The Political Economy of Upgrading Regimes: Brazil and beyond 3031340019, 9783031340017

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The Political Economy of Upgrading Regimes: Brazil and beyond Michael Schedelik

International Political Economy Series

Series Editor Timothy M. Shaw , University of Massachusetts Boston, Boston, MA, USA; Emeritus Professor, University of London, London, UK

The global political economy is in flux as a series of cumulative crises impacts its organization and governance. The IPE series has tracked its development in both analysis and structure over the last three decades. It has always had a concentration on the global South. Now the South increasingly challenges the North as the centre of development, also reflected in a growing number of submissions and publications on indebted Eurozone economies in Southern Europe. An indispensable resource for scholars and researchers, the series examines a variety of capitalisms and connections by focusing on emerging economies, companies and sectors, debates and policies. It informs diverse policy communities as the established trans-Atlantic North declines and ‘the rest’, especially the BRICS, rise. NOW INDEXED ON SCOPUS!

Michael Schedelik

The Political Economy of Upgrading Regimes: Brazil and beyond

Michael Schedelik Institute of Political Science Goethe University Frankfurt Frankfurt, Hesse, Germany

ISSN 2662-2483 ISSN 2662-2491 (electronic) International Political Economy Series ISBN 978-3-031-34001-7 ISBN 978-3-031-34002-4 (eBook) https://doi.org/10.1007/978-3-031-34002-4 © The Editor(s) (if applicable) and The Author(s), under exclusive license to Springer Nature Switzerland AG 2023 This work is subject to copyright. All rights are solely and exclusively licensed by the Publisher, whether the whole or part of the material is concerned, specifically the rights of translation, reprinting, reuse of illustrations, recitation, broadcasting, reproduction on microfilms or in any other physical way, and transmission or information storage and retrieval, electronic adaptation, computer software, or by similar or dissimilar methodology now known or hereafter developed. The use of general descriptive names, registered names, trademarks, service marks, etc. in this publication does not imply, even in the absence of a specific statement, that such names are exempt from the relevant protective laws and regulations and therefore free for general use. The publisher, the authors, and the editors are safe to assume that the advice and information in this book are believed to be true and accurate at the date of publication. Neither the publisher nor the authors or the editors give a warranty, expressed or implied, with respect to the material contained herein or for any errors or omissions that may have been made. The publisher remains neutral with regard to jurisdictional claims in published maps and institutional affiliations. Cover illustration: RBFried/iStockphoto This Palgrave Macmillan imprint is published by the registered company Springer Nature Switzerland AG The registered company address is: Gewerbestrasse 11, 6330 Cham, Switzerland

I dedicate this work to Johanna Palme who did not live to see it finished. She supported me throughout my entire life and taught me the importance of learning.

Acknowledgments

This book is the result of seven years of research which was supported by many friends and colleagues. I would like to express my gratitude to all of them. First of all, I want to thank Andreas Nölke, my advisor and mentor, whitout whose sustained guidance and support this project would not have been possible. He is a true scholar who always finds the time for advice and help, in spite of countless obligations. I also want to thank my colleagues and friends at Goethe University, Christian May and Daniel Mertens, who exemplify the true colleague, rarely seen in academic circles. The four of us formed a research group in two projects, one on the trajectories of state capitalism in Brazil and India, funded by the German Research Foundation (DFG) (grant no. NO 855/3-3), and one on the institutional determinants of industrial innovation in Brazil, funded by the German Academic Exchange Service (DAAD). I am deeply grateful to all of them for introducing me to the world of academia. Furthermore, I want to thank Brigitte Holden, my friend and companion, Robin Jaspert, Johannes Petry, and the other members of the IPE team at Goethe University. I am also indebted to my friend Tim Engartner for his unflagging support throughout the project. He is another true scholar who nurtures researchers and never lets them down. To him and his team, especially Julia Backhaus, Mathias Eichhorn, Ilse Heck, May Jehle, Maria Theresa Meßner, and Lisa-Marie Schröder, I am deeply grateful.

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ACKNOWLEDGMENTS

During the project, I benefitted greatly from conversations with many students and colleagues on several occasions. Andreas and the members of his colloquium, especially Marcel Heires, Aida Roumer, Peter Volberding, Anton Walsch, and Marcel Zeitinger, closely read earlier versions of the manuscript and provided constructive and very helpful comments. Several dozen interviewees in Brazil, listed in the appendix, provided invaluable insights during field research in Brasília, Rio de Janeiro, and São Paulo in the spring of 2017 and the fall of 2019. Moíses Balestro and Antonio Botelho were very helpful in arranging interviews. They and their students also participated in a workshop at Goethe University where we discussed the topics of my research in depth. I am deeply grateful for that. Audiences at DVPW conferences (Frankfurt 2018, 2019), at SASE’s annual conferences (New York 2019, Amsterdam 2020–2022), WINIR’s annual conference (Lund 2019), SVOC conferences (Budapest 2020, 2021), IPE workshops (Berlin 2021, 2022), the Postgraduate Program in Economic Sociology (Niteroi 2019) and the Institute for Studies in Industrial Development (New Delhi 2018) provided helpful comments on earlier versions of parts of the manuscript. In the spring of 2020, I had the chance to visit Ben Ross Schneider at MIT’s Political Science Department. I am deeply indebted to him for this unique opportunity. I also want to express my deepest gratitude to Jeffry Frieden and Kathleen Thelen for letting me attend their graduate seminars at Harvard University and MIT. Gabrielle Bergen-Schmid, Antonio Botelho, Alexander Ebner, Judit Ricz, Ben Ross Schneider, and Tobias ten Brink closely read an earlier version of the book and provided invaluable feedback. Finally, I would like to thank Timothy Shaw, the editor of this series, and Anca Pusca at Palgrave for their advice and support throughout the final stages of the process. Last but not least, I want to thank my family for their inspiration and love. My parents, Ingrid and Dieter Schedelik, stepped in when kindergartens shut down during the Covid-19 pandemic. Without their continuous and loving support, this book would not have been written. My beloved wife, Franceline Delgado, and my children, Alma and Noah, traveled with me to Brazil and Cambridge and provided welcome family diversions. My grandmother, Johanna (Hanni) Palme, died shortly before I finished the book which I dedicate to her.

Praise for The Political Economy of Upgrading Regimes: Brazil and beyond

“In his wonderfully researched and tightly argued book, Michael Schedelik explains why the Brazilian development strategy of significantly raising the level of technological development in order to be less dependent on raw material exports was not successful, based on his concept of upgrading regimes. It will be a must-read for students of innovation processes in emerging economies for many years to come.” —Andreas Nölke, Professor of Political Science, Goethe University Frankfurt “Innovation in Brazil has been a topic of extensive research, but rarely before Michael Schedelik’s book has it been done as comprehensively with such a wealth of empirical evidence. It is a deep dive into Brazilian political economy, but deftly connected to major theoretical debates on growth models, varieties of capitalism, innovation systems, and more.” —Ben Ross Schneider, Ford International Professor of Political Science and Director of the MIT-Chile Program, Massachusetts Institute of Technology “Innovation studies and comparative political economy meet in a very productive way in this important book. Schedelik succeeds in explaining

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the discrepancy between high R&D spending and mediocre innovation performance under the Workers’ Party governments in Brazil. It is a very lucid and compelling read.” —Tobias ten Brink, Professor of Chinese Economy and Society, Constructor University, Bremen “This important book makes a path breaking contribution to the study of comparative political economy of development in emerging economies by advancing the promising concept of upgrading regimes. The author skilfully deals with the trap of innovation policy promises in the middle income trap and technological upgrading literatures by bringing politics and institutions squarely in these debates. By using this innovative framework to explain the political economy of upgrading in Brazil under the Workers’ Party governments, he produces novel results which will certainly shape future analytical developments. In particular, this holds true for the illuminating and tightly argued discussion of mutually reinforcing negative institutional complementarities. This notion suggests that beyond being mere obstacles to upgrading, they can be seen as markers for a pragmatic reflection on the misleading linear view of innovation in upgrading discourses and practices in emerging countries. It is a provocative must read for those who strive to avoid simplistic structural and facile political explanations of upgrading development.” —Antonio José Junqueira Botelho, Professor of Comparative Political Economy, IUPERJ Universidade Candido Mendes, Rio de Janeiro “This highly recommended book provides an innovative perspective on technological upgrading and industrial policy in developing and emerging countries. Drawing on key debates and analytical concepts in political economy, economic sociology, and development economics, it offers an original and timely analysis of the political economy of upgrading in Brazil. It stands to become an essential read for anyone researching the middle-income trap problematique, industrial policy, and innovation in emerging countries. This book will be of interest to researchers and policy makers alike.” —Judit Ricz, Associate Professor of Political Economy, Corvinus University of Budapest

Contents

Part I Theory and Frames 1

2

The Quest for Technological Upgrading in Emerging Economies 1.1 Introduction 1.2 Research Gap 1.3 Competing Perspectives 1.4 The Theoretical Argument 1.5 Contributions to the Literature 1.6 Plan of the Book References Theoretical Framework: The Political Economy of Upgrading Regimes 2.1 Introduction 2.2 Innovation Systems 2.3 Comparative Capitalism 2.4 Towards a Combined Approach to Technological Upgrading 2.5 Conclusion References

3 3 8 12 16 19 21 22 31 31 32 36 46 50 51

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CONTENTS

Part II Technological Upgrading in Brazil: Achievements and Challenges 63 63 64 70 81 90 92

3

Evidence on Innovation Capacity Building 3.1 Introduction 3.2 General Analysis 3.3 Sectoral Analysis 3.4 Firm-Level Analysis 3.5 Conclusion References

4

Political Coordination and Socioeconomic Coalitions 4.1 Introduction 4.2 Institutions and Policies for Innovation: An Overview 4.3 Political Coalition Dynamics 4.4 State–Business Relations 4.5 State–Society Relations 4.6 Dominant Social Bloc in Brazil, 2003–2016 4.7 Conclusion References

95 95 96 102 112 122 128 131 133

5

Research and Development and Competition Policy 5.1 Introduction 5.2 The R&D Regime 5.3 Competition Policy and Market Structure 5.4 Major R&D Tax Incentive Schemes and Their Effects 5.5 Conclusion References

143 143 144 153 156 160 161

6

Finance 6.1 Introduction 6.2 Main Characteristics of the Financial System 6.3 Credit and Equity Markets 6.4 Subsidized Credit Lines for Innovation and Their Effects 6.5 Conclusion References

167 167 168 174

Education, Training, and Labor 7.1 Introduction 7.2 Education and Training

191 191 192

7

180 184 185

CONTENTS

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7.3 Labor Relations 7.4 Labor Market 7.5 Conclusion References

196 199 203 204

8

International Integration 8.1 Introduction 8.2 Trade Regime 8.3 Investment Regime 8.4 Conclusion References

209 209 210 219 223 224

9

Macroeconomic Management and Domestic Demand 9.1 Introduction 9.2 Monetary and Exchange Rate Regime 9.3 Fiscal Regime 9.4 Social Policy as Demand Management 9.5 Conclusion References

229 229 230 235 239 242 244

Part III Comparative Perspectives 10

Complementarities and Comparisons 10.1 Introduction 10.2 Institutional Complementarities 10.3 Brazil in Comparative Perspective 10.4 Conclusion References

251 251 252 258 265 266

11

Conclusions 11.1 Introduction 11.2 Technological Upgrading in Brazil: The Main Findings 11.3 Empirical and Theoretical Research Implications 11.4 Economic Policy Implications References

267 267 268 273 276 277

Appendix: Interviews

279

Index

283

Abbreviations

ABDE ABDI ABIFINA ABINEE ADTEN ANEEL ANP ANVISA BCB BNDES Bovespa BRICS CADE CAMEX CAPES CC CDES Cenpel Cenpes CGEE CME CNAE CNDI

Associação Brasileira de Desenvolvimento Agência Brasileira de Desenvolvimento Industrial Associação Brasileira das Indústrias de Química Fina, Biotecnologia e suas Especialidades Associação Brasileira da Indústria Elétrica e Eletrônica Programa de Apoio ao Desenvolvimento Tecnológico da Empresa Nacional Agência Nacional de Energia Elétrica Agência Nacional do Petróleo, Gás Natural e Biocombustíveis Agência Nacional de Vigilância Sanitária Banco Central do Brasil Banco Nacional do Desenvolvimento Econômico e Social Bolsa de Valores de São Paulo Brazil, Russia, India, China, and South Africa Conselho Administrativo de Defesa Econômica Câmara de Comércio Exterior Campanha Nacional de Aperfeiçoamento de Pessoal de Nível Superior Comparative Capitalism Conselho de Desenvolvimento Econômico e Social Centro de Pesquisas de Energia Elétrica Centro de Pesquisas Leopoldo Américo Miguez de Mello Centro de Gestão e Estudos Estratégicos Coordinated Market Economy Classificação Nacional de Atividades Econômicas Conselho Nacional de Desenvolvimento Industrial xv

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ABBREVIATIONS

CNI CNPEM CNPq CPE CR CUT DARPA DME ECE ECLAC EMBRAPA EMBRAPII ENCTI FAPESP FDI FGTS FGV FIESP FINEP Fiocruz FME FNDCT FNHIS GCI GDP GFC GNI GVC HHI HME IBGE ICT IDB ILO IME IMF INEP IPEA IPI IPO IPT IS

Confederação Nacional da Indústria Centro Nacional de Pesquisa em Energia e Materiais Conselho Nacional de Pesquisa Comparative Political Economy Concentration Ratio Central Única dos Trabalhadores Defense Advanced Research Projects Agency Dependent Market Economy Emerging Capitalist Economy Economic Commission for Latin America and the Caribbean Empresa Brasileira de Pesquisa Agropecuária Empresa Brasileira de Pesquisa e Inovação Industrial Estratégia Nacional de Ciência, Tecnologia e Inovação Fundação de Amparo à Pesquisa de São Paulo Foreign Direct Investment Fundo de Garantia do Tempo de Serviço Fundação Getúlio Vargas Federação das Indústrias do Estado de São Paulo Financiadora de Estudos e Projetos Fundação Oswaldo Cruz Family Market Economy Fundo Nacional de Desenvolvimento Científico e Tecnológico Fundo Nacional de Habitação de Interesse Social Governing Cost Index Gross Domestic Product Global Financial Crisis Gross National Income Global Value Chain Herfindahl–Hirschman Index Hierarchical Market Economy Instituto Brasileiro de Geografia e Estatística Information and Communications Technology Inter-American Development Bank International Labour Organization Instituto Militar de Engenharia International Monetary Fund Instituto Nacional de Estudos e Estatísticas Educacionais Anísio Teixeira Instituto de Pesquisa Econômica Aplicada Imposto sobre Produtos Industrializados Initial Public Offering Instituto de Pesquisas Tecnológicas Innovation System

ABBREVIATIONS

ISI ISIC LME MCTI MDIC MEC MEI MERCOSUR MFN MME MNE MSTQ NME NSI OECD PACTI PBM PC do B PDP PDP PDT PFL PINTEC PISA PITCE PL PMDB PME PNAD PR PRB PSB PSD PT PTB R&D RCA RCT RFEPCT RTA SEBRAE Selic

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Institutos SENAI de Inovação International Standard Industrial Classification of All Economic Activities Liberal Market Economy Ministério da Ciência, Tecnologia e Inovações Ministério do Desenvolvimento, Indústria, e Comércio Exterior Ministério da Educação Mobilização Empresarial pela Inovação Mercado Común del Sur Most Favored Nation Mixed Market Economy Multinational Enterprise Metrology, Standardization, Testing, and Quality Assurance Network Market Economy National System of Innovation Organisation for Economic Cooperation and Development Plano de Açao para Ciência, Tecnologia e Inovação Plano Brasil Maior Partido Comunista do Brasil Parcerias para o Desenvolvimento Produtivo (Health) Política de Desenvolvimento Produtivo Partido Democrático Trabalhista Partido da Frente Liberal Pesquisa Industrial de Inovação Tecnológica Programme for International Student Assessment Política Industrial, Tecnológica e de Comércio Exterior Partido Liberal Partido do Movimento Democrático Brasileiro Patrimonial Market Economy Pesquisa Nacional por Amostra de Domicílios Partido da República Partido Republicano Brasileiro Partido Socialista Brasileiro Partido Social Democrático Partido dos Trabalhadores Partido Trabalhista Brasileiro Research and Development Revealed Comparative Advantage Randomized Controlled Trial Rede Federal de Educação Profissional, Científica e Tecnológica Revealed Technological Advantage Serviço Brasileiro de Apoio às Micro e Pequenas Empresas Sistema Especial de Liquidação e Custodia

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ABBREVIATIONS

SENAC SENAI SME SME ST&I TC UFRJ UNCTAD UNESCO UNICAMP UNIDO VoC WTO

Serviço Nacional de Aprendizagem Comercial Serviço Nacional de Aprendizagem Industrial Small and Medium-Sized Enterprise State-Permeated Market Economy/State-Enhanced Market Economy Science, Technology, and Innovation Technological Capability Universidade Federal do Rio de Janeiro United Nations Conference on Trade and Development United Nations Educational, Scientific and Cultural Organization Universidade Estadual de Campinas United Nations Industrial Development Organization Varieties of Capitalism World Trade Organization

List of Figures

Fig. 1.1 Fig. 1.2 Fig. 1.3 Fig. 2.1

Fig. 3.1 Fig. 3.2 Fig. 3.3 Fig. 3.4 Fig. 3.5 Fig. 3.6 Fig. 3.7 Fig. 3.8 Fig. 3.9

Gross national income per capita of upper middle-income countries, 2000 and 2017 R&D expenditures of upper middle-income countries in relation to GDP per capita, 2010–2017 Innovation performance of upper middle-income countries in relation to GDP per capita, 2017–2019 An integrated institutional framework for the study of technological upgrading in emerging economies: upgrading regimes Annual growth of gross domestic product, employment, and gross capital formation, in percent, 1990–2015 Relative contributions to GDP growth, 2001–2015 Contribution of factor inputs to GDP growth, in percent, 1990–2014 Annual growth of productivity indicators, in percent, 1990–2014 Value added per sector as a share of GDP, in percent, 1990–2015 Productivity levels (value added per worker) across sectors, 2000–2013 Decomposition of annual growth of labor productivity (by sector), in percent, 1997–2014 Brazil’s revealed technological advantage, 1989–1997 and 2007–2015 Brazil’s revealed comparative advantage, 1990–2015

5 9 10

49 65 67 68 69 71 73 75 77 78

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LIST OF FIGURES

Fig. 3.10 Fig. 3.11 Fig. 4.1 Fig. 4.2 Fig. 4.3 Fig. 4.4 Fig. 5.1 Fig. 5.2 Fig. 6.1 Fig. 6.2 Fig. 6.3 Fig. 6.4 Fig. 6.5 Fig. 7.1 Fig. 7.2 Fig. 8.1 Fig. 8.2 Fig. 8.3

Fig. 9.1 Fig. 9.2 Fig. 10.1 Fig. 10.2 Fig. 10.3 Fig. 10.4 Fig. 10.5

The nature of innovative activities of Brazilian companies, in percent, 2003–2017 Kinds of innovative activities and their relevance for Brazilian companies, in percent, 2001–2017 Fractionalization of the Brazilian Congress, 1990–2014 Partisanship and attitudes towards the PT in the Brazilian electorate, 1989–2014 Public assessment of Lula da Silva’s government, 2003–2010 Public assessment of Dilma Rousseff’s government, 2011–2016 Expenditures on R&D, in million R$, 2000–2016 Sources of knowledge and their relevance for innovative Brazilian companies, in percent, 2003–2017 Market share of largest banks, by segment, 2015 Concentration of the Brazilian banking sector and degree of competition, 2000–2014 Bank lending and profit margins, 2000–2016 Credit operations by type, in billion R$, 2000–2015 Disbursements of credit for innovation, by agency, 2007–2015 Wages and minimum wage, 2002–2015 Real (minimum) wage growth and labor income share, 2003–2015 Prices of primary commodities, 1990–2016 Trade, as a percentage of GDP Inward and outward foreign direct investment, flows and stocks, in US$ at current prices in million, 1990–2015 Interest rates, inflation rate, and inflation targets, 2000–2016 Government revenues, expenditures, and budget balance, as a percentage of GDP, 2000–2016 Institutional complementarity I: macroeconomics and corporate finance Institutional complementarity II: low-skill trap Institutional complementarity III: competition, protectionism, and national champions Institutional complementarity IV: political system and national champions Institutional complementarity V: corruption and R&D

85 86 104 124 127 127 145 152 171 172 175 177 181 201 202 215 218

222 231 236 253 254 255 257 258

LIST OF FIGURES

Fig. 10.6

Fig. 10.7 Fig. 10.8 Fig. 10.9 Fig. 10.10 Fig. 10.11 Fig. 11.1

R&D expenditures in relation to party institutionalization in large middle-income countries R&D expenditures in relation to corruption in large middle income countries R&D expenditures in relation to human capital in large middle-income countries R&D expenditures in relation to FDI inward stock of large middle-income countries Country clustering of large emerging economies I: Foreign direct investment and trade Country clustering of large emerging economies II: Economic regulation and social protection The Brazilian upgrading regime, 2000–2015

xxi

259 260 261 262 263 264 274

List of Tables

Table 3.1 Table 4.1 Table 4.2 Table 4.3 Table 5.1 Table 8.1

Sectoral distribution of product and/or process innovations, 1998–2017 Institutions for innovation by type of function Cost of coalition management, averages per term, 1995–2016 Major corporate donors in the 2010 presidential campaign Researchers involved in R&D activities, by sector, 2000–2014 Summary of Brazil’s MFN tariff rates, averages in percent, 2004–2017

84 99 107 119 149 213

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PART I

Theory and Frames

CHAPTER 1

The Quest for Technological Upgrading in Emerging Economies

1.1

Introduction

A debate on the growth performance of middle-income countries has gained traction in academia and development multilaterals. This debate posits the existence of a so-called “middle-income trap” (Gill and Kharas 2007; Kharas and Kohli 2011; see Im and Rosenblatt 2013; Agénor 2017; Aiyar et al. 2018 for overviews of the discussion). Empirically, this notion refers to growth slowdowns at certain income levels that persist over time (Eichengreen et al. 2013) and the lack of cross-country convergence of income levels between developing and advanced economies (Ye and Robertson 2016; Johnson and Papageorgiou 2020). Conceptually, it indicates the loss of competitiveness in labor-intensive, low-cost production due to productivity slowdowns and rising wages (Agénor et al. 2012, 2). Middle-income countries are, accordingly, unable to compete with lower-cost economies in simple manufacturing. However, they still lack the capacity to manufacture more sophisticated high-technology products to compete with advanced economies (Kharas and Kholi 2011, 282). Despite prominent critics of the concept (e.g. Pritchett and Summers 2014; Economist 2017), the notion of a “trap” has added some urgency to the undeniable necessity for middle-income countries to improve technology and innovation capacities in order to move into a high-income

© The Author(s), under exclusive license to Springer Nature Switzerland AG 2023 M. Schedelik, The Political Economy of Upgrading Regimes: Brazil and beyond, International Political Economy Series, https://doi.org/10.1007/978-3-031-34002-4_1

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status (Brook et al. 2014). Thus, a consensus has evolved that “technological upgrading” takes top priority in the development trajectories of emerging economies (Vivarelli 2016; Fagerberg and Srholec 2017). Upgrading, thereby, refers to “the capacity of a firm to innovate to increase the value added of its products and processes” (Giuliani et al. 2005, 550). Beyond this, however, the idea of ‘catching up’ in innovative activity at the country level should not be seen only as a matter of generally raising the incidence of innovation within firms and industries in the existing structure of the economy. It is also about changing the structure of the economy toward an increasing proportion of economic activity in sectors that are typically associated with relatively high levels of innovative activity. (Bell and Figuereido 2012, 40, original emphasis)

Policies fostering diversification, learning, and innovation, as well as a complementary institutional infrastructure, are widely regarded as necessary preconditions for these catch-up processes (Griffith 2011, 40–2; Doner and Schneider 2016; Lin and Wang 2020). How policies should be designed, and which institutions prioritized is, however, still far from clear and remains a highly debated topic in the development literature. The aim of this book is to contribute to this ongoing discussion. Although the middle-income trap might not be an economic law (Doner and Schneider 2016), the challenges and pitfalls associated with it are real (Canuto 2019). Figure 1.1 plots the gross national income per capita of upper middle-income countries in 2000 and 2017, as an indicator of their success in reaching higher income levels. Note that this period, until the global financial crisis (GFC) of 2007/2008, is part of the high phase of globalization, characterized by an expanding global economy (Baldwin 2016). Prospects for growth should have been bright. And indeed, upper middle-income countries, on average, fared well, being significantly richer at the end of the period as compared to the beginning (countries above the trend line). However, there is a sizable number of countries that barely progressed, being only marginally richer two decades later (countries below the trend line). Here, the notion of a “trap” comes into play. Although middle-income countries experience episodes of high growth, these episodes tend to be followed by rapid growth decelerations or collapses, associated with boom-bust cycles (Jones and Olken 2008; Kar et al. 2013).

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Log (GNI per capita PPP) 2017

4.6 ROU

4.5

RUS BGR

4.4 4.3

GNQ

4.2 4.1

IDN

4

SLV

3.9

PER

KAZ

LTU EST POL SVK PAN TUR HRV MYS ARG CHL URY

CRI BLR THA MDV LBN SRB DOM GRD IRN GAB COL BRA SUR ZAF DMA DZA IRQ

SWZ GTM

5

BRB

JAM

BLZ

3.8 3.7 3.6

3.7

3.8

3.9

4

4.1

4.2

Log (GNI per capita PPP) 2000

Fig. 1.1 Gross national income per capita of upper middle-income countries, 2000 and 2017 (Note For all upper middle-income countries as defined by the World Bank with available data. Source World Development Indicators)

As shown in Fig. 1.1, Brazil clearly falls in the trap category, ending the second decade of the new millennium only slightly richer than at its beginning. For this period, Brazil is an especially intriguing case as the country keeps on hitting the headlines of international newspapers—for its rapid economic development and social progress under the charming president and former union leader Luiz Inácio Lula da Silva (known as Lula), co-founder of the Brazilian Workers’ Party (Partido dos Trabalhadores, PT) and reelected president of the country since 2023, for violent street protests, rampant corruption scandals, an impeachment drama of the country’s first female president and former left-wing guerilla fighter Dilma Rousseff, and the election of Jair Bolsonaro, the far-right populist who has gained a strong international reputation for incompetence and mismanagement. In only a few years, the country turned from an economic stalemate, with recurring fiscal and current account problems in the early 2000s, to an “economic superpower” that finally “took off” (Economist 2009) in the course of the 2000s and early 2010s, spurring a spate of euphoric observers that praised its growth-cum-equity success story (e.g. Fishlow 2011; Montero 2014). In a similarly short time span, the country fell from being the global economy’s shining star, member of the famous

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BRICS club of emerging economies with bold political aspirations, and the host of two mega sports events, into one of the worst economic and political crisis in its recent history. Accordingly, recent observers are more reserved and tend to highlight the shortcomings of Brazilian political and economic development in the twenty-first century (Spilimbergo and Srinivasan 2018; Amann 2020; Taylor 2020). Brazil’s experience has not been unique, however. The late 1990s and early 2000s witnessed a “Left Turn” in Latin American politics with the resurgence of new forms of developmentalism and state involvement in the economy, partially replacing the dominant neoliberal agenda in an attempt to leave the continent’s “lost decade” behind (Kingstone 2018). Within this broader trend, Brazil has stood out from the start. Not only for being the traditional economic powerhouse of the region but mainly for showing traits of a rather hybrid version between a thoroughly marketand a state-directed economic model, a more pragmatic version of the developmental experiments of its Spanish-speaking Latin American peers (Ban 2013). This model rested on several institutional pillars and political measures that have been articulated under the umbrella of “New Developmentalism” (or novo desenvolvimentismo) (Bresser-Pereira 2016). In a nutshell, they consisted of “[1] the adoption of temporary measures of fiscal and monetary expansion to accelerate growth and raise the productive potential of the economy; [2] the acceleration of social development through the expansion of the income transfer programmes and a rising minimum wage; and [3] an increase in public investment and the recovery of the role of the state in long-term planning” (Barbosa and Souza 2010, 69–70, cited in Morais and Saad-Filho 2012, 793), meanwhile preserving macroeconomic stability and benefitting from a booming commodities sector (Amann and Barrientos 2016, 8). Similar to other Latin American countries, Brazil implemented a series of industrial and innovation policies in the 2000s, after more than a decade of being practically absent from the policy agenda (Devlin and Moguillansky 2012). In fact, a strong focus on industrial policies via the national development bank (Banco Nacional do Desenvolvimento Econômico e Social, BNDES) was one of the main pillars of the evolving economic model in Brazil (Almeida et al. 2019). The growth trajectory of the 2000s inspired a still ongoing debate about the effectiveness of these policies (e.g. Musacchio and Lazzarini 2014; Suzigan et al. 2020). In hindsight, and after a serious recession alongside several major corruption scandals, the overall achievements of the PT governments are

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intensively debated (Amann and Barrientos 2016; Loureiro and SaadFilho 2019; Prates et al. 2020; Gomes da Silva and Fishlow 2021). Its critics argue that the whole growth spurt of the 2000s can be boiled down to the good fortune of having its major export items—iron ore and agricultural products—witnessing dramatically rising prices due to higher demand from China and India (see, e.g., ECB 2016; Sabatini 2016). These commentators trace the present economic misery to the same credentials applauded by its supporters: fiscal and monetary expansion, massive social transfers, and a prominent role for industrial policy (Spilimbergo and Srinivasan 2018). A more benevolent view holds that the PT model was not inherently flawed, but that its fiscal base was unsustainable (Hakim 2016). Hence, whereas for some, Brazil’s neodevelopmentalist project, despite its shortcomings, remains a role model for other developing and emerging economies around the globe (Barrientos and Amann 2014), for others, it is part of the “rot at the heart of the Brazilian economy” that needs overhaul (Sabatini 2016). Therefore, it is time to assess the strengths and weaknesses of the model, as “things were never as great as they seemed in the times of euphoria nor as bad as doomsayers despaired before and after” (Schneider 2016, 1). Hence: What is its overall legacy after all? Furthermore, the recent Brazilian experience of state-led, inwardoriented development contrasts sharply with the common narrative of export-led growth, associated with the East Asian “tiger states” in the 1980s or the rise of China in the 2000s, highlighting the importance of global value chains (Pipkin and Fuentes 2017). In the current situation of rising economic nationalism and the ongoing Covid-19 pandemic, we are witnessing a reshuffling of value chains and a rejuvenation of industrial policies and state interventions across the globe (Aiginger and Rodrik 2020; Chang and Andreoni 2020; Mazzucato 2021). These developments are situated in a broader debate about (varieties of) state capitalism and its potential as a viable alternative to the Western economic model of liberal capitalism (Nölke 2014; Kurlantzick 2016; Wright et al. 2021). Therefore, a systematic appraisal of the PT experiment in Brazil is a timely endeavor. It is a long-established fact that sustained growth episodes do not happen automatically (Hausmann et al. 2005; Jones and Olken 2008). This is even more evident with regard to the structural shifts associated with the transition from the middle-income stage of development into the high-income stage (Canuto 2019). At this stage, huge investments on a

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broad front are needed to upgrade the institutions of the economy, especially for human capital, financial services, and research and development (R&D) (Doner and Schneider 2016). In determining the allocation of scarce fiscal resources for long-term investments, distributional conflicts and politics loom large (Pritchett et al. 2017). Leaving the long debate about the effects of regime type (democracy vs. autocracy) aside (see, e.g., Olson 1993; Acemoglu and Robinson 2012; Sen et al. 2018), we observe substantial variation in the efforts middle-income countries put into upgrading the institutional infrastructure of their economies (see Fig. 1.2). Taking expenses on R&D as a percentage of GDP as a proxy for the (political) measures towards technological upgrading, we see a clear correlation with the level of GDP per capita, as one might expect. However, there are some obvious outliers. Kazakhstan, for instance, is at the lower end despite a relatively high level of GDP per capita, and China is at the higher end, having a relatively low level of GDP per capita. Interestingly, Brazil stands out as the country with the second-highest share of R&D expenditures in relation to GDP. With the dismal growth trajectory of the last two decades in mind, this is a rather puzzling fact. What happened to these considerable efforts? Why did they not translate into a more sustainable growth path? This book aims to resolve this puzzling outcome. In doing so, the study contributes to the debate on the middle-income trap and the challenges for emerging economies to improve technology and innovation capacities.

1.2

Research Gap

In the burgeoning literature on technological upgrading and the middleincome trap, Brazil features prominently (Im and Rosenblatt 2013; Doner and Schneider 2016; Ye and Robertson 2016; Lin and Wang 2020). This comes as no surprise, as there are several good reasons to focus on Brazil. Being home to 212 million people, it is one of the largest economies in the world—currently the 8th largest—and the fifth largest nation-state by territory. Moreover, Brazil is the fourth largest democratic country in the world, making it comparable to the majority of middle-income countries, e.g. India, Indonesia, Mexico, South Africa or Turkey. Furthermore, the Brazilian experience of state-led development in the past has inspired a vast comparative literature on the challenges and pitfalls of designing and implementing industrial policies (Evans 1995; Musacchio

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R&D expenditures as % of GDP

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Fig. 1.2 R&D expenditures of upper middle-income countries in relation to GDP per capita, 2010–2017 (Note For all upper middle-income countries as defined by the World Bank with available data. Source World Development Indicators)

and Lazzarini 2014; Schneider 2015a; Centeno et al. 2017). In contrast to the authoritarian experience of the East Asian “tigers”—South Korea, Taiwan, Singapore, and Hong Kong—and currently, China, Brazil is a more representative case of an upper middle-income country, featuring selected success stories alongside major failures (Schneider 2015b). As Fig. 1.3 shows, Brazil’s performance in technological upgrading and innovation capacity building matches the expected outcome for its level of development. However, in relation to the over proportional investments revealed in Fig. 1.2, Brazil’s innovation outcome is significantly below expectations. Studying the Brazilian case, therefore, promises to yield important insights into (1) the structural obstacles towards technological upgrading middle-income countries are facing in general, and (2) the challenges and pitfalls in implementing policies to overcome these barriers. However, most studies on the middle-income trap (or cross-country convergence for that matter) remain on the aggregate level, running

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Fig. 1.3 Innovation performance of upper middle-income countries in relation to GDP per capita, 2017–2019 (Note For all upper middle-income countries as defined by the World Bank with available data. Source World Development Indicators; WIPO, Global Innovation Index)

growth regressions or simple pattern matching among a series of middleincome countries (Im and Rosenblatt 2013; Ye and Robertson 2016; Fagerberg and Srholec 2017; Lin and Wang 2020). The same holds true for the related literature on growth episodes and growth determinants (Hausmann et al. 2005; Jones and Olken 2008; Kar et al. 2013). While this body of research has amply demonstrated that “institutions matter” for growth in general (Rodrik et al. 2004) and innovation in particular (Srholec 2011; Zanello et al. 2016; Fagerberg and Srholec 2017), such aggregate analyses are unable to capture a range of relevant factors which “need[…] to be illuminated by more detailed qualitative research that can dive much deeper into the particular context” (Srholec 2011, 1565). This is what the present study strives for. Studies in this line of more qualitatively oriented research either focus on firm-level analyses of the technological capabilities (TC) of emerging economy firms (Dutrénit et al. 2013; Anand et al. 2021) or institutional analyses of the socioeconomic determinants of innovation

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processes, generally associated with the notion of innovation systems (IS) (Lundvall et al. 2009; Choi and Zo 2019). However, there is a growing consensus in the literature that the IS framework, developed for advanced economies, is of only limited viability for the analysis of emerging economies, which has led to an ongoing search for more context-sensitive models (e.g. Kuhlmann and Ordóñez-Matamoros 2017; Fu 2020). In a similar vein, firm-level approaches tend to rely on a rather thin and de-contextualized notion of institutions (Jackson and Deeg 2019). Recent research, therefore, has highlighted the need to combine these accounts with the comparative capitalism (CC) research program in comparative political economy (CPE), which emphasizes the institutional diversity of modern capitalism (Allen 2013; Jackson and Deeg 2019; May and Schedelik 2021). This body of research has developed a range of context-sensitive, mid-range models of “varieties of capitalism” that account for the multi-dimensionality of innovation processes in advanced and emerging economies alike (Hall and Soskice 2001; Nölke and Vliegenthart 2009; Schneider 2013; Nölke et al. 2020; Schedelik et al. 2021). The conceptual efforts to combine the TC and IS literature with the CC research program are, however, still in its infancy. This study aims to contribute to this research gap. By addressing this gap, this book speaks to the broader institutional literature in (development) economics (North 1990; Acemoglu and Robinson 2012) and political science (Hall and Soskice 2001; Iversen and Soskice 2019), aiming to understand the determinants of long-run growth and sustainable development of capitalist societies. Thereby, the focus and the methodological approach of the book contrast sharply with the current emphasis on randomized controlled trials (RCTs) as the new “gold standard” in economics and political science, epitomized by the winners of the 2019 Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel, Abhijit Banerjee, Esther Duflo, and Michael Kremer (Banerjee and Duflo 2009). Notwithstanding the merits of the RCT research program, we argue, in line with prominent critics, that, methodologically, non-experimental evidence within context—the approach pursued here—is superior to experimental evidence from another context with regard to knowledge creation and evidence-based policy making (Deaton 2010; Ravallion 2020). Furthermore, the RCT approach of carefully evaluating specific social programs or the effectiveness of particular treatments is, conceptually, unable to account for the “big” questions of technological upgrading, structural

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change, and the middle-income trap underlying this study (Rodrik 2009; Kvangraven 2020). This book addresses these important questions by looking at the case of Brazil, a large upper middle-income country that pursued a model of state-led development at the beginning of the new millennium, investing vast sums in R&D and related expenses but with only modest outcomes. In line with the emerging literature (De Negri and Rauen 2018; Reynolds et al. 2019), this study intends to explain this empirical outcome.

1.3

Competing Perspectives

Ever since the successful catch-up growth of several East Asian economies, the prevailing paradigm has centered on how to foster competitive export industries in developing countries (World Bank 1993). Therefore, the focal point of much of the literature rests almost exclusively on the export performance of firms. This widely shared perspective has given birth to a variety of conceptual approaches tailored towards export-driven upgrading strategies. Drawing on the developmental state literature (Johnson 1982; Haggard 2018), the concept of a neo-developmental or entrepreneurial state has gained traction. It highlights the role of public policy in promoting indigenous innovation in high-technology sectors (Breznitz 2007; Mazzucato 2013). The main focus of this literature is on how to overcome supply-side constraints via state intervention in factor markets, i.e. capital, skilled labor, and technology (Brandt and Thun 2016, 79). In addition, these approaches aim to explain effective public–private cooperation and their institutional preconditions (Evans 1995; Schneider 2015a). Whereas traditional accounts emphasized the steering and sanctioning role of the state, more recent work points to its’ networking and enabling functions (Weiss 2010, 198). The literature is predominantly concerned with East and South East Asia and tries to account for the successful or unsuccessful cases of technological upgrading in the region. A common objection raised highlights the narrow focus on the capabilities of governments to promote innovative domestic firms, thereby neglecting institutional and international factors (Yeung 2014). The same holds true for the vast literature on industrial policy (Cimoli et al. 2009; Stiglitz and Lin 2013; but see Aiginger and Rodrik 2020; Chang and Andreoni 2020).

