BRAZIL - A/S SHANNON MEETING WITH FINANCE MINISTER

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E.O. DECL:05/25/2016
TAGS: EFIN EPET EINV PGOV PREL BR BL
SUBJECT: BRAZIL - A/S SHANNON MEETING WITH FINANCE MINISTER
MANTEGA

REF: A) BRASILIA 1008

B) BRASILIA 0961
C) BRASILIA 0888 and previous

Classified by Charge d'Affaires Phillip T. Chicola, reasons 1.4
(b) and (d).


1. (C) Summary: In a wide-ranging May 22 meeting,
recently-appointed Finance Minister Guido Mantega told A/S
Shannon and the Charge that Brazil's economy was "sound" and in
good shape to weather the current volatility on world financial
markets. Mantega and his International Secretary, Luiz Pereira,
credited Brazil's decreased vulnerability to continuing high
trade and current account surpluses, which have enabled it to
pay down external debt and accumulate substantial reserves.
Mantega reaffirmed the GoB's commitment to sound fiscal policy
and to meeting its 4.25% of GDP primary surplus target. He said
the GoB understood the importance of further social security
system reforms to bring under control the system's burgeoning
deficit, but noted that Lula would not publicly address this
politically-sensitive reform prior to the October presidential
elections. Turning to regional issues, Mantega affirmed that
Bolivian gas would keep flowing, that there would be a
negotiated price increase and that Petrobras energetically would
defend its commercial interests in all appropriate fora.
Shannon emphasized the importance of Brazil's
institution-building and regional integration efforts in light
of the wave of populism in the region. End Summary.


2. (SBU) In a May 22 meeting, recently-appointed Finance
Minister Guido Mantega told visiting WHA A/S Tom Shannon that
the Brazilian economy is doing well, and that the GoB has its
fiscal accounts under control and is committed to meeting the
4.25% of GDP primary surplus target. Revenues were up,
primarily due to the strong profitability of certain economic
sectors (mining, banking, oil),rather than tax rate increases,
the FinMin affirmed. Mantega boasted that the Lula
administration has run bigger primary surpluses than its PSDB
(opposition party) predecessor, a commitment that has helped the
GoB reduce its net-debt-to-GDP ratio. (Comment: Mantega, who in
his previous jobs criticized the Finance Ministry's fiscal
orthodoxy, in particular its over-performance of the primary
surplus target, delivered the fiscal talking points without
irony. End Comment.) Contrasting the current situation with
that when the Lula Administration took office, Mantega affirmed
that no one questions the GoB's ability to service its debts.
Indeed, the GoB had pre-paid its debt to the IMF and the Paris
Club and had re-purchased its Brady Bonds.

Market Volatility
--------------


3. (SBU) Mantega told Shannon that the GoB's strong external
accounts have reduced substantially its vulnerability to a
financial crisis. In the waiting room prior to the meeting,
International Secretary Pereira noted to Shannon that the
uncertainty in international financial markets over the course
of the Federal Reserve's future interest rate decisions drove
the nearly 4% depreciation of the Real against the dollar on May

22. (Note: this was followed by an almost 5% depreciation on
May 24 and then a sharp rebound on May 25.) Pereira stated
that Brazil was well-prepared for a period of market volatility,
with continuing strong trade and current account surpluses
driving a marked improvement in the country's external position.
Both the GoB and private sector have reduced external debt.
The GoB, moreover, has built up a large stock of international
reserves (US$63.5 billion as of May 12),which was now almost
equal to its net external debt and well in excess of short term

BRASILIA 00001036 002 OF 003


debt. Pereira expected that the markets would find a new
equilibrium once the Fed's intentions became clear.

Defending the Administration's Economic Record
-------------- -


4. (SBU) While average economic growth under the Lula
Administration has been between 3% and 3.5%, Mantega affirmed
that Brazil's economy could grow as much as 5% this year.
Growth was improved, moreover, over the 2% to 2.5% average of
the previous decade. "Brazil is not China," he stated, and
cannot grow at rates upwards of 7% because it already reaped the
large productivity gains that come from industrialization and
the move from a primarily agricultural to an industrialized
economy in the 1960's and 1970's. Brazil is democratic, and the
government cannot impose reforms, although the GoB patiently has
been strengthening economic institutions, such as the
independent regulatory agencies. During Lula's term, Mantega
stated, industry had grown strongly and employment was up
significantly, as were wages and per capita income. The
food-processing industry in particular was creating substantial
numbers of new jobs, primarily in small and medium-size cities.


