Fiscal policy in the pandemic



The current fiscal policy pattern in the country contributes, to a large extent, to the progress of the pandemic

A consensus was established around Covid-19, forming an understanding among economists and public policy makers regarding the need for comprehensive and incisive government actions to mitigate and counteract its health, social and economic effects, recognized as of great extension. and relatively long. The position taken by the International Monetary Fund (IMF) in the face of the global challenges associated with the pandemic is emblematic in the sense of indicating this rare and difficult convergence. For the multilateral institution, so zealous in defending deregulated markets, the pandemic crisis experienced by the world is the worst since the Great Depression of the 1930s and, therefore, will demand exceptional and large-scale responses from national States.

In its most recent report on global economic prospects, released in April, the IMF estimated a drop of -3,0% in world GDP this year. Projections are that the pandemic will cause a shrinkage of around US$ 9 trillion in the world economy by 2021, making losses equivalent to the combined GDP of Germany and Japan. Faced with the magnitude that the pandemic crisis is assuming, the IMF – as well as other institutions that are part of global governance – have been advocating changes in the direction of the dominant economic policy, especially fiscal policy, which must be managed with the primary objective of strengthening systems health services, as well as cushioning the impacts of the economic slowdown on the product, employment and family income. Furthermore, fiscal policy must be oriented towards boosting effective demand, with the aim of not only mitigating recessive trends, but also establishing more promising bases in advance so that the post-pandemic economic recovery can be faster.

From this perspective, budgetary health as the main parameter of fiscal management was not abandoned, but circumstantially went into the background, not least because, according to the IMF, the deterioration of public accounts will be inevitable this year, reaching global proportions. Estimates are that the consolidated fiscal deficit of the public sector in 2020 will reach 9,9% of world GDP, meaning more than triple the annual average of 3,2% observed since 2012 – the beginning of the statistical series. In the case of Brazil, IMF projections are for a GDP retraction of -5,3% and a consolidated fiscal deficit of 9,3% of GDP in 2020.

Tax policy in Brazil

In this transformed context of crisis, attention is drawn to the behavior of those responsible for Brazilian fiscal policy, who seem oblivious to the rapid changes underway and persist in the same lines of action as before the outbreak of the pandemic, making budgetary and financial management remain under the main orientation of ensuring a trajectory of the public debt that is considered sustainable in intertemporal terms. Thus, even in the midst of a pandemic, Brazilian fiscal policy maintains its virtually sole priority, which is to defend solvency and guarantee the liquidity of the public debt, by generating primary results that are compatible with this fundamental objective.

The budget execution reports for the second two months of the year, the initial moment of the pandemic's advance in the country, show that, in general, the federal and subnational governments had as their main strategy the mitigation of the impacts of the crisis on their finances, which had already were in disequilibrium, leaving actions to face the health, social and economic effects of Covid-19 in the background.

central government

This lesser importance given to the pandemic within the scope of fiscal policy can be inferred from the evolution of some central government budget indicators. It should be noted, initially, that of the primary deficit of R$ 114 billion accounted for by the central government in the second two months, 81,5% was generated in April, one month after the outbreak of the pandemic crisis in the country, indicating the slowness of the Federal Executive in forwarding the emergency measures necessary to face Covid-19.

In fact, the available information shows that, only in April, the central government expanded at a greater pace its expenditures to face the pandemic. Costing expenses were increased by almost R$ 43 billion, mainly through the opening of extraordinary credit to finance various actions (93%) and the expansion of the Ministry of Health's budget (7%). Contradictorily, investments were reduced by -1,8%, even falling by around -54% compared to what was applied in April 2019.

An important aspect to emphasize concerns the conditioning factors of the accentuated fiscal deterioration of the central government. The worsening imbalance in federal public accounts cannot be fully attributed to extraordinary expenses incurred to deal with the pandemic. Available data show that the central government's fiscal imbalances in the current financial year began to become explicit in February, before, however, the outbreak of the pandemic crisis and the Executive's belated reaction to the new adverse health and economic conditions that the country began to face. . Furthermore, the fiscal deterioration between January and February, equivalent to a loss in the primary result of R$70 billion, was practically the same as that verified between March and April, which was R$71,7 billion.

subnational governments

On the part of subnational governments, the main strategy that prevailed in fiscal management was to implement measures to compensate for the drop in revenues, by cutting and contingency spending, as indicated by an analysis of the budget execution of a sample composed of 21 capitals and 25 states – these two sample sets correspond, respectively, to 86% of the population residing in the capitals and 98% of the Brazilian population.

Faced with a -27,4% drop in tax collection in the second two months compared to the previous two months, mainly driven by the significant loss of ICMS revenues (-12,6%), state governments lowered their primary expenditures by almost R$ 80 billion, representing a decrease of -39,4% in the reference period. Other Current and Capital Expenses (OCC) were reduced by -21,8%. With this premature fiscal adjustment in the middle of the pandemic, the governors managed to reduce the primary deficit from BRL 53,1 billion to BRL 2,9 billion between the first two months of the year.