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In the highly influential global value chain (GVC) literature, the main focus lies on the insertion of domestic export-oriented firms into global value chains (Elms and Low 2013; Gereffi 2014; Pipkin and Fuentes 2017). From this perspective, technological upgrading takes place through knowledge transfers from foreign value chain leaders to their local suppliers (Gereffi 2005, 171–5). On the supply side, spillovers occur through joint ventures, forward and backward linkages in the supply chain, or outsourcing of original equipment manufacturing (Brandt and Thun 2016, 80). On the demand side, global buyers provide local firms with information and feedback on the quality of goods, production techniques, and design templates. The organization and governance of these value chains by the lead firm largely determines the learning opportunities for local firms. According to Gereffi (2005, 173), upgrading is more likely to occur in relatively open, market-type value chains rather than closed, hierarchical ones. A similar argument is made by the literature on multinational enterprises (MNE) which highlights horizontal and vertical spillover effects and productivity growth through increased competition by foreign competitors (Fu et al. 2011, 1206–7; see Narula and Zanfei 2005; Kemeny 2010). However, an oft-stated criticism concerns the conceptual weaknesses of GVC and MNE analyses in analyzing the institutional context in which local learning and innovation is embedded (Pietrobelli and Rabellotti 2011, 1264). These accounts stress the importance of exporting for technological upgrading. Empirical evidence, however, has shown that for the vast majority of developing countries, upgrading opportunities within the export-led growth paradigm is rather limited (Gereffi 2014, 18). Even though export-led growth strategies may prima facie be easier and faster, as economies “just” join a value chain and assemble imported parts for overseas export markets, they “may also be meaningless” (ibid.). Simply becoming an assembly platform could inhibit the development of the institutions, knowledge base, and consumer markets necessary to build and sustain the technological capabilities for innovation-driven growth (World Bank 2017, 120). In addition, the danger of becoming trapped in lower value-added segments of GVCs looms large (Whittaker et al. 2010; Pipkin and Fuentes 2017). After the 2008 global financial crisis and the recent Covid-19 pandemic, associated with enduring weak demand in the industrialized countries, the shortcomings of a onesided export-led growth strategy are even more pronounced (Mayer 2013). Due to this more unfavorable external economic environment,

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the need for rebalancing growth towards increased domestic demand is widely acknowledged, and the pivotal role of a large domestic market is highlighted (ibid., 2). Even proponents of the GVC approach admit that large emerging economies have more options to upgrade than smaller ones (Gereffi 2014, 451–52). As Brandt and Thun (2016, 78) put it: “Just as a basketball team with several seven-footers is likely to employ different tactics than a team of more modestly sized players, a large emerging market has a range of policy options that smaller markets do not”. Hence, a large domestic market serves not only as a substitute for weak external demand and as leverage to attract FDI, but, more fundamentally, as a well-known home base for domestic firms to develop scale economies and innovation capabilities. Thereby, the upgrading process is facilitated because local firms use technologies that are better suited to the domestic market than those of foreign competitors. Once innovation capabilities are established, the technological and marketing gaps faced by exporting are eased (ibid., 80). These beneficial effects of a large domestic market are also known as the “home market hypothesis” (Linder 1961) and are a core feature of the new trade theory of intra-industry trade (Helpman and Krugman 1985). According to this literature, firms specialize in those products where a large domestic market exists due to increasing returns to scale and lower transportation costs. The domestic market thereby serves as a crucial test base for new products that, once successfully introduced domestically, are also exported abroad (Linder 1961, 88). In a similar vein, Porter’s (1990, 86–100) diamond model of competitive advantage highlights domestic demand conditions as crucial components of upgrading processes. Building on the Schumpeterian or evolutionary approach in economics (Nelson and Winter 1982), a systemic perspective on innovation has emerged as the dominant paradigm in innovation studies (Lundvall 1992; Fagerberg 2017). According to this view, firms are embedded in a broader system that, if well designed, contributes to the creation and flow of knowledge considered vital for technological upgrading. The innovation system approach goes beyond the classical market failure argument for policy intervention, i.e. investments in science and technology below the socially optimal level (Nelson 1959). From this perspective, innovation policy is justified with reference to “system failure”—the malfunctioning of institutions, networks, or actors blocking or hindering the smooth interactions and learning processes within the system. The IS perspective on innovation, therefore, leads to a holistic policy design

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in which individual policies cannot be assessed in isolation but have to be complementary to a range of other relevant policies (Fagerberg 2017, 507–8). The institutional underpinnings of successful upgrading processes are also highlighted by the recent comparative capitalism literature on emerging economies (e.g. Schneider 2013; Nölke et al. 2020; Schedelik et al. 2021). Building on institutional economics (North 1990; Aoki 2001), this broad literature investigating the national diversity of modern capitalism stresses the importance of formal and informal institutions, e.g. the financial system, corporate governance, education, the training system, and their interplay for firm performance (e.g. Hall and Soskice 2001; Berger and Dore 1996). These institutions are generally seen to have profound effects on the innovation strategies of emerging market firms (Pietrobelli and Rabellotti 2011, 1264). The key contribution of this literature is twofold: first, it holds that there are multiple institutional configurations conducive to innovation-led growth; and second, that institutions and economic policies need to be complementary to each other to successfully enhance firm performance. Elaborating on these basic premises, Schedelik et al. (2021) identify two models of emerging market capitalism that feature positive institutional complementarities—a state-permeated market economy model found primarily in China but also India, and a dependent market economy model found, for instance, in East Central Europe—allowing for firm upgrading and long-term growth trajectories (see also Nölke and Vliegenthart 2009; Nölke et al. 2020). They also identify two models with negative institutional complementarities—a hierarchical market economy model found, for instance, in Latin America and a patrimonial market economy model in the Arab world and Russia—which are detrimental to technological upgrading (see Schlumberger 2008; Schneider 2013). Recent developments in CC research have highlighted the crucial role of the demand side of modern economies by examining the evolution of growth models (Baccaro and Pontusson 2016; Mertens et al. 2022). At the same time, these conceptual refinements point to the political underpinnings and international interdependencies of growth models (Baccaro and Pontusson 2022). Such a perspective contrasts sharply with the dominant approach in neo-institutionalist economics formulated by Acemoglu and Robinson (2012; see also De Soto 2000). According to this perspective, “inclusive” political and economic institutions associated with limited government such as free markets, property rights, the rule of law, and pluralistic

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democracy are prerequisites for economic growth. “Extractive” institutions, by contrast, divert resources away from their most efficient and socially optimal use by a powerful elite with vested interests (Acemoglu and Robinson 2019). The latter focus draws on the influential rentseeking literature (e.g. Krueger 1990; Olson 1993). Basically, Acemoglu and Robinson’s approach proposes one universally applicable model for development: the liberal market economy which is enforced and sustained by liberal democracy (Acemoglu and Robinson 2019). One problem of this perspective is that its simple dichotomy of inclusive and extractive institutions cannot capture the real-world variety of institutional arrangements and, thereby, fails to explain why many countries industrialized under non-democratic rule and strong government activity—the most obvious contemporary example being China (Sachs 2012; Sen et al. 2018).

1.4

The Theoretical Argument

In order to explain the empirical puzzle, this book develops a theoretical framework drawing on the two main institutional approaches in CPE concerned with innovation outcomes, the innovation system and comparative capitalism frameworks (see Chapter 2). The basic idea behind this conceptual work is twofold: first, the approaches are complementary in the sense that, while sharing important building blocks, each has its own conceptual focus and blind spots; second, leveraging the comparative capitalism framework for the study of innovation in emerging economies introduces the notion of institutional complementary and combines the insights from several mid-range, context-sensitive models of emerging market capitalism. In contrast to statist approaches, focusing on government capabilities or industrial policy interventions, and internationalist approaches, focusing on global value chains, firms’ export capacities, or multinational enterprises, such an institutional approach offers a more holistic perspective on technological upgrading in emerging capitalist economies. While taking firm strategies seriously, it locates them in a broader institutional environment with its particular incentives and constraints. In contrast to the dominant neo-institutionalist perspective, advanced by authors such as Acemoglu and Robinson, the institutionalist approach chosen here, drawing on the innovation system and comparative capitalism literatures, encompasses a broader set of institutions than the narrow focus on “inclusive” versus “exclusive” ones.

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The combined institutional approach to technological upgrading in emerging economies presented here is called “upgrading regime”. This framing draws on the notion of “upgrading”—in contrast to innovation—accounting for the peculiarities of emerging economies, and the notion of “regime”, alluding to a broader institutionalist perspective that includes policies and social interests as well. The framework consists of both supply-side institutions (corporate finance, R&D regime, and education, training, and labor regime) and demand-side factors (macro context, competitive structure, and international context). Furthermore, government coordination, political coalitions, and key socioeconomic groups are important variables as well. The core argument underlying this model states that technological upgrading depends on key inputs for innovation provided by supply-side institutions and the incentives for innovation provided by demand-side institutions. The proper design and functioning of the institutional context depends on effective government coordination in the form of investment decisions and key economic policies. This, in turn, depends on supportive political coalitions and the political support of key socioeconomic groups which exert influence over the allocation of scarce fiscal resources. The main argument advanced in this book states that these institutional domains not only “matter” but that they reinforce each other. Hence, we identify several (negative) institutional complementarities that cut across institutional spheres. These institutional complementarities help explain the mismatch between the dismal outcome of technology upgrading and innovation capacity building in Brazil and the realized investments in R&D and related expenses. Beyond that, we show that these complementarities are also relevant for other emerging economies with a similar institutional setting. There is a key negative complementarity between the macroeconomic policy regime and the financial system which accounts for insufficient access to finance due to extremely high credit costs. The reasons for this outcome relate to the concentration of the banking sector and high and volatile inflationary dynamics of the Brazilian economy. Due to continuous inflationary pressures, fueled partly by the consumption-led growth model pursued by the PT governments, monetary policy was overly restrictive, leading to high-interest rates and even higher credit costs. In order to circumvent high-interest rates and to provide incentives for investment finance, the PT governments substantially expanded the subsidized credit market, serviced chiefly by public banks and BNDES. This

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expansion, however, had negative repercussions on the fiscal situation and the transmission channel of monetary policy. Furthermore, we identify the persistence of a low-skill trap, accounting for the low level of human capital and thereby confirming previous findings in the comparative capitalism literature (Schneider 2013). Institutionally, this outcome is related to the still low quality of Brazil’s skill regime. In combination with low union representation on the shop floor, the low level of human capital results in extremely high job turnover. This has been further aggravated by the perverse incentives created by the severance pay scheme and other unemployment benefits which often lead to fake or negotiated dismissals. High turnover has been a serious drag on labor productivity as workers miss the opportunities of learning by doing and knowledge accumulation associated with higher job tenure. In addition, we identify a negative complementarity between the competition regime and the international context, accounting for the low level of competition in the Brazilian market which provides insufficient incentives for innovative activities. The reasons for this outcome are related to the regulatory bias in favor of large, well-connected conglomerates, having received favorable treatment as “national champions” and the bulk of state support via subsidized credit and equity injections by BNDES. These efforts mainly targeted already highly competitive firms in the core of the Brazilian industrial complex, i.e. in construction, meat packing, and petrochemicals, with low technological potential. We identify a further negative complementarity between the political system and state-business relations, accounting for the high degree of corruption in the political system. This in turn hindered effective policy coordination and policy-oriented collaboration with the private sector. The reasons for this outcome primarily relate to the extreme fractionalization of the political system in Brazil (“coalitional presidentialism”) which poses substantial challenges to coherent and reform-oriented policymaking. Furthermore, the fractionalization of Congress and low levels of party institutionalization led not only to pork barrel politics but was heavily prone to corruption, as revealed by the Mensalão and Lava Jato scandals. Corruption and malfeasance were not limited to the political arena but penetrated, and indeed heavily rested on, public agencies and state-owned companies, above all the oil giant Petrobrás. Finally, we identify another negative complementarity related to corruption and the R&D regime. This complementarity accounts for the low degree of university-industry collaboration in Brazil, hindering

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knowledge flows between the science system and companies. As corporate R&D continues to be very low and the bulk of R&D spending flows to universities and research institutes, this is a serious drag on technological upgrading. The large subsidies for public R&D have mostly been “captured” by the academic sector to fund researchers and scholarships in universities. Due to the fear of corruption charges, public employees tend to refrain from interacting with the private sector altogether, leading to a high degree of suspicion between public universities on the one hand and the business sector on the other. These institutional complementarities tend to reinforce each other and mutually account for the low record of technological upgrading and innovative capacity building of Brazilian companies. In Chapter 10, we extend the analysis beyond the Brazilian case and show that these findings are relevant to other large emerging economies as well.

1.5

Contributions to the Literature

This study addresses two main research gaps in the broader debate about innovation, growth, and the development trajectories of emerging capitalist economies (ECEs): (1) a conceptual one, highlighting the need to synthesize the findings from various literatures in comparative political economy, innovation studies, and business studies; and (2) an empirical one, pointing to the design of policies and institutions for technology upgrading in emerging economies. In addition, the study speaks to the more specialized literatures on Brazilian political and economic development as well as on ECE varieties of capitalism. Methodologically, this book is a single-country case study. It is primarily interested in the Brazilian case as such: it aims to account for the puzzling mismatch between R&D inputs and the mediocre innovation output. Thereby, it tries to assess the legacy of the Workers’ Party concerning innovation and technological upgrading. Beyond that, the book provides detailed analyses of the policies, institutions, and innovation outcomes of a major middle-income democracy. Hence, the study’s findings complement the multi-country studies prevalent in the middleincome trap and growth regression literatures. Furthermore, the concept of institutional complementarity, which forms an important part of the theoretical framework developed in this book, and is arguably the most important added value of the comparative capitalism literature, requires

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in-depth studies with high attention to detail. In this tradition, singlecountry case studies offer valuable insights into the intricate interplay between institutional domains. For instance, Aoki’s work on Japan (2001) and Streeck’s work on Germany (1991) were instrumental in identifying the key complementarities in coordinated market economies (CMEs) which proved to be invaluable for the emerging varieties of capitalism (VoC) literature (Hall and Soskice 2001). This book offers several key contributions to the fields of comparative political economy, innovation studies, and development economics: • First, it synthesizes two institutional approaches in comparative political economy and innovation studies in order to leverage their combined explanatory power for the study of technology upgrading in emerging economies. Based on these approaches, it develops an encompassing, mid-range theoretical framework named “upgrading regimes”. • Second, it provides an in-depth assessment of technological upgrading and innovation capacity building in Brazil in the period from 2000 until 2015. For this purpose, it draws on a variety of data sources, such as GDP accounting, productivity measures, sectoral data, patent data, and the national innovation survey, among others. • Third, it offers detailed descriptions of key political and economic institutions and their trajectories in Brazil in the period from 2000 until 2015. For this purpose, it draws on numerous statistical data sources, many from Brazilian institutions, expert interviews, newspaper articles, and secondary sources. By doing this, it draws together literatures from various disciplines and countries that rarely communicate with each other. • Fourth, it identifies five key negative institutional complementarities which account for the dismal innovation outcome in Brazil. This is a major contribution to theory-building and promises to cross-fertilize the literatures on innovation systems and comparative capitalism. • Fifth, it locates the Brazilian case in the broader universe of middle-income countries and takes the first steps towards a typological theory of upgrading regimes. Thereby, it contributes to the emerging field of ECE varieties of capitalism and the efforts to map the political-economic institutions of countries in the Global South.

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Plan of the Book

Chapter 2 introduces the theoretical framework of this study by integrating conceptual elements of two institutional approaches to innovation—the innovation systems approach and the comparative capitalism framework—, named “upgrading regimes”. Readers more interested in the empirics of the Brazilian political economy can skip this chapter and go ahead to part II. In Part II, Chapter 3 offers an in-depth analysis of the process of technological upgrading in the Brazilian economy in the period of investigation, 2000 to 2015. It combines aggregate, sectoral, and firm-level analyses, employing a variety of statistical indicators, in order to provide a comprehensive assessment of the dependent variable of this book. Chapter 4 enters into the empirical analysis of the independent variable of this book, the institutional determinants of technological upgrading in Brazil. It examines the political underpinnings of the Brazilian upgrading regime. To this end, it combines a short review of the institutions and policy initiatives for innovation advanced by the Workers’ Party governments with analyses of political coalition dynamics, state–business relations, and state–society relations. Chapter 5 covers two institutional dimensions of the Brazilian upgrading regime—the R&D regime and the competition policy regime, focussing on key S&T indicators and university-industry collaboration. It also delves into the effectiveness of a series of R&D tax incentive schemes as one of the main innovation policies in Brazil. Chapter 6 provides an in-depth analysis of the Brazilian financial system and its performance in allocating financial resources to Brazilian companies. It also evaluates another major innovation policy introduced by the Brazilian government—subsidized credit lines for innovation finance. Chapter 7 turns to the Brazilian skill and labor regimes and their effects on human capital formation and labour productivity growth. Chapter 8 examines the effects of the Brazilian trade and investment regimes on technological upgrading. Chapter 9 provides comprehensive coverage of the Brazilian macroeconomic policy regime, combining an analysis of monetary policy, exchange rates, fiscal policy as well as selected social policies. In Part III, Chapter 10 integrates the empirical analysis of the preceding chapters, by identifying five mutually reinforcing negative institutional complementarities between several of the institutional spheres covered in Part II. Furthermore, we locate the Brazilian case in the

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broader universe of middle-income countries and take the first steps towards a typological theory of upgrading regimes. Chapter 11 concludes by summarizing the main findings of this book and elaborating on avenues for future research and economic policy implications.

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CHAPTER 2

Theoretical Framework: The Political Economy of Upgrading Regimes

2.1

Introduction

This chapter introduces the theoretical framework of this book by combining conceptual elements of two institutional approaches to innovation—the innovation system approach and the comparative capitalism framework. Building on these literatures, we develop a theoretical framework named “upgrading regimes” that allows for an encompassing analysis of technological upgrading in emerging economies. This novel framework includes a comprehensive set of supply-side institutions, demand-side factors, as well as political dynamics. One basic theoretical contribution of this book, therefore, consists of synthesizing two theoretical approaches that, thus far, have only rarely been applied together and elaborating on their combined explanatory power. This chapter is organized as follows. Section 2.2 discusses the innovation systems approach, its main conceptual elements, and its application to emerging economies. Section 2.3 reviews the comparative capitalism literature, covering the varieties of capitalism approach as well as the growth model perspective, their basic building blocks, and applications to countries in the Global South. Subsequently, Sect. 2.4 distills the main conceptual elements of these approaches and combines them into an integrated theoretical framework, named “upgrading regimes”. Section 2.5 concludes.

© The Author(s), under exclusive license to Springer Nature Switzerland AG 2023 M. Schedelik, The Political Economy of Upgrading Regimes: Brazil and beyond, International Political Economy Series, https://doi.org/10.1007/978-3-031-34002-4_2

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2.2

Innovation Systems

Innovation and upgrading of firm capabilities do not occur in isolation but depend heavily on external sources. The acknowledgment of the systemic nature of innovation is reflected in a surge of interest in institutional accounts since the 1990s (Fagerberg 2017, 498). Thereby, the role institutions play in innovation has become more and more qualified: from mere obstacles to factors potentially supportive of innovation, if properly designed (Edquist 1997). Fundamentally, institutional approaches assume that institutions exert causal effects relatively independent from social actors (May and Nölke 2015, 89). With regard to the structure-agency problem, institutionalism in innovation studies, therefore, posits that, to put it (very) simply, corporate strategy follows structural incentives and/ or impediments of the institutional ecosystem. The approaches reviewed here all subscribe, implicitly or explicitly, to this basic ontological premise. The literature on innovation systems (IS) is arguably the most influential within the broader institutional paradigm (Edquist 1997; 2005; Soete et al. 2010). Drawing explicitly on List’s (1909 [1841]) insight into the interdependence of tangible and intangible investments and the importance of links between industry and the science and education system, Freeman (1987) developed the concept of a national system of innovation (NSI) to describe the congruence between various institutions within Japanese society to “initiate, import, modify, and diffuse new technologies” (ibid., 1; Soete et al. 2010, 1164). Therefore, the IS literature was, from the start, intimately linked to the notion of economic and technological catch-up growth. However, its adoption to developing countries has been rather recent (Viotti 2002; Muchie et al. 2003; Lundvall et al. 2006). For decades, the IS concept was primarily used within an OECD context. Under the broad umbrella of the IS literature, several sub-concepts have been developed to better grasp the complexity of innovation processes. Regional, local, and sectoral innovation systems have been identified (e.g. Malerba 2004). The predominant framework, however, remains the NSI concept, acknowledging the fact that “most public policies influencing the innovation system […] are still designed and implemented at the national level” (Edquist 1997, 12). To begin with, the NSI approach is not a formal theory but rather a conceptual framework for the analysis of innovation processes (Edquist 1997, 28). This is mainly due to its conceptual ambiguity which is a

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core weakness of the IS literature in general (ibid., 26–27; 2005, 186). Firstly, at least three different versions of the NSI approach exist, each corresponding to its intellectual forerunners Freeman, Nelson, and Lundvall (Soete et al. 2010, 1164). Freeman, for instance, defines a national system of innovation as “the network of institutions in the public and private sectors whose activities and interactions initiate, import, modify and diffuse new technologies” (Freeman 1987, 1). His description of the Japanese NSI contains four main elements: the role of public policy, i.e. the Ministry of International Trade and Industry; the role of corporate R&D; the education and training system; as well as the conglomerate structure of Japanese industry, i.e. a lack of competition allowing the internalization of externalities associated with innovations in supply chains (ibid., 4). A similar notion of NSI was elaborated by Lundvall, defining it broadly as “all parts and aspects of the economic structure and the institutional set-up affecting learning as well as searching and exploring” (Lundvall 1992, 12). In contrast to Freeman, however, Lundvall shifts the emphasis away from the sectoral dimension to the broader national institutional framework (Soete et al. 2010, 1165). He introduces the theoretical distinction between learning, understood as learning-bydoing; searching, i.e. corporate R&D efforts; and exploring, i.e. academic R&D (Lundvall 1992, 9–11). Moreover, Lundvall coined another source of innovation: user-producer interaction, meaning the effect of user feedback on adapting existing products (Lundvall 1992). These elements are consistent with Lundvall’s overall focus on incremental rather than radical innovations, highlighting the continuum of the innovation process and its inherent feedback loops between different actors that are constantly learning from, and with, each other (Soete et al. 2010, 1165). A third version of the NSI approach has been developed by Nelson and Rosenberg who consider it “a set of institutions whose interactions determine the innovative performance […] of national firms”, especially highlighting the role of the (formal) R&D system (Nelson and Rosenberg 1993, 4). This particular “Nelsonian-view” on innovation, with a clear emphasis on the intertwining of the science system with corporate R&D efforts, can be contrasted with the much broader perspective of Lundvall (Soete et al. 2010, 1166). Arguably, the former seems to fit radical, more science-based, innovations better than the latter, which tends to focus on incremental innovations (Edquist 1997, 5, Fn. 13).

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The overall function of innovation systems is “to pursue innovation processes, i.e. to develop, diffuse and use innovations” (Edquist 2005, 190). This main objective can be translated into several “system-level explanatory factors” or “activities” performed by actors in the system to generate innovations (Liu and White 2001, 1092–93). In the literature, there is no consensus on the exact list of activities an innovation system should perform (Liu and White 2001; Edquist 2005). However, a couple of basic activities are generally seen as crucial, such as R&D, skills development, and financing of innovation processes (Edquist 2005, 190– 91). To conceptualize the different ways innovations are induced at the firm level, Lundvall’s distinction between learning, searching, and exploration is relevant (Lundvall 1992, 9–11). Although Lundvall contends that corporate and academic R&D efforts are important sources of innovations, he clearly focuses on, what he calls, the “everyday experience of workers, production engineers, and sales representatives” as essential inputs to the innovation process (ibid., 9). At the heart of this notion lies the assumption that, first, innovation is essentially an interactive process and, second, that it emanates to a crucial extent from routine activities in production, distribution, and consumption (ibid.). Hence, Lundvall enunciates a very different mode of innovation than the one prevalent in mainstream economics (Soete et al. 2010, 1166). In contrast to the science-based mode of innovation, Lundvall emphasizes everyday activities of workers and engineers such as learning-by-doing, learning-by-using, and learning-by-interacting, i.e. the tacit appropriation and incremental recombination of existing knowledge (Lundvall 1992, 9). Later, Jensen et al. (2007) elaborated on this and made the ideal–typical distinction between a “science, technology, and innovation”-mode and a “doing, using, and interacting”-mode of learning and innovation. This distinction is recently captured by the notion of frugal innovation which is contrasted to radical and incremental innovations in several literatures (see e.g. May and Schedelik 2021). The application of the innovation system concept to developing or emerging economies is rather recent and far from straightforward. Despite its intellectual roots dating back to List (1909 [1841]), the IS perspective, as it has been developed by Lundvall and Nelson, is for many authors not directly applicable to the reality of developing countries (Arocena and Sutz 2000; Viotti 2002; Kuhlmann and Ordóñez-Matamoros 2017). Firstly, the blueprint of frontier innovations and basic R&D programs

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underlying conventional IS analyses is an elusive goal for these countries. Provocatively speaking, trying to emulate DARPA1 sets the bar too high, even for bigger, richer countries like Brazil or China. As a consequence, several authors have introduced alternative concepts to capture this crucial difference: such as learning systems (Viotti 2002) or national technology systems (Lall and Pietrobelli 2005). The common premise of these concepts is that frontier innovations cannot and should not be the goal in a developing context, but rather small-scale reconfigurations of existing products and technologies for under-served low-income consumers with unmet needs in emerging economies: i.e. so-called frugal innovations (May and Schedelik 2021). Although this type of innovation is not limited to the context of emerging economies, it is particularly useful for analyses of catch-up processes and definitely more appropriate than the science-based notion of innovation (Schedelik et al. 2021b). Second, knowledge flows and linkages between industry and the science and technology organizations of these countries are often nonexistent or very weak, complicating the notion of a “system” sensu stricto (Arocena and Sutz 2000, 66–67). Therefore, Arocena and Sutz (2000) highlight the (often implicit) normative dimension of the IS concept in a developing country context, involving the danger of premature copying of successful institutional arrangements from industrialized countries. Such institutional transfers tend to neglect the “tacit assumptions about the framework in which the institutions must operate”, thereby creating “an institution with the same name but with different real functions, or with no function at all” (ibid., 72). Third, the international dimension of knowledge and technology flows is not adequately addressed by the IS concept. This is especially problematic with regard to developing and emerging economies that must primarily rely on absorbing and adapting foreign technologies as the main driver of technological upgrading (Ernst 2002, 500). Despite these theory-driven critiques, the NSI framework has been, although rather recently, widely applied in analyses of innovation capabilities in developing countries. A seminal contribution in this regard has been, once again, the work of Lundvall (Muchie et al. 2003; Lundvall et al. 2006, 2009). He was also instrumental in creating the research network Globelics, serving as its Secretary General until 2017. This 1 Defense Advanced Research Projects Agency, the research and development agency of the United States Department of Defense.

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network and its regional and subregional sections constitute a major driver of applied IS research in the field of development and innovation. By now, numerous studies have been undertaken using the IS framework, mainly on Asia (Lundvall et al. 2006) with a focus on India (e.g. Sharma et al. 2012) and China (e.g. Liu and White 2001), but also Latin America (e.g. Dutrénit and Sutz 2014) and even Africa (e.g. Muchie et al. 2003). Within Latin America, the Brazilian innovation system stands out as arguably the most prominent and well-researched (e.g. Cassiolato et al. 2014; Mazzucato and Penna 2016). This is obviously due to its (within the region) comparatively high performance, its (again comparatively) consolidated nature, and a more proactive engagement in ST&I policy, reflected both in budget and personnel. IS studies, however, generally suffer from a highly aggregated perspective. This, more than often, results in a lack of depth, failing to actually explain the success or failure of the system.

2.3

Comparative Capitalism

A similar perspective to the holistic-institutionalist NSI approach is offered by comparative capitalism (CC) research. It shares the central claim that specific institutional configurations have a decisive impact on the production and innovation strategies of firms (Jackson and Deeg 2006, 11). Additionally, the CC literature, like NSI research, focuses mainly on national-level comparisons due to the fact that most institutional factors influencing innovation processes are shaped by national legislation (Hall and Soskice 2001, 16; Allen 2013, 772). Within the broader CC research program, there is a variety of approaches investigating the innovative performance of countries (Jackson and Deeg 2006, 11–37; Streeck 2010, 17–23; Allen 2013). One early attempt to systematize the connection between institutional spheres and the innovation strategies of firms has been the social systems of production approach developed by Hollingsworth et al. (1994) and further elaborated by Amable (2003). Moreover, Whitley (2007) introduced the notion of national business systems. The arguably most influential approach, however, is the varieties of capitalism (VoC) framework presented by Hall and Soskice (Hall and Soskice 2001). The parsimonious VoC heuristic of five institutional spheres linked by performanceenhancing institutional complementarities has been widely used in empirical studies, recently in relation to the causes of the euro crisis (Nölke

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2016). Furthermore, its narrow analytical focus on OECD countries has been widened to capture the specific dynamics of emerging economies (Nölke and Vliegenthart 2009; Becker 2013; Schneider 2013; Witt and Redding 2014; Nölke et al. 2015, 2020). One of the most influential contributions from VoC scholarship has been the introduction of ideal types of capitalist economies. Drawing on a long-established research tradition (Shonfield 1965; Streeck 2010, 6– 15), Hall and Soskice made the now classical distinction between liberal market economies (LMEs) and coordinated market economies (CMEs) (Hall and Soskice 2001, 8). In the former, firms coordinate themselves primarily through competitive markets and formal contracts, whereas, in the latter, they rely principally on interfirm networks and associations (ibid.). According to the intellectual founding fathers of VoC, these types of capitalism “constitute ideal types at the poles of a spectrum along which many nations can be arrayed” (Hall and Soskice 2001, 8). In contrast to the convergence thesis predominant in the 1990s, claiming that all capitalist economies would adapt themselves to the “superior” Anglo-Saxon model (Streeck 2010, 15–17), the basic argument underlying VoC is that both types can be economically successful and internationally competitive, even in the long run (Hall and Soskice 2001, 21). The systemic differences between LMEs and CMEs would lie in the kind of economic performance, not in its substance. This idea rests on Hall and Soskice’s notion of “comparative institutional advantage” which states that “the institutional structure of a particular political economy provides firms with advantages for engaging in specific types of activities there” (ibid., 37). In comparison with the NSI literature and others that rather look for the absolute advantage of nations, i.e. identifying equal performance standards for all, VoC focuses on comparative advantage (Hall and Soskice 2001, 38). Thereby, it is better suited to account for cross-national variations in product specialization, doing justice to the structural differences of capitalist economies. Hall and Soskice illustrate the concept of comparative institutional advantage by means of the impact of institutional configurations on various forms of innovations (Hall and Soskice 2001, 38–44). Whereas LMEs are characterized by an institutional set-up fostering radical innovations that prove to be important in fast-moving sectors like biotechnology or software development, CMEs excel in supporting incremental innovations, more relevant in “diversified quality production” (Streeck 1991) in established sectors like machine tools or factory equipment

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(Hall and Soskice 2001, 39). International competitiveness in these sectors demands different production strategies from firms. The latter are, so the basic VoC argument, crucially shaped by the overall national institutional framework in which companies operate. This environment offers specific opportunities to them while hindering others. From a VoC perspective, therefore, company strategy by and large follows structure. This solution to the structure-agency problem has led to a lively debate about the static nature of the approach (Streeck and Thelen 2005; Jackson and Deeg 2008; Hall and Thelen 2009; Streeck 2010, 32–34). In LMEs, highly flexible labor markets, extensive equity markets, centralized corporate organizations, and contract-based interfirm relations prove to favor the development of entirely new product lines. By acquiring other companies with ease and hiring new personnel without long-term commitments, firms in LMEs have the necessary means at their disposal to obtain or develop new technologies quickly (Hall and Soskice 2001, 40–41). In CMEs, by contrast, coordinated labor relations and corporate structures, as well as sector- and company-specific skills, provide employees with a long-term interest in their companies and therefore to invest in incrementally improving existing product lines (ibid., 39–40). In addition, dense interfirm networks and corporate governance systems shielding against hostile acquisitions incentivize corporate strategies based on product differentiation and thereby incremental rather than radical innovations (ibid., 40). Furthermore, long-term production strategies based on incrementally improving established products and processes are supported by the availability of patient capital via bank-based finance in contrast to the venture capital markets in LMEs favoring more radically new production strategies (ibid., 39–40). Using patent data from the European Patent Office, Hall and Soskice identify two paradigmatic cases for LMEs and CMEs respectively: the United States and Germany (ibid., 41–44). According to them, both countries show a clear specialization in sectors associated with either radical or incremental technological innovations. This claim, however, has been extensively debated (Taylor 2004; Herrmann 2008; Akkermans et al. 2009; Crouch and Voelzkow 2009). More recently, Witt and Jackson (2016) using state-of-the-art measures and methodology, found evidence that CMEs have a comparative advantage in industries associated with incremental innovation. Their data, however, does not indicate that LMEs have a comparative advantage in industries marked by radical innovation. By contrast, Meelen et al. (2017) comprehensively reviewed the existing

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research on the VoC hypothesis of country specialization and, conducting several statistical analyses on their own, came to the conclusion that it proves right for patterns of technological specialization. Building on Aoki (2001), Hall and Soskice base their argument of institutional comparative advantage on the notion of “institutional complementarities” (Hall and Soskice 2001, 17). Derived from the concept of comparative goods in economics, “two institutions can be said to be complementary if the presence (or efficiency) of one increases the returns from (or efficiency of) the other” (ibid.). As a first intuitive example, they present Aoki’s (2001) argument that long-term employment structures are more feasible in conjunction with financial systems providing “patient” in contrast to short-term capital (Hall and Soskice 2001, 18). Furthermore, Hall and Soskice assume that, due to efficiency pressures, economies with a specific coordination mechanism in one sphere will tend to develop complementary ones in other spheres as well. This process of “institutional isomorphism” leads, so the argument goes, to clustering of institutions into liberal or coordinated forms (ibid.). Accordingly, Hall and Soskice present data on stock market capitalization and employment protection, showing a clustering of six2 liberal, ten3 coordinated and six4 more ambivalent “Mediterranean” OECD5 economies, to support their claim (ibid., 19). In a further study, Hall and Gingerich (2009, 470–73) argue that countries with coherent institutional configurations, i.e. either liberal or coordinated, tend to be economically more successful than institutional hybrids. This “coherence thesis” stimulated an ongoing debate in the field (Kenworthy 2006; Campbell and Pedersen 2007; Schneider and Paunescu 2012; Witt and Jackson 2016). Recent developments in CC research have highlighted the crucial role of the demand side of modern economies by examining the evolution of growth models (Baccaro and Pontusson 2016, 2018, 2021; Nölke 2016, 146–7). In their seminal contribution, Baccaro and Pontusson (2016) argued that the advanced economies of the OECD area followed 2 USA, Great Britain, Australia, Canada, New Zealand, and Ireland. 3 Germany, Japan, Switzerland, the Netherlands, Belgium, Sweden, Norway, Denmark,

Finland, and Austria. 4 France, Italy, Spain, Portugal, Greece, and Turkey. 5 Leaving Luxembourg and Iceland aside due to their small size and Mexico due to its

level of economic development.

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a common “wage-led” growth model in the post-World War II era. This model was characterized by an institutionalized Fordist-style compromise between capital and labor, allowing for relatively large transfers of productivity gains into wages. Wage increases were translated into rising demand and, thereby, greater economies of scale, a mutually reinforcing process (Baccaro and Pontusson 2018, 16–17). In the period of stagflation in the 1970s in the wake of two oil crises, the wage-led growth model came to an end when its enabling conditions were unraveled by the internationalization of the economies, the establishment of independent central banks, and the weakening of trade unions. According to Baccaro and Pontusson, basically two substitutes to the wage-led model emerged in the 1980s: a debt-led growth model, replacing insufficient demand with household debt and an export-led growth model, replacing domestic with external demand (Baccaro and Pontusson 2016, 184–87). In their empirical analysis, Baccaro and Pontusson (2016, 2021) identify the UK as the archetype of the former and Germany of the latter. At the same time, they present Sweden as a more balanced, intermediate type and Italy as a case of stagnation. Baccaro and Pontusson’s Post-Keynesian inspired intervention has triggered an ongoing debate in the field about the relative importance of supply and demand factors for growth and their interplay (Hope and Soskice 2016; Schedelik et al. 2021a; Hassel and Palier 2021). This has led to a renewed interest of CPE scholars in macroeconomics (Baccaro and Pontusson 2018; Schwartz and Tranøy 2019). Several scholars have pushed the growth model perspective by mapping the variety of growth models in advanced capitalist economies (Hope and Soskice 2016; Hein et al. 2021; Picot 2021). Beyond that, several scholars have highlighted the compatibility of the growth model approach with other major approaches in CPE, such as the three worlds of Welfare Capitalism (Hassel and Palier 2021; Hein et al. 2021) and VoC (Hope and Soskice 2016). Others have pointed towards the similarities between the growth model approach with regulation theory and argued in favor of combining institutional supply-side arrangements with macroeconomic demand-side factors in the form of “growth regimes” (as opposed to “growth models”) (Hall 2020; Hassel and Palier 2021, 17–19; for a similar argument see Schedelik et al. 2021a). Furthermore, empirical studies have shown that the demand-side dynamics of growth models often depend on the same set of institutions that sit at the core of supply-side perspectives. Export-oriented CMEs, for instance, are characterized by a credit

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regime channeling funds to the business sector but not to households (Mertens 2017) and coordinated wage bargaining schemes mediating wage increases, thereby depressing domestic consumption (Höpner and Lutter 2018). Debt-led LMEs, on the other hand, rely mostly on equitybased corporate finance, fluid capital markets, and a dynamic housing financing market to spur growth in the FIRE6 sector of the economy (Reisenbichler 2021). While exploring the linkages between growth models and institutional approaches still needs further conceptual efforts, there is already a wellestablished research tradition in CPE analyzing the political dynamics underlying growth models (e.g. Beramendi et al. 2015; Hall 2020). In contrast to the long-term development of supply-side institutions typically studied in comparative capitalism, demand-side macroeconomic policies can be changed in a much shorter time, for example via fiscal and monetary politics. Growth model stability, therefore, has to be achieved politically. In the nascent growth model literature, the concept of “social blocs” has been proposed as an analytical angle to study the cleavages in advanced political economies (Amable 2003; Amable et al. 2019; Baccaro and Pontusson 2019). Drawing on neo-Gramscian concepts, the core idea is that growth models are supported by cross-class alliances unified by a hegemonic discourse (Amable 2003, 46–51, Baccaro and Pontusson 2019). In this view, institutions are framed as socio-political compromises between conflicting societal interests reflecting the interests of the hegemonic social bloc (Amable et al. 2019). The hegemonic bloc fosters a legitimating discourse, where its particular interests are framed as national interests (Amable et al. 2019, 451). Such a socio-political configuration translates into convergence across parties on key economic policies: restrictive monetary policy for exchange rate-sensitive manufacturing sectors and accommodative monetary policy for the construction/ finance sectors, for instance (ibid.). As noted above, CC’s narrow analytical focus on OECD countries as well as the rigid typological dichotomy between CMEs and LMEs has been overcome by extending the study of national capitalist institutions to other regions globally and constructing new ideal types accordingly. Some undeveloped hints into this direction can even be found in the

6 Finance, insurance, and real estate.

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original VoC analysis by Hall and Soskice, mentioning a hybrid “Meditteranean” type (Hall and Soskice 2001, 19) and a slight distinction between group-based (Japan) and industry-based coordination (Europe) in the CME type (ibid., 34). The Meditteranean version was later labeled mixed market economies (MMEs) and used for the analysis of Southern European countries like Italy and Spain (Molina and Rhodes 2007). Early on, Schmidt (2003) and Amable (2003) proposed further varieties of capitalism such as “state-enhanced capitalism” for France (Schmidt 2003) or “social-democratic economies” for the Nordic countries (Amable 2003, 103–107). Extending the perspective to East Central Europe, Nölke and Vliegenthart (2009) introduced the influential notion of “dependent market economies” (DMEs) (see also Bohle and Greskovits 2012; Drahokoupil and Myant 2015). The DME model is characterized by a dependency on intra-firm hierarchies within multinational corporations that dominate these economies, using them as assembly platforms for semi-standardized industrial goods (ibid., 680). DMEs’ comparative advantage is based on complementarities between a skilled, but relatively cheap, labor force, the transfer of innovation within transnational corporations, and massive flows of foreign direct investments. Overall, the dependency on intra-firm hierarchies within transnational value chains serves as a distinct coordination mechanism. Although these positive institutional complementarities generate considerable growth (ibid., p. 693), the long-term functionality of this institutional configuration depends on investments by transnational corporations, which usually do not favor huge investments in education, training or innovation systems in host economies (ibid, p. 678). Innovation mainly happens through the transfer of technologies within firms, resulting in merely passive innovation systems at best. The first attempts to include countries outside of the Western hemisphere in the analysis were related to East Asia. In this regard, two strands can be distinguished: one highlighting the dominant role of the state in the coordination of so-called “state-enhanced market economies” (SMEs) such as South Korea, Taiwan, Japan, and China (Schmidt 2009, 521; ten Brink 2019); the other pointing to networks of large business groups as a coordination mechanism labeling them “group coordinated” (Kitschelt et al. 1999, 434) or “network market economies” (NMEs) (Schneider 2013, 21). Amable (2003, 107) merged these two dimensions into a meso-corporatist form of Asian capitalism. Recently, the efforts to map

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Asian varieties of capitalism have been updated (e.g. Storz et al. 2013; Witt and Redding 2014; Carney 2016). Further efforts to apply the CC framework to the study of emerging economies have been made for Latin America. The most visible and coherent attempt in this regard is arguably the hierarchical market economy (HME) model developed by Schneider (2013). According to Schneider, HMEs are characterized by hierarchical decisions in large domestically owned business groups and multinational corporations. Next to these dominant types of corporate governance, the model highlights atomistic labor relations and a low overall skills level (Schneider 2013, 10– 12). These features generate a row of socially undesirable incentives that constitute “negative institutional complementarities” such as low private R&D investments and innovation as well as a “low-skill trap” hindering investments in education and training (ibid., 34–37). However, several authors have doubted the analytical capacity of the model to capture the whole institutional diversity of Latin American capitalism (e.g. Bizberg 2019). Beyond these lively and ongoing debates about specific regional or subregional varieties of capitalism—and first attempts in this direction for (South) Africa (e.g. Nattrass 2014)—cross-regional comparisons have emerged as a promising research endeavor. Qualitative studies, focusing mainly on the BRICS countries but also other large emerging economies such as Turkey (Becker 2013; Buhr and Frankenberger 2014; Nölke et al. 2015, 2020), can be distinguished from more quantitative work based on cluster analyses, encompassing a broader scope of countries (Rougier and Combarnous 2017; Witt et al. 2018; Fainshmidt et al. 2018). These efforts have led to some conceptualizations of varieties of capitalism in emerging economies that are valid beyond the scope of specific countries. For instance, Nölke et al. (2015, 2020) identified a cross-regional, coherent type of capitalism which they refer to as state-permeated market economies (SMEs) (Nölke et al. 2015, 2020). SMEs are “coordinated by reciprocal mechanisms of loyalty and trust between members of […] (competition-driven) state–business coalitions, based on informal personal relations, family ties and shared social backgrounds” (Nölke et al. 2015, 543). Firms are generally controlled by national capital, i.e. through family shareholders or other block-holders such as public pension funds or development banks (ibid., 548). Labor relations are characterized by low-wage regimes and a strongly segmented workforce with only selective enforcement of worker rights (ibid., 551–52). Another important feature

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of the SME model is a large domestic market that forms the backbone of growth dynamics and allows for only limited integration into the world economy (ibid., 553). It also serves as a bargaining tool for inward FDI as transnational companies are eager to get access to the large consumer markets of these countries. In addition, companies in SMEs have established a competitive niche in creatively reinventing imported products (reverse engineering) and selling them at a lower cost to the emerging middle classes of their or similar countries (ibid., 552). At this point, the proactive role of the state via public R&D and industrial policies allows particularly the larger companies with strong ties to the state agencies to incrementally build technological capabilities. The paradigmatic case of state-permeated capitalism is China; but scholars also have identified crucial components of the model in India (Nölke et al. 2020; Allen et al. 2021). Patrimonial capitalism or patrimonial market economies (PMEs) constitute another cross-regional variety of capitalism, particularly in Russia and the Arab region (Schlumberger 2008; Robinson 2011; Buhr and Frankenberger 2014; Becker and Vasileva 2017). This type is characterized by “patron-client relations between political and economic elites, which deeply penetrate the social fabric” (Becker and Vasileva 2017, 86), leading to detrimental cronyism and rent-seeking. Patrimonial capitalism represents the direct opposite of the DME type as FDI plays only a small role, due to the uncertainty for foreign investors and their dependence on well-connected local partners (Schlumberger 2008, 637). Property rights and other contracts are often guaranteed by political connections; therefore a pure patrimonial economic order relies heavily on a nondemocratic political regime, following the authoritative logic of power maintenance by incumbents (ibid., 634–5). Among the varieties of capitalism identified in the literature, the patrimonial type is arguably the least functional regarding growth and development, with massive negative complementarities. In a nutshell, this can be traced back to a very weak rule of law, a general absence of competition (policies), the insecurity of investments, and structurally higher transaction costs (ibid.). This type, therefore, represents a border case in the family of market economies. In sum, four main types of emerging market capitalism have been identified by post-VoC research (Schedelik et al. 2021a):

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(1) a dependent type (DME), originally envisaged for Central and Eastern Europe (Nölke and Vliegenthart 2009), but also discussed in a Latin American context (Ebenau 2012), (2) a hierarchical type (HME), modeled after Latin American economies (Schneider 2013), but also identified in East Asia (Carney 2016) and Turkey (Kiran 2018), (3) a statist type (SME), found in East Asia (Carney 2016), India and temporarily in Brazil (Nölke et al. 2015, 2020) and (4) a patrimonial type (PME) (Becker 2013, Buhr and Frankenberger 2014), as depicted for the Arab world (Schlumberger 2008) as well as Russia and other former Soviet countries (Becker and Vasileva 2017; Robinson 2011). Two of these types (SMEs) and (DMEs) are based on positive institutional complementarities: specialization on one type of production leads to fairly high growth rates (although the latter may be limited by longterm exhaustion). The other two types (HMEs) and (PMEs) feature negative institutional complementarities: a growth rate that is much lower than expected based on the availability of human and natural resources. At the same time, two of these types envisage a fairly liberal integration into global capitalism (DMEs) and (HMEs), whereas the other two tend to protect national producers (SMEs) and (PMEs). Classifying Brazil into one variety of capitalism is, however, not straightforward. Whereas Schneider (2013) claims it to be an HME, Bizberg (2019) regards it as a state-led and inward-oriented type of capitalism similar to the SME model (Nölke et al. 2020) or the neodevelopmental model (Bresser-Pereira 2016). Becker (2013), by contrast, classifies Brazil as a hybrid of liberal, patrimonial, statist, and even corporatist elements. In a similar vein, May and Nölke (2018) show that Brazil deviates significantly from the SME ideal type because of divisions in the capitalist class, a fragmented political system, and several residual dependencies in the economic sphere. Recently, Taylor (2020) has argued that the Brazilian economy can be more aptly characterized by the term “developmental hierarchical market economy”, i.e. a hybrid between the HME and the SME model. Whereas most of CC scholarship on emerging economies has focused on mapping the institutional diversity of capitalism in the Global South, first inroads also have been made with regard to growth models (Akcay et al. 2022; Mertens et al. 2022; Nölke et al. 2022; Stockhammer 2022).

