1. Purpose and Country Context

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1 1. Purpose and Country Context This Country Program Evaluation (CPE) evaluates World Bank Group (International Bank for Reconstruction and Development [IBRD], or the Bank, International Finance Corporation [IFC], and Multilateral Investment Guarantee Agency [MIGA]) operations in Brazil from FY04 through FY11. It seeks to answer two questions: To what extent was the Bank Group program relevant to Brazil s development needs? How effective were Bank Group operations in helping to accelerate economic growth and making growth more inclusive and environmentally sustainable? The period reviewed was covered by two country strategies, one for FY04 07 and the other for FY The evaluation comments on aspects of the Country Partnership Strategy (CPS) FY12 15 with particular reference to its relevance and design. The report aims to extract lessons relevant to future Bank Group operations in Brazil. Country Context Prior to the Evaluation Period ( ) The development challenges and accomplishments of the 1990s and early 2000s are the setting for this evaluation. Substantial achievements in fiscal adjustment and price stabilization during the Cardoso administration helped shift the public sector primary balance from a deficit to a surplus, reaching about 3.5 percent of gross domestic product (GDP) in Starting in 1997, 25 of Brazil s 27 states signed debtrestructuring agreements with the federal government, significantly improving their fiscal position. The passage of the Fiscal Responsibility Law in 2000 provided a general framework for budgetary planning, execution, and reporting for the three levels of government. It prohibited the federal government from financing state and local governments beyond the yearly transfers, effectively guaranteeing that debtrescheduling agreements would be respected. The sustained effort to tighten fiscal policies helped control inflation, which decreased from about 2,076 percent in 1994 to 3.2 percent in 1998 (Figure 1.1). Efforts to improve education and health standards resulted in progress on most social indicators. In education, enrollment was improved through policy changes and federal initiatives such as Fundescola and the FUNDEF. Conditional cash transfer programs tied to school attendance, such as Bolsa Escola, started during this period. 1

2 The net enrollment rate in primary education increased from 84 to 96 percent during the 1990s. Various public policies for health also were implemented, including the Programa de Atendimento Básico, as were focused programs for AIDS and malaria, decentralization, and greater participation of communities. Infant mortality declined from 47 to 31 per 1,000 live births between 1991 and The administration also implemented structural reforms that abolished state monopolies, launched land reform, restructured and privatized some state banks, and initiated reforms in various infrastructure sectors. Figure 1.1. Substantial Achievement in Fiscal Adjustment and Price Stabilization in the Late 1990s General government primary balance (percent of GDP) 4.0% 3.0% 2.0% 1.0% 0.0% 1.0% Inflation, consumer prices (annual percent) Source: International Monetary Fund, International Financial Statistics and data files. The resilience of Brazil s stabilization effort was severely tested in the last two years of the Cardoso administration. Adverse events during this period included a global economic slowdown, a domestic energy crisis, spillovers from the Argentine crisis, and uncertainties related to the 2002 presidential election. The reduction in capital inflow and the resulting depreciation led to an increase in debt to GDP ratio from 52.2 to 60.6 percent during 2002, as a significant part of public debt was linked to the exchange rate. As market expectations about Brazil s economic performance worsened and uncertainty regarding the future of fiscal discipline and economic reform after the election grew, the market began to price into Brazilian bonds a risk of default. The Emerging Markets Bond Index (EMBI) spread 1 moved from 700 basis points in the spring to 2,400 at the end of July. Under these circumstances, the International Monetary Fund extended Brazil a $30 billion standby in August 2002, on the basis of maintaining sound policies in such areas as primary surpluses, inflation targeting, a floating exchange regime, and respect of contracts, including the public debt. Various signals and statements from 2

3 leading candidates in favor of the fiscal stance required to stabilize debt dynamics followed. Supported also by a proactive monetary policy, the economy rapidly stabilized: the EMBI spread had fallen to 1,500 basis points by the end of December and to 463 basis points in December During this tumultuous period, the main objective of the Bank Group strategy was alleviation of poverty, 2 with an intermediate objective of sustained growth including some attention to environmental issues. The Bank expanded its lending to Brazil between 1995 and 2003 with a noticeable shift toward adjustment lending. The success in stabilization led to improvement in the quality of the portfolio and a stronger rationale for increased lending. The government became progressively more engaged in the elaboration of the assistance strategy, and the decentralization of the Country Management Unit to Brasilia in 1997 facilitated policy dialogue. Since 1997, the country strategy has been prepared jointly by the IBRD and IFC. In 2003, the Independent Evaluation Group (IEG) undertook an evaluation of World Bank assistance in Brazil between 1990 and 2002 (IEG 2004). That evaluation rated the program satisfactory. It concluded that the Bank made important contributions to improvements in social indicators and access of the rural and urban poor to basic infrastructure. In addition, the Bank s self-assessment of the FY00 Country Assistance Strategy (CAS) Completion Report covered operations through the end of FY03. The main success area was poverty reduction through interventions in health and education. The major area where outcomes were below expectations was growth. The report acknowledges that the Bank program had failed to mobilize growth. It states that the authorities and the Bank expected that private investment would meet infrastructure needs, which did not materialize (see Appendix A for Bank Group operations in ). Brazil s Development Challenges during the Evaluation Period (FY04 11) Brazil has enjoyed political and economic stability during the period evaluated. A single party has been in power throughout, first under President Luiz Inácio Lula da Silva (January 2003 December 2010) and then under President Dilma Rousseff (since January 2011). At the start of his administration, President Lula maintained continuity of the macroeconomic framework, aimed at fiscal responsibility and a primary surplus, inflation targeting, and a flexible exchange rate. Inflation declined sharply, and reforms in the public sector balance sheet substantially reduced domestic debt indexed to foreign currencies. Public sector net debt fell over the decade, from about 60.2 percent in 2002 to 36.4 percent in Countercyclical 3