The same strategic orientation dominated the fiscal policy of the city halls of the capitals. In reaction to the -35,2% drop in tax revenues in the second two months compared to the previous two months, mainly determined by the retraction in the collection of ISS and ITBI (given that the fall in IPTU is largely seasonal) , this group of municipalities reduced primary expenditures by -65,1%, through a contraction of -64,4% in OCC. Thus, the primary deficit of R$ 24,1 billion recorded between January and February was converted into a surplus of R$ 4,7 billion in the second two months, which meant a substantial adjustment of R$ 19,3 billion in the spending structure of capitals, at a time when these large urban centers, for the most part, were experiencing the worsening of the pandemic.

federal challenge

With rising curves of contamination and deaths caused by Covid-19, which is advancing, also aggravating the economic and social conditions of the country, as indicated by the sharp increase in unemployment, this pattern of fiscal policy implemented in Brazil becomes unsustainable and points to the urgent need for changes, with the adoption of other guidelines and budget priorities, aimed at strengthening the public health system; to actions that allow socially increasing adherence to isolation; the preservation of income and employment, and the maintenance of aggregate demand, among other initiatives.

In view of the political and ideological guidelines that prevail at the federal level, antagonistic to effective, coordinated and incisive action by the state sector to mitigate and counteract the effects of the pandemic, it will be up to subnational governments to change fiscal policy in order to mitigate and reverse the progression of the humanitarian, social and economic damage produced by Covid-19.

Complementary Law No. 173, sanctioned with great delay on May 27th, almost a month after its approval by the National Congress, establishes the normative conditions for this necessary and unavoidable change in the direction of fiscal policy. In addition to contemplating federal financial assistance of BRL 60 billion for states and municipalities, LC 173/2020 changes several provisions of LC 101/2000, the Fiscal Responsibility Law (LRF), organizing a new fiscal institution of an extraordinary nature, which opens up emergency budgetary space for broader action by subnational entities in the face of the current pandemic crisis.

New fiscal institutionality

It should be noted that the LRF contains provisions that relax some prohibitions and controls on fiscal management in exceptional circumstances: both in a situation of public calamity (article 65) and prolonged economic recession (article 66). In the event of a public calamity, as long as it is recognized by the National Congress (when decreed by the Union) or by the Legislative Assemblies (if decreed by governors and mayors), the provisions and deadlines for the renewal of personnel expenses and consolidated debt to the limits set by law. Compliance with fiscal results and the obligation to limit expenditures to achieve these fiscal targets are also waived. In a recessive situation, characterized by low or negative economic growth for a period equal to or greater than four quarters, the deadlines related to the elimination of excess personnel expenses and consolidated debt are doubled.

The precepts defined in article 65 of the LRF supported many governors and mayors to decree, in March and April of this year, a state of public calamity in their states and municipalities, with the aim of enabling actions to face the pandemic. Although they make budget management more flexible, these LRF instruments are insufficient to create the fiscal space required to carry out the actions that the pandemic crisis is demanding. The devices instituted by LC 173/2020 came to fill these gaps and changed the current fiscal institutionality in the country, albeit only exceptionally and temporarily, providing governors and mayors with the necessary regulatory mechanisms to carry out expanded deficit spending essential to ensure measures effective mitigation and compensation measures for the economic and social impacts of the pandemic crisis.

With exclusive validity for the 2020 financial year, the federative program to combat the pandemic established by LC 173/2020 is structured, basically, in three main areas:

  1. Financial scope: financial obligations are mitigated, as a result of the suspension of payment of services linked to debts contracted with the Union and internal and external credit operations.
  2. Tax scope: limits, prohibitions, restrictions, deadlines and procedures for the execution of expenses (except for expenditures with personnel); amendment and contracting of credit operations, and use of outstanding amounts to be paid are suspended, opening budgetary space for the accommodation of increased expenses.
  3. Budgetary scope: Budgetary restrictions are also mitigated through the contribution of resources supplied by financial assistance provided by the Union.

The main normative instruments that allow the effectiveness of these three financial, fiscal and budgetary fronts of the program are the following:

  1. Suspension of contractual debts signed with the Federal Government under the terms of Law 9.496/1997, MP 2.185-35/2001 and MP 2.192-70/2001, which date back, respectively, to the refinancing of state and municipal debts and restructuring (privatization and sanitation) of state banks, processes carried out within the scope of the Real Plan. These debts represent the highest stocks of liabilities held by states and municipalities. As an illustration, it should be noted that the net debt of the states ended 2019 at BRL 709,7 billion, of which BRL 556,3 billion (78%) corresponded to liabilities renegotiated through Law 9.496/1997. In the case of municipalities, the net debt in the same period totaled R$64,1 billion, of which R$30,1 billion (47%) referred to liabilities linked to MP 2.185-35/2001. In addition, the obligations of municipalities with the debt renegotiated with the Union related to social security contributions were suspended (Law No. 13.485/2017). With the interruption in the payment of services arising from these liabilities, the Union is prevented from executing the contract guarantees of said debts until the end of 2020, which are constituted by state and municipal revenues. Resources related to these unpaid obligations should preferably be applied to actions to combat the pandemic. Obligations whose payment has been suspended will be incorporated into the state and municipal debt stock only in January 2022, when they will once again be regularly paid for the remaining term of the respective liabilities.
  2. Internal and external credit operations entered into with banks and multilateral institutions may be amended so that payments for services scheduled for 2020 are suspended.
  3. In the 2020 fiscal year, debt contracts guaranteed by the STN dated before March 1, 2020 and which were restructured may be securitized in the national financial system - that is: refinanced with the banks.
  4. Fundraising is authorized by way of anticipation of tax or contribution revenue whose triggering event has not yet occurred, including companies in which the Public Power directly or indirectly holds the majority of the share capital with voting rights. In these companies, the advance receipt of other types of amounts, in addition to taxes and contributions, is also authorized.
  5. Direct assumption of commitment and confession of debt or similar operation with suppliers, through issue, acceptance or endorsement of a credit instrument, are also authorized.
  6. Credit operations between federal entities are authorized, directly or indirectly, through a fund, autarchy, foundation or dependent state company.
  7. Limits, conditions and other restrictions for amendments and contracting of credit operations are suspended.
  8. Payments for refinancing municipal debts with Social Security are suspended.
  9. The collection of employers' social security contributions by city halls for their own social security systems is suspended, subject to authorization given by municipal law.
  10. Concession or application of benefit or tax incentive, based on waiver of revenue, may be made without observing its effects on the tax result target, and any compensatory increase in revenue is no longer required.
  11. Expenditure increases no longer need to be made observing its budgetary and financial adequacy with the LOA nor compatibility with the LDO and multi-year plans. Thus, expenses do not necessarily need to be covered by credit and have a specific and sufficient allocation, which may exceed the budget limits established for the current financial year.
  12. The creation of an ongoing expense (which exceeds a period of more than two years) does not need to identify its funding source, much less observe its effects on fiscal targets and/or be accompanied by a compensatory increase in revenue on a permanent basis.
  13. The contracting of expenses with financial effects in future years is authorized in the last two quarters of the mandate.
  14. Establishes financial aid to states and municipalities provided by the Union, in the amount of R$ 60 billion, divided as follows: 1) R$ 10 billion - investment in the areas of health and social assistance, of which R$ 7 billion for state governments and R $3 billion to city halls; 2) BRL 50 billion, of which BRL 30 billion for state governments and BRL 20 billion for city halls. The financial aid will be provided in four equal installments until December 2020.

In short, LC 173/2020, more than establishing financial aid to subnational entities at a critical moment of lack of budgetary resources, creates a new fiscal institutionality in the country, providing normative conditions for governors and mayors to execute expanded deficit spending, crucial to allow the implementation of incisive and comprehensive actions required to effectively face the economic, social and health effects of the pandemic crisis. In fact, the 14 points listed above open fiscal space to accommodate greater expenditures by states and municipalities beyond the financing conditions given by resources of strictly tax origin, considering that they imply the following main developments:

  1. They reduce budget constraints by redirecting revenues previously committed to debt-related financial expenses to finance other non-financial expenses (items 1, 2, 8 and 9).
  2. They expand the possibilities of raising funds from third parties, through credit operations with banks, public companies, other federative entities and suppliers (3, 4, 5, 6 and 7).
  3. They expand the possibilities of using taxes to grant tax incentives and benefits (10).
  4. They allow the expansion of expenses beyond the established budgetary limits (11 and 12).
  5. They allow the expanded use of unpaid balances (13)
  6. They inject new resources into the budget through intergovernmental transfers (14).

final comments

The analysis of the fiscal policies adopted by the central and subnational governments made it possible to verify that, even in the challenging and exceptional context of the pandemic, the parameters applied in the management of public finances did not change, maintaining the balanced budget orientation prior to the crisis. Under this guideline, actions to face the health, social and economic effects of Covid-19 were subordinated to the financing conditions given primarily by the tax bases, whose retraction at the beginning of the year, caused by the advance of the pandemic situation itself, ended up restricting the mitigating and compensatory measures for the impacts of the crisis.

Thus, it is possible to say that this current fiscal policy pattern in the country contributes, to a large extent, to the advancement of the pandemic, considering that the actions adopted, although they may point in the right direction, become structurally restricted, implying in shortcomings and weaknesses.

Due to the growing humanitarian, social and economic damage that the advance of Covid-19 is producing in the country, it is decisive and urgent to change this pattern of fiscal policy, which is incompatible with the extension of the crisis in full development. The federal government has already demonstrated its ineptitude, incapacity and, more than that, its unwillingness and inertia to face the pandemic crisis, leaving governors and mayors with the task of leading national initiatives to combat Covid-19.

LC 173/2020 provides subnational governments with broader fiscal instruments, which allow the execution of expanded deficit spending and, therefore, open budgetary space to accommodate the actions that may be necessary to face the health, social and economic effects of the crisis pandemic. The institutional conditions for a different fiscal policy are in place, making government decisions guided by strict principles of budgetary austerity unjustifiable.

*Danilo Jorge Viera holds a PhD in applied economics from IE-UNICAMP.



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