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For instance, there is a discussion on FDI-led growth models, especially with regard to the ECEs of East Central Europe (Ban and Adascalitei 2020; Bohle and Regan 2021). Furthermore, Mertens et al. (2022), identify an investment-led model next to the established consumption-led and export-led growth models prevalent in advanced economies. Finally, Schedelik et al. (2022) elaborate on the pitfalls of commodity-based export-led growth for commodity-dependent ECEs.

2.4

Towards a Combined Approach to Technological Upgrading

In this section, the approaches reviewed above are synthesized into a unified theoretical framework. Although these approaches make similar claims about the causal impact of institutional arrangements on firms’ innovativeness, they are rarely applied conjunctly in a systematic way. This is particularly true for the CC research program which has not yet developed sufficient connections to the IS literature. As Herrmann and Peine (2011, 688) note with regard to NSI and CC: “[…] the two literatures developed in parallel without explicitly taking the arguments of the neighbouring discipline into account”. In addition, Allen (2013, 778) calls for a systematic examination of the technology-related problems associated with innovations, enabling CC studies “to be linked more explicitly to the broader innovation and international business literatures”. Conceptually, two main theoretical building blocks shared by the two approaches become apparent: an understanding of institutions as constraints and incentives, determining transaction and production costs (North 1990), and a relational view of the firm, based on dynamic capabilities (Teece and Pisano 1994). Hence, the framework to be developed builds first and foremost on an institutional environment in which firms as boundedly rational actors operate in order to successfully exploit their capabilities. In contrast to most studies that focus on the broader macroeconomic environment of the economy or on firms and their performance on a case study or aggregate basis, the perspective taken here aims to directly link the institutional landscape to firm behavior. This is one of the basic advantages of the institutional approaches discussed above. The most important conceptual element of the institutional approaches reviewed above is a parsimonious set of relevant institutions for firms’ production and innovation strategies. They differ slightly in emphasis, however. The NSI approach highlights the role of the R&D regime, i.e.

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the science and technology system broadly conceived. The CC approach stresses the importance of corporate finance, industrial relations, education, and training, as well as interfirm relations. The recent conceptual refinements within the broader CC framework, advanced by the growth models approach, point to the macroeconomic and international contexts as well as the political underpinnings of successful growth trajectories. Accordingly, the institutions to be included in the theoretical framework are the following: (i) the R&D regime, representing the scientific or formal knowledge inputs for innovation; (ii) the education and training system, industrial relations, and the overall labor market conditions, representing the applied or informal knowledge and labor inputs; (iii) the financial system and forms of corporate governance, representing the financial inputs; (iv) the domestic market structure, representing competitive pressures as incentives for innovation; (v) the macroeconomic policy regime, i.e. fiscal, monetary, and exchange rate policy, representing further incentives for innovation; (vi) the international context, i.e. the integration into global trade and investment flows, representing other incentives for innovation; (vii) government coordination, closely connected to the political system and socioeconomic coalitions as vital drivers of upgrading related investments and policies. The locus of industrial innovation and technological upgrading is the firm. This fact is underscored by the institutionalist emphasis on a “firm-centered” perspective. At this point, connections to mainstream economics approaches are obvious. To highlight the compatibility with endogenous growth theories, we use a standard mathematical simplification to show how institutions are conceptually linked to firms’ innovation efforts. Drawing on Klenow and Rodriguez-Clare’s (2005) version of endogenous growth (“AK”) model, we assume a simple Cobb-Douglass production function where output (Y) is produced by a combination of

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physical capital (K), knowledge capital (or technology, A), human capital (h), and labor (L). A firm’s production function is therefore given by7 : Y = Kα (A, h, L)1−α This captures the basic intuition of both institutional and neoclassical approaches that innovation is an integral part of the production process and not external to it (Maloney 2017, 11). Furthermore, production decisions are usually made jointly, combining investments in training (human capital, h) and machinery (physical capital, K) for instance (ibid.). The inputs are provided by the institutional infrastructure in which firms operate. Here, the most important institutions are the financial system (K), the R&D regime (A), and the education, training, and labor regime (h, L) (i–iii). However, an exclusive focus on the supply side would be misleading, as there must be demand for firms to innovate and the incentives and capabilities to do so (Cirera and Maloney 2017, 56–58). Therefore, we must consider institutions on both the supply side and the demand side. The crucial variables on the demand side, which have important effects on the incentives of firms to invest and innovate, are the macroeconomic policy regime, the competitive structure of the domestic market, and the international context (iv–vi). Finally, the role of the state in the form of government coordination of investment decisions and key economic policies is captured in the last variable, which effects the other variables (vii). Government coordination, in turn, is determined by political coalitions and key socioeconomic groups which exert influence over the allocation of scarce fiscal resources. Figure 2.1 depicts a graphical illustration of the model which we baptize “upgrading regime”. The term upgrading regime refers to the notion of policy regimes common in the comparative public policy literature (May and Jochim 2013). A policy regime is defined as “the governing arrangements for addressing policy problems”, comprising “institutional arrangements, interest alignments, and shared ideas” (ibid., 428). Hence, a policy regime perspective is essentially institutional but is more encompassing, including also policies and social interests. In the words of Eisner (1993, 2), a regime is defined as a “historically specific configuration of policies and 7 The terms α and (1-α) denote output elasticities of capital and labor with constant returns to scale. See Klenow and Rodriguez-Clare (2005) and Cirera and Maloney (2017, 51).

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Political coalitions

Socioeconomic groups

Government coordination

Supply

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Corporate finance

Demand

Macro context K

R&D Regime

Education, training & labor relations

A

h, L

The firm

Competitive structure

International context

Fig. 2.1 An integrated institutional framework for the study of technological upgrading in emerging economies: upgrading regimes (Source Own elaboration based partly on Cirera and Maloney [2017])

institutions which structures the relationship between social interests, the state, and economic actors in multiple sectors of the economy” (see also Mertens 2015, 35). As regimes address specific societal problems, we can differentiate multiple policy regimes. Crouch (2009), for instance, famously termed the neoliberal policy regime of demand stimulation “privatized Keynesianism”. In a similar vein, regulation theory has elaborated the concept of an accumulation regime to address the same problem of capitalist economies (Boyer 2018). A more widely used term for such a policy regime targeting economic growth in capitalist societies is the notion of “growth regimes” (e.g., Audretsch and Fritsch 2002; Hassel and Palier 2021). We adopt this terminology to capture the configurations of policies and institutions addressing the problem of technological upgrading in emerging economies. Such a regime is broader than the narrowly defined innovation systems but more targeted than a standard comparative capitalism perspective would assume. Crucially, it takes the role of the state and major socioeconomic actors into account.

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2.5

Conclusion

This section summarizes the theoretical framework developed in this chapter. The goal has been to merge two approaches to innovation in institutionalist political economy—the innovation system approach and comparative capitalism—in order to advance a more encompassing framework for the study of technological upgrading in emerging economies. As the first step, we outlined the basic theoretical premises of the institutional approaches: institutions move center stage which exerts causal effects relatively independent from social actors. However, firms, seen as boundedly rational actors, are the loci of industrial innovation and are firmly positioned as the key actors in these approaches. In contrast to other perspectives, the approach taken here states that, to put it simply, corporate strategy follows structural incentives and/or impediments of the institutional ecosystem. As the second step, we discussed the two institutional approaches one by one. We sketched the intellectual origins of, and recent debates within, each literature. Then, we outlined the main conceptual elements of the approaches and elaborated on the efforts to apply the approaches to emerging economies. Particular attention was paid to research on Latin America and Brazil. The main insights of this literature review were twofold: first, both approaches highlight distinct and important aspects of firms’ innovation processes within their institutional environment, but they have major blindspots and do not offer a comprehensive framework on their own; second, in both literatures attempts have been made to apply the respective perspectives to the realities of technological upgrading in emerging economies, however, with only limited success. The main theoretical contribution of this study, therefore, is to develop a unified framework that is better able to account for processes of upgrading and innovation in the Global South than each of the approaches on its own. As the third step, this combined institutional approach to technological upgrading in emerging economies was assembled. We distilled the most important conceptual elements from each approach and elaborated on the institutional spheres to be included in the framework. Subsequently, we presented the framework which we named “upgrading regimes”. We started from the firm level and used a standard mathematical simplification to show how institutions are conceptually linked to firms’ innovation efforts. We posited the main inputs for innovation (physical

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capital, knowledge capital, human capital, and labor) in the production process with a simple Cobb-Douglass production function. These key inputs were linked to the institutional spheres depicted graphically in a stylized model of the framework. The model consists of both supply side (corporate finance, R&D regime, and education, training, and labor regime) and demand-side institutions (macro context, competitive structure, and international context) as well as government coordination with links to political coalitions and socioeconomic groups, as key variables. We elaborated on the core argument underlying the model which states that technological upgrading depends on key inputs for innovation provided by supply-side institutions and the incentives for innovation generated by demand-side institutions. The proper design and functioning of this institutional context itself depend on effective government coordination in the form of investment decisions and key economic policies. This variable, in turn, depends on supportive political coalitions and key socioeconomic groups which exert influence over the allocation of scarce fiscal resources.

References Akcay, Ümit, Eckhard Hein, and Benjamin Jungmann. 2022. “Financialisation and Macroeconomic Regimes in Emerging Capitalist Economies Before and After the Great Recession.” International Journal of Political Economy 51 (2): 77–100. Akkermans, Dirk, Carolina Castaldi, and Bart Los. 2009. “Do ‘Liberal Market Economies’ Really Innovate More Radically Than ‘Coordinated Market Economies’? Hall and Soskice reconsidered.” Research Policy 38 (1): 181–91. Allen, Matthew M. C. 2013. “Comparative Capitalisms and the Institutional Embeddedness of Innovative Capabilities.” Socio-Economic Review 11 (4): 771–94. Allen, Matthew M. C., Maria L. Allen, Syed I. Saquib, and Jiajia Liu. 2021. “State-Permeated Capitalism and the Solar PV Industry in China and India.” New Political Economy 26 (4), 527–39. Amable, Bruno. 2003. The Diversity of Modern Capitalism. Oxford: Oxford University Press. Amable, Bruno, Aidan Regan, Sabina Avdagic, Lucio Baccaro, Jonas Pontusson, and Natascha Van der Zwan. 2019. “New Approaches to Political Economy.” Socio-Economic Review 17 (2): 433–59. Aoki, Masahiko. 2001. Toward a Comparative Institutional Analysis. Cambridge, MA: MIT Press.

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———. 2008. “From Comparing Capitalisms to the Politics of Institutional Change.” Review of International Political Economy 15 (4): 680–709. Jensen, Morton B., Björn Johnson, Edward Lorenz, and Bengt-Åke Lundvall. 2007. “Forms of Knowledge and Modes of Innovation.” Research Policy 36 (5): 680–93. Kenworthy, Lane. 2006. “Institutional Coherence and Macroeconomic Performance.” Socio-Economic Review 4 (1): 69–91. Kiran, Jiyan. 2018. “Expanding the Framework of the Varieties of Capitalism: Turkey as a Hierarchical Market Economy.” Journal of Eurasian Studies 9 (1): 42–51. Kitschelt, Herbert, Peter Lange, Gary Marks, and John D. Stephens. 1999. “Convergence and Divergence in Advanced Capitalist Democracies.” In Continuity and Change in Contemporary Capitalism, edited by Kitschelt, Herbert, Peter Lange, Gary Marks, and John D. Stephens, 427–60. New York: Cambridge University Press. Klenow, Peter J., and Andrés Rodríguez-Clare. 2005. “Externalities and Growth.” In Handbook of Economic Growth, edited by Philippe Aghion and Steven N. Durlauf, vol. 1A, 817–61. Amsterdam: North Holland. Kuhlmann, Stefan, and Gonzalo Ordóñez-Matamoros, eds. 2017. Research Handbook on Innovation Governance for Emerging Economies: Towards Better Models. Cheltenham: Edward Elgar. Lall, Sanjaya, and Carlo Pietrobelli. 2005. “National Technology Systems in SubSaharan Africa.” International Journal of Technology and Globalisation 1 (3– 4): 311–42. List, Friedrich. 1909 [1841]. The National System of Political Economy. London: Longmans, Green and Co. Liu, Xielin, and Steven White. 2001. “Comparing Innovation Systems: A Framework and Application to China’s Transitional Context.” Research Policy 30 (7): 1091–114. Lundvall, Bengt-Åke. 1992. “Introduction.” In National Systems of Innovation: Towards a Theory of Innovation and Interactive Learning, edited by BengtÅke Lundvall, 1–19. London: Pinter. Lundvall, Bengt-Åke, Patarapong Intarakumnerd, and Jan Vang, eds. 2006. Asia’s Innovation Systems in Transition. Cheltenham: Edward Elgar. Lundvall, Bengt-Åke, J. K. Joseph, Jan Vang, and Cristina Chaminade, eds. 2009. Handbook of Innovation Systems and Developing Countries: Building Domestic Capabilities in a Global Setting. Cheltenham: Edward Elgar. Malerba, Franco, ed. 2004. Sectoral Systems of Innovation: Concepts, Issues and Analyses of Six Major Sectors in Europe. Cambridge: Cambridge University Press.

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Maloney, William F. 2017. “Revisiting the National Innovation System in Developing Countries.” Policy Research Working Paper 8219. Washington, DC: World Bank. May, Christian, and Andreas Nölke. 2015. “Critical Institutionalism in Studies of Comparative Capitalisms: Conceptual Considerations and Research Programme.” In New Directions in Comparative Capitalisms Research: Critical and Global Perspectives, edited by Matthias Ebenau, Ian Bruff, and Christian May, 83–100. Palgrave: Palgrave Macmillan. ———. 2018. “Dangers of Residual Dependency in State-Permeated Capitalism: The Case of Brazil during Labor Party Rule.” Revue de la régulation 24. https://doi.org/10.4000/regulation.13481. May, Christian, and Michael Schedelik. 2021. “Comparative Capitalism and Innovation Policy: Complementarities and Comparative Institutional Advantage.” Journal of Economic Policy Reform 24 (4): 456–71. May, Peter J., and Ashley E. Jochim. 2013. “Policy Regime Perspectives: Policies, Politics, and Governing.” Policy Studies Journal 41 (3): 426–52. Mazzucato, Mariana, and Caetano Penna. 2016. “The Brazilian Innovation System: A Mission-oriented Policy Proposal.” Brasília: Centro de Gestão e Estudos Estratégicos. Meelen, Toon, Andrea M. Herrmann, and Jan Faber. 2017. “Disentangling Patterns of Economic, Technological and Innovative Specialization of Western Economies: An Assessment of the Varieties-of-Capitalism Theory on Comparative Institutional Advantages.” Research Policy 46 (3): 667–77. Mertens, Daniel. 2015. Erst sparen, dann kaufen? Privatverschuldung in Deutschland. Frankfurt am Main: Campus. ———. 2017. “Borrowing for Social Security? Credit, Asset-Based Welfare and the Decline of the German Savings Regime.” Journal of European Social Policy 27 (5): 474–90. Mertens, Daniel, Andreas Nölke, Michael Schedelik, Christian May, Tobias ten Brink, and Alexandre de Podestá Gomes. 2022. “Moving the Center: Adapting the Toolbox of Growth Model Research to Emerging Capitalist Economies.” IPE Working Paper No. 188/2022. Berlin: HWR. Molina, Óscar, and Martin Rhodes. 2007. “The Political Economy of Adjustment in Mixed Market Economies: A Study of Spain and Italy.” In Beyond Varieties of Capitalism: Conflict, Contradictions, and Complementarities in the European Economy, edited by Bob Hancké, Martin Rhodes, and Mark Thatcher, 223–52. Oxford: Oxford University Press. Muchie, Mammo, Peter Gammeltoft, and Bengt-Åke Lundvall, eds. 2003. Putting Africa First: The Making of African Innovation Systems. Aalborg: Aalborg University Press. Nattrass, Nicoli. 2014. “A South African Variety of capitalism?” New Political Economy 19 (1): 56–78.

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PART II

Technological Upgrading in Brazil: Achievements and Challenges

CHAPTER 3

Evidence on Innovation Capacity Building

3.1

Introduction

This chapter offers an in-depth analysis of the process of technological upgrading in Brazil’s economy. It combines aggregate, sectoral, and firmlevel analyses, employing a variety of statistical indicators, in order to provide a comprehensive assessment of the dependent variable of this study. Empirically, the chapter draws on, e.g., GDP growth decomposition, productivity measures, sectoral value added data, patent data, export data, and innovation survey data. It provides an analysis of technological upgrading in Brazil to a level of detail that has not yet been undertaken. This is one of the major empirical contributions of this book. The chapter is organized as follows. Section 3.2 provides a general aggregate analysis of the Brazilian economy during the period of investigation, 2000 to 2015, comparing the respective outcomes to the preceding period of the 1990s and to those from other middle-income countries. It starts with some key economic and social indicators, providing the overall context in which technological upgrading took place. Thereafter, GDP growth is deconstructed into its components, also calculating the relative contributions, in order to assess the key drivers behind Brazilian economic growth in this period. Finally, the contributions from factor

© The Author(s), under exclusive license to Springer Nature Switzerland AG 2023 M. Schedelik, The Political Economy of Upgrading Regimes: Brazil and beyond, International Political Economy Series, https://doi.org/10.1007/978-3-031-34002-4_3

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inputs to GDP growth are analyzed and complemented by a discussion of key productivity indicators, such as total factor productivity, labor productivity, and capital deepening. Section 3.3 disaggregates the general picture by analyzing value added and employment trends in several key sectors and subsectors of the Brazilian economy. Furthermore, we break down the annual growth of labor productivity by sectors in order to assess processes of structural change, i.e. the reallocation of workers from low-productivity sectors to high-productivity sectors. Lastly, we assess Brazil’s technological and export specialization in this period. Section 3.4 examines firm-level data drawn from Brazil’s national innovation survey, complemented by patent data, in order to trace the success of innovation capacity building in Brazilian companies. Section 3.5 concludes.

3.2

General Analysis

Before the 2014 recession hit the Brazilian economy, the period of the 2000s and early 2010s was marked by impressive GDP growth (see Fig. 3.1). Strikingly, compared to the 1990s, growth in output was accompanied by strong employment and investment growth. The Brazilian GDP grew 3.6% on average from 2000 until 2013, with only a mild downturn after the global financial crisis in 2008. Employment followed suit with persistent growth of 2.3% on average, indicating a period of significant inclusive growth. In addition, the average investment growth rate more than doubled from 2.1% in the 1990s to 5.0% in the 2000s. From a comparative perspective, however, Brazil’s economic performance is less impressive: although her Latin American peers grew slightly less pronounced with only 3.2% on average from 2000 until 2013, fellow middle-income countries grew 5.8% on average in the same period.1 Similarly, gross capital formation increased marginally less, 4.9%, in other parts of Latin America, but 13% in other middle-income countries, more than twice the Brazilian rate. The favorable economic situation translated into remarkable per capita income growth of 2.8% on average in the period from 2000 to 2013, pushing Brazil firmly from lower middle-income status ($1,026–$3,995) 1 See World Development Indicators: https://data.worldbank.org/indicator/NY.GDP. MKTP.KD.ZG, retrieved on 23 February 2023.

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30 25 20

in percent

15 10 5 0 -5 -10 -15 -20 GDP

Employment

Gross capital formation

Fig. 3.1 Annual growth of gross domestic product, employment, and gross capital formation, in percent, 1990–2015 (Source World Bank, World Development Indicators; The Conference Board, Total economy database)

into high-income ($12,376 and above) in only one decade. Although the deep recession of 2014–2016 pulled the country back into the (higher) middle-income spectrum, the milagrinho (little miracle) had a decisive impact on the structure of Brazilian society. Overall income inequality, as measured by the Gini coefficient, fell significantly from 58.4 in 2000 to 51.3 in 2014.2 This was accompanied by drastic reductions in the poverty headcount ratio: from 45.9% of the population living on less than $5.5 a day (absolute poverty) in 1999 to a mere 17.9% in 2014 and from 13.4% of the population living on less than $1.9 a day (i.e. in extreme poverty) in 1999 to 2.8% in 2014. By comparison, in Latin America as a whole, absolute poverty ($5.5/day) declined from 47.3% to 25%, and extreme poverty ($1.9/day) from 13.9% to 3.9% in the same period. By disaggregating the trajectory in output growth in the 2000s, we can discern several, mutually reinforcing drivers of aggregate demand. First, exports grew strongly by 9.3% on average between 2000 and 2007

2 See World Development Indicators: https://data.worldbank.org/indicator/SI.POV. GINI, retrieved on 23 February 2023.

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and 4.8% between 2010 and 2013, with only a short downturn during the global recession of 2008/2009.3 Second, private consumption grew 3.2% in 2006, before the crisis, and 4.5% between 2008 and 2014. In combination with government consumption and investment, this pillar of aggregate demand offset the fall in exports during the crisis. Third, government consumption increased steadily from −0.2% in 2000 to 4.1% in 2007 and grew constantly by 2.2% on average during and after the crisis until 2014. Fourth, investment, after only mild and even negative growth at the beginning of the decade, grew strongly by 7.1% on average between 2004 and 2013. Finally, imports showed a similar pattern to investment growth with strong increases of 11.5% on average from 2004 until 2013. In order to assess the relative importance of each component for total GDP, we further calculate the relative contributions to GDP growth.4 This approach is widely used in the emerging growth model literature in comparative political economy and Post-Keynesian economics. As shown in Fig. 3.2, the dynamic element of GDP growth at the beginning of the period is net exports. Thereafter, private consumption is the main driver of growth. Investment becomes a second pillar of GDP growth in the years before and after the global financial crisis. Hence, one could say that growth in Brazil was export-led at the beginning of the period, followed by a period of consumption-led growth that was temporarily seconded by investments. However, at this level of aggregation, we cannot say whether an investment is public or private, or in construction or in industry. By the same token, we cannot say whether private consumption was fueled by real wage increases or private debt. The following chapters will add the necessary contextual information in order to determine these important distinctions. Looking at factor inputs to GDP growth, we see that output was mainly driven by an increase in the labor supply (see Fig. 3.3). The labor force expansion added 0.9% on average to GDP growth in the period

3 See OECD National Accounts Statistics: https://stats.oecd.org/Index.aspx?DataSe tCode=SNA_TABLE1, retrieved on 23 February 2023. 4 The relative contributions to GDP growth are calculated by dividing the change in one aggregate demand factor (e.g. C for private consumption) by the change in GDP (Y): dC/dY.

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3 2.5 2

in percent

1.5 1 0.5 0 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 -0.5 -1 -1.5 -2 Private Consumption

Government Consumption

Investment

Net Exports

Fig. 3.2 Relative contributions to GDP growth, 2001–2015 (Note The year 2009 is excluded due to data irregularities. Source OECD, National Accounts database; Mertens et al. 2022)

from 2000 until 2014, with only a short downturn after the global financial crisis of 2008. This is in stark contrast to the preceding 1990s with a meager 0.4% on average, largely due to a drastic increase in 1999. Capital investments also contributed significantly to GDP growth, between 2003 and 2008 mainly driven by ICT capital, which features strong complementarities with knowledge capital and has positive effects on productivity growth (Corrado et al. 2017), and between 2007 and 2014 by non-ICT capital. On average, ICT capital contributed 0.9% to GDP growth and non-ICT capital 1.3% in the period from 2000 until 2014. Strikingly, the quality of labor, i.e. human capital, had only a marginal impact on GDP growth. This factor input only contributed a meager 0.2% on average to output growth, a slight increase from the 1990s with just 0.1%. This analysis gives us a first indication that growth in Brazil in the 2000s was primarily input-driven, by the expansion of the workforce and traditional capital investments. As the neoclassical growth theory predicts (Solow 1956), such a growth trajectory is likely to be unsustainable in the long run due to diminishing returns.

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3.5 3.0 2.5 2.0

in percent

1.5 1.0 0.5 0.0 -0.5 -1.0 -1.5 -2.0 Labor quality

Labor quantity

ICT capital

Non-ICT capital

Fig. 3.3 Contribution of factor inputs to GDP growth, in percent, 1990–2014 (Source The Conference Board, Total economy database)

Next, we look at productivity indicators in more detail in order to grasp whether we can discern progressive developments towards technological upgrading in the Brazilian economy. As a first approximation, we look at total factor productivity to measure the amount of output that can be traced back to productivity increases (see Fig. 3.4). Total factor productivity, calculated by dividing output by the weighted averages of labor and capital inputs, grew by −0.1% on average in the period from 2000 until 2014. This was the same rate as in the 1990s, due to dramatic decreases in 1990 and 1999. Hence, the entire period from 1990 until 2014 is characterized by very low and even negative productivity growth, indicating only marginal technical change in the Brazilian economy. By comparison, total factor productivity grew 1.3% on average in emerging and developing economies and 0.4% on average in advanced economies in the period from 2000 to 2014.5 As a second indicator for productivity, we take labor productivity, calculated by dividing output by total hours worked (see Fig. 3.4). For

5 See Total Economy database: https://www.conference-board.org/data/economydatab ase/total-economy-database-productivity, retrieved on 23 February 2023.

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8.0 6.0

in percent

4.0 2.0 0.0 -2.0 -4.0 -6.0 -8.0 Total factor productivity

Labor productivity

Capital deepening

Fig. 3.4 Annual growth of productivity indicators, in percent, 1990–2014 (Source The Conference Board, Total economy database; Own calculations based on Penn World Table)

this measure, we see a broadly similar development in the period of investigation with sharp decreases in 1990 and 1999 and positive trends of up to 4.0% growth in the mid-1990s. However, in contrast to total factor productivity, labor productivity has another positive trend in the mid-2000s, mainly between 2006 and 2011 with growth rates of up to 3.0 to 4.0%. On average, therefore, labor productivity grew by 1.5% in the period from 2000 until 2014, compared to only 1.0% in the preceding 1990s. In a comparative perspective, however, this is a rather meager outcome. Labor productivity, as measured by output per persons employed, grew only 1% in Brazil, but 1.2% in the advanced economies, 4.1% in other emerging and developing economies, and 9.7% in China in the period from 2000 to 2014.6 After having looked at the most commonly used indicators for productivity and technical change, we now turn to the capital-related measure of enhanced efficiency: capital deepening (see Fig. 3.4). This indicator, closely related to labor productivity and a main driver of it, refers to

6 See Total Economy database: https://www.conference-board.org/data/economydatab ase/total-economy-database-productivity, retrieved on 23 February 2023.

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an increase in the proportion of the capital stock to total hours worked. Hence, this measure shows an increase in the capital-labor ratio. Unsurprisingly, capital deepening occurred to a relatively greater degree in the 1990s, with a 1.8% increase on average, and rather less in the period from 2000 until 2014, with a 1.3% increase on average. This outcome is consistent with the findings from Fig. 3.3 showing that growth in the 1990s was driven predominately by capital rather than labor inputs and growth in the 2000s vice versa. Given the rapid expansion of the labor force in the 2000s, investments could hardly mitigate depreciations and the accommodation of new workers. This resulted in an almost stagnant level of stock of capital per employee (BCG 2013, 11–12). In other emerging economies such as China, for instance, the stock of capital per employee grew 7% on average in the 2000s, recently reaching OECD levels (Brandt et al. 2020, 20; BCG 2013, 11–12). Summarizing the analysis thus far, we can identify the broader patterns underlying Brazil’s economic growth trajectory in the 2000s and early 2010s. Disaggregating the components of GDP growth indicates that a virtuous circle of domestic consumption, commodity exports, and investment drove growth during this period. Looking at factor inputs, it becomes clear that economic growth was mainly input-driven, particularly by a rapid expansion of the workforce but also by traditional (non-ICT) capital investments. Human capital and ICT investment only played a marginal role in output growth. This is also reflected in the low productivity measures, especially total factor productivity and labor productivity but also capital deepening. In the next section, we take a more finegrained perspective and look at the sectoral dynamics underlying the general picture.

3.3

Sectoral Analysis

To begin the sectoral analysis, we first look at value added per sector as a share of GDP in order to assess the sectoral drivers of total output in the Brazilian economy. Starting in the mid-1990s, we witness a clear secular trend towards a service-dominated economy in Brazil (see Fig. 3.5). Services account for roughly 45% of value-added GDP in the early 1990s and over 60% from 1995 until today. Other middle-income countries experience a similar trajectory, which is, however, more gradual and less

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70 60

in percent

50 40 30 20 10 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015

0

Agriculture, forestry, and fishing

Industry (including construction)

Manufacturing

Services

Fig. 3.5 Value added per sector as a share of GDP, in percent, 1990–2015 (Source UNIDO, International Yearbook of Industrial Statistics)

pronounced.7 In consequence, all other sectors witness declining shares of value added in the same period: industry’s share as a whole, including construction, drops from 35% in the mid-1990s to slightly above 20% thereafter; manufacturing falls from 23% to only 10% in 2015, half the share of other middle-income countries on average; the share of agriculture, forestry, and fishing also halves, from 8.5% in 1994 to 4.3% in 2015. This is to say that Brazil experiences a structural shift away from industry to services, as expected given the rise in per capita income in this period. To complement this picture, we take a look at employment figures in the same period. According to data from ILOstat, services’ share of total employment rises significantly from 55% in 1991 to 67.6% in 2015.8 Agriculture’s share, consequently, declines from 22% to 10% in the same time

7 See UNIDO’s International Yearbook of Industrial Statistics: https://www.unido. org/resources-publications-flagship-publications/international-yearbook-industrial-statis tics, retrieved on 23 February 2023. 8 See ILOStat: https://ilostat.ilo.org/data/, retrieved on 23 February 2023.

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period, once again as expected. Both developments are in line with the general trajectory in other middle-income countries. Strikingly, however, industry’s employment share continues to stay at 22% over the whole period, again as in other middle-income countries. Without anticipating, we can draw the preliminary conclusion that given the drop in value added in industry with a constant employment share, the reasons for the productivity malaise discerned in the preceding section have to do with this sector. In order to get a more detailed picture of the dynamics in the manufacturing sector, we look at disaggregated numbers for valued added per subsector.9 Restricting ourselves to the major sectors like food and beverages, chemicals, textiles, and machinery, we clearly see that food and beverages significantly increase its share in manufacturing value added from slightly above 15% in the early 1990s to almost 25% in 2015. Chemicals, by contrast, witness a decline from 18% to 14%. Similarly, textiles drop significantly from 10% to 6.4%. Finally, the share of machinery and transport equipment stays roughly the same, around 18% with a temporary rise to above 22% in the late 2000s. Other subsectors of manufacturing show a similar pattern as the machinery sector with a rise from 37% to over 45% in the 2000s and a subsequent decline to 37% again. Hence, we see that within the overall declining manufacturing sector, the agriculture-related food and beverages sector increased its share of value added significantly during the period of investigation. Building on the preceding discussion, we now turn to the medium and high-tech sectors in manufacturing to get a sense of their development in the period of investigation. Focusing on sectors with high average R&D expenditures is, for many observers, an indicator of technological upgrading. Similarly, looking at exports of these sectors indicates their international competitiveness. As for valued added, medium and hightech industry, including construction, accounts for only roughly 35% in the late 1990s and 2000–2010s, after being at roughly 50% in the early 1990s.10 Simultaneously, medium and high-tech exports rise in the same period from 40% in 1996 to 48% in 2005 before falling again to 36% in 9 See UNIDO’s International Yearbook of Industrial Statistics: https://www.unido. org/resources-publications-flagship-publications/international-yearbook-industrial-statis tics, retrieved on 23 February 2023. 10 See UNIDO’s Competitive Industrial Performance database: https://stat.unido.org/ cip/, retrieved on 23 February 2023.

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40000 35000 30000 25000 20000 15000 10000 5000 0

2000

2005

2010

2013

Fig. 3.6 Productivity levels (value added per worker) across sectors, 2000–2013 (Source Qian et al. 2018)

2011. At first sight, Brazil’s medium and high-tech manufacturing sector is characterized by a secular decline in value added in the period of investigation. However, its export share of manufacturing rises significantly, with a downturn from 2008 to 2011, the years after the Great Recession of 2007–2009. By comparison, other emerging economies such as China, for instance, manage to gradually increase medium and high-tech value added from 37% in 1990 to 41% in 2015, while others such as India manage to maintain their share of 40% during the period. With regard to exports, both economies manage to roughly double the share of medium and hightech exports from 28% in 1990 to 59% in 2015 in the case of China and 18% to 34% in the same period in the case of India. Summing up, these patterns indicate that the medium and high-tech segments lose significance with regard to value added in an overall declining Brazilian manufacturing sector but gain export shares in a period marked by strong domestic demand and high levels of imports. In comparison to other major emerging economies, the Brazilian economy features a less pronounced medium and high-tech manufacturing industry which is generally regarded as the center of innovative activity in the economy.

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Having assessed the general sectoral dynamics regarding employment and value added, we now examine more detailed indicators for technological upgrading, i.e. labor productivity across sectors. Figure 3.6 depicts productivity levels as measured by value added per worker for the main economic sectors from 2000 until 2013. The data reveals significant differences across sectors. As expected, the agricultural sector is by far the least productive, closely followed by the retail sector with similar productivity levels in 2013. Construction has a 3.3 times higher productivity compared to agriculture in 2000 which narrows down to 1.7 in 2013. Similarly, manufacturing’s productivity gap to the agricultural sector decreases significantly from 5.5 in 2000 to 2.3 in 2013. In the middle of the spectrum, the productivity gap of transport and communications, governmental services, and other activities to agriculture narrows down from 4.7, 4.3, and 6 in 2000 to 2.6 and 2.7 in 2013. The most productive sectors, extractives, and utilities, also decrease their gap to agriculture from 10.9 and 13.1 in 2000 to 5.5 and 6.4 in 2013. This secular trend of convergence of productivity levels is mainly driven by high and sustained productivity increases in the agricultural sector. In the period of investigation, cumulative labor productivity growth amounts to 105.6%, compared to an 11.7% rise in services and a 5.5% contraction in manufacturing (Qian et al. 2018, 9). The sectoral contributions to overall labor productivity growth, as measured in value added per worker, are depicted in Fig. 3.7 which disaggregates labor productivity growth for the periods 1997–2002, 2003–2008, and 2009–2014. Again, the dominance of agriculture as a driver of overall labor productivity growth becomes apparent, especially in the period from 1997 to 2002 with 0.5% but also later with 0.3% from 2003 to 2008 and 0.4% from 2009 to 2014 respectively. After a period of declining productivity, −1.4% from 1997 to 2002, services made the strongest contributions to labor productivity growth with 0.8% in the period from 2003 to 2008 and 0.6% from 2009 to 2014, respectively. Industry, by contrast, remains fairly stagnant over most of the period of investigation and starts a trend of significant decline in 2009. Hence, the main sectoral drivers of labor productivity in the Brazilian economy have been agriculture and services, although both started from low levels. Industry, and particularly manufacturing, started from comparatively high levels and experienced a continuous downward trend in labor productivity growth. This finding is consistent with our prior analysis of overall value added and employment dynamics: A significant part of productivity

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1.5 1

in percent

0.5 0 1997-2002

2003-08

2009-14

-0.5 -1 -1.5 -2 Services

Agriculture

Industry

Fig. 3.7 Decomposition of annual growth of labor productivity (by sector), in percent, 1997–2014 (Source Qian et al. 2018)

movements can be traced back to the structural change taking place in the Brazilian economy during this period with agriculture experiencing laborsaving technological change and shedding labor to the booming service sector, particularly to business and governmental services (Bustos et al. 2016; Qian et al. 2018, 9). In order to describe the role of structural change in more detail, we elaborate on labor reallocation effects on labor productivity. Here, labor productivity growth is broken down into within-sector productivity changes and those attributed to the reallocation of workers between sectors, implying structural change. The latter is again broken down into reallocation effects taking place between static sectors and those between dynamic sectors. The between-static category measures the contribution of labor reallocation across sectors. It is positive when labor moves from less to more productive sectors and negative when labor flows from more to less productive sectors (Qian et al. 2018, 11, fn. 6). The betweendynamic category captures the joint effect of changes in employment and sectoral productivity growth (ibid.). The main finding here is that structural change, i.e. the reallocation of workers from low-productivity sectors to high-productivity sectors, had a positive but weak impact on labor

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productivity growth in the period of investigation. Most productivity increases took place within sectors. However, the inter-sectoral effects that can be discerned are mainly between static sectors. The dynamic sectors with expanding employment shares mostly experienced declining productivity: utilities between 1996 and 2002, manufacturing between 2003 and 2008, and governmental services and mining between 2009 and 2013 (Qian et al. 2018, 11). By contrast, those sectors with rapidly rising productivity, like financial services and real estate, absorbed little to no additional labor (ibid., 16). As a next step, we use patent data and the revealed technological advantage (RTA) index as developed by Soete (1987) in order to assess how Brazil’s technology specialization profile has changed in the period of investigation (see Fig. 3.8). After value added, employment shifts (structural change), and productivity, the technological specialization through patent applications serves as a further indicator of a country’s technological profile that is widely used in the literature (Taylor 2004; Meelen et al. 2017). However, for developing and emerging countries this indicator has only gained importance relatively recently due to serious data constraints. The RTA index measures “the sectoral specialization of a country relative to the overall specialization of the country in relation to the reference group” (Dominguez Lacasa et al. 2019, 273) with an RTA above 1 indicating a technological specialization relative to the reference group.11 Drawing on the work of Dominguez Lacasa et al. (2019), we can identify several trends in Brazil’s technology specialization profile. First, Brazil’s economy in the period from 2007 to 2015 is characterized by a specialization in natural resources and agriculturerelated activities as well as selected services. Here, civil engineering (RTA of 2.8), coke and refined petroleum products (2.52), leather and related products (2.72), beverages (2.84), and food products (2.17) stand out as the most significant sectors (all > 2). In addition, specialized construction activites (1.9), other manufacturing (1.35), furniture (1.85), other transport equipment (1.53), machinery equipment (1.2), basic metals (1.76), basic pharmaceutical products and preparations (1.26), chemicals and chemical products (1.6), paper and paper products (1.58), wood 11 Here, “the RTA index is calculated based on the number of transnational patent applications with at least one domestic inventor for each year in relation to all transnational applications by all BRICS and reference countries (EU, US, JP)” (Dominguez Lacasa et al. 2019, 273).

