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Brazil -- less attractive than I hoped [ClearOnMoney]
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Brazil -- less attractive than I hoped

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Commentary

Brazil -- less attractive than I hoped

13 Dec 2012 by Jim Fickett.

Most of the arguments favoring investment in Brazil have serious flaws. I will continue to follow some of the main indicators of Brazil's economy for now, but will not pursue an investment in the near term.

I once sat at table with Russian colleagues, at a restaurant in Moscow, while they discussed Huckleberry Finn. Smart people all, and the discussion was interesting, but I couldn't help thinking, “Come now, how can you possibly hope to understand what it is like to be a poor boy in the American antebellum south? I was born in America, and it is a stretch for me.” Eventually I suggested, a little more tactfully, that there might be nuances of the culture portrayed in the book that would slip by those not raised in the US. They agreed, and turned the tables on me, suggesting in turn that Americans thought they understood more then they really do about life under communism. Fair enough.

I say all this because, although I would very much like to diversify my portfolio with holdings outside the US, I am keenly aware that it is difficult to be sure one understands an investment in a country far away, with a different language and culture. And it is dangerous to invest when one does not really understand the fundamentals. So there should be a pretty high barrier – foreign investments should be quite attractive to overcome this handicap.

Arguments for and against investing in Brazil

Popular press coverage would suggest that there is a strong case for investing in Brazil long term. But upon closer examination the case turns out to have serious flaws. Here are some of the main arguments for and against:

FOR: A rising middle class will increase prosperity for themselves and businesses alike.

AGAINST: Perhaps. But a look at the data suggests that the rise of the middle class might have been a one-off event, and it is unclear whether it will continue (The rise of the Latin American middle class).

FOR: Growth has been strong.

AGAINST: True, but the implication that high growth will continue is harder to support. First, much recent economic growth was due to exports of commodities to China, and it is fairly clear that China's rush to build cities, railroads, airports, and factories will not continue at anything like the pace of the last 10 years. Second, the rise of the middle class may or may not continue. And third, much of the recent growth was due to a huge, one-time increase in credit to the household sector (Demand growth in Brazil driven partly by a one-off pop in household credit).

FOR: Brazil is a capitalist democracy.

AGAINST: In general democracy is good for business, and this is, in fact, a plus for Brazil. On the other hand, populism in Brazil has been responsible for much government meddling that is counterproductive. One has only to look at Venezuela to see what a populist leader, with no sense of the true drivers of long-term prosperity, can do, via democracy, to destroy a functioning country.

FOR: The government and the economy in Brazil are relatively transparent.

AGAINST: Perhaps true compared to some countries. But Transparency International reports that corruption in Brazil is at about the same level as in China, and much higher than in Europe or the US. And my experience so far looking up economic data suggest that, while the situation is far better than, for example, in China, nevertheless data are often not available and, even when they are, definitions are rarely given and methodology is almost never explained.

FOR: Brazil does not face the problems of an aging population, so prevalent in “developed” economies.

AGAINST: It is true that Brazil has a much younger demographic profile than the US or Europe. And this may indeed be an advantage, in that a younger population might, overall, be more productive. But the usual assumption, that Brazil will avoid the high retirement cost problem faced by older populations, is wrong, due to the extravagant pension promises recently put in place, that encourage many workers to retire even before age fifty (Ranking countries on retirement issues, and Brazil -- unsustainable spending, still-high inflation).

FOR: Some argue that Brazil is still at an early stage of industrialization.

AGAINST: Maybe so, but the infamous “Brazil cost” – high wages and taxes, and heavy bureaucratic cost – means that it is more expensive to manufacture in Brazil than in Europe (Brazil -- unsustainable spending, still-high inflation).

FOR: Brazil has excellent natural resources, and still has a long way to go in exploiting them.

AGAINST: This is true, and is probably one of the strongest arguments for investing in Brazil. At the same time, however, the very poor infrastructure, high taxes, price controls (Brazil's inflation rate is not entirely trustworthy), and excessive bureaucracy make it much harder than it should be to mine or farm and make a profit at it.

FOR: The government is addressing the infrastructure problems.

AGAINST: Maybe. But there have been promises for a long time and nothing seems to happen. Brazil's roads are even worse than India's, and the ports rank almost the worst in the world (Brazilian roads and ports may be even worse than you think).

Conclusion

On the one hand, I find the negative arguments persuasive enough that I will not further pursue an investment in Brazil just now. On the other hand, Brazil's natural resources (especially farmland and oil), young population, and can-do entrepreneurial culture still impress, and so I hope I am being too negative. I'll continue to follow economic progress in Brazil for a while, and see how it goes.