5. (SBU) Turning to the reform agenda, Mantega catalogued a
series of reforms the GoB has undertaken or hopes to undertake,
without clarifying which he considered priorities. "I've never
seen a government undertake so many reforms," he boasted.
Mantega stated that the GoB understands there is a need to
reform the social security system, which is running increasing
deficits (septel),but it was not the time publicly to discuss
the sensitive issue, given the October presidential elections.
In addition, awaiting congressional action are bills to unify
the state-level value added taxes (ICMS),a bill to cut red tape
for small and micro-enterprises, and a new competition law. The
GoB already has undertaken targeted measures to reduce taxes on
certain sectors and would like to simplify the bureaucratic
requirements for imports, Mantega stated. The GoB also plans
labor union reform and other (unspecified) reforms that it could
not publicize during an election year, according to Mantega.
Pereira added the GoB has undertaken measures to reduce the cost
of capital and plans to take additional such steps in the
future.

Trade and Regional Integration, Institution-building
-------------- --------------


6. (SBU) Although still relatively small as a percentage of GDP,
Brazilian trade is growing quickly as the country inserts itself
into the global economy, Mantega stated. Exports have been very
strong, driving current account surpluses that have kept the
exchange rate at appreciated levels. The country needs to
increase imports, Mantega affirmed. Pereira noted that the GoB
has focused on facilitating infrastructure development to
underpin regional integration, such as a new bridge on the
border with Peru and the paving of a trans-Andean highway in
that country that together would create physical links to
Brazil. These efforts have included financing from the National
Development Bank (BNDES -- over which Mantega used to preside).
The GoB also aims to reduce the asymmetries among the large and
small Mercosul members and would like to strengthen its
institutions. As part of this effort, the Finance Ministry
leads GoB participation in the Mercosul macroeconomic
convergence dialogue, Pereira said. Shannon applauded the GoB's
focus on institutional strengthening and regional integration,
particularly given the role that weak institutions have played
in facilitating the current wave of populism in the region.

Bolivia: Reality Comes Knocking

BRASILIA 00001036 003 OF 003


--------------


7. (C) Bolivian President Morales was starting to come up
against reality and likely would walk back some of his wilder
pronouncements, Mantega stated. Bolivian gas would keep
flowing, Mantega affirmed, although he acknowledged that the
price Brazil paid (currently US$3 per 1000 BTU) needed to
increase to better track oil and gas prices on world markets.
Betraying irritation, Mantega argued that Morales should have
made use of the existing contractual mechanisms to pursue price
negotiations, rather than sending in troops to occupy Petrobras
facilities.


8. (C) Bolivia, Mantega argued, is much more reliant on Brazil
than vice versa. Brazil will develop additional domestic gas
sources capable of producing gas volumes equivalent to those it
currently receives from Boliva, according to Mantega.
Petrobras, moreover, is even less reliant on Bolivia, which
accounts for only about two percent of its investments
world-wide. The GoB also had agreed to put consideration of IDB
debt forgiveness on hold for the time being, according to
Mantega. At the political level, however, President Lula would
not take a strident line, Mantega stated, but rather take the
same tone a parent would take when firmly disciplining an errant
child. Nevertheless, Petrobras, Mantega declared, would defend
its commercial interests in all appropriate fora.


9. (C) Comment: Mantega clearly is still settling into the job
and becoming familiar with the subject matter. He put on a
credible show, however, and was careful to avoid stepping on the
Central Bank's toes, referring only briefly to monetary policy
and limiting his comment to noting that the current situation
was "satisfactory." At times he was clearly enjoying himself,
joking, i.e., "as my right arm is in a sling, the fact that I
shake hands with my left hand doesn't mean I am a leftist."
Most welcome was Mantega's acknowledgement of the need for
reform to stanch the budgetary bleeding in Brazil's social
security system. That effort needs to succeed, as the
burgeoning social security deficit, combined with constitutional
earmarks and growing obligatory expenditures, will leave the
next administration with little ability to make critical
investments.


10. (U) This cable was cleared by A/S Shannon.

CHICOLA