0

0.5

1 1989-97

1.5 2007-15

2

2.5

3

3.5

4

4.5

Fig. 3.8 Brazil’s revealed technological advantage, 1989–1997 and 2007–2015 (Source Dominguez Lacasa et al. 2019, appendix, table A3)

Computer Programing, Consultancy, & Related Activities Specialized Construction Activities Civil engineering Other Manufacturing Furniture Other Transport Equipment Motor vehicles, trailes, & semi-trailers Machinery & Equipment Electrical Equipment Computer, Electronic & Optical Products Fabricated Metal Products Basic Metals Other Non-Metallic Mineral Products Rubber & Plastic Products Basic Pharmaceutical Products & Preparations Chemicals & Chemical Products Coke & Refined Petroleum Products Printing & Reproduction of recorded media Paper & Paper Products Wood & Related Products Leather & Related Products Wearing Apparel Textiles Tobacco Products Beverages Food Products

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and related products (1.05), wearing apparel (1.77), textiles (1.25), and tobacco products (1.38) show a revealed technological advantage for Brazil (all > 1). Second, comparing the 2007–2015 period to 1989–1997, we see slight to significant improvements in the RTA values for most sectors, the exceptions being minor reductions in computer programming, consultancy, and related activities (−0.21), motor vehicles, trailers, and semitrailers (−0.13), electrical equipment (−0.42), fabricated metal products (−0.10), and paper and paper related products (−0.22). A major reduction in RTA values can be discerned in the sectors with the highest revealed technological advantage: civil engineering (−1.06) and beverages (−1.16). The most pronounced improvements in RTA values are in wood and related products (+1.05), wearing apparel (+1.01), food products (+0.92), specialized construction activities (+0.69), chemicals and chemical products (+0.69), leather and related products (+0.66), and basic pharmaceutical products and preparations (+0.65). These patterns indicate a process of increasing technological diversification of the Brazilian 4.5 4 3.5 Primary goods 3

Resource based industry

2.5

Labor intensive manufacturing

2

Scale intensive manufacturing Specialized supplier based manufacturing

1.5

Science based manufacturing

1 0.5 0 1990

1995

2000

2005

2010

2015

Fig. 3.9 Brazil’s revealed comparative advantage, 1990–2015 (Source Nassif and Castilho 2020)

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economy in the period of investigation. Brazilian firms in an increasing number of sectors tend to (co)apply for transnational patents, showing their growing technological specialization. Only firms in individual sectors such as electronics and software lost their technological advantage relative to foreign competitors. Figure 3.8 shows the changes in revealed technological advantage for several sectors of the Brazilian economy between 1989 and 1997 and 2007 and 2015. Finally, we look at Brazil’s export specialization in several aggregate sectoral categories (see Fig. 3.9). To assess Brazil’s evolving export profile, we take the widely used Balassa index of revealed comparative advantage (RCA) which captures the sectoral export–import ratios in relation to the overall export–import ratio (Schneider and Paunescu 2012; Meelen et al. 2017). An RCA above 1 indicates a comparative advantage in the production of the relevant good relative to the reference countries. Drawing on the work of Nassif and Castilho (2020), we see a persistent trend towards export specialization in primary goods between 1990 and 2015. Primary products have an RCA of 1.8 in 1990, rising continuously in the 1990s and early 2000s to 2.4 and jumping thereafter to 4.1 in 2015. The other categories, especially those in manufacturing, experience stagnant or declining RCA values over the period, with only resource-based industries having comparative advantage (1.7 in 1990 to 1.1 in 2015). All other sectors have a comparative disadvantage, except for scale-intensive manufacturing in 2005 with a meager 1.1 RCA value. These findings indicate principally two major points: First, with global, especially Chinese, demand for primary products like iron ore and soybeans rising, Brazil’s export volumes in this category responded accordingly. Second, with the exception of resource-based industries, Brazilian manufacturing sectors were not major exporters in this period, be it due to rising demand in the domestic market, declining international competitiveness, or both. We will address this important question in the following chapters. Here it will suffice to get a sense of Brazil’s overall economic specialization. Summarizing the sectoral dynamics underlying Brazil’s growth trajectory in the period of investigation, we can identify several major patterns. First, the 1990s and 2000s are characterized by a secular trend of deindustrialization towards a service-based economy, both in terms of value added and employment. In the overall declining manufacturing sector, agriculture-related industries such as food, beverages, and tobacco, but also other medium–low-tech industries like machinery and transport

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equipment, account for the bulk of value added. Notably, the medium and high-tech share of manufacturing value added declines significantly from over 50% in the mid-1990s to only about 35% in 2015. Second, labor productivity growth as a key indicator for technological upgrading is mainly driven by productivity increases in the agricultural and services sectors. Industry, and manufacturing in particular, started from comparatively high levels but experienced a continuous downward trend. To some degree, this can be traced back to structural change taking place in the Brazilian economy during this period with agriculture experiencing labor-saving technical change and shedding labor to the booming service sector. Although structural change had a positive effect on labor productivity growth, it was relatively weak. Most productivity increases took place within sectors. In addition, the discernable intersectoral effects are mainly between static sectors. The dynamic sectors with expanding employment shares mostly experience declining productivity, such as utilities between 1996 and 2002, manufacturing between 2003 and 2008, and governmental services and mining between 2009 and 2013. By contrast, those sectors with rapidly rising productivity, like financial services and real estate, absorbed little to no additional labor. Third, patent data and the revealed technology advantage index show that Brazil’s economy has a technological specialization in natural resources and agriculture-related activities as well as selected services. In the period of investigation, most sectors experience modest to significant improvements in their RTA values. These patterns indicate a process of increasing technological diversification in the Brazilian economy during the period of investigation. Brazilian firms in an increasing number of sectors tend to (co)apply for transnational patents, showing their growing technological specialization. Only firms in individual sectors, such as electronics and software, lost their technological advantage relative to foreign competitors. Finally, export data and Balassa’s index of revealed comparative advantage for Brazil show its clear export specialization in agriculture-related and other primary products. This export profile became overwhelmingly dominant during the course of the 1990s and 2010s, with primary products being the only sector by a wide margin for which the Brazilian economy had a comparative advantage relative to reference countries. In the next section, we analyze firm-level data in order to get an even more fine-grained perspective of the processes of technological upgrading in the Brazilian economy.

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Firm-Level Analysis

As a first step, we analyze firm-level survey data covering a range of innovation-related activities in a Brazilian-wide sample of about 72,000 firms (with 10 or more employees) in the 1998–2000 period to 116,962 firms in the 2015–2017 period. The survey called “Pesquisa Industrial de Inovação Tecnológica—PINTEC” is conducted triennially by the Brazilian Institute of Geography and Statistics (Instituto Brasileiro de Geografia e Estatística, IBGE) according to the methodology used in the Community Innovation Survey in the European Union and laid down in the Oslo manual on collecting and interpreting innovation data (OECD 2005). PINTEC data is arguably the most authoritative and frequently used source in studies analyzing the innovation activities of Brazilian companies (see, e.g. Kennebley Jr. et al. 2005; Frank et al. 2016). Therefore, we draw extensively on this material here. To this date, there have been seven surveys, covering the entire period of investigation of this study from 1998 to 2017. In 2008, minor revisions were incorporated with the updated National Classification of Economic Activities (Classificação Nacional de Atividades Econômicas, CNAE 2.0) and the survey methodology of the third edition of the Oslo manual (OECD 2005). In addition, the 2011 survey introduced a set of new industrial categories such as electricity and gas and services like architectural and engineering activities. To begin with, we look at the innovation rate of the Brazilian economy as a whole and that of particular sectors.12 This data shows the average rate of companies introducing new products and/or processes in the Brazilian economy; those with organizational and/or marketing innovations, and those with incomplete and/or abandoned projects. The minimal benchmark for “newness” here refers to the individual company level. The rate of firms with product and/or process innovations is generally referred to as “the” innovation rate and therefore regarded as the most important indicator of a country’s innovativeness. Starting from a mere 31.52% in the 1998–2000 period, the rate of product and/or process innovation rose steadily in the 2000s to a peak of 38.29% in the 2006–2008 period. After that, the rate fell moderately again, first

12 See IBGE, Pesquisa de Inovação—PINTEC: https://www.ibge.gov.br/estatisticas/ multidominio/ciencia-tecnologia-e-inovacao/9141-pesquisa-de-inovacao.html?=&t=des taques, retrieved on 23 February 2023.

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to slightly below 36% and recently to 33.63%. The drastic fall of 2.35 percentage points in the period from 2015 to 2017 is arguably partly driven by the serious economic contraction occurring in this period, given the fact that investments in R&D and related activities are procyclical (Ouyang 2011). However, it is interesting to note that for the first time in the survey’s history private investment in R&D fell relative to GDP, from 0.58% in 2014 to 0.5% in 2017 (De Negri et al. 2020, 5–6). The rate of firms with organizational and/or marketing innovations fell steadily from 39.74% in the 1998–2000 period to 34.96% in the 2006–2008 period and finally to only 31.7% in the recent 2015–2017 period. Similarly, firms with incomplete and/or abandoned projects fell continuously from 4.11% at the beginning of the period to 2.09% recently. By comparison, key reference countries show considerably higher rates of firm innovativeness. As an example, 43.6% of Chinese firms, 41.9% of Indian firms, 49.6% of Argentinian firms, and 33.9% of Mexican firms introduce new products or services; and 58% of Chinese firms, 56.4% of Indian firms, 35% of Argentinian firms, and 45.4% of Mexican firms introduce new processes.13 Keeping the problem of comparisons of subjective measures across cultures in mind (Cirera and Maloney 2017, 39), we can safely say that the innovation rate of Brazilian companies is behind that of other emerging economies with similar per capita income. Overall, these are rather disappointing developments, given the efforts undertaken by the Workers’ Party governments and the respective expectations. However, it is worthwhile to take a closer look at the underlying sectoral dynamics. Table 3.1, therefore, disaggregates the data on a sectoral basis, depicting the innovation rate (product and/or process innovations) of each sector (the column named “% of sector”) as well as each sectors’ share of innovative companies relative to all innovative companies in the sample (the column named “% of total”). As a first analysis of the data, above-average figures for the first category (% of the sector) and all figures above 3% for the second (% of total) are shaded in grey. Looking only at the first and the most recent two periods of the survey, we can highlight some interesting aspects. First, the extractive industries experienced a drastic increase in their innovation rate from only 17.18% at the beginning of the period to 42.02% in 2012–2014 with 13 See World Bank Enterprise Surveys: https://www.enterprisesurveys.org/en/data, retrieved on 23 February 2023. Data for China 2012, India 2014, Argentinia 2017, and Mexico 2010.

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an equally drastic fall thereafter to 14.63% in 2015–2017. Such enormous differences are exceptional. Similar developments can be discerned in electricity and gas as well as several service sectors such as data processing, hosting, and related activities and sound recording and music publishing activities. These sectors were only introduced in the 2009–2011 survey when they experienced an above-average innovation rate and a subsequent drastic fall of 10–20 percentage points. Most other sectors, by and large, show the overall trend of a moderately increasing innovation rate from 1998–2000 to 2012–2014 with a slight fall thereafter. Second, the most innovative sectors, i.e. those with an innovation rate of more than 40% at the end of the period, are food products (42.51%), beverages (44.2%), chemicals (45.94%), pharmaceuticals (40.59%), IT equipment, electrical and optical products (54.19%), other transport equipment (53.33%), computer programing and consultancy (42.41%), and scientific research and development (95.65%). Third, those sectors with the highest absolute numbers of innovative companies in the 2015–2017 period, i.e. with the highest shares of all innovative companies in the sample, are food products (15.52%), wearing apparel (12.63%), furniture and miscellaneous products (7.25%), metal products (6.84%), non-metallic mineral products (6.75%), machines and equipment (5.56%), and computer programing and consultancy (5.49%). After having assessed the overall innovation rate as well as the sectoral equivalents, we now turn more explicitly to the degree of novelty of innovative activities of Brazilian companies in the period of investigation. Figure 3.10 shows figures for the nature of innovativeness for product and process innovations, respectively. At this point, companies were asked whether the introduced product or process was new to the firm, new to the domestic market, or new to the global market. As can be seen, innovations new to the firm represent the clear majority with around 80% for product innovations and roughly 90% for process innovations in the entire period of investigation. Innovations new to the domestic market, by contrast, make up only around 20% of product innovations and around 10% of process innovations. Finally, innovations new to the global market account for roughly 2% of product innovations and just around 1% for process innovations. Nevertheless, we can discern a clear downward trend for the share of mere new-to-the-firm-type innovations from 83.09% in the 2003–2005 period to 77.27% in the 2015–2017 period for product innovations. Equally, the incidence of new-to-the-firm-type process innovations fell

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Table 3.1 Sectoral distribution of product and/or process innovations, 1998– 2017 Sectors

1998-2000

2012-2014

2015-2017

% of sector 17.18

% of total 1.31

% of sector 42.02

% of total 2.39

% of sector 14.63

% of total 0.85

Manufacturing

31.88

98.69

36.31

87.75

34.32

87.46

Food products

29.22

12.22

44.55

12.93

42.51

15.52

Beverages

23.9

1.11

43.74

0.89

44.2

1.17

Tobacco products

34.62

0.08

35.29

0.05

30.77

0.05

Textiles

31.87

3.96

32

2.59

29.65

2.52

Wearing apparel

26.22

10.28

29.05

10.7

34.59

12.63

Extractive Industries

Leather products

33.64

4.9

28.75

2.97

23.98

2.27

Wood products

14.27

2.93

25.31

2.78

21.85

2.33 1.8

Pulp, paper, and paper products

24.76

1.47

30.33

1.36

37.67

Printing and reproduction of recordings

33.09

4.88

27.62

1.76

31.31

1.9

Coke and refined petroleum products

33.68

0.29

42.37

0.26

34.71

0.25

Chemicals

45.98

5.04

49.61

3.78

45.94

4.09

Pharmaceuticals

46.73

1.1

52.22

0.44

40.59

0.45

Rubber and plastic products

39.73

7.39

40.92

6.13

30.17

4.85

Non-metallic mineral products

21

5.56

38.51

8.87

29.09

6.75

Metallurgy

31.42

1.74

37.67

1.4

32.56

1.15

Metal products

32.76

8.32

29.43

7.37

27.81

6.84

IT equipment, electrical and optical products Electrical machines, appliances & materials Machines and equipment

61.47

3.8

68.29

2.21

54.19

1.8

48.17

3.08

47.1

2.14

37.54

1.8

44.44

7.68

40.33

5.57

39.24

5.56

Motor vehicles, trailers, and vehicle parts Other transport equipment

36.42

2.81

39.06

2.26

38.97

2.4

43.75

0.77

37.96

0.48

53.33

0.73

Furniture and miscellaneous products

34.43

9.2

43.49

8.84

33.98

7.25

Electricity and gas*

44.14*

0.48*

29.27

0.29

28.45

0.43

Services*

36.82*

9.27*

32.44

9.58

31.96

11.26

Sound recording and music publishing activities* Telecommunications*

36.14*

1.5*

25.55

0.96

17.09

0.57

32.62*

0.73*

20.88

0.68

34.22

2.08

Computer programing and consultancy* Data processing, hosting, and related activities* Architectural and engineering activities* Scientific research and development*

44.79*

3.6*

46.34

4.9

42.41

5.49

38.07*

0.98*

17.6

0.45

32

1.02

29.62*

2.4*

27.3

2.55

21.18

2.02

96*

0.05*

90

0.04

95.65

0.05

Note “% of sector” refers to the share of product/and or process innovations in relation to all firms in a given sector; “% of total” refers to the share of product/and or process innovations of a given sector in relation to all product/and or process innovations *Categories introduced and/or significantly remodeled in the 2011 survey (2009–2011) Source Own calculations based on IBGE, Pesquisa de Inovação—PINTEC, 2000–2017

in percent

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100 90 80 70 60 50 40 30 20 10 0 New to the firm

New to the New to the New to the domestic global market firm market

Product innovation 2003-2005

2006-2008

New to the New to the domestic global market market

Process innovation 2009-2011

2012-2014

2015-2017

Fig. 3.10 The nature of innovative activities of Brazilian companies, in percent, 2003–2017 (Source IBGE, Pesquisa de Inovação—PINTEC, 2000–2017)

from 93.83% in the 2003–2005 period to 89.44% in the 2015–2017 period. Consequently, product innovations new to the domestic market rose from 15.87% at the beginning of the period to 20.01% at the end, and process innovations of the same category also experienced an upward trend from 5.72% to 9.43%. Hence, there is a development towards a more sophisticated landscape of innovation in the Brazilian economy. Although Brazilian companies in general are not innovative at the technology frontier and on global markets, they increasingly become so in the large domestic market. This is in line with our expectations drawn from the discussion in Chapter 2, stressing the importance of frugal innovations in the domestic market of emerging economies. From a comparative perspective, however, the ratio of product innovations new to the domestic market is well behind that of key reference countries: 73.9% of Indian companies, 68% of Argentinian companies, and 44.3% of Mexican companies introduce products or services which are new to the domestic market.14 14 See World Bank Enterprise Surveys: https://www.enterprisesurveys.org/en/data, retrieved on 23 February 2023. Data for India 2014, Argentinia 2017, and Mexico 2010.

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2001-03

2003-05

2006-08

2009-11

Training

2012-14

Low/None

High

Medium

Low/None

High

Medium

Low/None

High

Internal R&D Aqusition of Aquisiton of Aquisition of Aquisition of external R&D other external software machines & knowledge equipment

Medium

Low/None

High

Medium

Low/None

High

Medium

Low/None

High

Medium

Low/None

High

Medium

Low/None

High

Medium

100 90 80 70 60 50 40 30 20 10 0

Introduction Industrial of projects & technological other technical innovation to preparations the market 2015-17

Fig. 3.11 Kinds of innovative activities and their relevance for Brazilian companies, in percent, 2001–2017 (Source IBGE, Pesquisa de Inovação—PINTEC, 2000–2017)

As a next step, we analyze the exact kinds of innovative activities in Brazilian companies beyond their degree of novelty. Figure 3.11 shows figures for various types of innovative activity and their relevance for Brazilian companies over the period from 2001–2003 to 2015–2017. In the entire period, internal R&D, the acquisition of external R&D, as well as the acquisition of other external knowledge are largely irrelevant to the business strategies of Brazilian companies, with 80% to 95% indicating low or no relevance at all. The two most important activities by a wide margin are the acquisition of machines and equipment, with up to 64% of companies indicating a high relevance, and training, with up to 44%. Whereas the latter roughly stays at that level over the entire period, the former’s share of high relevance drops significantly from 64% at the beginning to only 40.9% at the end of the period. Consequently, other activities, like the acquisition of software and the introduction of technological innovation to the market, gain importance. The evolving overall picture complements the earlier findings: less innovative activities like the acquisition of machines and equipment tend to be substituted by more innovative activities like the acquisition of software or the introduction

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of technological innovations to the market. However, R&D-based activities predominant in more advanced economies are largely absent from the business strategies of Brazilian companies. Again, this is in line with our expectations drawn from the literature on frugal innovations in emerging economies (see Chapter 2). Having analyzed several aspects of the PINTEC surveys, we now turn to patent data to assess the intensity and breadth of technological upgrading of Brazilian companies. Drawing on work by Dominguez Lacasa et al. (2019), we look at transnational patent applications in the period from 1995 to 2015. As a measure of innovation capability on the technology frontier, they use the number of transnational patent applications per 1 billion GDP to assess the relative technology intensity of the Brazilian economy (Dominguez Lacasa et al. 2019, 266). For measuring the innovation capability behind the technology frontier, they use the difference between the priority filings count, i. e. the earliest patent application in the patent family irrespective of the patent authority, and the transnational patent applications count per 1 billion GDP (ibid., appendix, table A1, 276). As a measure of knowledge intensity of technological activities, they use the share of high technology patent applications in all transnational patent applications with at least one domestic applicant (ibid., appendix, table A1, 276). Finally, for measuring the diversification of technological activities, they draw on the number of International Patent Classification subclasses in which Brazilian companies filed transnational patent applications (ibid., 268). The patent-related innovative activities of Brazilian companies can be summarized as follows. First, Brazilian companies still only marginally apply for transnational patents at the technology frontier, but increasingly so in the recent decade. From a comparative perspective, the relatively marginal role of Brazilian technology frontier patents is confirmed visà-vis its BRICS peers: 714.7 (BR) relative to 1022.5 (RU), 2729.7 (IN), 342,185.5 (CN), and 296.8 (ZA) as of 2015 (ibid., appendix, table A2, 277). The same holds true for the share of patent applications in high-technology fields and knowledge-intensive services. Here, Brazilian companies (42.8 in 2015) only outcompete those from South Africa (31.9) but lag far behind their peers in India (289.3), Russia (140.2), and China (5579.2). Second, when Brazilian companies apply for transnational patents, these are mainly behind-the-frontier patents.

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Third, Brazilian companies in general apply for transnational patents in a diversified set of sectors, similar to the firms from the other BRICS economies: 337 (BR) relative to 338 (RU), 398 (IN), 559 (CN), and 218 (ZA). In accordance with the prior results, we can deduce that Brazilian companies do not yet innovate at the global technology frontier or in high-technology fields on a significant scale. However, they innovate behind the frontier and increasingly for the domestic market. Another main finding relates to the broad diversification of technological activities in Brazil. Finally, we try to assess the impact of innovative activities on Brazilian companies. Therefore, we draw once again on the PINTEC surveys covering the period from 2001 until 2017.15 This data shows that any kind of innovative activity primarily improves the product quality of Brazilian firms and helps them to stay in the market. Innovations tend not to enlarge product variety or market participation. To an even lesser degree, new markets are opened or production costs are reduced. There is, however, a notable and continuous upward trend on all dimensions, with a slight drop in the 2012–2014 period. On average, the positive impact of innovative activities on the quality and variety of products of Brazilian companies increased by 10 to 20 percentage points from 2001 to 2011 with a notable decrease from 2012–2014. The same holds true for market participation and the opening of new markets: a strong increase is followed by a significant drop in 2012–2014. The most striking trajectory can be observed for the category of opening of new markets which rose dramatically from below 9.25% in 2001–2003 to 36.73% in the 2009–2011 period, dropping to only 21.6% thereafter. The increase and flexibilization of production capacities show a similar but less pronounced dynamic. Hence, despite this volatile trajectory in some dimensions, it is safe to say that the importance of innovative activities for Brazilian companies increases significantly in the period of investigation. Innovation helps them primarily to improve product quality and to stay in the market, but increasingly also to enlarge their market share or conquer new markets, increase production capacities, and enlarge their product variety. 15 See IBGE, Pesquisa de Inovação—PINTEC: https://www.ibge.gov.br/estatisticas/ multidominio/ciencia-tecnologia-e-inovacao/9141-pesquisa-de-inovacao.html?=&t=des taques, retrieved on 23 February 2023.

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Summarizing the firm-level dynamics of Brazil’s trajectory of technological upgrading in the period of investigation, we can identify several major patterns. First, the rate of innovative companies in Brazil grew to a peak of 38.29% in 2008 but has fallen thereafter to only 33.63% in 2017. From a comparative perspective, this is far behind key reference countries such as China, India, or Argentina with 43.6%, 41.9%, and 49.6% respectively. Among the sectors with the highest share of innovative companies are food products (42.51%), beverages (44.2%), chemicals (45.94%), pharmaceuticals (40.59%), IT equipment, electrical and optical products (54.19%), and other transport equipment (53.33%). Second, the nature of innovative activities of Brazilian companies is predominately (80%) frugal, i.e. new to the firm. Innovations new to the domestic market account for roughly 20% and those new to the global market just around 2%. Still, we can discern a gradual development towards a more sophisticated landscape of innovation in the Brazilian economy, with the latter two forms of innovativeness increasing notably in the period of investigation. The same holds true for the exact kind of activities: less innovative activities like the acquisition of machines and equipment, which have been dominant until recently, are increasingly substituted by more innovative ones like the acquisition of software or the introduction of technological innovations to the market. From a comparative perspective, however, Brazilian firms clearly lag behind those of key reference countries: 73.9% of Indian companies, 68% of Argentinian companies, and 44.3% of Mexican companies introduce products or services which are new to the domestic market. Third, Brazilian companies still only marginally apply for transnational patents at the technology frontier or in high-technology fields, also in comparison to the key reference countries China, India, and Russia which feature far more advanced patterns of patenting activity. However, Brazilian companies increasingly apply for transnational patents behind the frontier and in a diversified set of sectors. Finally, the importance of innovative activities for Brazilian companies increases significantly in the period of investigation, especially for improving product quality or staying in the market.

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3.5

Conclusion

The goal of the chapter has been to provide an encompassing, in-depth assessment of upgrading and innovation capacity building in Brazil in the period of investigation. As a first step, we outlined the general economic and social developments in Brazil, featuring substantial growth rates and significant improvements in poverty and inequality reduction. Disaggregating the components of GDP growth, we have shown that a virtuous circle of domestic consumption, commodity exports, and investment drove growth during the period. Looking at factor inputs, it became clear that economic growth was mainly input-driven, particularly by a rapid expansion of the workforce but also by traditional (non-ICT) capital investments. Human capital and ICT investment only played a marginal role in output growth. This was also reflected in the low productivity measures, especially total factor productivity and labor productivity but also capital deepening, particularly in relation to key reference countries such as China or India which featured significantly higher productivity increases. Subsequently, we disaggregated the general picture and traced the sectoral dynamics underlying Brazil’s growth trajectory in the period of investigation. We have shown that the 1990s and 2000s were characterized by a secular trend of deindustrialization towards a service-based economy, both in terms of value added and employment. In the overall declining manufacturing sector, agriculture-related industries such as food, beverages, and tobacco but also other medium–low-tech industries like machinery and transport equipment accounted for the bulk of value added. Notably, the medium and high-tech share of manufacturing value added declined significantly. Other major emerging economies such as China and India, by contrast, managed to increase or maintain their share of medium and high-tech manufacturing. Furthermore, labor productivity growth as a key indicator for technological upgrading was mainly driven by productivity increases in the agricultural and services sectors. Industry, and manufacturing in particular, started from comparatively high levels but experienced a continuous downward trend. To some degree, this can be traced back to structural

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change taking place in the Brazilian economy during this period with agriculture experiencing labor-saving technical change and shedding labor to the booming service sector. In addition, by looking at patent data and the revealed technological advantage index we have shown that the Brazilian economy featured a technological specialization in natural resources and agriculture-related activities as well as selected services. In the period of investigation, most sectors experienced modest to significant improvements in their RTA values. These patterns indicate a process of increasing technological diversification in the Brazilian economy. Finally, looking at Balassa’s index of revealed comparative advantage revealed that the Brazilian economy featured a clear export specialization in agriculture-related and other primary products. Thereafter, we analyzed the firm-level dynamics underlying Brazil’s trajectory of technological upgrading in the period of investigation. Looking at data from Brazil’s national innovation survey, we have shown that the rate of innovative companies in Brazil increased until 2008, but has fallen thereafter. The nature of innovative activities of Brazilian companies was predominately frugal, i.e. new to the firm. Still, we can discern a gradual development towards a more sophisticated landscape of innovation in the Brazilian economy. The same holds true for the exact kind of activities: less innovative activities like the acquisition of machines and equipment, which have been dominant until recently, were increasingly substituted by more innovative ones like the introduction of technological innovations to the market. From a comparative perspective, however, Brazilian firms clearly lagged behind those of key reference countries. To summarize the findings of this chapter, we can conclude that the Brazilian economy experienced technological upgrading, but only to a modest degree. The international comparisons showed that Brazil lags behind other major emerging economies with regard to several key indicators. The following chapters delve into the causes of this mixed and rather disappointing outcome.

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References BCG (Boston Consulting Group). 2013. Brazil: Confronting the Productivity Challenge. The Boston Consulting Group. Brandt, Loren, John Litwack, Elitza Mileva, Luhang Wang, Yifan Zhang, and Luan Zhao. 2020. “China’s Productivity Slowdown and Future Growth Potential.” Policy Research Working Paper 9298. Washington, DC: The World Bank. Bustos, Paula, Bruno Caprettini, and Jacopo Ponticelli. 2016. “Agricultural Productivity and Structural Transformation: Evidence from Brazil.” American Economic Review 106 (6): 1320–65. Cirera, Xavier, and William F. Maloney. 2017. The Innovation Paradox: Developing-Country Capabilities and the Unrealized Promise of Technological Catch-Up. Washington, DC: World Bank. Corrado, Carol, Jonathan Haskel, Cecilia Jona-Lasinio. 2017. “Knowledge Spillovers, ICT and Productivity Growth.” Oxford Bulletin of Economics and Statistics 79 (4): 592–618. De Negri, Fernanda, Graciela Zucoloto, Pedro Miranda, Priscila Koeller, André Rauen, and Leonardo Szigethy. 2020. “Redução drástica na inovação e no investimento em P&D no brasil: o que dizem os indicadores da pesquisa de inovação 2017.” Diset, Nota Técnica No. 60. Brasília: IPEA. Dominguez Lacasa, Iciar, Björn Jindra, Slavo Radosevic, and Mahmood Shubbak. 2019. “Paths of Technology Upgrading in the BRICS Economies.” Research Policy 48 (1): 262–80. Frank, Alejandro G., Marcelo N. Cortimiglia, José L. Duarte Ribeiro, and Lindomar S. de Oliveira. 2016. “The Effect of Innovation Activities on Innovation Outputs in the Brazilian Industry: Market-Orientation vs. TechnologyAcquisition Strategies.” Research Policy 45 (3): 577–92. Kannebley Jr., Sérgio, Geciane S. Porto, and Elaine Toldo Pazello. 2005. “Characteristics of Brazilian Innovative Firms: An Empirical Analysis Based on PINTEC—Industrial Research on Technological Innovation.” Research Policy 34 (6): 872–93. Meelen, Toon, Andrea M. Herrmann, and Jan Faber. 2017. “Disentangling Patterns of Economic, Technological and Innovative Specialization of Western Economies: An Assessment of the Varieties-of-Capitalism Theory on Comparative Institutional Advantages.” Research Policy 46 (3): 667–77. Mertens, Daniel, Andreas Nölke, Michael Schedelik, Christian May, Tobias ten Brink, and Alexandre de Podestá Gomes. 2022. “Moving the Center: Adapting the Toolbox of Growth Model Research to Emerging Capitalist Economies.” IPE Working Paper No. 188/2022. Berlin: HWR. Nassif, André, and Marta dos Reis Castilho. 2020. “Trade Patterns in a Globalized World: Brazil as a Case of Regressive Specialization.” Cambridge Journal of Economics 44 (3): 671–701.

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OECD (Organization for Economic Co-operation and Development). 2005. Oslo Manual: Guidelines for Collecting and Interpreting Innovation Data, 3rd ed. Paris: OECD. Ouyang, Min. 2011. “On the Cyclicality of R&D.” Review of Economics and Statistics 93 (2): 542–53. Qian, Rong, Jorge Thompson Araújo, and Antonio Nucifora. 2018. Brazil’s Productivity Dynamics. Washington, DC: The World Bank. Schneider, Martin R., and Mihai Paunescu. 2012. “Changing Varieties of Capitalism and Revealed Comparative Advantages from 1990 to 2005: A Test of the Hall and Soskice Claims.” Socio-Economic Review 10 (4): 731–53. Soete, Luc. 1987. “The Impact of Technological Innovation on International Trade Patterns: The Evidence Reconsidered.” Research Policy 16 (2-4): 101– 30. Solow, Robert M. 1956. “A Contribution to the Theory of Economic Growth.” Quarterly Journal of Economics 70 (1): 65–94. Taylor, Mark Z. 2004. “Empirical Evidence against Varieties of Capitalism’s Theory of Technological Innovation.” International Organization 58 (3): 601–31.

CHAPTER 4

Political Coordination and Socioeconomic Coalitions

4.1

Introduction

This chapter provides an in-depth analysis of the political underpinnings of the Brazilian upgrading regime. It combines a short review of the institutions and policy initiatives for innovation advanced by the Workers’ Party governments with analyses of political coalition dynamics, state– business relations, and state–society relations. Thereby, the chapter enters into the empirical analysis of the independent variable of this study, the institutional determinants of technological upgrading in Brazil. Empirically, the chapter draws on party system, coalition, and cabinet measures, campaign finance data, survey and polling data, as well as a detailed coverage of corruption schemes and scandals, such as Lava Jato. It also delves into the political dynamics behind Dilma Rousseff’s impeachment. Lastly, the chapter integrates the findings and elaborates on the social bloc underpinning Brazil’s upgrading regime in this period. Examining the political aspects of upgrading is an important aspect often neglected in the literature. This book contributes to filling this gap. The chapter is organized as follows. Section 4.2 gives an overview of the institutional landscape and policy initiatives related to innovation in the period of investigation. Section 4.3 examines the political coalitions of the PT governments in the context of the peculiarities of Brazilian democracy. Section 4.4 looks at the interplay between the business sector and the © The Author(s), under exclusive license to Springer Nature Switzerland AG 2023 M. Schedelik, The Political Economy of Upgrading Regimes: Brazil and beyond, International Political Economy Series, https://doi.org/10.1007/978-3-031-34002-4_4

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state and its impact on upgrading-related policies. Section 4.5 puts the analysis in a broader context and traces the electoral and public support of the PT presidents in this period. Section 4.6 integrates the previous sections in order to assess the key socioeconomic coalitions underpinning the Brazilian upgrading regime. Finally, Sect. 4.7 summarizes the key results of the chapter.

4.2 Institutions and Policies for Innovation: An Overview This section provides an overview of the institutions and policies for innovation forming the supply-side of the Brazilian upgrading regime in the period of investigation. They will be analyzed in-depth in the subsequent chapters. The focus here lies on the overall picture and the coordinating role of key policies and institutions. The bulk of the institutional landscape for innovation in Brazil dates to the early 1950s and late 1960s. At the turn of the twentieth century, the creation of the so-called sectoral funds (Fundos Setoriais ) under the outgoing Cardoso administration marked another comprehensive restructuring of the system (Pacheco 2019, 171). In 2003, innovation gained further momentum as a policy objective under the incoming Workers’ Party government (Arbix 2019, 78): the revival of industrial policy with the so-called Industry, Technology, and Foreign Trade Policy (Política Industrial, Tecnológica e de Comércio Exterior, PITCE, see below) gave way to the creation of two coordinating institutions, the Brazilian Agency for Industrial Development (Agência Brasileira de Desenvolvimento Industrial, ABDI) and the National Council for Industrial Development (Conselho Nacional de Desenvolvimento Industrial, CNDI). Institutionally, the Ministry of Science, Technology, and Innovation (MCTI) acted as the central planning agency, albeit with only poor performance (Pacheco 2019, 172). It lacked significant coordination capacity and tended to cater to its traditional stakeholders in the academic sector (ibid.). Other ministries, especially Economics, Health, Education, and Defense, as well as public regulatory agencies, such as Anvisa (Health), ANP (Oil and gas), and ANEEL (Electricity), however, had considerable planning capacities on their own (Limoeira and Schneider 2019, 25–26). Another important ministry in charge of coordinating the formulation and implementation of the several industrial policies launched in the period of investigation was the Ministry of Development, Industry,

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and Foreign Trade (MDIC). Under PITCE, then-minister, Fernando Furlan, himself a business man, was crucial in facilitating the functioning of the National Council for Industrial Development which included several high-profile CEOs of major Brazilian companies (De Toni 2016, 338). The newly established organizations, ABDI and CNDI, were initially designed to coordinate and implement PITCE but faced considerable obstacles. One being a quasi-governmental body, the other a public– private dialogue scheme, both agencies lacked the necessary political clout to coordinate a diverse array of rather autonomous and insulated government entities (Pacheco 2019, 175–176). After Furlan left the MDIC in 2007, the CNDI lost virtually all of its coordinating function (De Toni 2016, 341) and was subsequently supplanted by other coordinating bodies comprised of representatives from several ministries, along with ABDI and BNDES (Pacheco 2019, 176). This points to one of the major weaknesses of the Brazilian ecosystem for innovation: its highly fragmented character (Zuniga et al. 2016). The historical roots of fragmentation date back well into the twentieth century and can be interpreted as a form of protection against political clientelism (Schneider 1991). A further reason for the lack of central planning is the exceptionally short tenure of the top positions in nearly all institutions involved (Limoeira and Schneider 2019, 32–33). For a position as central as the head of MCTI, for instance, since its creation in 1985 average tenure was only 10 months, except for four ministers serving 2–7 years (Pacheco 2019, 172). Another problem of the Brazilian upgrading regime is the low level of policy-related collaboration between the business sector and the government (Limoeira and Schneider 2019, 30). The main public– private dialogue schemes, initiated at the very beginning of Lula’s first mandate, CNDI and the Conselho de Desenvolvimento Econômico e Social (CDES), soon fell into disuse (ibid.; de Toni 2013). The exception that proves the rule is the Brazilian National Confederation of Industry (Confederação Nacional da Indústria, CNI) which reformed parts of the SENAI training system into institutes for joint R&D projects with business and created the Business Mobilization for Innovation (Mobilização Empresarial pela Inovação, MEI) in 2008. MEI later became the principal forum for business-government consultations on the topic of innovation and was instrumental in the formulation of several policy initiatives such as the creation of the Brazilian Agency for Industrial Research and Technological Innovation (Empresa Brasileira de Pesquisa e Inovação Industrial,

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EMBRAPII) in 2014 (Limoeira and Schneider 2019, 31; Pacheco 2019, 184). Regarding implementation and funding, state-owned enterprises and public funds form the backbone of the Brazilian innovation ecosystem. Here, the behemoth BNDES and the more specialized Financiadora de Estudos e Projetos (FINEP) stand out as the main channels for innovation funding (see Chapter 6). The National Fund for Scientific and Technological Development (Fundo Nacional de Desenvolvimento Científico e Tecnológico, FNDCT), created in the 1970s and substantially revamped in the 1990s with the creation of the sectoral funds, has traditionally served as the most reliable source of funds devoted to R&D in strategic sectors, but more recently also for innovation more generally. In 2003, the incoming Lula administration centralized the sectoral funds in the MCTI, which gradually led to a “capture of the FNDCT by the MCTI” (Pacheco 2019, 174). Over the years, this resulted in a process of decoupling the original purpose of the funds, i.e. to promote business R&D. Consequently, resources were used for other purposes instead, for instance, to fund scholarships or the Science without Borders (Ciência Sem Fronteiras ) program (ibid.). Among the more relevant entities devoted to funding ST&I are CNPq, devoted to scientific research more broadly, and Embrapii, founded in 2014 to foster joint public–private R&D projects (Gomes de Oliveira and Guimarães 2019). As for R&D, Brazil hosts some high-profile research laboratories such as Embrapa (Agriculture), Fiocruz (Health), CNPEM (Energy), INPE (aerospace), and Cenpes, the R&D branch of Petrobras. Recently, several other research institutes, the SENAI innovation institutes, were established in order to provide more applied R&D services and technical assistance to the local industry. This very recent approach to diversify the Brazilian institutional landscape for innovation was also adapted with regard to training and technical education. Here, the SSystem, above all SENAI, SENAC, and SEBRAE, dating back to the 1940s, and the system of federal technical institutes, RFEPCT, were amplified substantially under the PT governments. At the university level, CAPES funds graduate studies and the internationalization of Brazilian students and researchers. Table 4.1 summarizes the main institutions of Brazil’s upgrading regime. The creation of new institutions and organizations, and the strengthening of existing ones, was accompanied by a number of policy initiatives aimed to foster innovation-led growth (on this see Arbix 2019; De

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Table 4.1 Institutions for innovation by type of function Planning/regulation

Coordination

Funding

R&D

Training

MCTI Regulatory agencies (Anvisa, ANP, etc.) MDIC

ABDI CGEE

BNDES FINEP

Embrapa Fiocruz

SENAI SENAC

CNDI

FNDCT

SEBRAE

MEC

Interministerial councils MEI

Embrapii

CNPEM, IPT, INPE (and other public research institutes) Cenpes (Petrobras)

CNPq

SENAI ISIs

RFEPCT

Other ministries (health, defense, mining and energy, agriculture)

CAPES

Source Adapted and significantly modified from Limoeira and Schneider 2019

Negri and Rauen 2018). Several broad ST&I policy frameworks (PACTI, ENCTI) as well as three encompassing industrial policies (PITCE, PDP, PBM) were launched between 2003 and 2014 and introduced a variety of more targeted innovation policies. A clear focus on innovation, however, can be identified mainly in the first Lula period under the umbrella of PITCE. The framework rested on three pillars: horizontal policies to foster innovation and technology development, promotion of strategic sectors such as software, semiconductors, and pharmaceuticals, and support for emerging industries such as biotechnology, nanotechnology, and renewable energy (Almeida et al. 2019, 451–452). Subsequently, other policy objectives gained momentum, such as countering the economic crisis of 2008 (Arbix 2019, 83). In that year, the Productive Development Policy (Política de Desenvolvimento Produtivo, PDP) was launched which abandoned PITCE’s focus on innovation and key technology-intensive sectors. The number of targeted sectors was substantially increased to 24 and the overall policy goal was diluted to raise investments more broadly (ibid.). Although the PDP set clear short-term targets such as increasing the investment rate from 17.6% of GDP in 2007 to 21% in 2010 and Brazil’s share in world exports from 1.18% to 1.25% in the same period, none of them was actually met (Almeida et al. 2019, 455). The problem was that no real measures to monitor the behavior of subsidy recipients were implemented to effectively evaluate the policy (ibid.). In contrast to PITCE, the tools used

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under the PDP were sectoral rather than horizontal in nature: tax benefits and protectionist measures for a diverse set of industrial sectors (Arbix 2019, 83). In the wake of the PDP, the Investment Support Program (Programa de Sustentação do Investimento) was launched as a countercyclic measure to tackle the unfolding global economic crisis. Only 4% of the resources devoted to financing investment under this policy were allocated to innovation (ibid.) In 2011, the third industrial policy, the Greater Brazil Plan (Plano Brasil Maior, PBM), was launched by Dilma’s administration to help “Brazilian industry reap the benefits of a booming domestic market instead of outside adventurers”.1 As this quote of then-finance minister Guido Mantega reveals, the plan’s official goal of promoting innovation and R&D was sidelined by other considerations. The main goal of the policy was to defend industry from foreign competition (Almeida et al. 2019, 455). Therefore, the measures of the plan were more defensive than those in the PDP, relying more heavily on trade protection. Others were similar: extensive tax reductions for the targeted industrial sectors, no less than 19, and subsidized loans from BNDES (Arbix 2019, 84). Among the more targeted policies under the umbrella of the Greater Brazil Plan were local content policies in the oil, automobile, and windturbine sectors (Almeida et al. 2019, 455). One of the most well-known, and highly disputed, policies was the Inovar Auto policy, which introduced tax breaks for R&D in the automotive sector. We will evaluate this policy and others in more detail in Chapters 5 and 6. Among the innovation policies introduced under PITCE, the so-called Innovation Law in 2004 and the Good Law (Lei do Bem) in 2005 stand out as the ones with the most profound impact on Brazil’s ecosystem for innovation (on this see Chapter 5). The Innovation Law introduced rules for public–private R&D projects and the possibility of subsidizing private R&D through grants, something previously impossible under Brazilian law (De Negri and Raun 2018, 10). The Good Law marked another important shift by establishing a tax incentive scheme for business R&D common in most countries. In the wake of PITCE, FINEP issued its first grant proposals in 2006 (Arbix 2019, 81). The bulk of subsidized credit provided by BNDES, however, was still allocated to infrastructure and other investment projects, mainly under the Growth 1 Finance minister Guido Mantega in his speech during the release of the plan, cited by Almeida et al. (2019, 455).

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Acceleration Program (Programa de Aceleração do Crescimento, PAC) and the Investment Support Program. It was not until 2009 that BNDES created a special credit line devoted to funding innovative projects (ibid.). Collaboration between FINEP and BNDES started only recently with the Inova Program in 2013 which, therefore, is considered a “milestone in the history of technology/policy coordination in Brazil” (Pacheco 2019, 177). As previously indicated, the bulk of these policy initiatives can be boiled down to several key policy instruments tailored towards fostering innovation. First and foremost, several tax schemes were implemented in order to incentivize business R&D, concentrating heavily on the ICT and automotive sectors. The Good Law of 2005 provides economy-wide tax incentives for business R&D. For the ICT sector, the Informatics Law, established originally in 1991 and updated in 2001 and 2004, establishes basic production and development requirements for firms to receive a tax deduction (Zuniga et al. 2016, 64). For the automotive sector, Inovar Auto established in 2012 introduced further tax breaks for R&D for those companies adhering to certain production requirements. Total expenses amounted to R$11.9 billion in 2015. Subsidized credit lines for innovative projects issued by FINEP and BNDES constitute a further main policy instrument totaling R$7.1 billion in 2015. Beyond these two measures, public investments in S&T (R$32.78 billion) and private compulsory R&D investments in regulated sectors such as electricity and oil and gas (R$1.42 billion) represented further important policy instruments (De Negri and Rauen 2018). To summarize, we see a considerable array of institutions and policy initiatives in the realm of upgrading and innovation in the period of investigation. In the subsequent chapters, we will analyze them in more detail and try to evaluate in how far they contributed to the patterns of technological upgrading revealed in the preceding chapter. From this section, we can draw two key conclusions. First, the key ministry, the MCTI, and several agencies in charge of coordination and planning lacked the capacity or the political clout to do this effectively. This reflects the highly fragmented character of the Brazilian upgrading regime. Furthermore, there was only very limited policy-oriented collaboration between business and government. The forums of the early Lula government depended on key individuals to function properly and fell into disuse after they left. MEI was created only in 2008 and started to exert influence over policymaking at the end of Dilma’s second mandate. Second,

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only the first of the major industrial policy frameworks, PITCE, was really targeted at innovation and led to the implementation of several important policy reforms. The subsequent policies, PDP and PBM, had other objectives, such as combating the global economic crisis or defending domestic industry against rising imports. Hence, innovation lost political priority during the period. In the following section, we delve into the politics behind these institutional reforms and policy initiatives.

