US embassy cable - 04BRASILIA2051

C O N F I D E N T I A L BRASILIA 002051 
 
SIPDIS 
 
TREASURY FOR OASIA - NLEE AND SSEGAL 
STATE FOR EB/IFD/OMA - KMOSS 
 
E.O. 12958: DECL: 08/10/2014 
TAGS: EFIN, ECON, PREL, BR, Macroeconomics & Financial 
SUBJECT: IMF RESREP ON INVESTMENT ACCOUNTING INITIATIVE 
 
REF: BRASILIA 291 
 
Classified By: Economic Counselor Roman Wasilewski, Reasons 1.4 (b) and 
 (d). 
 
1. (C)  Summary:  An IMF mission visited Brazil the last two 
weeks of July to discuss a pilot project effort at how the 
IMF accounts for investment.  The pilot project grew out of 
an initiative by President Lula, advocated in letters to the 
G-7 heads of state, to increase the space for investment 
within the budgets of countries on IMF programs.  IMF Resrep 
Max Alier (please protect) says the trickiest part of the 
issue is project selection.  It appears the GoB hopes for 
some IMF political cover as it seeks to build consensus to 
change the expenditure/investment mix within its fiscal 
constraints.  End Summary. 
 
2. (C) The GoB initiative was launched by Lula in early 2004, 
at a time when the GoB was under considerable criticism for 
having frozen investment spending budgeted by the Congress, 
in order to meet the primary surplus target (reftel).  This 
coincided with pressure from Argentina for the GoB to support 
its defiant stance towards the IMF.  Argentina's Kirchner 
argued that the GoA could not both meet the needs of its 
populace, meet its IMF budget targets and pay off its 
creditors.  Lula's response sought, in a set of letters to 
the G-7 heads of state, support for an initiative to IMF for 
a change in how investment was accounted for in terms of 
primary surplus targets. 
 
3. (C) Alier told Emboff that the easiest way to conceive of 
how the GoB's accounting proposal works is by comparison to 
the primary surplus target adjustor that was built into 
Brazil's current IMF program, which expires at the end of the 
year.  The GoB was allowed to invest in a series of 
sanitation projects, in the amount that it had over-performed 
its primary surplus target in the previous year.  The primary 
surplus target was adjusted downward by this amount. 
Likewise, in the pilot project case, the primary surplus 
target would adjust to account for investment on one of these 
agreed projects.  It is not clear to post that in this pilot 
project case, as was the case with the sanitation projects, 
that there would be any requirement to have over-performed 
the target in previous periods. 
 
4. (C) A sometimes bemused Alier pointed out that the GoB's 
IMF progam expired at the end of the year and there was no 
expectation that the GoB would seek a new one.  That meant 
that the GoB could do as it wants with its budget next year, 
he pointed out.  Neither had the GoB invoked its right to use 
the adjustor in the current program.  Quite the contrary, it 
was significantly over-performing the primary surplus target, 
with the de-cascading and rate increase of the PIS/COFINS tax 
that formed part of last year's tax reform increasing 
revenues by 1% of GDP. 
 
5. (C) In a separate conversation, Finance Ministry International Secretary Luis Pereira told Emboff that the GoB ultimate goal is to use the exercise to "build political consensus to change the current expenditure/investment mix." Alier seconded this point, saying he had been told that the GoB wants to increase investment but needs a bit of incentive to "to it right." 
 
6. (C) Alier emphasized that the investment accounting exercise only makes sense if you can find public investment projects with a positive rate of return.  He said the Fund 
could usefully help the GoB re-build its project-evaluation 
capacity, which has eroded.  This would have the happy 
knock-on effect of helping the GoB capacity to evaluate 
projects proposed under the prospective Public-Private-Partnerships law, which is still pending in Congress. 
 
7. (C) Comment:  It appears that the Finance Ministry, and 
maybe the GoB more broadly, hope to use the Fund pilot 
project for political cover as it works to change the 
expenditure/investment mix within existing financial 
constraints.  Maintaining some level of IMF involvement 
through this pilot project would also help the GoB reassure 
the markets that it will remain fiscally responsible even as 
it looks to increase investment spending. 
DANILOVICH