: the reform measures must be approved twice in two separate chambers of the Brazilian Congress by a three-fifths majority.

Like privatization, administrative reform is proving to be a divisive public policy issue in Brazil. However, the reform's benefits extend beyond the expected reduction of federal expenses by around $6 billion (U.S.) per year. The reform would also convey a strong message to international investors who consider revamping the bureaucracy a cornerstone of sustainable macroeconomic adjustment.

Atlanta Fed Research Group Focuses on Latin American Issues

A lthough research at the Federal Reserve Bank of Atlanta concentrates on macroeconomic and financial issues that affect U.S. monetary policy, the Atlanta Fed has an interest in Latin America. The Latin American Research Group was formed in 1994 to focus on banking issues in the region.

The foundation for this specialized group is the Foreign Bank Supervision Enhancement Act of 1991, which gave the Federal Reserve the lead role in approving and supervising the U.S. offices of foreign banks. Among its provisions, the act gives the Fed the responsibility of ensuring that banks are comprehensively supervised by their home country bank authorities as a prerequisite to entering or expanding their presence in the United States.

To carry out this mandate, the Board of Governors assigned various Federal Reserve Banks certain geographic areas on which to develop expertise. For many reasons, including the fact that Miami is a trade hub with Latin America and falls within the Sixth District, the Atlanta Fed was directed to focus on Latin America and the Caribbean. To assist its supervision staff and regulators, the Atlanta Fed formed the Latin American Research Group to provide a knowledge base on the economic and political environment in the home countries where the foreign banks are based.

The work of the group has continued to expand as the influence of Latin America has also grown with the passage of the North American Free Trade Agreement in 1993 and the move toward the Free Trade Area of the Americas to establish a free trade zone throughout the Western Hemisphere.

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