4.3

Political Coalition Dynamics

This section analyzes the political institutions and coalitions underpinning the Brazilian political economy in the period of investigation. The interplay and complementarity between political institutions and the varieties of capitalism are widely acknowledged in the CPE literature (e.g. Arsenault 2017). Furthermore, political coalitions are regarded as essential elements of successful upgrading processes in the development literature (Doner and Schneider 2016; Pritchett et al. 2017). As a first step, we analyze the central features of the Brazilian political system with a particular focus on the legislative and the party system. As a second step, we look at the constitution of the political coalitions formed by the two PT presidents, Lula da Silva and Dilma Rousseff. Finally, we reconstruct intercoalition dynamics and the varying coalition management strategies of both presidents. At this point, we also delve into the issue of corruption (scandals) and its interweaving with politics in Brazil. To begin, Brazil’s democratic system poses substantial institutional challenges to coherent policymaking of any kind, let alone highly disputed reform agendas (Mainwaring 1999). The internationally rare case of mixing a presidential system with open-list proportional representation electoral rules and strong federalism has been criticized for its tendency towards impasse and instability since its inception (Mainwaring 1991). On the one hand, Brazil has a very strong executive branch with the second most powerful president in Latin America (Payne et al. 2007, 95– 99). On the other hand, the legislative branch is composed of numerous weak parties with low ideological coherence, less-than-optimal party discipline, and high turnover of elected candidates (Melo 2016, 56, Fn. 14). Governing, therefore, relies heavily on coalition management by the president and his/her party, i.e. the capacity to build legislative coalitions via the distribution of exchange goods (individual budget amendments),

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coalition goods (ministries), and presidential political appointments (Raile et al. 2011; Praça et al. 2011). Such a quasi-parliamentary type of coalition-making in a presidential system, “coalitional presidentialism” (presidencialismo de coalizão) (Abranches 1988), has unexpectedly proven quite functional and durable in Brazil (Figueiredo and Limongi 1999; Power 2010). This is due, in no small part, to the fact that parties became more programmatic and institutionalized over time (Mainwaring et al. 2018). Parties in the presidential coalition tend to vote according to the position of congressional party leaders who have enormous powers, including those to set and control the congressional agenda (Freitas 2016, 37). This partly offsets the strong centrifugal dynamics generated in the electoral arena. In addition, the major parties tend to strategically coordinate themselves in presidential races and form lasting alliances (Borges 2019, 186). As a result, a clear left-right polarization of the party system was identifiable in the period of investigation, with the PT, Partido Socialista Brasileiro (PSB), and Partido Comunista do Brasil (PC do B) on the one side and the Partido da Social Democracia Brasileira (PSDB) and Democratas (formerly Partido da Frente Liberal [PFL]) on the other (Power and Zucco 2008).2 In the middle, however, was the large bloc of independent, catch-all parties with Partido do Movimento Democrático Brasileiro (PMDB), Partido Progressista (PP), and Partido Trabalhista Brasileiro (PTB) being the most significant (Borges 2019, 190). Beyond that, various nano parties representing very small fractions of the electorate populate Congress. The total number of parties represented in the Chamber of Deputies increased steadily from around 18 in the 1990s to an astonishing 28 after the 2014 election.3 As a consequence, the effective number of parties, a commonly used measure of party system fragmentation which weighs the number of parties by their vote share (Laakso and Taagepera 1979; Gallagher and Mitchell 2008), rose steadily from 8.14 in 1998 to 14.06 in 2014 (see Fig. 4.1). This is an extraordinarily high value, way above the usual range of 2 to 6, and indeed the highest in the world at the 2 Note that this was before the reshuffling of the Brazilian party system after the Lava Jato revelations and the ascendency of Jair Bolsonaro. On this see Hunter and Power (2019). 3 See the webpage of the Chamber of Deputies: https://www.camara.leg.br/deputa dos/bancada-na-posse, retrieved on 23 February 2023.

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25

20

15

10

5

0 1990

1994

1998

Effective number of parties

2002

2006

2010

2014

Lower chamber seat share of largest party

Fig. 4.1 Fractionalization of the Brazilian Congress, 1990–2014 (Source Election Indices database; V-Dem database)

time. The tendency towards hyper-fractionalization of Congress continuously diminished the power of the largest party, as measured by its seat share which declined substantially from 20.5% in 1998 to a mere 13.26% in 2014. Such a fragmented Congress obviously made governing challenging and increased the need for effective coalition management. When Lula was elected with an unprecedented 61.3% of the vote in his fourth run for the presidency in October 2002, it was due in no small part to the fact that the PT had moved to the center of the Brazilian political landscape (Samuels 2004; Hunter 2007). As its major rival, the ruling PSDB, had moved substantially to the right in the 1990s, the PT could credibly occupy a center-left position (Samuels 2004, 1005). Driven by the electoral defeats in the 1994 and 1998 presidential elections and its increasing successes in subnational elections, Lula’s pragmatic Articulação faction, spurred by office-holding (or seeking) rank-and-file members, became dominant (again) within the PT (ibid., 1014–1017). Epitomized by Lula’s famous “Letter to the Brazilian People” shortly before the 2002 election, the Workers’ Party from 1995 onwards gradually digested the fact that the Brazilian electorate broadly supported the

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economic reforms under Cardoso, especially trade liberalization and inflation targeting (Hunter 2007, 457–459). This turn towards pragmatism allowed Lula and his allies, with José Dirceu, his campaign coordinator, leading the way, to forge alliances with centrist and right-wing parties such as the PMDB and the Partido Liberal (PL) (ibid., 462–463). After winning the election, Lula built a coalition of eight parties that was temporarily enlarged to nine and later also temporarily reduced to only six (Amorim Neto 2019, 304). The main pillars of the governing coalition formed by the PT under Lula were its traditional ally, the centerleft PSB with 7 years in the coalition, the centrist PMDB with 6 out of 7 years, the center-right party PTB, with almost 6 years, and the rightwing parties PL (which merged in 2006 with the right-wing party Partido da Reedificação da Ordem Nacional into the Partido da República [PR]) and PP with 6.554 and 5.5 years respectively. Four smaller left-wing parties also formed part of the coalition, the Partido Popular Socialista for 3.25 years, the Partido Democrático Trabalhista (PDT) for 4.83 years, the PC do B and the Partido Verde with 7 years. Finally, the right-wing party Partido Republicano Brasileiro (PRB) joined the coalition for only two years from 2007 to 2009. Nonpartisan members played only a marginal role in Lula’s cabinets compared to those of his predecessors who relied on up to 18 members without political affiliation (Amorim Neto 2019, 303). The PT occupied a large majority of ministerial positions (16.4), followed by the PMDB (4.1), and the rest (1–1.6). Given its strength in Congress, with 87.3 deputies and 19.8 senators on average over the whole period, the PMDB as the largest coalition partner was heavily underrepresented in Lula’s cabinets. After the successful 2010 election, Dilma Rousseff continued the coalition formed under her predecessor, resting heavily on the center-right parties PMBD, PP, and PR (all being in the coalition for 6.4 years until the impeachment) and the left-wing parties PSB, PDT, and PC do B (with 3.9, 4.9, and 6.4 years respectively). However, PT’s long-term ally, the PSB, left the coalition in the run-up to the 2014 election. It was replaced by the newly founded left-wing Partido Republicano da Ordem Social for 1 year in the coalition and the centrist Partido Social Democrático (PSD) for 3 years. Lastly, the PRB joined the PT-led coalition again in May 2012 for another 4 years until the impeachment. Dilma relied more on

4 With 3.25 years under the label PL and 3.3 years under the label PR.

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nonpartisan members than Lula, 8.8 on average during her presidency. In addition, the PT enjoyed a larger share of congressional seats than under Lula with 81.4 deputies and 13.1 senators on average over the whole period, however, occupying marginally less ministerial positions (16). The largest coalition partner, PMDB, had 76.6 deputies, 19.3 senators, and 6.5 ministers, being slightly less underrepresented in the cabinet. Given these broad and ideologically diverse governing coalitions, coalition management strategies under the two PT presidents varied substantially from those used by Cardoso (Pereira and Bertholini 2019). The average size of the PT coalitions was roughly double that of the PSDBled coalitions in the 1990s. In addition, proportionality in terms of a cabinet party’s number of legislative seats to ministries held, measured as a coalescence index, was substantially lower during Lula’s presidency and Dilma’s first term and increased only in her second term to the level of Cardoso’s governing coalitions. Low proportionality was accompanied by high degrees of power concentration, i.e. cabinet positions held by the PT herself instead of coalition parties (ibid., 318). Furthermore, the PT-led coalitions were far more ideologically heterogenous than the ones led by Cardoso. Ideological heterogeneity is measured by Pereira and Bertholini (2019) as the coefficients of variation of the ideologies of all coalition parties based on data on party ideology proposed by Power and Zucco (2012). Instead of sharing power with relatively few ideologically close coalition partners, the PT had to broker very large coalitions, ranging from the far-left to the right while simultaneously trying to maximize the number of ministries for herself, to cover its severe internal divisions (Raile et al. 2011, 326). The same holds true for political appointments at lower levels of the executive where the PT was significantly overrepresented (Praça et al. 2011; Praça and Lopez 2019, 363). The ideological heterogeneity of the PT coalitions is obviously due to the fact that the PT lacked a sizable party on her left (Pereira and Bertholini 2019, 318; Power and Zucco 2012, 21). Hence, the center-right PSDB is arguably at an advantage here, as there are several sizable parties on her right for coalition building. The coalition management strategies adopted by the PT already indicate the challenges and potential costs of governing during the period of investigation. In order to quantify these costs, we use the synthetic Governing Cost Index (GCI) developed by Pereira and Bertholini (2019). The index is composed of three variables: the number of ministries and secretariats with ministry status the president includes in

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his/her government, the resources he/she allocates to partisan ministries as a fraction of GDP, and the amount of expenditures with legislative amendments to the federal budget as a fraction of GDP (Pereira and Bertholini 2019, 320, Fn. 4). As shown in Table 4.2, the cost of coalition management varied substantially. Whereas the total costs of coalition management were relatively low under the Cardoso governments with 36 and 59.5 points respectively, they increased considerably under Lula with 90.6 and 95.2 points respectively. Thereafter total governing costs decreased slightly under Dilma 1 to 88.1 points and more noticeably under Dilma 2 to 58 points. The composition of governing costs, i.e. the allocation of ministries, resources, and budget amendments to the president’s own party or to coalition partners, also varied markedly over time. Cardoso allocated substantially more resources to his coalition partners, 60.2% of all governing costs in his first term and 45.2% in his second term, than Lula, only 31% in his first term and 40.1% in his second term, and comparable to Dilma, 49% in her first term and 44.4% in her second term. At the same time, the number of parties in Congress and, therefore, the need to govern through coalitions rose dramatically over the period. Measured as the relation of the strength of the president’s party to the fragmentation of Congress, the necessity of coalition government increased by 153% from a mere 78.3 points in Cardoso’s first term to 86.4 in Lula’s first term and 119.5 in Dilma’s second term. Hence, coalition management became increasingly difficult over the period of investigation. In consequence, the PT shifted more governing resources to their coalition partners over time to hold the diverse coalition together. Table 4.2 Cost of coalition management, averages per term, 1995–2016 Term

Cardoso Cardoso Lula 1 Lula 2 Rousseff Rousseff

1 2

1 2

GCI

GCI coalition

GCI President Party

GCI coalition %

GCI President Party %

Coalition Necessity Index

36.0 59.5 90.6 95.2 88.1 58.0

21.7 27.1 28.1 38.1 43.1 26.1

14.3 32.4 62.6 57.1 44.9 31.9

60.2 45.2 31.0 40.1 49.0 44.4

39.8 54.8 69.0 59.9 51.0 55.6

78.3 78.8 86.4 91.3 95.5 119.5

Source Pereira and Bertholini 2019

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Given the substantial costs of managing a highly diverse coalition in an increasingly fragmented Congress, it comes as no surprise that the Workers’ Party relied on side payments to allied parties (or “allowances”) to keep the coalition intact and govern effectively, as famously revealed in the Mensalão scandal emerging in 2005 (Pereira et al. 2011). The Mensalão revelations had not only significant implications for the course of the party and its leadership, as discussed below, but also for its popular reputation as an ethical, anti-corruption party (Hunter 2007, 452; see below). The same holds true for the much larger and ground-shaking Lava Jato scandal that broke out in 2014, ultimately leading to the impeachment of Dilma Rousseff in 2016 and the election of Jair Bolsonaro in 2018, due in no small part to the fact that Rousseff did not stop the criminal investigations headed by Sérgio Moro5 ,6 (Fogel 2020). The vast bribery and kick-back scheme involved the state-owned oil company Petrobrás, several construction companies like Andrade Gutierrez and Odebrecht, and numerous politicians from virtually every party in Congress (Da Ros and Ingram 2019). The scandal not only gave a deathblow to the trust of Brazilians in democratic institutions (Nunes and Melo 2017, 298– 299; Bevins 2019), and had severe repercussions all over Latin America when the construction giant Odebrecht’s “farthest-reaching, most efficient corruption machine in modern business” (Smith et al. 2017 quoted in Pohlmann et al. 2019, 67) was revealed, but it also lay bare the weaknesses of coalitional presidentialism (Katz 2020, 88–95). With hindsight, it seems all too clear that governing in Brazil’s multiparty presidential system rested not only on the exchange of budget pork, ministerial posts, and bureaucratic appointments but also on bribes, illegal campaign finance, plum jobs in one of Brazil’s powerful state-owned companies, and, above all, the “cash cow” Petrobrás (Mello and Spektor 2018, 118). Corruption scandals, which historically only scratched the surface of the illicit underbelly of Brazil’s political system, accompanied Brazilian

5 In a famous recording the influential PMDB-senator Romero Jucá spoke of the necessity of “an impeachment” to “change the government to stop the bleeding” (Da Ros and Ingram 2019, 353). 6 In 2019, Intercept’s “Vaza Jato” revelations have shown how the investigations were at least partially politically motivated and flawed with judicial misconduct, focusing mainly on the PT and her allies and sparring key political figures on the right, such as former president Fernando Henrique Cardoso (Bevins 2019; Fogel 2020).

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democracy from its inception (Katz 2020, 88–95). All presidential administrations faced major scandals of malfeasance and political corruption, Collor was even impeached due to one such scandal (Jucá et al. 2016, 6–10). Even the Cardoso administration was plagued with corruption allegations including those surrounding the Banestado scandal of money laundering by illegal foreign exchange traders linked to several highprofile politicians in Cardoso’s presidential coalition (which, as recently revealed by the “Banestado leaks”, rivals Lava Jato in scale and implications; see Escobar 2020), the precatórios scandal of fraud in the distribution of federal debt relief to states and municipalities, and most famously the bribing of several deputies before the constitutional amendment allowing the president to run for a second term in 1997 (Jucá et al. 2016). Beyond the scandals, Cardoso’s high degree of governability rested heavily on the clientelist networks of his major coalition partner PFL in Brazil’s poor North Eastern regions where the PFLheavyweights Marco Maciel and Antônio Carlos Magalhães were linchpins of a repressive political order inherited from the dictatorship (Katz 2020, 91–92).7 Beyond the structural necessity to broker ever-larger coalitions within the institutional framework of coalitional presidentialism and their prowess in half-legal and outright illicit practices of political corruption, political actors and their skills as well as external events, of course, also mattered a great deal for successful coalition management (Limongi and Figueiredo 2017). Whereas Lula was a gifted, charismatic politician who managed to play the games of coalitional presidentialism superbly in the heyday of the resource-bonanza and economic growth, Dilma was a technocrat who failed badly with her strategic political decisions facing the double crisis of worsening economic conditions and the unraveling of Lava Jato (Melo 2016, 57–62; Limongi 2017). Lula’s popularity, charm, rhetoric skills, and his ability to forge pragmatic alliances are widely acknowledged, giving rise to the concept of Lulismo invented by his former spokesperson André Singer (2012). Dilma, appointed by Lula as a second-choice successor because his friend, and PT heavyweight, José Dirceu was off the table due to his key role in the Mensalão scandal, lacked all these abilities; she was relatively unknown before the 2010 election, a stern technocrat with hardly any roots in the PT, having joined only in 7 Magalhães famously used to say: “I win elections with a bag of money in one hand and a whip in the other” (Anderson 2016 quoted in Katz 2020, 92).

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2000, and the political networks of Brasília (Melo 2016, 57; Ribeiro et al. 2016, 72). In essence, Dilma made one key strategic error in her coalition management in trying to sideline its biggest coalition partner, the PMDB, and bolster several smaller parties like the newly created PSD instead (Melo 2016, 57). This proved to be decisive. After the establishment of Dilma’s first cabinet, various PMDB-leaders complained about being “humiliated” by the allocation of ministerial positions (Nunes and Melo 2017, 285). Further tensions between the two parties arose during the municipal elections of 2012 when the PMDB felt alienated by intense PT competition in her “home territories” (Melo and Santos 2013, 64). These tensions intensified in the run-up to the 2014 Rio de Janeiro gubernatorial elections when PT senator Lindbergh Farias launched his candidacy and the PT later endorsed the PRB candidate, Marcelo Crivella, instead of the later successful PMDB candidate, Luiz Fernando Pezão (Limongi 2015, 100). Eduardo Cunha, elected House-leader of the PMDB since 2013, used these “humiliations” to pursue his own feud with Dilma Rousseff and the PT and to undermine the alliance between the two parties by any means (Nunes and Melo 2017, 285; Limongi 2015, 100). Beyond clear ideological differences, Cunha’s resentment towards Rousseff is intimately linked to her “ethical clean sweep” campaign adopted right after her election that affected Cunha’s numerous corrupt networks in Rio de Janeiro and elsewhere (Limongi 2017, 7–8). One warning signal for Cunha and others was the replacement of Paulo Roberto Costa as president of Petrobrás in 2012, one of the key players in the Lava Jato corruption scheme. Under Cunha’s command, PMDB support for the government fell from 80% to a meager 60% (Limongi 2015, 101). Being elected president of the Chamber of Deputies in 2015, Cunha effectively blocked Rousseff’s efforts to fix the worsening fiscal situation and introduced several measures that increased public spending instead (Nunes and Melo 2017, 286). By July 2015, Cunha declared himself formally in opposition to Rousseff and her government when the public prosecutor started to indict him for taking US$1.8 million in bribes connected to the evolving Petrobrás scandal (Melo 2016, 54). After the Ethics Committee discussed the forfeiture of his mandate due to his lying about secret offshore bank

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accounts, Cunha fired the “atomic bomb”8 and started the impeachment process on 2 December 2015 (Nunes and Melo 2017, 286). Hence, by the end of 2015, and during the course of 2016, it became crystal clear that the relationship between the PT and the PMDB, its major coalition partner on whom the party had relied heavily for governing, had definitely soured. But this was a gradual process of alienation with multiple tensions finally erupting. Its roots go back at least to 2011 when Dilma took the helm, beginning with her “ethical clean sweep”. To some extent, the divorce battle between PT and PMDB resembled the dissolution of the Cardoso coalition between the PSDB, PFL, and PMDB at the turn of the century, when the congressional titans Antônio Carlos Magalhães (PFL) and Jader Barbalho (PMDB) fought their bloody feud in Congress and effectively blocked the legislative agenda (Taylor 2009a, 12–13). When the impeachment vote finally took place in the Chamber of Deputies in April 2016, seven out of ten parties belonging to the governing coalition voted predominantly in favor of impeachment, and only the PT and the PC do B voted anonymously against it (Nunes and Melo 2017, 287). In total, 367 out of 513 deputies supported the impeachment of Dilma Rousseff. Summarizing this section, we want to highlight three points. First, the extreme fractionalization of the political system in Brazil poses substantial challenges to coherent and reform-oriented policymaking. We demonstrated this with several key indicators such as the effective number of parties or the lower chamber seat share of the largest party. Furthermore, we traced the size and composition of the varying PT coalitions in order to point to the difficulties of governing effectively in the period of investigation. To underscore this point, we presented data on the coalition management strategies and the costs of coalition management of both PT governments. Second, the fractionalization of Congress and low levels of party institutionalization lead not only to pork barrel politics but are heavily prone to corruption, as revealed by the Mensalão and Lava Jato scandals. Widespread corruption has several detrimental effects on innovation policy: the possibility of bribing politicians to bend the rules or extract rents undermines the incentives of businesses, especially large firms, to invest in R&D or apply for subsidies and grants (Limoeira and Schneider 2019, 32–33). Third, corruption and malfeasance were 8 This expression was coined by former president Fernando Henrique Cardoso, quoted in Melo (2016, 54).

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not limited to the political arena but penetrated, and indeed heavily rested on, public agencies and state-owned companies, above all the oil giant Petrobrás. Dilma Rousseff’s efforts to fight corruption ultimately led to her impeachment, after Congress effectively blocked several of her reform agendas during her second mandate. These points illustrate that effective government coordination necessary for upgrading the institutions supporting firm innovation was seriously hindered by the structural impediments inherent in Brazil’s political system. Beyond this, pork barrel politics and the vast corruption schemes uncovered in the period of investigation obviously diverted large sums of government resources away from more productive uses.

4.4

State–Business Relations

In the following, we turn from the purely political arena to state–business relations, i.e. connections between legislators and/or bureaucrats and the business sector. This is a standard approach in the study of the political economy of growth models (Amable et al. 2019, 440), particularly in emerging economies (e.g. Calì and Sen 2011). As a first step, we look at the composition of key members of the PT administrations, their economic profiles, and their basic policy orientation. As a second step, we analyze the influence of sectoral interests on legislators via campaign finance data. Economic policy ideas in Brazil, as in many other Latin American and emerging countries, can be roughly divided into the two camps that dominate development economics on a global level: a neoclassical, market-oriented strand and a heterodox, developmentalist strand (Loureiro 2009). In Brazil, this division dates back to the “controversy over economic planning” between Eugênio Gudin and Roberto Simonsen in the 1940s and the subsequent ideational polarization between the Center for Economic Studies at the Fundação Getúlio Vargas in Rio de Janeiro (Eugênio Gudin, Ótavio Gouveia de Bulhões, and Roberto Campos) and scholars associated with ECLAC (Celso Furtado, Ignácio Rangel, and Rômulo Almeida) in the 1950s and 1960s (ibid., 110–114). This division has been institutionalized in the Brazilian higher education system where, still to this day, Fundação Getúlio Vargas and Pontifical Catholic University of Rio de Janeiro are the schools with the highest share of US-trained faculty and a strong orthodox orientation whereas the University of Campinas (UNICAMP) and the Federal University of

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Rio (UFRJ) are the schools with a high share of scholars trained in the ECLAC tradition (ibid., 119–120). Foreign-trained officials have traditionally been “important carriers of neoclassical ideas, forming the core of transnational policy coalitions favoring liberalizing reform” (Haggard and Kaufman 1992, 13). As a whole, however, neoliberal thinking has never been dominant within Brazilian academia, in contrast to other Latin American countries (Loureiro 2009, 133). To this day, Brazilian economics departments and curricula are remarkably pluralist in relation to other countries, especially the United States and the United Kingdom (Guizzo et al. 2021, 4–9). The cohabitation of competing economic ideas has long found its way into the huge state apparatus with the Central Bank and the Finance Ministry being dominated by orthodox liberais and BNDES and the Planning Ministry by desenvolvimentistas (Taylor 2020b, 18–120). This bifurcation of the technocracy has led to a pragmatic, although often heavily contentious, middle-ground between orthodox neoliberalism and state-led developmentalism in the overall policy outlook (Taylor 2020a). During much of the Cardoso and Lula administrations, this tension resulted in continuous battles over economic policy, especially when the developmentalist faction in the government became stronger. Under Dilma, herself a vocal developmentalist, this faction finally won the upper hand and introduced a more explicit interventionist set of economic policies (Taylor 2020b, 26). Given the turbulent economic environment between 2002 and 2003, with a 60% exchange rate depreciation and two-digit inflation, the incoming Lula administration tried by any means to calm financial markets and reassure international investors of its adherence to the stabilization package introduced under Cardoso: the tripé of a floating exchange rate, fiscal responsibility, and inflation targeting (Taylor 2020b, 24). Prior to his election, Lula famously pledged to guarantee monetary stability and the Central Bank’s operational autonomy (Taylor 2009b, 509). Once in office, the first Workers’ Party president acted accordingly and appointed a market-friendly economic team with “almost none of the heterodox and leftist economists from UNICAMP or UFRJ that one might have expected” (Loureiro 2009, 132). Chief among them, Antonio Palocci, a pragmatic medical doctor and one of Lula’s closest advisors, became minister of finance (Almeida et al. 2019, 451). Palocci assembled a team of conservative, US-trained economists like Marcos Lisboa and Joaquim Levy in the finance ministry and Murilo Portugal as his chief advisor. As

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head of the Central Bank, Lula nominated the former president of the Bank of Boston, Henrique Mereilles (ibid.). Furthermore, close friends and long-time members of his Articulação faction in the PT occupied key positions in the cabinet, e.g. José Dirceu as his chief of staff and Luiz Dulci as secretary-general. With José Alencar (textiles), Luiz Fernando Furlan (poultry), and Rodrigo Rodrigues (agrobusiness), three businessmen were appointed as vicepresident, minister of development, industry, and foreign trade, as well as minister of agriculture. Developmentalists such as Dilma Rousseff and Guido Mantega, trained at the Institute of Development Studies at the University of Sussex, and former ECLAC-economist Carlos Lessa occupied the ministry of mines and energy, presiding, among others, over the oil giant Petrobrás, the planning ministry, and BNDES. Hence, given the government’s priority on regaining the confidence of financial markets, pragmatist petistas and market-oriented economists and businessmen dominated the first cabinet. The dominance of the liberal faction in the government even increased temporarily when the only hard-core developmentalist and disciple of Celso Furtado, Carlos Lessa, was replaced by the more moderate Guido Mantega as head of BNDES in December 2004, after sharply criticizing the tight monetary policy of the Central Bank (Loureiro 2009, 132). The balance of power between the two factions shifted considerably in favor of the developmental side in the wake of the Mensalão scandal. José Dirceu and Antonio Palocci who had both occupied key roles in Lula’s first cabinet, had to resign due to their involvement in the corruption scheme. They were replaced by two developmentalists, Dilma Rousseff as chief of staff and Guido Mantega as minister of finance, who gradually changed the course of the government towards more explicit state involvement (Taylor 2020b, 26). At the beginning of Lula’s second term, Luciano Coutinho, another well-known developmentalist economist, became president of BNDES in 2007 and brought in like-minded ECLAC-economist João Carlos Ferraz who later became vice-president of the bank (Almeida et al. 2019, 454). Hence, from 2007 onwards a group of economists occupied key positions in the government that shared the idea that a revival of industrial policies was crucial for the country’s further development prospects (Bril Mascarenhas 2016, 79– 81). As a consequence, the idea of neo-developmentalist industrial policies gained traction in the second Lula administration and complemented the

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prudent macroeconomic policies and inequality-reducing social policies already in place (De Toni 2013, 81–86). After Dilma Rousseff assumed the presidency in 2011, she made further important changes in the composition of the government that strengthened its developmentalist outlook. Most importantly, she replaced inflation hawk Henrique Mereilles with Alexandre Tombini as head of the Central Bank (Plummer 2010). Although he was part of the BCB cadre who had previously worked for the IMF, Tombini, trained by development economist Werner Baer at the University of Illinois, proved to be more amenable to her demands for an accommodative monetary policy. Shortly after Tombini took the helm, he slashed the Selic rate from 12.5% to a mere 7.25% in October 2012, finally fulfilling one of the key demands of the developmentalist faction (Brandimarte 2013). In addition, Rousseff’s close allies, Fernando Pimentel, Miriam Belchior, and Gleisi Hoffmann, were nominated as ministers of development, industry, and foreign trade, as well as planning, and her chief of staff, Belchior replaced the pragmatist Paulo Bernardo, a former banker. João Ferraz became vice-president of BNDES in 2011 and Glauco Arbix, a sociologist from the University of São Paulo and then-president of IPEA who led a working group on industrial policy in the government since 2003 (Almeida et al. 2019, 451), was nominated president of FINEP the same year. Hence, the developmentalist faction of the PT had firmly consolidated its position in the government by 2011 with all the major ministries and institutions in charge of economic policymaking being occupied by like-minded economists and politicians. Spurred by heightened demands from academia and industry for active measures against the ongoing deindustrialization of the economy, the new government launched its “New Economic Matrix” (nova matriz econômica) (Singer 2015; see below). Beyond that, business was well represented in the PT administrations, especially agribusiness (Furlan as head of MDIC under Lula and most agricultural ministers), but also manufacturing (Alencar as Lula’s vice-president) and banking (Jorge in the MDIC). In addition, financial interests were firmly taken care of by inflation hawk Mereilles in the Central Bank. Beyond that, members of the PT administrations cultivated close contacts with several entrepreneurs such as Blairo Maggi (agribusiness), Sergio Andrade (construction), José Pinheiro Filho (construction), Marcelo Odebrecht (construction), Eike Batista (diversified), Carlos Jereissati (retail and telecommunications), and the Batista brothers (meat packing) who benefitted greatly from subsidized BNDES

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loans and government contracts while supporting the PT coalition through campaign donations and illegal means, as revealed in several corruption scandals following Lava Jato discussed above (Abu-El-Haj 2016, 211; Lazzarini 2011; Musacchio and Lazzarini 2014; Boas et al. 2014). Brazil’s distinct multiparty presidentialism features several complementarities to the wider economic system (Schneider 2013, 141–149). Due to the porous nature of the open-list electoral system, business tends to target individual legislators with pivotal positions in committees, ministries, or as House-leaders and invest in long-term relations with them (ibid., 144). In particular, the large family-owned construction conglomerates have built a symbiotic relationship with the state that dates back to the construction of Brasília under Kubitschek in the 1950s (Pedreira Campos 2014; Silva Rego and Roder Figueira 2017, 10–15). The sector has its own powerful lobby group in Congress, the so-called Bancada de Empreiteiras e Construtoras, consisting in 2016 of 228 deputies from various parties—the largest number of deputies for a lobby group and ahead of business with 208 and agribusiness with 207 (Medeiros and Fonseca 2016). Lobbying via bancadas has proven highly successful in getting legislative approval for industry’s political preferences (Santos 2019, 145). The Lava Jato scandal has brought to light the magnitude of the political influence of the major construction companies over virtually every party in Congress (Taylor 2020a, 38). A common approach to gauge state–business relations in democracies is through corporate campaign finance (e.g. McMenamin 2012), which was allowed in Brazil until the 2016 election (Boadle 2015). For perspective, Brazilian electoral costs have been among the highest in the world during the period of investigation. Adjusted for GDP per capita, they were even considerably higher than US presidential elections, totaling US$1.4 billion in 2010 and US$1.6 billion in 2014 (Avelino and Fisch 2019, 161). After the ban on corporate donations, total spending shrank drastically to only US$740 million in the 2018 election (Bragon and Mattoso 2018). As money played a large role in the electoral success of politicians in Brazil (Samuels 2001; Speck and Mancuso 2014) and business had a vital interest in grooming the political landscape in order to get access to BNDES loans and government contracts (Musacchio and Lazzarini 2014; Boas et al. 2014), it comes as no surprise that campaign spending by elected candidates increased dramatically in the last two decades (Avelino and Fisch 2019, 164): senators, for instance, spent on average US$1.6

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million in 2014 up from US$569,118 in 2002. Dilma Rousseff spent US$123 million in her 2014 campaign, 736% more than the US$14 million Lula spent in his 2002 campaign. Looking at the average expenses of the major parties reveals that the Workers’ party increased their spending the most in the period of investigation, by 432.8% from US$100,194 in 2002 to US$533,825 in 2014 (Avelino and Fisch 2019, 166). All the other sizable parties in Congress also spent at least 165% to 276% more in 2014 compared to 2002. In absolute figures, the parties on the right spent considerably more money on average than those on the left, especially the Progressistas with US$769,056 in 2014, the Democratas with US$708,505, and the PSDB with US$713,496. The PT, by contrast, despite being the incumbent party, spent only US$533,825 in the 2014 election, even slightly less than its major coalition party, the PMDB with US$574,377. The massive rise in campaign expenditures by PT candidates calls to mind the structural difficulties the party encountered as challenger to the incumbent PSDB in the 2002 election. Lula’s electoral budget in 2002 was only US$14.7 million, 60% of the sum of his rival José Serra, US$24.5 million, and only 32% of Cardoso’s campaign expenses in 1998, which amounted to US$46.3 million (Avelino and Fisch 2019, 164). As the PT, before ascending to power, lacked the vital connections to wealthy private sector donors, the party had long been at a serious disadvantage vis-à-vis its rivals from the center-right (Samuels 2001). As a partial remedy, the party resorted to a scheme of illegal campaign finance (caixa dois ) and borrowed heavily from allied parties, chiefly the PL (Hunter 2007, 467; Samuels 2004). Corporate donations have historically accounted for the bulk of campaign contributions, around 75% in the 2010 and 2014 elections (Mancuso 2015, 156; Mancuso et al. 2018, 18). They are concentrated among around 70 very large firms and conglomerates that donate more than 50% of this sum (Mancuso 2015, 157). Donations typically have a strong incumbent bias, but the largest donors tend to diversify their spending on several parties to minimize the risk of losing access to the executive (Speck 2016). In the 2010 presidential election, for instance, 15 major companies accounted for over 30% of all corporate donations (Mancuso 2015, 157). As the electoral law heavily restricts donations by foreigners, foreign companies tend not to donate, sticking to a low political profile (Schneider 2013, 87; Taylor 2020a). Hence,

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large Brazilian-controlled private corporations are the major contributors to campaign finance during the period of investigation. Among this group of companies, we can discern a clear sectoral concentration that varies marginally over time: Construction, finance, metallurgy, beverages, meat processing, mining, and engineering are responsible for the largest share of corporate donations. In the 2006 reelection campaign of Lula, for instance, the largest individual corporate donors were mining giant Vale, the steel producers Gerdau and CSN, the meat packing firm JBS, beverage producers Cutrale and Ambev, and several banks such as Itaú, Bradesco, and Unibanco (Lazzarini 2011, 69). Practically the same group of companies appears on the list of the major corporate donors in the 2010 presidential election (see Table 4.3). Construction, finance, beverages, mining, and metallurgy firms dominate campaign donations. With R$113 million, the construction company, Camargo Corrêa, leads the list, accounting for 5.1% of all corporate donations. Queiroz Galvão, Andrade Gutierrez, and OAS are further construction giants among the top 7 donors. Banco Bradesco is the second largest donor with nearly R$94 million, accounting for 4.2% of total donations. Vale and JBS are fifth and sixth, having donated R$58 million and R$55 million, respectively. Together they account for another 5% of corporate donations. In the 2014 presidential election, the same pattern is observable. Several sectors account for the bulk of corporate donations, above all construction with R$85 million equaling 28.5% of all corporate donations (Mancuso et al. 2016). As in the previous campaigns, the construction conglomerates, Andrade Gutierrez with R$14 million, OAS with R$10 million, and Odebrecht with R$7 million, are among the top corporate donors (Muramatsu et al. 2020, 186). The donations from the banking sector amount to R$85 million or 14% of all corporate contributions. Here, Bradesco with R$7 million, BTG Pactual with R$6 million, and Itau Unibanco with R$5 million are the largest donors. Consumer goods, especially beverages and meat processing, and steel represent the lion’s share of corporate donations in the manufacturing sector, totaling R$248 million or 40.6% of total donations. The meat processing giant JBS, with its deep ties to the PT and other parties, is by far the largest corporate donor with an astonishing R$47.6 million, with R$31.2 million for Rousseff’s campaign alone (ibid., 189). Commerce and mining contributed R$35.6 million and R$19 million respectively, accounting for 5.8% and 3.1% of all corporate donations. Taken as a whole, these

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Table 4.3 Major corporate donors in the 2010 presidential campaign Company

Industry

Donations (R$)

% of corporate donations

Grupo Camargo Corrêa Grupo Bradesco Grupo Queiroz Galvão Grupo Andrade Gutierrez Grupo Vale Grupo JBS Grupo OAS Grupo BMG Grupo Gerdau Grupo CSN Grupo Oi (Contax S.A.) Galvão Engenharia

Construction Finance Construction Construction Mining Meat processing Construction Finance Metallurgy Metallurgy Telecommunication Engineering/ construction Beverages

113,182,120 93,872,000 71,166,020.5 63,146,000 58,170,000.01 54,653,000 48,264,301 34,145,000 33,930,000 30,591,493.55 26,180,000 24,195,730

5.1 4.2 3.2 2.9 2.6 2.5 2.2 1.5 1.5 1.4 1.2 1.1

Grupo Petrópolis (Leyroz de Caxias) UTC Engenharia Grupo Itaú Unibanco Subtotal 15 major donors Other companies Total

Engineering/ construction Finance

23,350,000

1.1

23,164,667

1

22,880,100

1 32.5 67.5 100

Source Mancuso 2015

sectors represent 92% of all donations. Agriculture, by contrast, is with R$423,200 or 0.1% of all donations at the lower end of sectoral donors. Although Rousseff’s campaign accounted for the largest share of corporate donations, 55.1% compared to 35.4% for Neves, most major donors spread their money fairly evenly across both candidates. This can be interpreted as a defensive strategy to secure access to both candidates, even in the case of a change in administration (Taylor 2020a, 145). A stronger pro-Rousseff bias is notable for manufacturing, construction, and the extractive industries, whereas commerce and finance donated more evenly or slightly more to Neves. As in St. Francis of Assisi’s proverb “é dando que se recebe” (for it is in giving that we receive; the Brazilian version of quid pro quo), these firms and sectors benefitted greatly from policies and investment programs implemented under the PT governments. Through the Growth

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Acceleration Program introduced in 2007 right after the election, the government invested large amounts in infrastructure projects, including housing, amounting to over 1% of GDP in 2014 (Orair 2016, 23). Besides these huge public investments, the large construction conglomerates received nearly US$12 billion in BNDES loans for their foreign expansion, with 58% going to Odebrecht and 24% to Andrade Gutierrez (Taylor 2020a, 98). Likewise, the combined annual profits of the four biggest banks increased by 850% from US$2.1 billion in 2003 to US$20 billion in 2015 (Horch 2015). Propped up by subsidized BNDES loans, JBS was destined to become a national champion and expanded rapidly overseas (Finchelstein 2017, 588; Hennart et al. 2017). Accordingly, Mancuso et al. (2020) found a statistically significant correlation between corporate donations and legislation favoring particular sectors. Hence, there has been a core of sectors and large companies benefitting overproportionally from the consumption-led growth model of the period of investigation. In particular, this holds true for sheltered sectors like construction and financial services but also the agribusiness sector (see also Taylor 2020a, 146–147). The large privately owned conglomerates in these sectors have traditionally been heavily interwoven with the state apparatus and the figures on corporate donations as well as the several corruption revelations indicate that this pattern also continued under the PT governments. This means that the PT successfully managed to attract the (financial) support of key business actors. However, not all of the corporate sector was content, as the enduring complaints about deindustrialization, high interest rates, and an overvalued currency show. Especially exposed sectors that faced rising competition from China and elsewhere demanded more targeted industrial policies, a more accommodative monetary policy, tax reductions, and a currency devaluation. The most vocal proponent of such a policy agenda was the Federation of Industries of the State of São Paulo (FIESP) which made the public aware of the devastating state of Brazilian industry. Together with the major trade unions, Central Única dos Trabalhadores (CUT) and Força Sindical, FIESP’s president Paulo Skaf launched a highly visible campaign to align economic policy more closely with industry preferences (Carvalho 2019, 57–58). Given the gradual shifts inside the PT administrations and Rousseff’s own developmentalist stance, Skaf’s demands fell on sympathetic ears in the government. With the developmentalist coalition inside the government firmly in place and inflation hawk Mereilles as head of the Central Bank replaced by Tombini, Rouseff introduced

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her self-proclaimed “New Economic Matrix” of several industrial policies, increased BNDES lending, tax reductions, expansionary monetary policy, and currency devaluations early in 2011 (Loureiro and Saad-Filho 2019, 75). The adopted measures resembled so closely industry demands that they were labeled “Agenda Fiesp” (Carvalho 2019, 55). Despite being initially endorsed by FIESP leaders (Singer 2020, 155), the PT’s move towards “state activism” backfired when inflation increased, growth slowed down, and the expected private sector investments failed to materialize (Loureiro and Saad-Filho 2019, 75). Only two years later, FIESP became one of the staunchest supporters of the street protests demanding structural reforms first and the impeachment of Dilma Rousseff soon after (Singer 2020, 157–158). FIESP’s giant yellow duck, 12 meters high, carrying the slogan “I won’t pay the duck anymore” became the icon of the protest movements beginning in June 2013, which soon were overtaken by well-organized right-wing groups and coxinhas, the white upper-middle class (Webber 2016). In this section, we analyzed state–business relations in Brazil. We did this by looking at the key members of the PT administrations, their intellectual background and personal ties to the corporate world, and campaign donations. Summarizing this analysis, we can highlight two basic points. First, the PT administrations were characterized by a clear dualization and polarization of elites, institutions, and ideas: under Lula, orthodox-minded politicians occupied key positions such as the Finance Ministry and the Central Bank, developmentalist-minded politicians led the Ministry of Development, Industry, and Foreign Trade as well as BNDES. After the Mensãlao scandal, the developmentalist faction became stronger and finally gained the upper hand when Dilma Rousseff became president in 2011. During Dilma’s first mandate, there was a clear developmentalist bloc in the administration, occupying the key institutions in charge of economic policy. In this episode, the government experimented with several heterodox macroeconomic policies to change the Brazilian growth model towards a more manufacturing-based export model. This will be analyzed in more detail in Chapter 9. Suffice to say at this point that the relative coherence of the political and economic elites which resulted in the neo-developmental coalition lasted only for a couple of years. In her second mandate, Rousseff had to resort to orthodox policies again to stem the unfolding economic crisis. The polarization of economic ideas resulted in a lack of political consensus over key policy priorities.