4 measures adopted during the global financial crisis raised the net debt ratio in 2009 to 42.8 percent, but it declined to 39.7 percent in June The macroeconomic stability and a favorable external environment allowed Brazil to resume moderate growth from GDP grew by nearly 5 percent per year between 2004 and 2008, with some fluctuations. The global financial crisis led to contraction in GDP in the fourth quarter of 2008 and the first quarter of But the country s sound fundamentals and prompt response to the crisis helped mitigate these declines. Brazil was one of the last nations to fall into recession in 2008 and among the first to recover; after experiencing a 0.3 percent growth in 2009, Brazil grew at 7.5 percent in Brazil has also made considerable progress in its longterm foreign currency sovereign credit ratings. Standard & Poor s rating for Brazil improved by four notches, from noninvestment grade BB in 2003 to above investment grade of BBB in Poverty was also reduced during the period, reflecting the strong emphasis the government placed on social programs. Poverty declined from 35.8 percent of the population in 2003 to 21.4 percent in 2009 (representing an escape from poverty for about 22 million people); and extreme poverty fell from 15.2 percent in 2004 to 7.3 percent in 2009 (representing an escape from extreme poverty for about 13 million people). 3 Between 2001 and 2011, the income of the Figure 1.2. Poverty and Inequality Declined Steadily Poverty headcount ratio (%) Source: World Bank data. poorest 10 percent of the population grew by 6.7 percent per year, whereas that of the richest 10 percent grew by 1.55 percent. This helped reduce income inequality (measured by the Gini index) to in 2011, down from in (Figure 1.2). A range of nonincome indicators has also improved. For example, malnutrition among children under five has been halved since the 1990s, and 98 percent of children aged 7 14 are enrolled in education. Gender differences in access to education have been nearly eliminated, although the participation rate among boys is now lower than that of girls, particularly in the later stages of secondary schooling (World Bank 2011b) Poverty headcount ratio at $1.25 a day (% of population) Gini index Gini index 4

5 Although Brazil s growth rate during the evaluation period was higher than that in preceding two decades, it was lower than major emerging countries (Figure 1.3). Much of the literature on this topic maintains that accelerating Brazil s economic growth requires sharp increases in investment rates, particularly in infrastructure, which was low relative to comparator emerging markets over the past decade. Key issues seem to be weak incentives to invest, particularly for the private sector, and low savings rates. Regulatory frameworks to encourage private investment in infrastructure and reforms to reduce the cost of doing business are also important to increase productivity and competitiveness. Other key development challenges discussed with the authorities during the CAS preparation include: Extreme regional differences, especially in social indicators such as health, infant mortality, and nutrition, with the richer south and southeast regions far outperforming the poorer north and northeast Reduced but still significant poverty in absolute numbers The quality of government services in relation to expenditures, which remains relatively low compared to other middle-income countries A variety of environmental challenges associated with deforestation and the need to combine agricultural growth, environmental protection, and sustainable development. Figure 1.3. GDP Growth Rate: Brazil and Major Emerging Countries GDP growth rate (annual percent) Brazil China India Russian Federation Source: World Bank data. Evaluation Issues This evaluation examines the relevance and effectiveness of the Bank Group program during FY The question on relevance To what extent was the assistance of the Bank Group relevant to Brazil s development needs? involves 5

6 examining how well the Bank Group exercised selectivity to maintain the program s relevance to Brazil s evolving priorities; how realistic the country program objectives and the results frameworks were; and how well the Bank Group adapted to the changing external environment. The study also examines the synergies between lending and knowledge services and the effectiveness of collaboration within the Bank Group and with external development partners. This evaluation follows the standard methodology for IEG s CPEs described in Appendix B. The modest scale of Bank Group financial support in relation to the size of Brazil s economy presents some special evaluation challenges. Although the extent and scale of Bank Group activities in Brazil over FY04 11 are significant from the Bank Group s perspective, that support is small relative to the overall Brazilian economy. In 2011, for example, World Bank lending in Brazil ($2.54 billion) represented just 0.3 percent of all public expenditure. In assessing the Bank Group contribution, IEG attempts to identify the catalytic role of the Bank Group strategy. Specifically, IEG examines whether the interventions were replicable or had demonstration effects at the federal, state, or municipal levels and whether the total impact of a set of related interventions was larger than the simple sum of its components. This report has five chapters. Chapter 2 summarizes the Bank Group operations and examines trends and patterns during the evaluation period. Chapters 3 and 4 assess the relevance and contributions of these operations to the objectives stated in the country strategies. The concluding chapter draws lessons and recommendations for the Bank Group s future engagement in Brazil. 6