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Second, the consumption-led growth model spurred by commodity exports identified in Chapter 3 benefitted several economic sectors over others: large corporations in construction, finance, mining, and agribusiness were the clear beneficiaries. These companies were also the major campaign donors in the presidential campaigns, fostering close ties to the governing parties. These ties rested not only on then-legal campaign donations but also on illicit payments and bribes, as several corruption scandals have shown. At the margin of this bloc was the manufacturing sector, traditionally the center of innovative activity. Key economic policies under Lula’s presidency were against the interests of the manufacturing sector. It was only Dilma Rousseff who prioritized the interests of this sector and implemented several policies accordingly. However, these measures hardly changed the existing model (see the following chapters for an in-depth analysis and assessment). To sum up, the Brazilian political economy in the period of investigation can be characterized as a textbook case of rent-seeking: large, well-connected companies in the non-tradable and resource-based industries extracted rents from the industrial policies enacted under the PT.

4.5

State–Society Relations

In this section, we analyze the relations between the ruling Workers’ Party and society at large in the period of investigation, with an eye on the concept of “social bloc” which will be discussed in the next section. For now, we focus primarily on the electoral dimension of this concept, as highlighted by Amable (2017) and Beramendi et al. (2015). This complements the analysis of state–business relations from the preceding section. The PT’s unique historical trajectory, from a footnote in the Brazilian party system in the early 1980s, to one of the dominant players today, ruling for four consecutive terms, has made it the most studied political party of the country (do Amaral and Power 2015, 2). In contrast to the other two major parties, PMDB and PSDB, which emerged from the pre-democratic party system, the PT was founded in 1980 as an “outsider”-party backed by trade unionists, left-wing intellectuals, urban social movements, and the progressive sectors of the Catholic Church (Keck 1992). From the start, the PT built a very strong party brand that centered on its vision of social inclusion and democratic participation (Samuels 1999, 511–512). In the context of a weak, fragmented,

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and clientelistic party system, the leaders of the PT successfully managed to differentiate their party as programmatic, disciplined, and incorruptible (Hunter 2010). This party brand was further strengthened by rising numbers of successful PT-governed municipal and state governments in the late 1980s and 1990s, most notably in the city of Porto Alegre, which launched innovative governing practices, such as participatory budgeting (Baiocchi 2003). The “PT way of governing” (o modo petista de governar) (do Amaral and Power 2015, 7) distinguished the party clearly in an environment of non-programmatic, clientelist parties, enmeshed in recurring corruption scandals (Hunter 2007, 450–451). Beyond that, the PT successfully built a dense network of local party branch offices to continuously foster a reliable support base (Van Dyck 2014), thereby drawing on the preexisting organizational infrastructure of trade unions, social movements, and the Catholic Church (Hunter 2007, 453). Both elements, party brand and party organization, helped the PT to become the first mass party in Brazilian history (Samuels 2006). The two pillars of the PT party brand—an ideological vision of radical social change on the one hand and an ethical, incorruptible mode of governing on the other—were substantially diluted in the course of Lula’s first mandate (Baker et al. 2015). By adhering to the economic reforms of Cardoso and even pushing through a much-debated pension reform which it had criticized heavily before, the PT moderated its ideological profile towards the center. This brand dilution repelled some of its traditional civil society supporters but attracted more centrist voters, thereby enlarging its partisan base significantly (Hochstetler 2008). In addition, the unfolding of the Mensalão scandal in mid-2005 dramatically damaged the PT’s image as the “standard bearer of ethics in politics” (Hunter 2010, 148), causing its highly educated upper-middle-class supporters to abandon the party (Hunter and Power 2007, 13). This effect, however, was more than offset by increasing support from poorer and less-educated voters which credited the PT for crafting Bolsa Família, the massive conditional cash transfer program which benefitted millions of Brazilian families (Hunter and Power 2007). Hence, although the PT diluted its core brand in the wake of its first mandate, it managed to enlarge its partisan base to other segments of the electorate. In contrast to what might be expected, brand dilution predominately affected moderate petistas and not those identifying as hard-core petistas (Baker et al. 2015, 211). The latter share of the electorate grew slightly from 10.16% in 2002

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to 13.7% in 2006, and later shrank moderately to 10.3% in 2010 and 7.14% in 2014 (Samuels and Zucco 2019, 274). As Fig. 4.2 indicates, the combined share of the electorate identifying as petistas rose substantially from roughly 8% in 1989 to around 27% in the 2000s, dropping thereafter to 18% in 2014. Strinkingly, more than half of those identifying with any party identified with the PT in the period of investigation. The other two major parties, PSDB and PMDB, only counted around 8% partisans each (Samuels and Zucco 2019, 273). However, a stable share of roughly 15% in the 2000s that rose to 20% in 2014 disliked the PT. In addition, half of those identifying with no party but disliking one (negative partisans) disliked the PT (ibid., 274). This clearly suggests that partisan attitudes in Brazil center heavily on the Workers’ Party. The strong PT party label thereby helps to structure the otherwise rather confusing Brazilian multiparty system for voters to make sense of the policy space (ibid., 276). As a consequence, the PT could count on a sizable share of the electorate as supporters during its time in government. However, the party also faced a stable share of antipetistas which surpassed the numbers of its supporters by 2014. Furthermore, PT partisans, as their counterparts 60

50

in per cent

40

30

20

10

0 1989

1994 Petistas

1997 Antipetistas

2002 Partisans

2006

2010

2014

Negative Partisans

Fig. 4.2 Partisanship and attitudes towards the PT in the Brazilian electorate, 1989–2014 (Source Samuels and Zucco 2019)

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in mature democracies, have been characterized as “bounded partisans”, i.e. oscillating between identifying with the PT and no party identification (Samuels and Zucco 2019, 275). The vast majority of the electorate, more than 50% in the 2000s and almost 70% in 2014, did not identify with any party at all, leaving many votes up for grabs. A large share of the electorate, therefore, tends to change its voting intentions across party lines in the months before the election (Baker et al. 2020). Such volatile voting patterns have been observable in all presidential elections of democratic Brazil, lending overproportional weight to the role of social networks and media coverage in electoral campaigns (Baker et al. 2006, 2020). In Lula’s landslide victory in the 2002 election, ideology and partisanship appear to have been major determinants of voting behavior (Nicolau 2007). In the following 2006 election, however, voting behavior was heavily influenced by the bright economic situation which even offset the very negative effects of the Mensãlao scandal (Rennó 2007). In the same vein, economic voting was a major determinant in the 2010 and 2014 elections, with pocketbook voting related to Bolsa Família and retrospective voting leading the way (Zucco 2015; do Amaral and Ribeiro 2015). As a next step, we draw on opinion polls conducted by Datafolha shortly before Election Day widely used in the literature (e.g. Hunter and Power 2007) in order to assess the PT’s presidential candidates’ support base in more detail.9 These surveys show that Lula’s support base in the 1990s was predominately well-educated, well-earning, young, and living in Brazil’s metropolitan South. In the early 2000s, there was a decisive and long-lasting shift in his support base that increasingly became less educated, poorer, older, and living in Brazil’s poor North-East. As noted earlier, this shift can be ascribed to both the Mensãlao scandal, which alienated well-off middle-class voters caring mainly about good governance, and the massive extension of social policies such as Bolsa Famíla and the increasing minimum wage, benefitting predominately poor families in the North-East which did not care much about corruption (Rennó 2007; Balán 2014). This pattern endured over the whole period of investigation and under both PT presidents. Lula’s and Dilma’s support base became less educated, poorer, older, and living in the North-East and North. Whereas Lula’s voters were predominately male, Dilma’s voters, especially in the 9 See Datafolha, Intenção de voto para presidente da republica - 1º turno – véspera, 1994–2006: https://datafolha.folha.uol.com.br/, retrieved on 23 February 2023.

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2014 election, were more female.10 Overall electoral support declined steadily, with a remarkable drop of 4% points in the 2010 election and another 4% points in the 2014 election, indicating that Lula’s personal characteristics and political accomplishments distinguished himself from the party and his rather unknown successor (Samuels and Zucco 2014). As already stated, and widely acknowledged in the literature, the electoral effect of Bolsa Família is important but heavily centered on the role of the president (Layton 2019), with a reduced but still significant impact on the elections of Dilma Rousseff in 2010 and 2014 (Zucco 2015; Layton 2019). In the following, we turn to the approval ratings of the PT governments beyond Election Day, to get a more fine-grained picture of changes in their public assessment. Again, we draw on opinion polls conducted by Datafolha, one of the most reliable polls in Brazil and widely used in the literature (e.g. Samuels and Zucco 2014; Nunes and Melo 2017). As Fig. 4.3 illustrates, Brazilians were rather mixed in their assessment of Lula’s government during his first term. After broadly positive approval ratings at the beginning of the term, negative evaluations rose rapidly in the midst of the Mensalão scandal in mid-2005 onwards. However, after his successful reelection and strong GDP growth of 4% in 2006, 6.1% in 2007, 5.1% in 2008, and 7.5% in 2010 after only a mild downturn in 2009, Lula’s approval ratings rose continuously to an unprecedented 83% judging his government as “good” or “very good” and only 4% “bad” or “very bad” when he left office. When Dilma Rousseff took office in 2011, she started with similar approval ratings as Lula in his first term (see Fig. 4.4). With the economy still growing considerably and unemployment levels remaining low, Rousseff’s approval ratings kept rising to a respectable 65% judging her government as “good” or “very good” in March 2013. After the street protests in São Paulo began in June 2013, approval ratings plummeted from 65% to only 30% and negative evaluations rose from 7% to 25%. A further decisive reduction in approval ratings followed when the Lava Jato prosecution reached the capital and the economy started to falter. In March 2015 only 13% rated Dilma’s government as “good” or “very good”, down from 42% in December 2014. By contrast, those evaluating it as “bad” or “very bad” rose from 24% to 62% in the same 10 See Datafolha, Intenção de voto para presidente da republica - 2º turno – véspera, 2002–2014: https://datafolha.folha.uol.com.br/, retrieved on 23 February 2023.

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90 80 70

in percent

60 50 40 30 20 10 Mar 03 Jun 03 Aug 03 Oct 03 Dec 03 Mar 04 Aug 04 Dec 04 May 05 Jul 05 Aug 05 Oct 05 Dec 05 Mar 06 Jul 06 Aug 06 Oct 06 Dec 06 Mar 07 Aug 08 Nov 07 Mar 08 Sep 08 Nov 08 Mar 09 May 09 Aug 09 Dec 09 Mar 10 May 10 Aug 10 Oct 10 Nov 10

0

Good or very good

Regular

Bad or very bad

Fig. 4.3 Public assessment of Lula da Silva’s government, 2003–2010 (Source Datafolha, Avaliação do governo Lula, 2003–2010)

period. At this time, Rousseff had lost all her political capital to evade an impeachment which finally was initiated in December 2015. 80 70

in percent

60 50 40 30 20 10 Mar 11 Jun 11 Aug 11 Jan 12 Apr 12 Aug 12 Dec 12 Mar 13 Jun 13 Aug 12 Oct 13 Nov 13 Feb 14 Apr 14 Jul 14 Aug 14 Sep 14 Oct 14 Dec 14 Feb 15 Mar 15 Apr 15 Jun 15 Aug 15

0

Fig. 4.4 Public assessment of Dilma Rousseff’s government, 2011–2016 (Source Datafolha, Avaliação do governo Dilma, 2011–2016)

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To summarize this section, we can identify several aspects of the electoral support base of the PT throughout the period of investigation. First, there had been a strong PT partisanship of roughly 27% during Lula’s presidency that went down to a still significant (by Brazilian standards) 18% in Dilma’s presidency. This strong base of core supporters was, however, complemented by a sizable front of antipetistas representing roughly 15% of the electorate during Lula’s presidency and 20% during Dilma’s first presidential term. Second, given the importance of economic voting in Brazil, a large majority reelected the PT in 2006 and 2010 due to the bright economic situation and the strong Bolsa Família effect. When the economy started to lose dynamism, both effects lost part of their impact and Dilma was reelected by only a thin margin. Third, the core PT constituency underwent a major shift in the early 2000s from being predominately well-educated urban middle-class voters from the Southern metropolitan areas to less-educated rural poor and working-class voters from the North East. Lastly, Lula’s approval ratings were superb, particularly during his second term, which was blessed by a very fortunate economic situation. The rapidly growing economy overshadowed the Mensãlao scandal that dampened his approval ratings during his first term in office. Despite an equally good start in office, Dilma’s approval ratings plummeted drastically at the end of her first term when the street protests started in June 2013. After a heavily contested reelection, her approval ratings went down even further when the economy faltered and the dimensions of Lava Jato were uncovered.

4.6

Dominant Social Bloc in Brazil, 2003–2016

This section integrates the preceding sections on political coalitions (institutions, coalition management), state–business relations (bureaucracy, campaign finance), and state–society relations (voting and survey data). Taken together, they shed light on what might be termed a “dominant social bloc” underpinning the Brazilian upgrading regime. Beyond the inductively compiled data, this section also draws on deductive reasoning of influential theoretical models in international and comparative political economy on the preference formation of sectoral economic interests. This literature generally departs from Ricardo-Viner-inspired “specific-factor” models of industry-cleavages over trade and economic policy (Frieden 1991).

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Whereas earlier contributions proposed the notion of “producer-group politics” (Swenson 1991), more recent accounts, seeking to align electoral politics with producer-group politics, put forward the concept of “dominant social bloc” (Amable et al. 2019; Baccaro and Pontusson 2019). This is defined as “a particular, structured configuration of relations (or interactions) among social groups and more or less organized actors that represents these groups” (Baccaro and Pontusson 2019, 12). Within the social bloc, large corporations of key economic sectors occupy a privileged position and coalitional politics is essentially about the inclusion or exclusion of other groups into the bloc (ibid., 11). The Gramscian notion of hegemony alludes to the idea that a solidified social bloc can frame its specific interests as national interests which might lead to policy convergence across parties (Amable et al. 2019, 451). The main cleavage in this framework appears between domestic-oriented, or sheltered, sectors on the one hand, such as construction, finance, and other services, and export-oriented, or exposed, sectors on the other, such as manufacturing and agriculture (Frieden 1991; Baccaro and Pontusson 2019). This approach contrasts sharply with those proposed by Cepalist or Marxist scholars analyzing the Brazilian political economy (Bresser-Pereira 2015; Diniz and Bresser-Pereira 2016; Boito and Saad-Filho 2016). Those accounts either highlight a “domestic-international” cleavage between domestically owned companies, on the one hand, and foreignowned companies on the other (Boito and Saad-Filho 2016, 192), or they point to a “developmentalist-neoliberal” cleavage between industry and commerce, on the one hand, and agriculture and finance on the other (Diniz and Bresser-Pereira 2016). A social bloc analysis, therefore, yields particularly interesting insights into the political foundations of the Brazilian upgrading regime. As Chapter 3 revealed, growth in this period was predominately based on domestic consumption and on the exports of a specific set of agricultural products and raw materials. Section 4.4 of this chapter has shown that large corporations in the construction, finance, steel, and agri-food sectors have benefitted the most from this growth model. In addition, various economic policies of the PT governments clearly bolstered the profits of these corporations, such as public investments in infrastructure (construction), BNDES loans (construction, agribusiness, steel, mining), and subsidized consumer loans (finance). Furthermore, high interest rates and an overvalued currency helped to keep inflation in check and were of particular interest to the banking industry. For construction, typically

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an interest-rate-sensitive sector, generous government contracts, BNDES loans, and internally financed investments more than offset this disadvantage. The overvalued currency also helped to ease tight monetary policy by making vital imported inputs cheaper for both construction and agribusiness. Demand for several export items was so high at the time that the overvaluation was no major concern for agribusiness and mining companies. The most disadvantaged sector was manufacturing, squeezed between limited export prospects and rising imports. It comes as no surprise that manufacturing companies and their industry associations complained the most about the key macroeconomic policies of Lula’s presidency which he had inherited from his predecessor: prohibitively high interest rates and an overvalued exchange rate. Foreign multinational companies, contrary to what might have been expected, were not part of the dominant social bloc and maintained a low political profile. Apart from the business sector, Lula’s main support base traditionally lay in (parts of) the urban middle class. During the course of his first mandate, this changed significantly; with the help of his successful social policies, Lula managed to reach out to the rural poor and working class which subsequently formed the backbone of the Workers’ Party’s constituency. Parts of the middle class, especially public sector workers and the “socio-cultural professionals”, stayed loyal, but large segments started to abandon the party due to its involvement in several corruption scandals. The dominant social bloc began to form cracks when Dilma Rousseff launched her “New Economic Matrix”, trying to include manufacturing into the social bloc, and deliberately aimed to combat corruption (“ethical clean-sweep”), thereby helping to erode the glue of her party’s political coalition. The much-heralded neo-developmental coalition between unions, industrialists, and the government of Rousseff lasted only for two years until FIESP switched sides and forcefully demanded Rousseff’s impeachment. When the Lava Jato corruption scheme was uncovered, the parts of the dominant social bloc relying heavily on the Petrobrásconstruction nexus virtually imploded. Nearly all the large corporations directly linked to the PT governments were embroiled in a series of corruption scandals. Those who were not, left the sinking ship as soon as they could. The same holds true for most of the political parties, including long-time allies of the PT. By blaming the PT, and even Rousseff, for being corrupt, the deeply-corrupt political class (unsuccessfully) tried to divert suspicion from itself. Disgusted by the dimensions of corruption

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of its political and corporate elites, the urban middle class became the main force behind the waves of protests ultimately leading to Rousseff’s impeachment. Alone, the weakest of all social groups, the rural poor and working class tended to stay loyal to the PT.

4.7

Conclusion

The goal of the chapter has been to provide an encompassing, in-depth assessment of the political underpinnings of upgrading and innovation capacity building in Brazil. As the first step, we outlined the general framework of institutions and policy initiatives in the realm of innovation. We elaborated on the highly fragmented character of the Brazilian upgrading regime. Moreover, there was only very limited policy-oriented collaboration between business and government. Furthermore, we analyzed the political coalition dynamics during the PT governments and situated them in the wider context of Brazilian democratic institutions. The fractionalization of Congress and low levels of party institutionalization led not only to pork barrel politics but also to corruption, as revealed by the Mensalão and Lava Jato scandals. Corruption and malfeasance were not limited to the political arena but penetrated, and indeed heavily rested on, public agencies and state-owned companies, above all the oil giant Petrobrás. Dilma Rousseff’s efforts to fight corruption ultimately led to her impeachment, after Congress effectively blocked several of her reform agendas during her second mandate. Subsequently, we examined state–business relations in Brazil. The PT administrations were characterized by a clear dualization and polarization of elites, institutions, and ideas. Under Lula, orthodox-minded politicians occupied key positions such as the Finance Ministry and the Central Bank, and developmentalist-minded politicians occupied the Ministry of Development, Industry, and Foreign Trade as well as BNDES. After the Mensãlao scandal, the developmentalist faction became stronger and finally gained the upper hand when Dilma Rousseff became president in 2011. During Dilma’s first mandate, there was a clear developmentalist bloc in the administration, occupying the key institutions in charge of economic policy. However, this neo-developmental coalition lasted only for a couple of years. In her second mandate, Rousseff had to resort to

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orthodox policies again to stem the unfolding economic crisis. The polarization of economic ideas resulted in a lack of political consensus over key policy priorities. Second, the consumption-led growth model spurred by commodity exports identified in Chapter 3, benefitted several economic sectors over others: large corporations in construction, finance, mining, and agribusiness were the clear beneficiaries of this model. These companies were also the major campaign donors in the presidential campaigns, fostering close ties to the governing parties. These ties rested not only on thenlegal campaign donations but also on illicit payments and bribes, as the several corruption scandals have shown. At the margin of this bloc was the manufacturing sector, traditionally the center of innovative activity. Key economic policies under Lula’s presidency were against the interests of the manufacturing sector. It was only Dilma Rousseff who prioritized the interests of this sector and implemented several policies accordingly. However, these measures hardly changed the existing model. Therefore, the Brazilian political economy in the period of investigation can be characterized as a textbook case of rent-seeking: large, well-connected companies in the non-tradable and resource-based industries extracted rents from the industrial policies enacted under the PT governments. Thereafter, we analyzed the electoral support base of the PT throughout the period of investigation. First, there was a strong PT partisanship during Lula’s presidency that declined during Dilma’s presidency. This strong base of core supporters was, however, complemented by a sizable front of antipetistas. The core PT constituency underwent a major shift in the early 2000s from being predominately well-educated urban middle-class voters from the Southern metropolitan areas to less-educated rural poor and working-class voters from the North East. Finally, we integrated the previous insights from the analysis of coalition dynamics, state–business relations, and state–society relations into a social bloc analysis, drawing on insights from models of preference formation of sectoral economic interests. We concluded that the dominant social bloc in Brazil rested on large companies in the non-tradable and natural resource-based industries which penetrated the political system and managed to influence policymaking substantially. The manufacturing sector, by contrast, was outside the dominant social bloc. The efforts to bring manufacturing into the bloc were only partially successful and did not last for long. When the economic crisis and Lava Jato coincided,

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those parts of the social bloc resting on the Petrobrás-construction nexus virtually imploded. Summarizing the results of this chapter, we can conclude that there was no upgrading coalition in the political realm and the business sector willing to prioritize innovation and to implement a coherent reform agenda. Several very important measures were undertaken, but they remained fragmented and paled in comparison to the efforts undertaken to support the internationalization of national champions or increase investment in infrastructure. In the political realm, coalitions were heterogenous, fragile, and prone to corruption. In the business realm, non-tradable and natural resource-based industries dominated which had little incentives for investments in upgrading. Instead of engaging in productive policy-oriented collaboration with government entities, they invested in extensive rent-seeking activities, including large-scale corruption schemes.

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CHAPTER 5

Research and Development and Competition Policy

5.1

Introduction

This chapter covers two institutional dimensions of the Brazilian upgrading regime: the R&D regime and the competition policy regime. It combines detailed analyses of the Brazilian science system, university– industry collaboration, competition policy, and an in-depth assessment of R&D tax incentive schemes. Empirically, the chapter draws, e.g. on disaggregated R&D expenditure data, scientific publication and citation data, innovation survey data, and interviews with R&D experts. It examines the evolution of Brazil’s competition regulator, CADE, and the intricate Brazilian tax and regulatory infrastructure. Finally, the chapter draws together a comprehensive literature review, almost exclusively from Brazilian sources, on the effects of three innovation policies on innovation outcomes—the Good Law, the Informatics Law, and Inovar Auto. This chapter provides original insights into the negative effects of corruption on university–industry collaboration and innovation more broadly. It also highlights the ambivalent role of the scientific community as a well-connected interest group. The chapter is organized as follows. Section 5.2 examines the Brazilian R&D regime with a focus on key S&T indicators and university–industry collaboration. Section 5.3 analyzes the competition policy regime and its impact on the innovative activities of Brazilian companies. Section 5.4 © The Author(s), under exclusive license to Springer Nature Switzerland AG 2023 M. Schedelik, The Political Economy of Upgrading Regimes: Brazil and beyond, International Political Economy Series, https://doi.org/10.1007/978-3-031-34002-4_5

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deals with one of the most important policy measures to support innovation in Brazil, R&D tax incentive schemes, and evaluates their effects on technological upgrading. Section 5.5 concludes.

5.2

The R&D Regime

This section examines the research infrastructure in Brazil on the basis of key S&T indicators, i.e. R&D expenditures, scientific publications, citations, and number of researchers. In contrast to other approaches (e.g. Etkowitz and Leydesdorff 2000; see Chapter 2), these factors do not feature that prominently here but are, nevertheless, relevant. As a first step, therefore, we take a look at the arguably most commonly used aggregate indicator in innovation studies: expenditures on research and development. As a second step, we turn to scientific publications, the extent of international research collaboration, academic citations, and the number of researchers engaged in R&D as indicators of the evolution of the Brazilian science system. As a third step, we review recent efforts to foster university–industry collaboration and delve into the PINTEC surveys to assess the informational sources Brazilian companies use in their innovation strategies. Given the fact that R&D expenses are key determinants of productivity growth, yielding high private and social returns (Hall et al. 2010), they are widely used in the literature to assess innovative activity from the input side (Dziallas and Blind 2019, 9–10). However, R&D expenditures do not generally capture all the investments directed towards knowledge creation (Hall and Jaffe 2018, 6) and fail to account for significant aspects of frugal innovations or learning activities prevalent in emerging economies (Fu 2020; see also Chapter 2). Nevertheless, due to its significance, data availability, and international comparability, R&D expenses serve as a good starting point and proxy for aggregate innovative activities. In the period of investigation, total expenditures on research and development in Brazil rose significantly, from R$46 billion in 2000, to an all-time peak of R$90 billion in 2015 (see Fig. 5.1). In relation to GDP, total expenses rose from 1.05% to 1.34% in the same period. Slightly more than half of this was spent by the government, R$23.9 billion or 0.5% of GDP in 2000 and R$47 billion or 0.7% of GDP in 2015 respectively. The business sector contributed slightly less than that, R$22 billion or 0.5% of GDP in 2000 and R$43 billion or 0.6% of GDP in 2015 respectively.

100000

1.6

90000

1.4

80000

in million R$

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1.2

70000 60000

1

50000

0.8

40000

0.6

30000

0.4

20000

in percent of GDP

5

0.2

10000 0

0

Total

Government

Business

Total, % of GDP

Government, % of GDP

Business, % of GDP

Fig. 5.1 Expenditures on R&D, in million R$, 2000–2016 (Source MCTI)

Over the entire period, R&D expenditures in both sectors were almost on par, with a notable diverging trend from 2010 onwards. It is important to note, however, that the bulk of the public share of these investments has been directed at universities and research institutes rather than firms (De Negri and Rauen 2018, 23). As an example, De Negri and Rauen (2018) calculate that an increase of roughly R$4 billion in public R&D expenses between 2011 and 2015 can be traced back to the Science without Borders (Ciência sem Fronteiras ) program launched in 2011, aiming to promote international undergraduate scholarships, and its exchange rate correlation. This is arguably related to the “capture” of FNDCT funds by the MCTI (Pacheco 2019, 174). This was confirmed by several interlocutors in the field of research. A planning manager and industrial policy specialist at ABDI regarded the conflict over FNDCT resources and its “capture by the academic sector”1 as one of the key problems of Brazilian innovation policy in the period of investigation. For the business sector, approximately one-third of R&D expenses are

1 Planning Manager, ABDI. Interview by Michael Schedelik. Interview No. 32. 27 March 2017, Brasília.

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attributable to generous tax exemptions, discussed below in more detail (Zuniga et al. 2016, 64). As already noted, the majority of public investments declared as R&D funds university research and scholarships. Universities represent the core of Brazil’s research infrastructure. According to the higher education census conducted by the Instituto Nacional de Estudos e Estatísticas Educacionais Anísio Teixeira, there are 2,407 universities, offering 34,366 courses for 8.4 million students as of 2016 (INEP 2016). Out of these, 296 are public and 2,111 are private. Several public universities, in particular, feature among the most prestigious in the country with a strong research profile in a variety of disciplines. The University of São Paulo, for instance, is the only Latin American university among the top 200 universities in the world, according to the Shanghai Ranking (ARWU 2020). Twenty-two further institutions, such as the State University of São Paulo, the University of Campinas, the Federal University of Rio de Janeiro, and the Federal University of Rio Grande do Sul are among the top 1000 in the same ranking. To further advance high-profile research in Brazilian universities, the so-called National Institutes of Science and Technology were created in 2008 which are networks of research groups under the auspices of CNPq, the Brazilian equivalent to the National Science Foundation in the United States (CNPq 2020). Beyond the university system, there are several outstanding research institutes linked to the Ministry of Science and Technology, such as the National Institute of Technology in Rio de Janeiro, the National Center for Energy and Materials Research in Campinas, the National Institute for Space Research in São José dos Campos, and the Brazilian Space Agency in Brasília. Other ministries also have research units such as the Aeronautics Institute of Technology and the Military Engineering Institute (defense), the Brazilian Agricultural Research Corporation (Embrapa) (agriculture), Cenpes (oil and gas), Fiocruz (health), and Cenpel (energy). The afore-mentioned institutions are responsible for the vast majority of research activities in Brazil. In order to assess their research output, we turn to scientific publications which are widely regarded as an important indicator of the quality of a country’s knowledge infrastructure (Fagerberg et al. 2010, 846; Zuniga et al. 2016, 21–22). This holds increasingly true for emerging economies as well (Bornmann et al. 2015). Furthermore, international research collaboration is seen as particularly important in this field as it allows emerging economies to tap into global knowledge networks, that are still concentrated in a few countries such as the

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United States and the United Kingdom, and tie them to local problemsolving (Leydesdorff and Wagner 2008). Although international scientific collaboration is no panacea and sizable barriers such as language, politics, and academic norms prevail, it tends to increase scholarly impact as measured by citations (Sugimoto et al. 2017). This, however, may not be due to greater novelty of the research, but to reputation and audience effects (Wagner et al. 2019). Nevertheless, scientific publications and international research collaboration are now standard indicators for research output. The Brazilian scientific community has increased its research output remarkably in the last two decades.2 The number of citable as well as cited documents has increased by 358% and 321% respectively in the period from 2000 to 2016. Over the entire period, most of the citable research produced has been cited, indicating a certain impact on the scientific community. Only in the mid-2010s do we witness a notable diverging trend of output and impact as measured by citations. Since 2013, the number of cited documents seems to have reached a plateau, whereas the number of citable documents kept rising. The dramatic growth of scientific production in the period of investigation can be traced back to the creation of many post-doctoral programs at Brazilian universities and a significant increase in funding for doctoral and post-doctoral positions working in research laboratories (Kannebley et al. 2018). Besides the impressive growth in research output, another interesting finding is the constant share of international collaboration in research production. The share of internationally co-authored documents has stayed roughly the same over the period, at 30%. This share grew from roughly 20% in the early 1980s to the present level in the early 1990s where it seems to have reached a plateau (Leta and Chaimovich 2002). For Brazilian scholars, research impact as measured by citations crucially depends on collaboration in international research networks (ibid.), which they usually tap at the post-doctoral level in Europe or the United States (Furtado et al. 2015). Going beyond mere research output as measured by the number of publications, we turn to the impact of Brazilian research measured in citations. Citations are widely regarded as an indicator of research quality (e.g. Aksnes et al. 2019). To begin with, the share of scientific articles 2 See Scimago Journal & Country Rank: https://www.scimagojr.com/countryrank.php, retrieved on 23 February 2023.

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in refereed journals, which usually receive much higher citations rates, grew from 0.81% to 2.11% between 1996 and 2016 (Frischtak 2019, 97). Overall, citations increased strongly from 374,945 in 2000 to a peak of 783,491 in 2008, before falling again to 529,956.3 Roughly one-third of total citations were self-cites and the remaining two-thirds actual external cites. Given the drastic increase in research output in the period of investigation, it comes as no surprise that citations per document fell steadily from 24% in 2000 to a mere 7% in 2016. Hence, it is safe to conclude that the Brazilian science system has matured in the last two decades. Both the numbers of scientific publications and their citations increased significantly during this period. The notable growth of research output and impact, as stated, can be traced back to a strong increase in public funding for research and development, primarily directed at the science system and not at corporations. To get a further sense of the distribution of R&D activities across sectors, we look at the number of researchers employed in research and development. Table 5.1 shows that the total number of researchers grew by 203%, from 104,285 in 2000 to 316,822 in 2014. The predominant share—72% to 83%—were employed in academia, growing by 248% from 76,104 in 2000 to 265,174 in 2014. Corporate sector researchers only accounted for roughly 20% of total researchers, growing from 24,100 in the beginning of the period to 59,364 at the end. The remarkable gap between a strong research infrastructure with robust performance indicators and a relatively low share of corporate R&D activities led to major political efforts to increase the collaboration between the business sector and the science system (Brito Cruz 2019). Such university–industry collaboration (UIC) is increasingly seen as a major determinant of successful innovative activities (Etkowitz and Leydesdorff 2000; Audretsch 2014). This may take the form of direct collaboration via technology transfer (business-sponsored research, startups, etc.) or indirect collaboration via intermediaries (such as the Fraunhofer Institutes in Germany or the Netherlands Organisation for Applied Scientific Research). Traditionally, such collaboration between the private and the public sector is very weakly institutionalized in the Brazilian context due to several reasons. First and foremost, the public procurement law of 1993, introduced to combat corruption, strictly regulated 3 See Scimago Journal & Country Rank: https://www.scimagojr.com/countryrank.php, retrieved on 23 February 2023.

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Table 5.1 Researchers involved in R&D activities, by sector, 2000–2014 Year

Sector

Total

Government

Higher education

Corporate

3.486 3.324 3.162 4.427 5.692 4.941 4.189 4.288 4.386 4.764 5.142 5.390 5.637 5.885 6.132

76.104 82.597 89.089 100.586 112.083 120.933 129.783 139.527 149.270 167.007 184.743 204.851 224.959 245.066 265.174

24.100 24.651 25.202 26.150 26.868 27.585 28.136 28.688 29.239 34.216 39.192 49.191 52.582 55.973 59.364

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

Private non-profit 595 740 885 1.184 1.482 1.427 1.372 1.275 1.178 1.242 1.305 1.316 1.326 1.337 1.347

104.285 111.444 118.603 132.347 146.125 154.886 163.480 173.777 184.073 207.228 230.382 251.992 273.602 295.212 316.822

Source MCTI

the interactions between public employees and the private sector. This led to an environment in which public employees tend to refrain from technology procurement or buying R&D services for instance. As one interlocutor in the field research put it: There is a sociology behind that. […] In the context of widespread corruption, public employees think it is better to avoid interacting with the private sector altogether […] The fear of corruption [charges] is very high […] [and] responsibility for accounting problems is personal not institutional.4

Second, there is a high degree of suspicion between public universities, on the one hand, and the business sector on the other. Another interlocutor referred to this as a “conflict between two worlds”5 which is only slowly changing (Brito Cruz 2019). Institutionally, relatively rigid and 4 Innovation specialist, IPEA. Interview by Michael Schedelik. Interview No. 21. 21 March 2017, Brasília. 5 Planning Manager, ABDI. Interview by Michael Schedelik. Interview No. 32. 27 March 2017, Brasília.

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narrow incentive structures in universities with weak support for developing collaborations have contributed to the relative isolation of both sectors from each other (Frischtak 2019, 108). To induce scientists to work with industry (and vice versa), the Brazilian government introduced several reforms which had a lasting impact on the national ST&I infrastructure (see also Chapter 4). First and foremost, the Innovation law enacted in 2004 mandated universities establish technology transfer offices and policies regarding intellectual property rights (Pacheco 2019, 178). The number of these offices increased from 19 in 2006 to 208 in 2016 and filings for IP protection in Brazil increased from 680 to 2,228 over the period (ibid.). Despite these improvements in changing the behavior of universities towards technology transfer and greater collaboration with industry, significant hurdles for university–industry linkages remained. For instance, requirements regarding public procurement, importing inputs, issuing visas to foreigners, and the participation of researchers in business-funded projects were only addressed twelve years later in the New Science, Technology, and Innovation Law of 2016 (ibid., 178–179). Second, the government established a system of innovation intermediaries to facilitate university–industry collaboration: the Brazilian Enterprise for Research and Industrial Innovation (EMBRAPII) which awarded existing high-profile research organizations into EMBRAPII units to conduct business-sponsored research modeled after the Fraunhofer model (Gomes de Oliveira and Almeida Guimarães 2019)6 and the Senai-ISI system which upgraded existing SENAI centers to institutes of applied research and development (Institutos SENAI de Inovação) (Piore and Ferreira Cardoso 2019).7 Given the recency of these initiatives, it is not yet possible to adequately evaluate their effects on corporate R&D and innovative activities. However, commentators and policy-makers familiar with the projects regard them as success cases of recent innovation policy in Brazil.8

6 Director, EMBRAPII. Interview by Michael Schedelik. Interview No. 22. 21 March 2017, Brasília. 7 Economist, SENAI/CNI. Interview by Michael Schedelik. Interview No. 29. 24 March 2017, Brasília. 8 Innovation specialist and former FINEP official, Professor, USP. Interview by Michael Schedelik. Interview No. 43. 7 November 2019, São Paulo; Executive director, Fapesp.

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Next, we look at data from the PINTEC surveys to assess the relevance of different knowledge sources for innovative Brazilian companies. Figure 5.2 shows how these firms evaluate the importance of institutions and organizations as providers of information for their innovation strategies. Several interesting findings can be deduced from this figure. First, most of the organizations generally regarded as providing vital knowledge inputs for innovation such as universities, research institutes, and corporate R&D departments, only play a marginal role in the Brazilian context. The same holds true for training centers, institutions for Metrology, Standardization, Testing, and Quality (MSTQ) assurance, consultants, and other companies in the same corporate group. Second, this indicates that university–industry linkages are still not very established, complementing earlier research which found that university–industry collaboration is strongest between larger corporations in mature industries and some research-intensive universities (Bodas Freitas et al. 2013; Moraes Silva et al. 2018; Brito Cruz 2019). Third, the most important sources of information for innovative Brazilian companies are informal networks— by a wide margin—, followed by customers, suppliers, other internal sources, competitors, and fairs and expositions. The high significance of informal knowledge networks for innovative activities, as revealed in the PINTEC surveys, confirms earlier research findings (Dantas and Bell 2011; Figueiredo et al. 2020). This section has demonstrated that the Brazilian R&D regime is heavily focused on the science system, i.e. universities and research institutes. Corporate R&D plays only a marginal role. The problem with this division of labor is, however, that there are very weak linkages between science and business. Brazilian companies still mostly rely on other informational sources for their innovative strategies such as informal networks, customers, or suppliers. The large subsidies for public R&D have mostly found their way into public universities to fund researchers and scholarships. Efforts to build up and expand the institutional infrastructure for applied research have begun only very recently.

Interview by Michael Schedelik. Interview No. 45. 7 November 2019, São Paulo; Innovation specialist, Professor, USP. Interview by Michael Schedelik. Interview No. 35. 5 November 2019, São Paulo.

Low/None

Medium

High

Internal R&D department

Low/None

Medium

High

Other internal sources

Low/None

Medium

High

Other company of the group

Low/None

Medium

High Suppliers

Low/None

Medium

Low/None

High

Medium

Low/None

High

Medium

Low/None

High

Medium

High 2003-2005

2006-2008

2009-2011

Low/None

Medium Low/None

High

Medium Low/None

High

Medium Low/None

High

Medium

Low/None

High

High

2015-2017

Research Training and Insitutions Conferences, Fairs and Institutes technical for MSTQ meetings, expositions and assistance specialized centers publications

Medium

2012-2014

Clients or Competitors Consultants Universities consumers

High

Informal networks

Medium

Fig. 5.2 Sources of knowledge and their relevance for innovative Brazilian companies, in percent, 2003–2017 (Note “Research institutes” was introduced as a separate category in the 2008 survey, previously it was included in “Universities”. Source IBGE, Pesquisa de Inovação—PINTEC, 2000–2017)

0

10

20

30

40

50

60

70

80

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100

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Competition Policy and Market Structure

This section deals with competition policy, market structure, and their effects on R&D expenditures and innovative activities. The existence of such a positive relation is a well-established fact (see, e.g. Büthe and Cheng 2017), but there are contending views on “how much” competition exhibits a greater impact on technological innovation (Lerner and Stern 2012). Basically, this debate dates back to the different notions of competition and innovation in Schumpeter’s work. Whereas in his Theory of Economic Development, “new men” setting up “new firms” were the drivers of technological change (Schumpeter 2004 [1934], 136), in Capitalism, Socialism, and Democracy, large established firms with market power (“big unfettered business”) were the main drivers. For those companies, “quality competition and sales effort” (and not mere price competition) represented “competition which commands a decisive cost or quality advantage and which strikes not at the margins of the profits and the outputs of the existing firms but at their foundations and their very lives” (Schumpeter 2003 [1943], 84). More recent approaches assume an inverted U-relationship between competition and innovation, with rising levels of competition initially increasing and later decreasing the rate of innovation (Aghion et al. 2005). In the case of Brazil, competition policy played, for most of the twentieth century, only a marginal role at best (Todorov and Filho 2012, 208). Although the current national competition regulator, the Administrative Council for Economic Defense (Conselho Administrativo de Defesa Econômica, CADE), was established in 1962, competition law remained largely ineffective until the 1980s given the political priorities of the military dictatorship on state-led development (OECD 2019a, 17). Price controls, state-owned enterprises, and the concentration of large privately owned conglomerates were favored over market competition, especially in those sectors where foreign competitors were allowed to operate (Todorov and Filho 2012, 220). Contrary to other large countries pursuing protectionist trade measures in the nineteenth and twentieth centuries, such as the United States and Canada, the Brazilian authorities opted not to implement an effective competition policy as a substitute for trade competition (on this see Büthe 2015). It was not until 1994 that competition law was actually enforced (McMahon 2016, 297). The 1994 reform made CADE truly independent from the executive and introduced a mandatory merger control system (Todorov and Filho 2012,

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234). A further reform in 2011 eliminated overlapping competencies with other agencies and consolidated sole responsibility for competition law enforcement in CADE (OECD 2019a, 19). In comparison to other emerging economies, the Brazilian competition regime is generally considered a success case (McMahon 2016, 297). The arguably most important measure of competition policy in Brazil, as elsewhere, is its leniency program, allowing cooperating corporations and individuals to avoid sanctions for cartel activity (OECD 2019a, 59–64). Since its first leniency agreement in the Crushed Rock case in 2003, related to a cartel formed by members of the State of São Paulo Crushed Rock Mining Industries Association (Sindipedras), CADE has cooperated successfully with several parties to investigate domestic and increasingly international cartels such as the Gas Insulated Switchgear, Air Cargo, Marine Hoses, Freight Forwarding, Refrigeration Compressors, and CRT Glass Bulbs cases (ibid., 59). The number of leniency agreements signed rose from one in 2003 to 21 in 2017. The surge in agreements since 2015 is due to the numerous cartel cases related to Lava Jato (ibid., 56). Despite an increasingly effective competition regime, the degree of overall competition in the Brazilian economy remained roughly constant and even fell relative to other countries. According to the Global Competitiveness Index developed by the World Economic Forum, the intensity of local competition stayed at slightly above 5 from 2007 to 2015.9 Brazil’s country rank deteriorated in the same period slightly from 45 to 70, before improving again to 41. Looking at the extent of market dominance, a similar picture evolves: the index stayed roughly the same at 4, and the country ranks as well at 45. Hence, we see little change in the aggregate degree of competition in the Brazilian economy in the period of investigation. The reasons for this are threefold: Brazil’s low degree of foreign trade competition and high trade costs (Canuto et al. 2015; Dutz 2018, 35–42; see Chapter 8), the limited integration of its domestic market resulting in high trade frictions, segmented markets, and local market power (Góes and Matheson 2017; Dutz 2018, 42–45), and high regulatory burdens—commonly known as Custo Brasil —favoring well-connected incumbents (Dutz 2018, 45–53; Limoeira 2020). Several

9 See World Economic Forum, Global Competitiveness Index: https://www.weforum. org/reports/the-global-competitiveness-report-2020, retrieved on 23 February 2023.

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interlocutors confirmed that limited competition has been a major determinant of low innovative activities, including low R&D expenditures.10 Looking at the OECD product market regulation index as a rough indicator for the regulatory environment in Brazil, a similar picture evolves: the complexity of regulatory procedures, administrative burdens on startups, and regulatory protection of incumbents, all stay at comparatively high levels throughout most of the period.11 One of the main culprits for the heavy regulatory burdens on Brazilian companies is the complex tax system (Dutz 2018), consisting of five main taxes: two valueadded taxes, the Imposto sobre Circulação de Mercadorias e Serviços which is a states sales tax ranging from 7% to 25% (18% in São Paulo), and the Imposto sobre Produtos Industrializados (IPI) which is a federal excise tax of roughly 10–15% (but can reach 300% for certain luxury goods); taxes on supplies of goods or services, such as the Imposto Sobre Serviços, a municipal services tax of 2–5%, and two types of social security contributions, the Programa de Integração Social of 1.65% of gross turnover and the Contribuição para Financiamento da Seguridade Social of 7.6% of gross turnover (AHK São Paulo 2019). The intricate tax structure with high tax rates and large amounts of time needed for tax compliance, is usually ranked as the highest impediment to doing business in Brazil (Dutz 2018, 47). Traditionally, the standard way to relieve businesses from some of the tax burdens has been to grant generous tax breaks for certain sectors or types of products, which are ubiquitous on the federal as well as the state level. Typically, tax breaks are granted for well-connected incumbents, while leaving small firms and startups with unrealistically high administrative burdens (Limoeira 2020). This section has shown that the Brazilian competition regime is heavily biased towards well-connected incumbents. This confirms our prior analysis of state–business relations in Chapter 4 which found that very large corporations with deep ties to the political system and the 10 Innovation specialist, Professor, Fundaçao Getulio Vargas. Interview by Michael Schedelik. Interview No. 6. 13 March 2017, Rio de Janeiro; Innovation specialist, IPEA. Interview by Michael Schedelik. Interview No. 21. 21 March 2017, Brasília; Economist, Professor, Universidade Federal de Rio de Janeiro. Interview by Michael Schedelik. Interview No. 41. 6 November 2019, Rio de Janeiro; Innovation specialist, Professor, Universidade Cândido Mendes. Interview by Michael Schedelik. Interview No. 38. 6 November 2019, Rio de Janeiro. 11 See OECD, Product Market Regulation database: https://www.oecd.org/economy/ reform/indicators-of-product-market-regulation/, retrieved on 23 February 2023.

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bureaucracy have managed to capture regulatory agencies. In addition, these corporations have received favorable treatment as “national champions”. The degree of competition in the Brazilian market is rather low due to low international integration, high internal trade frictions, and segmented markets. This market structure is one of the determinants of low innovative activity in Brazilian companies during the period of investigation.

5.4 Major R&D Tax Incentive Schemes and Their Effects In this section, we turn to a more detailed analysis of specific policy instruments to foster innovation in Brazil: tax breaks for R&D, arguably the most important measure to support innovation in firms (De Negri and Rauen 2018, 17). There have been three main tax exemption schemes in the period of investigation: the Lei do Bem (the “Good Law”, Law No. 11,196/05), a universal tax exemption scheme allowing companies to deduct up to 100% of the income tax (Imposto da Renda) and the social security contribution on net profits (Contribuição Social sobre o Lucro Líquido) for R&D expenditures, the Informatics Law (Laws No. 8,248/1991, No. 10,176/2001, and No. 11,077/04), which establishes generous tax exemptions of up to 100% of the IPI for companies of specific products in the ICT sector spending at least 5% of annual revenues on R&D, and the Inovar Auto incentive program (Law No. 7,819/ 2012), which introduced a 30% increase of the IPI on light-duty vehicles and light commercial vehicles with a 30-percent-discount for those companies meeting certain requirements such as R&D spending and fuel efficiency (De Negri and Rauen 2018). As a first step, we look at the Good Law and its main effects on the innovative activities of Brazilian companies in the period of investigation. Most notably, the number of beneficiaries of the tax exemptions granted by the law grew rapidly and significantly from only 130 in 2006, one year after its implementation, to 1008 in 2014.12 Combined R&D investments of these companies totaled R$2.19 billion in 2006 and surged to 12 See MCTIC, Relatório Annual de Atividades de P&D—Lei do Bem: https://ant igo.mctic.gov.br/mctic/export/sites/institucional/tecnologia/Lei_do_bem/arquivos/Rel atorioAnual/Relatorio-Anual-Lei-11196-05-Ano-Base-2014-Retificado.pdf, retrieved on 23 February 2023.

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R$8.19 billion in 2014, representing roughly 24% of total business expenditures on R&D (De Negri and Rauen 2018, 33). The combined tax exemptions summed up to R$0.23 billion in 2006 and rose to R$1.71 billion in 2014. In total, 5,610 companies benefitted from the Good Law in the period of investigation. Several studies have evaluated the impact of the Good Law for the period of our investigation. First of all, the OECD regularly analyzes and compares the R&D tax incentive schemes of several countries using the implied tax subsidy rates on R&D expenditures which is calculated as 1 minus the B-index (Warda 2001). The B-index measures the level of pretax profit a representative firm needs to break even on a marginal outlay on R&D (OECD 2013). Usually, this is calculated for different scenarios with large firms and SMEs, profitable or not. In the case of the Good Law, the marginal tax subsidy rate is 0.27 for profitable large firms and SMEs alike (OECD 2019b). This is well above the OECD median (0.19 for SMES and 0.14 for large firms). However, for loss-making large firms and SMES alike it is −0.01, well below the OECD median (0.17 for SMES and 0.10 for large firms). Hence, for profitable firms the Good Law incentive scheme provides very generous tax allowances. As there are no carry-over or refund options in case of insufficient tax liability, the tax subsidy rate falls to zero for firms making losses. Beyond this general assessment, several studies have analyzed the direct impact of the Good Law on R&D investments in Brazil (Kannebley and Porto 2012; Kannebley et al. 2016; Zucoloto et al. 2017; Porto and Memória 2019). Using panel data with Propensity Score Matching, Kannebley et al. (2016) find an additionality effect of the R&D tax allowances on R&D expenditures and the employment of technical personnel from its inception in 2006 until 2009. Additionality effect13 refers to “the extent to which a given amount of tax credits leads to an increase in a firm’s R&D expenditures, as compared to the situation in which a company does not receive any fiscal incentive” (Bodas Freitas et al. 2017, 58). They estimate this effect to be quite large: an increase of 43–81% in R&D expenditures and an increase of 9–10% in the employment of technical personnel (Kannebley et al. 2016, 140). Extending 13 Strictly speaking, this refers only to input additionality, as commonly investigated in the literature. Output additionality, by contrast, relates to the effect of tax credits on innovation output, such as product performance or patenting activity of firms (Bodas Freitas et al. 2017, 58).

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the period of investigation to 2013, Zucoloto et al. (2017) only estimate a 17% increase in R&D expenditures from 2006 to 2013 and even a crowding-out effect from 2009 to 2013. They attribute this trend to the doubling of beneficiaries in this period from 542 in 2009 to 977 in 2013 (ibid., 297). Furthermore, the authors estimate the average elasticity of R&D investments to company productivity at 0.06, which is similar to other countries (Hall et al. 2010). Porto and Memória (2019) also find a positive effect of R&D investments for the beneficiaries of the Good Law on innovation outcomes in this period. As a second step, we analyze the Informatics Law and its main effects on Brazilian companies in the period of investigation. According to the Ministry of Science and Technology, the number of beneficiaries of the law, which was enacted in 1991 and updated in 2001 and 2004, increased from 262 in 2006 to 510 in 2014.14 Combined R&D investments rose from R$0.47 billion in 2006 to R$1.44 billion in 2014. Over the same period, the total tax exemptions granted increased from R$1.99 billion to R$5.2 billion. Note that the investment-to-tax-exemption ratio of roughly 25% is almost the inverse of that of the Good Law, whose taxexemption-to-investment ratio rose to approximately 21% in 2014. This fact already indicates the different objectives of the two laws; whereas the Good Law was exclusively created to incentivize R&D expenditures, the Informatics Law primarily aims to incentivize production of electronic goods inside Brazil, building on a long tradition of import substitution policies for this sector in the 1970s and 1980s (Ribeiro et al. 2011, 2; Prochnik et al. 2015). Several studies have evaluated the impact of the Informatics Law throughout the period of our investigation (Ribeiro et al. 2011; Kannebley and Porto 2012; Salles Filho et al. 2012; Avellar and Botelho 2016; Silva 2017; Brigante 2018). Investigating the period from 2001 to 2005, Ribeiro et al. (2011) find no effect on firm productivity. By contrast, the authors argue that less-productive firms tend to seek the benefits provided by the law more often than their more productive peers (Ribeiro et al. 2011, 16). This resulted in the survival of less-productive firms and counteracted the overall strong productivity increase in the ICT sector in the beginning of the 2000s (ibid.). Similarly, Kannebley and Porto (2012) do not find significant increases in R&D expenditures 14 See MCTIC, Séries Históricas dos Resultados da Lei de Informática: https://sig plani.mctic.gov.br/arquivos/SeriesHistoricasRDA.pdf, retrieved on 23 February 2023.

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among the beneficiaries of the law and a possible crowding-out effect for the period from 2001 to 2008. However, Silva (2017) detects a positive impact of the law on R&D expenditures and various innovation strategies in the period from 2003 to 2008. Lastly, Brigante (2018), investigating the period from 2003 to 2011, finds a positive impact on R&D expenditures but only for the period from 2005 to 2008, for which he detects an additionality effect. For the period from 2003 to 2005 and 2008 to 2011, Brigante does not find a positive effect on R&D expenditures, but neither does he find a crowding-out effect. Given the high fiscal costs of the program and the relatively low number of beneficiaries, most authors are rather skeptical towards the Informatics Law (see, e.g. De Negri and Rauen 2018, 32). Finally, we evaluate the tax incentive program Inovar Auto which was in place from 2012 to 2017. In total, 27 companies benefitted from this program, investing R$ 37.4 billion in five years. Investment in engineering accounted for 1.87–3.75% over the period, investment in R&D 0.29–0.6%. Most crucially, total imports in the automotive sector, especially light vehicles, dropped significantly from 34 billion in 2013 to 19.2 billion in 2017. As trade protection was one, maybe the most important, objective of the policy (Schapiro 2017, 448), in this regard it can be viewed as a success (Sturgeon et al. 2017, 68). Given the clear protectionist design of Inovar Auto, the program (and several others similar to it) was subject to a WTO dispute between Brazil and the European Union, Japan, and several third parties (Ornelas and Puccio 2019). In line with the complaining parties, the WTO found the program to be inconsistent with WTO rules (WTO 2017). As a consequence, Inovar Auto phased out in 2017 and was replaced by another automotive industrial policy, Rota 2030, in 2018. Given the relative recency and short duration of the program, systematic studies evaluating the policy are largely absent. However, first attempts have been made to assess its impact in terms of policy objectives, mainly investments and reduced trade competition, innovative activity, and welfare. Conducting elite interviews with business representatives and experts from the ST&I system, de Mello et al. (2016) found a positive impact on R&D investment projects in the automotive sector. Though, Sturgeon et al. (2017) calculated that only 50% of all investment projects were indeed induced by Inovar Auto, the rest having been planned before. In addition, they do not find an overall increase in R&D expenditures and innovative activities in the sector, but a strong increase in the car parts

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segment. They also conclude that the policy was effective in breaking the trend of increasing import penetration, thereby reducing trade competition. By bringing in more producers, however, the program increased domestic competition (ibid., 77). Finally, Gonçalves De Andrade et al. (2019), analyzing the effects of Inovar Auto econometrically, find small overall net-welfare losses with very strong welfare gains for producers and losses for consumers. This section analyzed one of the most important measures to support business R&D in Brazil: R&D tax exemption schemes. Focusing on the three most relevant policies, the Good Law, the Informatics Law, and the Inovar Auto program, we found mixed results. The Innovation Law can be characterized as a success case, exerting a positive impact on the innovative activities of Brazilian companies. The Informatics Law and the Inovar Auto program, by contrast, were predominately designed to protect existing companies from trade competition. Although these programs induced some R&D spending, the cost-benefit analysis with regard to technological upgrading is negative.

5.5

Conclusion

The goal of the chapter has been to provide an encompassing analysis of the R&D regime and the competition policy regime and its effects on upgrading and innovation capacity building in Brazil. As the first step, we have shown that the Brazilian R&D regime is heavily focused on the science system, i.e. universities and research institutes. Corporate R&D plays only a marginal role. As a consequence, there are very weak linkages between science and business. Brazilian companies still mostly rely on other informational sources for their innovative strategies, such as informal networks, customers, or suppliers. One of the key reasons for this outcome is the context of widespread corruption. Due to the fear of corruption charges, public employees tend to refrain from interacting with the private sector altogether. This has led to a high degree of suspicion between public universities on the one hand and the business sector on the other. Furthermore, relatively rigid and narrow incentive structures in universities with weak support for developing collaborations have contributed to the relative isolation of both sectors from each other. The large subsidies for public R&D have mostly been “captured” by the academic sector to fund researchers and scholarships. Efforts to build

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up and expand the institutional infrastructure for applied research have begun only very recently. Subsequently, we have shown that the Brazilian competition regime is heavily biased towards well-connected incumbents. This confirms our prior analysis of state–business relations in Chapter 4, which found that very large corporations with deep ties to the political system and the bureaucracy managed to capture regulatory agencies. In addition, these corporations received favorable treatment as “national champions”. The degree of competition in the Brazilian market is rather low due to low international integration, high internal trade frictions, and segmented markets. This market structure is one of the key determinants of low innovative activities in Brazilian companies. Finally, we analyzed one of the most important measures to support business R&D in Brazil: R&D tax exemption schemes. Focusing on the three most relevant policies, the Good Law, the Informatics Law, and the Inovar Auto program, we found only mixed results. Summarizing the results of this chapter, we can conclude that, first, there is a low level of applied research and university–industry collaboration to provide technological inputs for innovative activities in Brazilian companies. Second, there is only a limited degree of competition in the Brazilian market, favoring incumbent firms and providing little incentives for technological upgrading. Third, the major tax exemption schemes put in place to support R&D were only partly effective and were mainly designed to provide trade protection for incumbent firms in exposed sectors.

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Ornelas, Emanuel, and Laura Puccio. 2019. “Reopening Pandora’s Box in Search of a WTO-Compatible Industrial Policy?” EUI Working Papers RSCAS 2019/ 82. Fiesole: European University Institute. Pacheco, Carlos A. 2019. “Institutional Dimensions of Innovation Policy in Brazil.” In Innovation in Brazil: Advancing Development in the 21st Century, edited by Elisabeth B. Reynolds, Ben R. Schneider, and Ezequiel Zylberberg, 171–188. London: Routledge. Piore, Michael, and Cauam Ferreira Cardoso. 2019. “Beyond the Silicon Valley Consensus: Understanding the Organizational Challenges and Opportunities for Promoting Innovation in Brazil.” In Innovation in Brazil: Advancing Development in the 21st Century, edited by Elisabeth B. Reynolds, Ben R. Schneider, and Ezequiel Zylberberg, 211–230. London: Routledge. Porto, Geciane S., and Caroline Viriato Memória. 2019. “Incentives for Technological Innovation: A Study of the Public Policy of Tax Exemption in Brazil.” Revista de Administração Pública 53 (3): 520–541. Prochnik, Victor, Mateus L. Labrunie, Marco A. Silveira, Eduardo P. Ribeiro. 2015. “A política da política industrial: o caso da Lei de Informática.” Revista Brasileira de Inovação 14: 133–152. Ribeiro, Eduardo, Victor Prochnik, and João De Negri. 2011. “Productivity in the Brazilian Informatics Industry and Public Subsidies: A Quantitative Assessment.” In 39 Encontro Nacional de Economia. Foz de Iguaçu: ANPEC. Salles Filho, Sérgio, Giancarlo Stefanuto, Carolina Mattos, Camila Zeitoum, and Fabio Campos. 2012. “Avaliação de impactos da Lei de Informática: uma análise da política industrial e de incentivo à inovação no setor de TICs brasileiro.” Revista Brasileira de Inovação 11: 191–218. Schapiro, Mario G. 2017. “O estado pastor e os incentivos tributários no setor automotivo.” Revista de Economia Política 37 (2): 437–455. Schumpeter, Joseph A. 2004 [1934]. The Theory of Economic Development: An Inquiry into Profits, Capital, Credit, Interest, and the Business Cycle. 11th edition. New Brunswick, NJ: Transaction Publishers. ———. 2003 [1943]. Capitalism, Socialism, and Democracy. London: Routledge. Silva Jr., Gílson G. 2017. “Impactos de incentivos á inovação no desempenho inovador das empresas de TIC da indústria brasileira de transformação.” In Políticas de apoio à inovação tecnológica no Brasil: avanços recentes, limitações e propostas de ações, edited by Lenita M. Turchi and José M. de Morais, 469– 485. Brasília: IPEA. Sturgeon, Timothy, Leonardo Lima Chagas, and Justin Barnes. 2017. Inovar Auto: Evaluating Brazil’s Automative Industrial Policy to Meet the Challenges of Global Value Chains. Washington, DC: The World Bank.

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CHAPTER 6

Finance

6.1

Introduction

This chapter provides an in-depth analysis of the Brazilian financial system and its performance in allocating financial resources to Brazilian companies. It assesses the overall characteristics and functionality of the system and delves into several credit and equity markets. Furthermore, the chapter evaluates another major innovation policy introduced by the Brazilian government: subsidized credit lines for innovation finance. Empirically, the chapter draws on, e.g. market share data, concentration indicators, bank lending indicators, credit and equity markets data, and interviews with financial sector experts, in particular from the innovation agency, Finep, and the national development bank, BNDES. It examines the evolution of Brazil’s bank-based financial system, heavily dominated by a handful of large private and public banks. Lastly, the chapter draws together a comprehensive literature review, almost exclusively from Brazilian sources, on the effects of subsidized credit lines and grants from Finep and BNDES on innovation outcomes. This chapter provides insights into the negative effects of a highly concentrated banking sector on innovation.

© The Author(s), under exclusive license to Springer Nature Switzerland AG 2023 M. Schedelik, The Political Economy of Upgrading Regimes: Brazil and beyond, International Political Economy Series, https://doi.org/10.1007/978-3-031-34002-4_6

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The chapter is organized as follows. Section 6.2 outlines the general characteristics and structural peculiarities of the Brazilian financial system. Section 6.3 analyzes the trajectory and functionality of credit and equity markets. Section 6.4 assesses the impact of several subsidized credit lines provided by Finep and BNDES. Section 6.5 concludes.

6.2

Main Characteristics of the Financial System

This section describes the main characteristics of the Brazilian financial system. As a first step, we give an overview of the structure of the financial sector both at the beginning of the period and as well as at the end. This allows us to identify the broader trajectories. As a second step, we take a look at the fifteen largest Brazilian banks and some basic performance indicators, including the market share in selected credit market segments. As a final step, we analyze the overall market concentration of the banking sector and the degree of competition. Assessing the structure and concentration of the banking sector is highly relevant for our analysis because it is a strong predictor of lending in a bank-based financial system (Braggion et al. 2017; Gissler et al. 2020). The Brazilian financial system is heavily bank-based and public sector banks have a strong presence (Paula 2011, 869). Credit markets have traditionally been underdeveloped due to decades of high macroeconomic instability (ibid.). Despite this often unfavorable external environment, the banking sector has been surprisingly stable and profitable, even in the high inflationary period of the 1980s and early 1990s (Calomiris and Haber 2014, 432–439). In 1990, for instance, inflationary revenues, profits earned from investments in inflation-protected government securities (the so-called “float”), had grown to 4% of GDP and accounted for 40% of the revenue from financial intermediation (Maia 1999, 107). After the successful implementation of the Real plan and the end of high inflation, banks were forced to rapidly expand lending to compensate for the loss of inflation profits (Calomiris and Haber 2014, 441). In the wake of the Mexican crisis of 1995 and the subsequent economic downturn of the Brazilian economy, this resulted in a significant increase in nonperforming loans and the banking crisis of 1995–1996 (Maia 1999, 108). Through a series of reforms, mainly the “Program of incentives for the restructuring and strengthening of the national financial system” and the “Program of incentives for the restructuring of the state public financial

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system”, the Brazilian banking sector underwent a period of restructuring and concentration (Paula et al. 2013, 475–477; Maia 1999). The main objectives of the Central Bank in carrying out the reforms were to reduce the role of state governments in the banking system, which had previously tended to extract credit from “their” banks, to stimulate greater participation from foreign banks, and to reduce the number of financial institutions by liquidating troubled banks (Maia 1999). Since then, the regulatory priority has been to favor market concentration with fewer, bigger, but more solid banks (Paula et al. 2013, 477). As a consequence, the number of state government banks was drastically reduced, from 35 institutions with a combined market share of 21.3% in 1995 to only 6 institutions with a market share of 3.9% in 2001 (Maia 1999, 119; Paula et al. 2013, 479). Foreign bank participation increased substantially, with an increase in market share from 7.9% in 1995 to 27.2% in 2001 and 20% throughout the 2000s (Paula et al. 2013, 479). Similarly, the number of domestic private banks decreased significantly from 105 in 1998 to 76 in 2002 (ibid., 478). At the beginning of the 2000s, the Brazilian financial system had achieved a high degree of stability, both in terms of resilience against external shocks and in terms of preserving the value of domestic financial assets (Goldfajn et al. 2003). However, the flip side of stability has been a highly concentrated market with oligopolistic pricing behavior and low lending rates (Divino and Silva 2017). This trend even intensified in the period of investigation. Although the stable, well-capitalized, and highly profitable banking sector proved a buffer during the global financial crisis of 2008/2009, it resulted in excessively high credit costs of 58.6% on average for consumers and 27.5% for businesses, thereby encouraging the state to step in via subsidized credit lines (Sobreira and Paula 2010; Paula et al. 2013; see Sect. 6.3). Depository institutions, multiple and commercial banks in particular, account for the overwhelming share of financial sector assets, roughly 65%, representing 77.4% of GDP in 2002 and 123.2% in 2017 (IMF 2018). The vast number of depository institutions are credit unions, followed by multiple and commercial banks, and others such as microfinancing institutions and consumer finance companies. Public banks still account for roughly 40% of total banking sector’s assets and play a dominant role in credit markets. This also holds true for public development banks, chiefly BNDES, whose assets have grown from R$ 154 billion in 2002 to R$ 893.2 billion in 2017, representing 13.6% of GDP. The

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number of public banks, both state and federal, has been further reduced over the period. Most notably, though, the number of private domestic banks went down from 67 in 2002 to 53 in 2017 through a series of mergers and acquisitions (Sobreira and Paula 2010, 88). Money and capital markets have grown significantly in the period of investigation, from 107% of GDP in 2002 to 212.4% in 2017. Whereas equity and corporate bond markets continue to be relatively small, 39.3% of GDP and 11.4% respectively, the government bond market has grown to 52.4% of GDP. It plays a vital role for the financial sector as a whole, chiefly due to the Central Bank’s repo operations to sterilize Brazil’s structural liquidity surplus (IMF 2018, 8; Kaltenbrunner and Painceira 2018, 298). Government debt securities are the single most important asset class for banks, insurance companies, and pension funds alike, and reinforce the interconnectedness of the financial sector through holdings of the same assets (IMF 2018, 8). Notably, derivatives markets, especially for fixed-income and foreign exchange derivatives, have grown substantially during the period of investigation. As of 2017, they account for 35.5% of total financial sector assets and 81.4% of GDP, up from 24.9% of financial sector assets and 21.2% of GDP in 2002. To get a more detailed picture of the Brazilian banking sector, which traditionally dominated the financial system and continues to do so, we look at the largest banks in Brazil. Notably, the five largest banks, Banco do Brasil, Itaú Unibanco, Caixa Econômica Federal, Bradesco, and Santander, account for the vast majority of assets. The sixth largest bank, Safra, holds only one-fifth of the assets of the fifth largest bank, Santander. According to the Global Financial Development database, banks’ average return on equity rose from 9.5% in 2001 to 27.6% in 2007, before going down to 16.6% in 2017.1 This is particularly noteworthy as two of the largest banks, the publicly-owned Banco do Brasil and Caixa, do not have profit as their sole mandate. This also holds true for BNDES. In 2016, BNDES held US$291.4 billion in assets, making it one of the largest banks in Brazil (Frischtak et al. 2017). The dominance of the six largest banks, including BNDES, in terms of assets and deposits is reflected in market share. Figure 6.1 depicts the market share of these banks in the main market segments, real estate, 1 See World Bank, Global Financial Development Database: https://www.worldbank. org/en/publication/gfdr/data/global-financial-development-database, retrieved on 23 February 2023.

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Others Other commercial banks BNDES Banco Santander Banco Bradesco Itaú Unibanco Banco do Brasil Caixa Econômica Federal 0

10 Real estate

20

30 Corporate

40

50

60

70

80

Households

Fig. 6.1 Market share of largest banks, by segment, 2015 (Source BCB, Banking Report 2017)

corporate, and households, for the year 2015. All three credit market segments are heavily dominated by the largest banks with the leading positions held by state-owned banks: Caixa with 67.28% market share in the real estate credit market and 32.3% in the household credit market, BNDES with 22.59% in the corporate credit market, and Banco do Brasil being second in the household segment with 19.15% and 20.15% in the corporate segment. Itaú, Bradesco, and Santander have market shares of 5.9–12.4% in all segments. The corporate credit market is the least concentrated, with the three state-owned banks accounting for 54% of the market share and a normalized Herfindahl–Hirschman Index (HHI) of 0.1281 (Banco Central do Brasil 2017, 89). The HHI is one of the standard market concentration indicators, along with the concentration ratios (CRn ) which are shown in Fig. 6.2. The normalized HHI ranges from 0, representing a market occupied by lots of very small firms, to 1, representing a perfect monopoly. The household and real estate segments are more concentrated than the corporate segment, with HHI values of 0.1718 in the household credit market and 0.4750 in the real estate credit market. In both markets, Caixa and Banco do Brasil are market leaders by a wide margin. As a next step, we turn to several aggregate competition and concentration indicators to assess the functionality of the Brazilian banking system.

M. SCHEDELIK

0.40

90

0.30

80 70

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0.20

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50 0.00 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 40 -0.10

in percent

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20

-0.30

10

-0.40

0 Boone index

Lerner index

CR5

CR3

Fig. 6.2 Concentration of the Brazilian banking sector and degree of competition, 2000–2014 (Source World Bank, Global Financial Development database)

Figure 6.1 already indicated the high degree of concentration of the sector. Given the strong relationship between industry concentration, competition, and credit provision and costs, this analysis is of particular relevance for the topic of companies’ innovation strategies which rely heavily on appropriate access to financial resources. Figure 6.2 shows the evolution of four widely used concentration and competition indicators: the Boone indicator (Boone 2008), the Lerner index (Lerner 1934), and two concentration ratios (CR5 and CR3 ). The latter two are the standard measures for assessing the degree of industrial concentration, next to the HHI presented above. CR5 represents the market share of the five largest banks and CR3 of the three largest. Over the period from 2000 to 2014, the market share of the five largest banks increased from slightly below 50% to nearly 80%. This is a very high value, similar to the very concentrated banking markets of Australia, Canada, France, and the Netherlands, and way above the major banking markets in emerging economies (Banco Central do Brasil 2017, 85). The market share of the three largest banks also increased significantly, from roughly 39% to slightly below 65%. Such a high degree of market concentration has a profound impact on competition in the banking sector.

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In order to assess the level of competition, we first draw on the Lerner index which captures the market power of a profit-maximizing firm in charging relatively high prices without significant losses to its competitors. It ranges from 0, representing perfect competition and no market power, to 1, representing a perfect monopoly. The average Lerner index hovered between 0.2 and 0.3 over the period of investigation. However, this aggregate picture is slightly misleading, as a considerable share of financial institutions in Brazil do not necessarily maximize profits. The Lerner index for credit unions, for instance, is actually negative and that for state-owned banks is relatively lower than the one for private institutions (ibid., 92–93). For state-owned large banks, the Lerner index fell from 0.8 in 2000 to roughly 0.5 in 2013, before rising again to slightly under 0.7 (ibid., 93). For their privately-owned competitors, the same index was above 0.8 until 2009 and fell to 0.7 thereafter. Hence, especially large private banks in Brazil exercise substantial market power. This is also confirmed by looking at another indicator of market competition. The Boone indicator calculated as the elasticity of profits to marginal costs is complementary to the Lerner index. It ranges from −1, perfect competition, to 0, perfect monopoly. The Boone indicator was in the range of −0.1 to −0.2 over most of the period, with an exception in 2009 when it reached −0.35. This is a more adequate picture of the degree of competition in the banking sector. The central bank calculated similar figures for most of the period but identified a continuing downward slope from − 0.025 in 2000 to −0.2 in 2015 (Banco Central do Brasil 2017, 93). In any case, both figures indicate a low degree of competition in the banking sector, with potentially negative implications for the cost of credit. This section has shown that the Brazilian financial system has underwent significant changes in the period of investigation but continues to be heavily bank-based. Therefore, we looked at the structure of the banking market in more detail. We demonstrated that this market, which is crucial for providing finance to Brazilian companies, is highly oligopolistic and dominated by five large banks. We supported this claim by assessing the market share of the largest banks by segment and via key market concentration indicators such as the Boone indicator or the Lerner index. The high degree of market concentration is noticeable, also in a comparative perspective. The fact that the largest banks can exert substantial market power is reflected in the quantity and price of credit. The next section will analyze this further.

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6.3

Credit and Equity Markets

In this section, we examine the evolution of credit and equity markets in Brazil. As a first step, we look at aggregate bank lending and credit costs. As a second step, we delve into the different segments of the credit market, subsidized, “earmarked” credit provided by government-owned banks and “free”, non-earmarked credit, and their relation to the functionality of the financial system. As a third step, we turn to the evolution and workings of equity markets and present survey data on the financing channels and constraints of Brazilian companies. The traditionally low Brazilian savings rate hovered between 13% and 19% from 2000 to 2016, despite the very favorable economic situation, leaving less room to fund investments (Byskov 2019, 267). Domestic credit to the private sector as a percentage of GDP was around 30% in the early 2000s and began to rise substantially from 2007 onwards when it surpassed 40%, reaching a peak at 67% in 2015 (see Fig. 6.3). Hence, from the mid-2000s we witness a continuous and sustained credit expansion in the period of investigation. This can be traced back to a considerable degree to the expansion of subsidized credit lines issued by public banks (see below). A traditionally very lucrative alternative for banks to lend to the private sector has been investing in high-interest government bonds. Accordingly, banks’ claims on the central government as a percentage of GDP were up to 10 percentage points higher than credit to the private sector as a percentage of GDP at the beginning of the period. The relation between the two was reversed in 2007, when private sector lending surpassed investments in government bonds in terms of GDP. The latter fell from over 40% to 25% in 2013, before rising again to 37% in 2016. Credit costs, especially in the free market segment, were exceptionally high: 58.6% for consumers and 27.5% for businesses on average (Horch 2015). This contributed to high profit margins for banks. The interest rate spread, i.e. the difference between the lending rate and the deposit rate, was very high over the period, ranging from over 40% in the beginning of the 2000s to 20% in 2013 and again to 40% in 2016. With such high values, Brazil is an international outlier (Dutz 2018, 69). The Brazilian credit market is divided into a “free”, private market, and a subsidized, “earmarked” market serviced chiefly by the three large federal banks, Banco do Brasil, Caixa, and BNDES. Given the high interest on government bonds and the low competition in the banking sector, the private credit market has been dysfunctional, leaving a large

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80 70

in percent

60 50 40 30 20 10 0 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 Domestic credit to private sector, % of GDP

Claims on central government, % of GDP

Interest rate spread

Fig. 6.3 Bank lending and profit margins, 2000–2016 (Source IMF, International Financial Statistics; World Development Indicators)

financing gap for small and medium enterprises (SMEs) (Veiga and McCahery 2019; Byskov 2019). This was partially due to the heavy regulation in the wake of the banking crisis in 1995/1996, requiring banks to hold 45% in reserves throughout the period of investigation (Zeidan 2018). Such a hyperprudent regulatory approach from the central bank prioritized the stability of the financial system over credit expansion. As a consequence, credit supply in the 1990s and early 2000s was insufficient, mainly short-term, and extraordinarily costly (Byskov 2019). To mitigate this lack of credit for medium-to-long-term investments in the private market, the government introduced several interventions to facilitate credit expansion in this segment: the earmarked credit market (see Pazarbasioglu et al. 2017 for an overview). The earmarked credit market consists of several subsidized credit lines with interest rates well below the Selic rate and the lending rate in the private market. Between 2011 and 2015, for instance, the average earmarked interest rate for companies was 9–10%, 10–20 percentage points lower than that of non-earmarked public banks and 23–32 percentage points lower than that of private banks (ibid., 21). The earmarked credit market is dominated by BNDES, focusing on financing companies and infrastructure, Banco Central do Brasil, mainly

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involved in rural areas and agriculture, and Caixa Econômica Federal, focusing on housing finance (Byskov 2019, 269). As shown in Fig. 6.4, the bulk of the credit expansion beginning in 2003 happened in the private (non-earmarked) market. From 2008 until 2015, the credit boom was mainly driven by public banks in the earmarked credit market. The credit expansion from 2003 to 2008, mainly in the consumer credit segment, was heavily influenced by two regulatory changes of the incoming Lula government: the introduction of the so-called consigned credit (crédito consignado) (law no. 10.820/2003 in 2003) which enabled employees of several trade unions, public sector employees, and retirees to get access to bank credit at relatively lower interest rates through payroll-backed loans (Mora 2015, 14; Lavinas 2017, 637) and the reform of the bankruptcy law (law no. 11.101/05) in 2005, reducing the risk to creditors (Mora 2015, 35). In 2010, consigned credit reached 3.7% of GDP, an equivalent of one-quarter of total credit in the private market (ibid., 14). Similarly, credit-financed vehicles and other durable consumer goods represented a major stimulus to the industrial sector, thereby reinforcing the favorable macroeconomic situation from 2004 onwards (ibid., 17–20; Carvalho 2019, 25–27). The reform of the bankruptcy law had a profound impact on the number of bankruptcies and judicial reorganizations, providing a slow but very significant impulse to the corporate credit market. When the global financial crisis reached Brazil in 2008, an increase in the supply of earmarked credit provided by BNDES, Banco do Brasil, and Caixa was chosen as a counter-cyclical government response which proved highly successful (Bonomo et al. 2015; Coleman and Feler 2015). While BNDES took the lead on the stimulus, acting in the corporate sector, Banco do Brasil focused on the rural market and Caixa on the retail market. The latter became an important pillar of growth, spurred by subsidized housing loans for low-income families through the National Social Housing Found created in 2005 and the Minha Casa, Minha Vida program established in 2009 (Krause et al. 2013). Hence, these various government interventions contributed significantly to the increase in bank lending which was already on the rise, spurred by the favorable macroeconomic environment of the mid-2000s (Mora 2015). The credit expansion in the period of investigation was impressive: total credit increased by 734% from R$ 386 billion in 2003 to R$ 3219 billion in 2015 (Fig. 6.4), representing an increase from 28% to 67% in relation to GDP (Fig. 6.3).

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3500 3000

in billion R$

2500 2000 1500 1000 500 0 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 Non-earmarked credit

Earmarked credit

Fig. 6.4 Credit operations by type, in billion R$, 2000–2015 (Source Banco Central do Brasil, Relatório de Economia Bancária e Crédito, 2000–2016)

Subsidized credit was an important anti-cyclical tool to navigate the economic crisis of 2008, but continued to grow heavily after the economy had already recovered. As a consequence, credit deepening between 2010 and 2015 was almost exclusively driven by earmarked credit (Byskov 2019, 273). The dominance of the subsidized credit segment in the 2010s had several negative consequences: First and foremost, the expansion of earmarked credit came at very high costs to the government, totaling 2.1% of GDP in 2015 (ibid., 274); Second, the regulation of the earmarked credit segment, including the various interest rates such as the Taxa de Juros de Longo Prazo, made the transmission channel of monetary policy less effective (Araújo et al. 2017; Pazarbasioglu et al. 2017; Byskov 2019, 276). These aspects played a role in the recent economic crisis of 2014–2017. Although this is not the topic of this study, we will turn to this issue again in Chapter 9 on macroeconomic policy. After a period of booming equity markets in the late nineteenth and early twentieth centuries, they played only a marginal role in Brazil’s financial system until the 1990s (Musacchio 2008, 453). Since the liberalization period, equity markets regained some relevance and experienced another boom in the early 2000s (Arruda and Haddad 2017). To some degree, this can be traced back to the introduction of the Novo Mercado

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listing segment at the Brazilian stock exchange, then-Bovespa (later BM&F Bovespa and since 2017 B3) in São Paulo, requiring higher standards of transparency and corporate governance (Santana et al. 2008). The number of initial public offerings (IPO) grew by 814% between 2004 and 2007 from 7 to 64 (ibid., 276). The money raised increased from US$1.5 billion to US$29.6 billion (ibid.). However, after the global financial crisis of 2008, the market for IPOs plummeted and has stagnated since. Between 2012 and 2018, the total number of domestic IPOs was only 25 (OECD 2019, 23). As a consequence, the number of listed domestic companies continuously declined in the period of investigation, with the exception of the stock market bonanza between 2004 and 2007. Efforts to introduce even more stringent rules of investor protection largely failed in 2010 and were only realized in 2018 (ibid., 45). Market capitalization, i.e. the share price times the number of outstanding shares, of listed domestic companies in percent of GDP increased substantially from 25% in 2002 to 98% in 2007 and 80% in 2009, before decreasing again to 27% in 2015.2 Ten large companies account for roughly 50% of total market capitalization in the period of investigation. The total value of all traded shares in percent of GDP displays a more sustained increase from 7.8% in 2002 to 47% in 2007 and 23% in 2015. Here, the top ten companies also account for 40% to 50% of the total value of stocks traded. Hence, despite the short-lived stock market bonanza in the 2000s, equity markets in Brazil are still relatively underdeveloped in comparison to reference countries (OECD 2019). The stagnant stock market coupled with reduced lending through private banks after the financial crisis resulted in a substantial financing gap for SMEs, estimated at 55% in 2014 and 87% in 2016 (Veiga and McCahery 2019, 659). The already huge gap exploded when the economic crisis of 2014–2017 unfolded and BNDES lending was curtailed (see below). Given BNDES lending priorities in this period to favor well-established incumbent firms, or “national champions”, and the dysfunctionality of the private credit market, SMEs were left with little access to credit or other types of investments, representing a severe misallocation of capital (Dutz 2018, 73). As a consequence, Brazilian firms faced serious financing constraints. Empirically, this has been shown by several studies (e.g. Aldrighi and Bisinha 2010; Ambrozio et al. 2017) and company surveys. For instance, the PINTEC surveys 2 See World Federation of Exchanges database: https://www.world-exchanges.org/ourwork/statistics, retrieved on 23 February 2023.

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identify access to finance as one of the most severe barriers to innovative activities for Brazilian companies: In the 2012–2014 survey, 79.7% of surveyed companies regarded high costs and 57.3% financing sources as the single most important barrier to innovation (Frischtak 2019, 110). The World Bank Enterprise Survey reveals a similar result: In 2009, 45.2% of surveyed companies identified access to finance as a major constraint.3 The survey also shows that most investments were financed by banks (32.3%) in contrast to equity or stock sales (1.8%). Several interlocutors confirmed these findings and regarded high credit costs as one of the key problems for innovation finance in Brazil.4 This section demonstrated that the high degree of market concentration in Brazil’s bank-based financial system resulted in extraordinarily high credit costs to consumers and companies alike. The comparatively low lending rates to the private sector, partially induced by high regulatory requirements and the possibility of lending at very favorable terms to the government, increased substantially in the period of investigation. This was due to several institutional reforms, such as the consigned credit policy and the reform of the bankruptcy law, and the expansion of earmarked credit in the wake of the global financial crisis. Equity markets, by contrast, still remain relatively underdeveloped and only the largest corporations use them for investment finance. Despite the credit expansion, we identified a significant financing gap, especially for small and medium enterprises. Around 50% of Brazilian firms regard access to finance as one of the major barriers to technological upgrading. The next section turns to another important policy measure to support innovative activities in Brazil: subsidized credit lines provided by Finep and BNDES. We aim to assess the effects of this policy subsequently.

3 See World Bank Enterprise Surveys: https://www.enterprisesurveys.org/, retrieved on 23 February 2023. 4 Director, PróGénericos. Interview by Michael Schedelik. Interview No. 5. 09 March 2017, São Paulo; Coordinator for Entrepreneurship and Innovative Environments, Secretariat for Technological Development and Innovation, MCTI. Interview by Michael Schedelik. Interview No. 17. 17 March 2017, Brasília.

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6.4 Subsidized Credit Lines for Innovation and Their Effects Besides government interventions through subsidized credit lines for infrastructure projects, the national champions program, the rural sector, and the retail sector, there were specific credit lines for innovation during the period of investigation. In charge of implementing this instrument of innovation policy were Finep, the main innovation agency, and BNDES. Subsidized credit lines were among the most significant instruments for directly supporting corporate R&D and innovation in Brazil (Pacheco 2019, 181; see Fig. 6.5).5 Since the mid-2000s, the budget for credit at both institutions grew markedly, most importantly through the Investment Support Program (2009–2015) which was launched in the wake of the global financial crisis to offset the negative effects on the economy (Hamatsu and Mazzi 2019, 128). As a consequence, the share of credit in Finep’s budget, which traditionally came from the FNDCT to be targeted at academic research, increased to more than 80% in 2014, before a series of cutbacks set in in 2015 and the Investment Support Program phased out shortly thereafter (Pelaez et al. 2017, 800). BNDES not only distributed significant funds to Finep during this period, but introduced several credit lines for supporting innovation on its own (Zucoloto et al. 2019, 49–50). BNDES’ share of funds for innovation projects increased rapidly from a mere 0.5% in 2009 to 4.5% in 2015 (De Negri and Rauen 2018, 19). In 2011, one of the most significant programs targeting innovation and implemented jointly by Finep and BNDES, Plano Inova Empresa, was launched. From 2012 to 2015, a total of R$ 20.6 billion in credit were distributed through the program (Gordon and Cassiolato 2019, 16). As a consequence of the rapidly expanding supply of subsidized credit, especially from 2007 onwards, the share of innovative companies receiving financial support for purchasing machines and equipment or research collaboration increased substantially over the period. Here, we draw again on PINTEC survey data. According to the survey, the share of innovative companies receiving financial support for the purchase of machines and equipment increased from 13.47% in the 2006–2008 survey to 29.84% in the 2012–2014 survey, before falling again to 12.93% 5 Innovation specialist, IPEA. Interview by Michael Schedelik. Interview No. 21. 21 March 2017, Brasília.

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9 8

in bilion R$

7 6 5 4 3 2 1 0 2007

2008

2009

2010 BNDES

2011

2012

2013

2014

2015

FINEP

Fig. 6.5 Disbursements of credit for innovation, by agency, 2007–2015 (Source BNDES, Annual Reports; FINEP, Annual Reports)

in the recent 2015–2017 version.6 In contrast to this form of government support, other measures exhibit a more sustained growth trajectory. The share of innovative companies receiving financial support for research collaboration, for instance, increased from 1.42% in the 2001–2003 survey to 3.67% in 2015–2017. The scope of tax breaks, mostly through the Good Law and the Informatics Law, and other measures also increased gradually. This result, on its own, is a success for many policymakers and experts involved in the Brazilian innovation policy framework.7 Several studies have evaluated the impact of the various subsidized credit lines on innovative activity and productivity during the period of investigation (Musacchio and Lazzarini 2014; de Bolle 2015; Bonomo et al. 2015; Maffioli et al. 2016; IDB 2017; Rauen et al. 2017). As a first step, we review the literature on the sectoral funds administered by

6 See IBGE, Pesquisa de Inovação – PINTEC: https://www.ibge.gov.br/estatisticas/ multidominio/ciencia-tecnologia-e-inovacao/9141-pesquisa-de-inovacao.html?=&t=des taques, retrieved on 23 February 2023. 7 Innovation specialist and former FINEP official, Professor, USP. Interview by Michael Schedelik. Interview No. 43. 07 November 2019, São Paulo.

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Finep. As a second step, we take a closer look at the effects of the credit lines disbursed by BNDES. For the period from 1999 to 2003, De Negri et al. (2009) find a positive effect from two Finep programs, the “Programa de Apoio ao Desenvolvimento Tecnológico da Empresa Nacional” (ADTEN) and the “FNDCT cooperativo program”. The authors estimate that companies benefitting from one of the programs spent 28–39% more on R&D (ADTEN) and 50–90% (FNDCT) respectively. Beyond that, they find only mixed results for firm growth and productivity, with positive effects mainly for the ADTEN program. In the pre-PT period of the study, De Negri et al. complain about the limited scope of the support programs, reaching only 0.07% of industrial firms, and their insignificant budget, accounting for only 1.6–3% of total R&D expenditures of the companies in the programs (De Negri et al. 2009, 247). Covering the first term of Lula’s presidency, the period from 2001 to 2006/2007, marked by a still hesitant expansion of subsidized credit, Araújo et al. (2012) and Alvarenga et al. (2012) find significant effects on R&D expenditures, measured in terms of technical personnel (6.8–26.7%), firm growth (4.7– 5%), and high-tech exports (4.5–7%). Similar to De Negri et al. (2009) for the period from 1999 to 2003, they also find additionality effects from Finep’s support programs for the period from 2001 to 2007. Most recently, Rauen et al. (2017) analyzed the impact of Finep loans on R&D expenditures for the period from 2005 to 2014. For this period of strong credit expansion, the authors also find significant effects of Finep loans on R&D expenditures: a 76% increase in technical personnel, on average. Although they do not find additionality effects, they also do not find that the expanded supply of public credit had a crowding-out effect. Given the evidence so far, we can discern that Finep’s business support programs had largely positive results on R&D expenditures of Brazilian companies, with only limited effects on firm productivity and other variables. Next, we turn to the evaluation of BNDES’ credit lines. Given their relevance for financing companies in Brazil, their size, and fiscal impact, this topic has spurred a lively debate in Brazilian academia and beyond (Carvalho 2014; de Bolle 2015; Lazzarini et al. 2015; Maffioli et al. 2016; IDB 2017; Canuto and Cavallari 2017; Lage de Sousa and Ottaviano 2018; Dutz 2018; Byskov 2019). For the period of the late 1990s and early 2000s, Lage de Sousa (2013) and Lage de Sousa and Ottaviano (2018) find some positive effects from BNDES loans on labor productivity but negative effects on total factor productivity. Similarly, Maffioli et al. (2016) find no effect on firm productivity, but significant positive

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effects on employment growth and exports. Carvalho (2014) shows that politicians used BNDES loans as a means to shift large shares of employment to politically sensitive regions and thereby managed to influence election results. In the 2000s and early 2010s, Lazzarini et al. (2015; see also Musacchio and Lazzarini 2014) also find that BNDES loans had no effect on investment and other performance criteria. Although the authors do not find evidence that BNDES loans were distributed to underperforming firms, they show that large, well-established, and lowrisk firms were more likely to receive subsidized credit. The likelihood of receiving a loan was increased through campaign donations. Bonomo et al. (2015) confirm these results and also do not find any effects on the investment behavior of the benefitted companies. For the period from 2004 to 2014, de Bolle (2015) even identifies a negative effect of BNDES loans on productivity growth. Beyond that, she reveals the negative effects on the efficiency of BCB’s monetary policy: according to her study, a 1% increase of the BNDES loan share to GDP increases the real interest rate by 0.4–0.5%. Machado et al. (2017) find a significant positive impact from the recent credit lines targeted at innovation on companies’ R&D expenditures. Lastly, a comprehensive study on Brazil’s business support policies conducted by the Inter-American Development Bank (IDB 2017) reveals a more fine-grained picture. According to this study, BNDES loans’ positive effects on employment and labor productivity can be identified in the services sector which is not present in most other studies. The manufacturing and retail sectors, by contrast, do not exhibit any positive effects, except for the program “BNDES card” on capital productivity in manufacturing. This section has shown that specialized lines of subsidized credit for innovation represented an important instrument for innovation financing in Brazil, especially from 2007 onwards. The number of firms receiving government support through these or other measures grew substantially in the period from 2006–2008 until 2012–2014. Overall, the targeted instruments had positive effects on innovation capacity building in Brazilian companies. However, this represented only a tiny fraction of subsidized credit disbursed by public banks and the national development bank. The bulk of credit allocation in the period of investigation was not devoted to innovation but to consumer credit, infrastructure finance, and firm internationalization.

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6.5

Conclusion

The goal of the chapter has been to provide an in-depth analysis of the Brazilian financial system and its effects on upgrading and innovation capacity building. As the first step, we have shown that the Brazilian financial system underwent significant changes but continues to be heavily bank-based. Therefore, we looked at the structure of the banking market in more detail. We have shown that this market, which is crucial for providing finance to Brazilian companies, is highly oligopolistic and dominated by five large banks. The fact that the largest banks can exert substantial market power is reflected in the quantity and price of credit. The high degree of market concentration is pronounced, also from a comparative perspective. As the second step, we have shown that the high degree of market concentration in Brazil’s bank-based financial system resulted in extraordinarily high credit costs to consumers and companies alike. The comparatively low lending rates to the private sector, partially induced by high regulatory requirements and the possibility of lending at very favorable terms to the government, increased substantially in the period of investigation. This was due to several institutional reforms, such as the consigned credit policy and the reform of the bankruptcy law, and the expansion of earmarked credit in the wake of the global financial crisis. Equity markets, by contrast, still remained relatively underdeveloped and only the largest corporations use them for investment finance. Despite the credit expansion in the covered period, we identified a significant financing gap, especially for small and medium enterprises. As the third step, we discussed specialized lines of subsidized credit for innovation which represented an important instrument for innovation financing in Brazil. The number of firms receiving government support through these and other measures increased substantially. Overall, these instruments had positive effects on innovation capacity building in Brazilian companies. However, this represented only a tiny fraction of subsidized credit disbursed by public banks and the national development bank. Summarizing the results of this chapter, we can conclude that, first, the Brazilian financial system failed in providing the necessary capital inputs for innovative activities of Brazilian companies. A large financing gap remained, especially for small and medium enterprises, due to extraordinarily high credit costs. Second, the efforts to provide subsidized credit to

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circumvent high credit costs were primarily targeted at infrastructure and the internationalization of selected national champions. Only a relatively small amount was devoted to innovation finance. These specialized credit lines, however, have proven successful in supporting innovative activities in Brazilian companies.

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by Elisabeth B. Reynolds, Ben R. Schneider, and Ezequiel Zylberberg, 93– 119. London: Routledge. Frischtak, Claudio R., Ceyla Pazarbasioglu, Steen Byskov, Adriana Hernandez Perez, and Igor A. Carneiro. 2017. “Towards a More Effective BNDES.” World Bank Report No. 117304. Washington, DC: World Bank. Gissler, Stefan, Rodney Ramcharan, and Edison Yu. 2020. “The Effects of Competition in Consumer Credit Markets.” The Review of Financial Studies 33 (11): 5378–5415. Goldfajn, Ilan, Katherine Hennings, and Helio Mori. 2003. “Brazil’s Financial System: Resilience to Shocks, No Currency Substitution, But Struggling to Promote Growth.” BCB Working Paper Series 75. Brasília: Banco Central do Brasil. Gordon, José L., and José E. Cassiolato. 2019. “O papel do estado na política de inovação a partir dos seus instrumentos: uma análise do Plano Inova Empresa.” Revista de Economia Contemporânea 23 (3): 1–26. Hamatsu, Newton K., and Caio T. Mazzi. 2019. “Innovation for Competitiveness in Brazil: An Overview of Recent Performance and Main Government Policies.” In International Integration of the Brazilian Economy, edited by Elias C. Grivoyannis, 119–142. Basingstoke: Palgrave Macmillan. Horch, Dan. 2015. “In Good Times or Bad, Brazil Banks Profit.” New York Times, August, 13. IDB (Inter-American Development Bank). 2017. Assessing Firm-Support Programs in Brazil. Washington, DC: Inter-American Development Bank. IMF (International Monetary Fund). 2018. “Brazil: Financial System Stability Assessment.” IMF Country Report No. 18/339. Washington, DC: IMF. Kaltenbrunner, Annina, and Juan P. Painceira. 2018. “Subordinated Financial Integration and Financialisation in Emering Capitalist Economies: The Brazilian Experience.” New Political Economy 23 (3): 290–313. Krause, Cleandro, Renato Balbim, and Vicente C. Lima Neto. 2013. “Minha Casa Minha Vida, nosso crescimento: Onde fica política habitacional?” Texto para Discussão No. 1853. Brasília: IPEA. Lage de Sousa, Filipe. 2013. “How Can Development Banks Boost Firms’ Productivity?” In Development Evaluation in Times of Turbulence: Dealing with Crises that Endanger our Future, edited by Ray C. Rist, Marie-Helene Boily, and Frederick R. Martin, 115–142. Washington, DC: The World Bank. Lage de Sousa, Filipe, and Gianmarco I. P. Ottaviano. 2018. “Relaxing Credit Constraints in Emerging Economies: The Impact of Public Loans on the Productivity of Brazilian manufacturers.” BNDES Discussion Papers 124. Rio de Janeiro: BNDES. Lavinas, Lena. 2017. “How Social Developmentalism Reframed Social Policy in Brazil.” New Political Economy 22 (6): 628–644.

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Lazzarini, Sergio G., Aldo Musacchio, Rodrigo Bandeira-de-Mello, and Rosilene Marcon. 2015. “What Do State-Owned Development Banks Do? Evidence from BNDES, 2002–09.” World Development 66: 237–253. Lerner, Abba. 1934. “The Concept of Monopoly and the Measurement of Monopoly Power.” The Review of Economic Studies 1 (3): 157–175. Machado, Luciano, Ricardo A. Martini, and Marina M. da Gama. 2017. “Does BNDES Innovation Credit Boost Firms’ R&D Expenditures? Evidence from Brazilian Panel Data.” BNDES Working Paper. Rio de Janeiro: BNDES. Maffioli, Alessandro, Joao A. De Negri, Cesar M. Rodriguez, and Gonzalo Vazquez-Bare. 2016. “Public Credit Programmes and Firm Performance in Brazil.” Development Policy Review 5: 675–702. Maia, Geraldo. 1999. “Restructuring the Banking System—The Case of Brazil.” BIS Policy Papers 6: 106–123. Mora, Mônica. 2015. “A evolução do credito no Brasil entre 2003 e 2010.” Texto Para Discussão No. 2022. Rio de Janeiro: IPEA. Musacchio, Aldo. 2008. “Laws Versus Contracts: Shareholder Protections and Ownership Concentration in Brazil, 1890-1950.” The Business History Review 82 (3): 445–473. Musacchio, Aldo, and Sergio G. Lazzarini. 2014. Reinventing State Capitalism: Leviathan in Business, Brazil and Beyond. Cambridge, MA: Harvard University Press. OECD (Organization for Economic Co-operation and Development). 2019. Equity Market Development in Latin America: Enhancing Access to Corporate Finance. Paris: OECD. Pacheco, Carlos A. 2019. “Institutional Dimensions of Innovation Policy in Brazil.” In Innovation in Brazil: Advancing Development in the 21st Century, edited by Elisabeth B. Reynolds, Ben R. Schneider, and Ezequiel Zylberberg, 171–188. London: Routledge. Pazarbasioglu, Ceyla, Steen Byskov, Marco Bonomo, Igor Carneiro, Bruno Martins, and Adriana Perez. 2017. “Brazil Financial Intermediation Costs and Credit Allocation.” Discussion Paper. Washington, DC: World Bank. Pelaez, Victor, Noela Invernizzi, Marcos P. Fuck, Carolina Bagatolli, and Moacir Rodrigues de Oliveira. 2017. “The volatility of S&T policy agenda in Brazil.” Brazilian Journal of Public Administration 51 (5): 788–809. Rauen, André T., Cayan A. P. Bárcena Saavedra, and Newton K. Hamatsu. 2017. “Crédito para inovação no Brasil: Impactos da atuação da Financiadora de Estudos e Projetos no esforço de P&D das firmas beneficiárias.” In Políticas de apoio à innovação tecnológica no Brasil: avanços recentes, limitações e propostas de ações, edited by Lenita M. Turchi and José Mauro de Morais, 259–279. Brasília: IPEA.

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Santana, Maria H., Melsa Ararat, Petra Alexandru, B. Burcin Yurtoglu, and Mauro Rodrigues da Cunha. 2008. Novo Mercado and Its Followers: Case Studies in Corporate Governance Reform. Washington, DC: The World Bank. Sobreira, Rogério, and Luiz F. de Paula. 2010. “The 2008 Financial Crisis and Banking Behavior in Brazil: The Role of the Prudential Regulation.” Journal of Innovation Economics & Management 2 (6): 77–93. Veiga, Marcelo G., and Joseph A. McCahery. 2019. “The Financing of Small and Medium-Sized Enterprises: An Analysis of the Financing Gap in Brazil.” European Business Organization Law Review 20: 633–664. Zeidan, Rodrigo. 2018. “Four Reasons for Brazil’s Credit Dysfunction—And How to Fix It.” Americas Quarterly. January 10. Zucoloto, Graziela, Mauro O. Nogueira, and Larissa de Souza Pereira. 2019. “Financing Innovation in Brazil: The Role of the Brazilian Development Bank.” International Journal of Innovation 7 (1): 45–66.

CHAPTER 7

Education, Training, and Labor

7.1

Introduction

This chapter deals with the Brazilian skill and labor regimes and their effects on human capital formation and labor productivity growth. It combines analyses of the Brazilian education system with coverage of unions, labor relations, and labor markets. Empirically, the chapter draws on, e.g., demographic data, labor market data, disaggregated education expenditure and attainment data, employment and labor market data, and expert interviews. It examines the legacy of the education expansion under the Workers’ Party governments and delves into the intricacies of Brazilian labor laws and severance pay schemes. Furthermore, the chapter evaluates the Workers’ Party minimum wage policy. This chapter provides further evidence on the mechanisms underlying the low-skill trap prevalent in Latin American capitalism and elsewhere. It highlights the negative effects of low job tenure on innovation. The chapter is organized as follows. Section 7.2 analyzes the Brazilian skill regime with a focus on key education indicators. Section 7.3 focuses on the labor regime and its impact on labor productivity growth. Section 7.4 deals with labor market dynamics and the minimum wage policy of the PT governments. Section 7.5 concludes.

© The Author(s), under exclusive license to Springer Nature Switzerland AG 2023 M. Schedelik, The Political Economy of Upgrading Regimes: Brazil and beyond, International Political Economy Series, https://doi.org/10.1007/978-3-031-34002-4_7

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7.2

Education and Training

This section examines the education and training regime in Brazil. Human capital is commonly regarded as one of the most important determinants of economic growth and development, today more than ever (Hanushek and Woessmann 2015). For middle-income countries, it is of particular relevance to invest in skill upgrading to boost productivity (Doner and Schneider 2016, 2020). In the CPE literature, there is also a strong consensus that education and training institutions crucially shape innovation outcomes (Hall and Soskice 2001). To uncover the recent Brazilian experience in education and training outcomes, we first cover the broader population and labor force trends over the last two decades. Thereafter, we look at government expenditures on education. Lastly, we compile several indicators of education outcomes, like education level attainment as well as literacy and enrollment rates. The whole period from 1990 to 2016 is characterized by a very favorable demographic situation: an expanding share of the working age population and a relatively low share of dependents, i.e. a declining share of children and still a low share of the elderly. This phase of the demographic transition, from a predominately young population to a predominately old one, is commonly known as the “demographic dividend” and associated with a high potential for economic growth. In Brazil, it started in the early 1990s and will last until the 2040s, with the most favorable phase having ended around the year 2020 (Gragnolati et al. 2011, 65; Baerlocher et al. 2019). The Brazilian population grew from 149 million in 1990 to 206 million in 2016, with the working age population increasing from 90 to 144 million people in the same period.1 As a consequence, the labor force expanded from 60 million in 1990 to 78 million in the year 2000 and 103 million in 2016. This expansion was a major determinant of the growth dynamics of the 2000s, as revealed in Chapter 3, which was primarily input-driven. This scenario was spurred by a rapid decline in the age dependency ratio, i.e. the ratio of dependents to the working age population, from 65% of the population in 1990 to 43.5% in 2016. However, recent studies have shown that a change in the age structure alone is insufficient to account for the demographic dividend (Lutz 1 See World Development Indicators: https://data.worldbank.org/indicator/SP.POP. TOTL, retrieved on 23 February 2023.

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et al. 2019; Baerlocher et al. 2019). In accordance with unified growth theory, increasing human capital triggers the demographic transition through reduced fertility and, in conjunction with technological change, contributes decisively to economic growth (Becker et al. 2010). Therefore, we turn to educational data in order to assess Brazil’s achievements in human capital investment during the period of investigation. As a first approximation, we take a look at gross government expenditures on education.2 Total expenditures rose from 3.75% of GDP in 2002 to 6.25% of GDP in 2015, which is a very high figure compared to reference countries in Latin America and even OECD countries (Busso et al. 2017, 60). In 2007, Brazil caught up to the OECD average of 5% of GDP and surpassed countries such as Germany, the United States, and the United Kingdom in the subsequent years (Bruns et al. 2012, 42). The largest share of this remarkable increase in total expenditures was on secondary education, which increased from 1.51% of GDP in 2002 to 2.58% of GDP in 2016. This is equivalent to a 170% increase. Primary education expenditures rose from 1.05% of GDP in 2002 to 1.59% of GDP in 2015 and higher education expenditures rose from 0.88% to 1.33% of GDP in the same period. Both categories increased by 150%. Although Brazil is spending an above-average percentage of GDP on education, spending per student is well below the OECD average: US$4,661 compared to US$10,102 (OECD 2020, 270). As a next step, we evaluate the impact of education spending by looking at educational attainment and skills achievement. In this period, the share of the Brazilian population with primary education increased from 69% in 2004 to 78.5% in 2016.3 The share with lower secondary education rose from 42.4% to 58% and the share with upper secondary education from 29.4% to 45.1% over the same period. Only postsecondary educational attainment lagged behind, but still increased from 8.1% in 2004 to 15.4% in 2016. Hence, the recent period is marked by a rapid expansion in education, substantially increasing the formal education level of the population. However, on-time graduation is still fairly low compared to peer countries in Latin America and elsewhere. In 2014, only 53.8% of Brazilian teenagers graduated at the expected graduation age, 2 See UNESCO Institute for Statistics database: http://data.uis.unesco.org/, retrieved on 23 February 2023. 3 See UNESCO Institute for Statistics database: http://data.uis.unesco.org/, retrieved on 23 February 2023.

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compared to 80% in Chile for instance (Busso et al. 2017, 176). In 2015, only 38% were in the right grade for their age and most of the rest already lagged behind by two years of schooling (Almeida and Packard 2018, 12). Secondary education, in particular, is characterized by low quality, an overloaded curriculum, insufficient equipment, and inadequately trained teachers (Bruns et al. 2012). Besides low quality, most Brazilian students significantly underestimate the returns on education and are unaware of the still very high education earnings premium, in particular for tertiary education (Almeida and Packard 2018, 14–15). In consequence, dropout rates remain high and the competencies of students often do not match industry demands (Schneider 2013, 125–126, 173; Almeida and Packard 2018, 52–54). Dropout rates in undergraduate programs, for instance, reached 59% in 2005 and 50% in 2017 (Busso et al. 2017, 210; OECD 2019, 2). The 2017 reform of the secondary school curriculum (Novo Ensino Médio) has been widely regarded as overdue and an essential step forward to remedy some of these problems (Dutz 2018, 74; Costin and Pontual 2020). As the discussion so far has shown, the period of investigation is characterized by a remarkable growth in education expenses, financing a sustained educational expansion. However, this expansionary process had no significant impact on the quality of education on a broader scale (Bruns et al. 2012, 2017). Learning achievements are still well below the skills needed in the labor market and those of reference countries. Among the OECD and other emerging countries, Brazil ranks very low in learning achievements such as the OECD PISA scores in Science, Math, and Reading. In 2015, Brazilian students achieved a PISA score of 401 in Science and only 377 in Math, compared to the OECD average of 493 in Science and 490 in Math. This is also well behind its Latin American peers such as Chile (447 in Science and 423 in Math) and Colombia (416 in Science and 390 in Math) (Almeida and Packard 2018, 12; OECD 2020, 60). As one interlocutor, a business representative, put it bluntly: “The education system of this country is totally bad. […] Those who can afford it, study abroad.”4 As there is a clear correlation between low learning achievements and youth disengagement (OECD 2020, 60), there is a considerable share of Brazilian youth that falls under the “NEET” category: “not 4 President, SindiTelebrasil. Interview by Michael Schedelik. Interview No. 25. 23 March 2017, Brasília.

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in education, employment nor training”. This share rose from 20.2% in 2004 to 23.2% in 2015 (Almeida and Packard 2018, 48). Nevertheless, the share of Brazilian youth that only studied, i.e. did not work parttime, increased from 19% to 22% in the same period, while the share of those only working decreased from 45.4% to 43.3% (ibid.). This trend primarily benefitted the youngest and most vulnerable youth (ibid.). It can be traced back to the massive investments in school access and various programs to entice school attendance such as the famous Bolsa Família program (de Brauw et al. 2015). As a consequence of this process of education expansion, analphabetism declined significantly from 13.68% in 2003 to only 9.08% in 2015. Additionally, the mean years of schooling increased from 6.03 years in 2004 to 7.59 years in 2015 and enrollment in tertiary education programs more than doubled from 23.22% to 51.05% in the same period. Vocational education, which is widely and increasingly regarded as an important tool in providing students with labor market relevant skills (Doner and Schneider 2020, 682), was also significantly expanded in this period but still covers only a small share of students (Almeida et al. 2016, 11–12). According to UNESCO, only 3.8% of students were enrolled in secondary vocational programs in 2015.5 This section has shown that Brazil experienced a very favorable demographic situation in the period of investigation that played an important part in the growth trajectory analyzed in Chapter 3. A substantially growing labor force combined with a relatively low share of dependents was a boon for the booming economy, especially the labor intensive service sectors. At the same time, the PT governments managed to significantly expand the education system, especially primary education, but also secondary and tertiary education. However, the expansion in terms of spending and educational attainment of the population was not complemented by an increase in education quality. The low quality of secondary education in particular is reflected in comparatively very low education outcomes, as measured by the PISA studies. Similarly, vocational training programs, as an important tool for providing students with labor market relevant skills, are still marginal and account for only a tiny share of students. Hence, the formation of human capital is still one of the Achilles’ heels of the Brazilian upgrading regime.

5 See UNESCO Institute for Statistics database: http://data.uis.unesco.org/, retrieved on 23 February 2023.

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7.3

Labor Relations

This section analyzes the Brazilian system of industrial relations and its impact on technological upgrading and firm innovativeness. As a first step, we delve into the nature of Brazilian trade unionism and its relation to the Workers’ Party governments. As a second step, we look at indicators of union strength, such as union density rate, bargaining coverage rate, and strike activity. As a final step, we examine the regulatory framework of labor relations in Brazil and its trajectory in the period of investigation. To begin with, unions regained considerable significance in the period from 2003 until 2015 as one of the key pillars of electoral support for the incoming PT government. Although far from being a harmonious relationship, union support was decisive for both Lula da Silva’s as well as Dilma Rousseff’s campaigns and their respective governments (Boito and Marcelino 2011, 70). Given the PT’s historical roots in the trade union movement, several key party figures such as Antonio Palocci, Luiz Marinho, and Jacques Wagner were members of one of the major trade unions, especially the largest trade union association, Unified Workers’ Central (Central Única dos Trabalhadores, CUT) (Cardoso 2015, 503). Despite their prominent political position in the Workers’ Party governments, the unions failed in achieving several key demands, such as their opposition to the pension reform of 2003. The main direct legislative achievement was a reform of the legal structure of the union associations, granting them a share of the “union tax” paid by employees (Cardoso and Gindin 2009, 35). Despite expectations to the contrary, the shift of power under the PT did not reform the foundations of trade union organization and the hybrid-corporatist system of interest articulation in general (Santos 2019, 136–137). The legacy of corporatism gives overproportional weight to union associations such as CUT, the General Union of Workers (Confederação Geral dos Trabalhadores ), or the Center of Brazilian Workers (Central dos Trabalhadores e Trabalhadoras do Brasil ) which usually do not have a strong representation on the shop floor (Cardoso and Gindin 2009, 28) but foster direct political ties to the state (Schneider 2013, 95; Santos 2019). Next to its hybrid-corporatist legacy, the Brazilian system of industrial relations is characterized by a high degree of fragmentation: in 2016 the Ministry of Labor and Education counted no less than 16,491 unions (local level), union federations (state level), and union associations (national level) (Santos 2019, 134). Although there can be only

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one union of “metalworkers” in the same city, “there can be a union of drillers, one of spinning drillers, one of hammers, and also unions for bicycle assembly, car production, auto-parts’ workers, and so on” (Cardoso and Gindin 2009, 27). This highly fragmented and competitive system of unionism on the plant-level undercuts the corporatist structure and feeds into a clear segmentation of the workforce (Nölke et al. 2020, 131; see also next section). The 2000s were characterized by a historically very low strike intensity. The number of strikes and lockouts in the period from 2002 to 2007 was the lowest in recent Brazilian history (Cardoso and Gindin 2017, 27–28). Strike activities increased again in the wake of the global financial crisis, before reaching a historical record in 2013 with 2,055 strikes and a total of 111,342 lost working hours (ibid., 27). The majority of strikes were directed at wage increases (DIEESE 2015, 10) and included a variety of sectors, public as well as private. One highly visible, though not the most important part was the strike wave in the heavy construction sector from 2011 to 2014, including major construction sites such as the hydroelectric plant at Belo Monte or the stadiums for the 2014 FIFA World Cup (Rombaldi 2018). The dramatic expansion of strikes in the early 2010s can be traced back to those service sectors which had been traditionally not very mobilized, such as security contractors, cleaning, or food (DIEESE 2015, 40). Next to the considerable record of strikes, Brazilian unions managed to roughly maintain their rate of membership over the period and even to increase it recently. Underlying this stability is a dramatic shift in demographics from urban male workers to rural female workers (Cardoso 2014, 23; Coslovsky et al. 2017, 87). In 2015, Brazil had a union density rate of 21.9% of the workforce, above the OECD average.6 Bargaining coverage even increased significantly from 58.8% in 2009 to 70% in 2014, a figure similar to that of Germany for instance (Coslovsky et al. 2017, 88). As a next step, we examine the interplay between labor regulation and job tenure. Low job tenure and an excessive turnover rate are usually associated with low human capital formation and productivity gains (David and Brachet 2011). Besides a relatively powerful trade union structure with low representation on the shop floor, Brazilian labor relations are characterized by very strict labor laws, on the one hand, and

6 See ILOStat: https://ilostat.ilo.org/data/, retrieved on 23 February 2023.

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high job turnover on the other (Da Rocha et al. 2019). Although statutory requirements for dismissing formal workers on regular employment contracts are lighter than in most OECD and other countries (ILO 2016, 60; Almeida and Packard 2018, 21), outsourcing, fixed term, and temporary forms of employment were heavily restricted until the 2017 labor reforms under then-president Michel Temer (Dutz 2018, 78). This seemingly paradoxical situation can be traced back to a series of perverse incentives created by the country’s severance pay scheme and other unemployment benefits (Schneider 2013, 106–107; Dutz 2018, 76). Mandated individual savings via the Fundo de Garantia do Tempo de Serviço (FGTS), for instance, require employers to pay about a month’s salary per year into workers’ savings accounts (Schneider 2013, 107). Employees only have access to these funds when they are released, in which case the employer pays an additional 40% on the FGTS balance. If a formal employee is dismissed “without just cause”, he or she has access not only to their FGTS savings, including the additional 40% paid as a fine by the employer, but also funds from the unemployment insurance (seguro desemprego) (Dutz 2018, 76). All this combined represents a potential cash bonanza for ordinary workers, incentivizing fake or negotiated dismissals (Schneider 2013, 107). As FGTS savings rise over time, both employers and employees have an incentive to keep average job tenure short. With five years, Brazil has one of the shortest average job tenures when compared to OECD countries, only topped by the United States (Dutz 2018, 76). As a consequence, the turnover rate, i.e. the substitution of one worker by another in the same job, is very high, 40% to 64% in the period of investigation (Da Rocha et al. 2019, 194). Similarly, the separation rate, i.e. separation not driven by worker substitution, is relatively high with around 80% to 120%. Da Rocha et al. (2019) find robust evidence that high turnover is a drag on labor productivity, as workers forgo productivity increases through learning-by-doing and knowledge accumulation usually associated with longer job tenure. This section has shown that the Brazilian system of industrial relations is still characterized by a hybrid-corporatist structure with relatively strong union federations. However, union strength traditionally does not translate to the shop floor where unions are hardly present. Low union representation on the shop floor and low human capital result in extremely high job turnover. This is further aggravated by the perverse incentives created by the severance pay scheme and other unemployment

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benefits which often lead to fake or negotiated dismissals. High turnover is a serious drag on labor productivity as workers miss the opportunities of learning-by-doing and knowledge accumulation associated with higher job tenure. Hence, the labor regime also does not provide structural incentives for human capital accumulation. To the contrary, it tends to aggravate the dismal situation and contributes to the persistent low-skill trap, prevalent in the hierarchical market economies of Latin America and elsewhere.

7.4

Labor Market

The period of investigation, especially from 2003 onwards, was marked by a very dynamic labor market. Strong and sustained growth, fueled partly by the commodities boom but most importantly by domestic market expansion, had a very positive impact on employment which, in turn, fed into private consumption and growth. This favorable economic situation drove down unemployment figures from almost 10% in 2003 to only 6.6% in 2014.7 These record low unemployment rates reduced job insecurity and substantially increased workers’ bargaining power (Ferreira et al. 2016, 195). Next to higher wages, many workers translated their leverage to demand formalization of their work contracts (ibid.). This was accompanied by more efficient labor inspection procedures due to important institutional changes in the 1990s (Coslovsky et al. 2017, 90– 95), leading to a significant decrease of informal working conditions. The combined effect of more efficient and enlarged labor inspections and a booming economy with very low unemployment levels led to a decline of informal labor relations (Ferreira et al. 2016, 195). Informal employment, including self-employed non-contributors to social security, workers without an official employment card and those not renumerated, declined from over 45% in 2003 to 36% in 2015.8 As a next step, we delve into the evolution of the wage structure in the period of investigation. In Brazil, the most important policy tool to affect labor income is the minimum wage which was introduced in the 1930s 7 See OECD Labour statistics: https://www.oecd.org/sdd/labour-stats/, retrieved on 23 February 2023. 8 See IBGE, Pesquisa Nacional por Amostra de Domicílios—PNAD: https://www. ibge.gov.br/estatisticas/sociais/populacao/9127-pesquisa-nacional-por-amostra-de-domici lios.html?=&t=o-que-e, retrieved on 23 February 2023.

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(Foguel et al. 2014). It serves as the wage floor for formal wage employment in the private and public sectors and a benchmark for pensions and social benefits (Berg 2009). Its real value depends on the economic situation and the political will of the government (ibid.). For instance, the labor policies introduced under the dictatorships combined with heavy inflation led to a continued reduction of the minimum wage in real terms that lasted until the early 1990s, leaving the real value of the minimum wage in 1994 56% below that of the year 1984 (Foguel et al. 2014, 299; Carvalho and Rugitsky 2015, 3). It was only after the successful implementation of the Real plan in the mid-1990s that the minimum wage began to rise again in real terms, a trajectory that has lasted until recently. In 2006, this upward trajectory of the minimum wage received a further boost when the PT-led government introduced an annual adjustment policy based on the rate of inflation and real GDP growth (Prates et al. 2017, 29). This active minimum wage policy pursued by both the Lula and Rousseff governments was translated into a strict policy rule in 2011 (Carvalho and Rugitsky 2015, 3). As a consequence, the minimum wage rose by 201% in nominal terms and 66.9% in real terms from December 2003 until December 2014 (Prates et al. 2017, 29; see Fig. 7.1). As pensions, social benefits, formal and most informal wages are linked to the minimum wage, the substantial increase in the minimum wage had a profound impact on average wages and overall income inequality (Foguel et al. 2014; Power 2016, 215). Hence, average wages rose by an astonishing 147% in nominal terms from December 2003 to December 2014, boosting household income and consumption (see Fig. 7.1). The ratio of the minimum wage to average wages continuously increased from 0.23 in 2003 to 0.39 in 2015. Taking a closer look at annual real wage growth (see Fig. 7.2), the importance of the minimum wage policy for labor income becomes even more visible. The minimum wage increased on average 5.9% in real terms between 2005 and 2013, surpassing strong real average wage growth of 3.3% in the same period. This favorable dynamic was translated into a rising labor income share, from 56.1% of GDP in 2004 to 59.4% in 2014. Hence, the significant real wage growth in this period both contributed to declining inequality and rising disposable income for consumption. Combined with the expansion of the (formal) labor force, this scenario resulted in a virtuous economic cycle of demand stimulation (Serrano and Summa 2015). Thereby, it helps to explain one key factor behind the consumption-driven growth model identified in Chapter 3. However, the

7

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2500

0.45 0.4 0.35 0.3

1500

0.25 0.2

1000

Ratio

Earnings in R$

2000

0.15 0.1

500

0.05 0 Mar 02 Aug 02 Jan 03 Jun 03 Nov 03 Apr 04 Sep 04 Feb 05 Jul 05 Dec 05 May 06 Oct 06 Mar 07 Aug 07 Jan 08 Jun 08 Nov 08 Apr 09 Sep 09 Feb 10 Jul 10 Dec 10 May 11 Oct11 Mar 12 Aug 12 Jan 13 Jun 13 Nov 13 Apr 14 Sep 14 Feb 15 Jul 15 Dec 15

0

Average monthly earnings

Minimum wage

Ratio

Fig. 7.1 Wages and minimum wage, 2002–2015 (Source IPEA database)

heavy reliance on the minimum wage policy to boost aggregate demand had one major negative side effect which became apparent in the crisis of 2014–2016: As pensions, social benefits, and public sector wages are linked to the minimum wage, the real valorization of the minimum wage had a sizable impact on government spending over time. When revenues dried up in the economic downturn, these newly imposed budgetary rigidities drove up spending even further and contributed significantly to the worsening fiscal situation (Medas 2018, 177; Cuevas et al. 2018; see also Chapter 9). At the same time, the rapid and sustained increase in the minimum wage does not appear to have had positive effects on labor productivity which increased only marginally in aggregate and stagnated in some sectors of the economy (Katovich and Maia 2018; see Chapter 3). This section has shown that the favorable economic situation in Brazil during the period of investigation resulted in a very dynamic labor market, driving down unemployment rates and informal employment to record lows. The strong performance of the labor market in combination with the deliberate minimum wage policy of the PT governments led to rapidly and significantly rising minimum and average wages. As remunerations rose dramatically also in real terms, the labor income share increased substantially. This resulted in declining income inequality and rising disposable income, feeding into the consumption-led growth model identified in Chapter 3. However, the minimum wage policy over time

-10

-5

0

5

10

15

2003

2004

2005

2006

Real wage growth

2007

2008

2010

Real minimum wage growth

2009

2012

Labor income share

2011

2013

2014

2015

53

54

55

56

57

58

59

60

61

62

63

Fig. 7.2 Real (minimum) wage growth and labor income share, 2003–2015 (Source ILOStat; Global Wage Report 2018/2019; IPEA database)

in percent

20

in percent of GDP

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became a heavy burden on government finances, contributing to the detrimental fiscal situation during the economic crisis of 2014–2016. In addition, the substantial minimum wage increases do not appear to have had positive effects on labor productivity in this period.

7.5

Conclusion

The goal of the chapter has been to provide an in-depth analysis of the Brazilian regime of education, training, and labor and its effects on upgrading and innovation capacity building. Firstly, we have shown that Brazil experienced a very favorable demographic situation in the period covered that played an important part in the growth trajectory analyzed in Chapter 3. A substantially growing labor force combined with a relatively low share of dependents was a boon for the booming economy, especially labor-intensive service sectors. At the same time, the PT governments managed to significantly expand the education system, especially primary education but also secondary and tertiary education. However, the expansion in terms of spending and educational attainment of the population was not complemented by an increase in education quality. The low quality of secondary education, in particular, is reflected in comparatively very low education outcomes, as measured by the PISA studies for instance. Similarly, vocational training programs, as a very important tool for providing students with labor market relevant skills, are still marginal and account for only a tiny share of students. Hence, the formation of human capital is still one of the Achilles’ heels of the Brazilian upgrading regime. Subsequently, we have shown that the Brazilian system of industrial relations is still characterized by a hybrid-corporatist structure with relatively strong union federations. However, union strength traditionally does not translate to the shop floor where unions are hardly present. Low union representation on the shop floor and low human capital result in extremely high job turnover. This is further aggravated by the perverse incentives created by the severance pay scheme and other unemployment benefits which often lead to fake or negotiated dismissals. High turnover is a serious drag on labor productivity as workers miss the opportunities of learning-by-doing and knowledge accumulation associated with higher job tenure. Hence, the labor regime also does not provide structural incentives for human capital accumulation. To the contrary, it tends

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to aggravate the dismal situation and contributes to a persistent low-skill trap. Furthermore, we have shown that the favorable economic situation in Brazil during the period of investigation resulted in a very dynamic labor market, driving down unemployment rates and informal employment to record lows. The strong performance of the labor market in combination with the deliberate minimum wage policy of the PT governments led to rapidly and significantly rising minimum and average wages. As remunerations rose dramatically, also in real terms, the labor income share increased substantially in the period of investigation. This resulted in declining income inequality and rising disposable income, feeding into the consumption-led growth model identified in Chapter 3. However, the minimum wage policy over time became a heavy burden on government finances, contributing to the detrimental fiscal situation during the economic crisis of 2014–2016. In addition, the substantial minimum wage increases do not appear to have had positive effects on labor productivity. Summarizing the results of this chapter, we can conclude that, first, the Brazilian skill regime is characterized by very low human capital formation. Second, the labor regime is characterized by very high job turnover. Both features together result in a persistent low-skill trap which is detrimental for human capital formation and labor productivity. As a consequence, the institutional infrastructure deprives Brazilian companies of one of the most significant inputs for technological upgrading.

References Almeida, Rita K., Nicole Amaral, and Fabiano de Felicio. 2016. Assessing Advances and Challenges in Technical Education in Brazil. Washington, DC: The World Bank. Almeida, Rita K., and Truman G. Packard. 2018. Skills and Jobs in Brazil: An Agenda for Youth. Washington, DC: The World Bank. Baerlocher, Diogo, Stephen L. Parente, and Eduardo Rios-Neto. 2019. “Economic Effects of Demographic Dividend in Brazilian Regions.” The Journal of the Economics of Ageing 14: 100198. Becker, Sascha O., Francesco Cinnirella, and Ludger Woessmann. 2010. “The Trade-off Between Fertility and Education: Evidence from Before the Demographic Transition.” Journal of Economic Growth 15 (3): 177–204. Berg, Janine. 2009. “Brazil: The Minimum Wage as a Response to the Crisis.” ILO Notes on the Crisis. Geneva: ILO.

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Boito, Armando, and Paula Marcelino. 2011. “Decline in Unionism? An Analysis of the New Wave of Strikes in Brazil.” Latin American Perspectives 38 (5): 62–73. Bruns, Barbara, David Evans, and Javier Luque. 2012. Achieving World-Class Education in Brazil: The Next Agenda. Washington, DC: The World Bank. Busso, Matías, Julián Cristia, Diana Hincapié, Julián Messina, and Laura Ripani. 2017. Learning Better: Public Policy for Skills Development. Washington, DC: Inter-American Development Bank. Cardoso, Adalberto. 2014. Os sindicatos no Brasil. Brasília: IPEA. ———. 2015. “Dimensões da crise do sindicalismo brasileiro.” Caderno CRH 28 (75): 493–510. Cardoso, Adalberto, and Julián Gindin. 2009. “Industrial Relations and Collective Bargaining: Argentina, Brazil and Mexico Compared.” ILO Industrial and Employment Relations Department Working Paper No. 5. Geneva: ILO. ———. 2017. “O movimento sindical na Argentina e no Brasil (2002–2014).” Sociedade e Estado 32 (1): 13–37. Carvalho, Laura, and Fernando Rugitsky. 2015. “Growth and Distribution in Brazil in the 21st Century: Revisiting the Wage-led Versus Profit-led Debate.” Working Paper Series No. 2015–25. Department of Economics FEA/USP. Coslovsky, Salo, Roberto Pires, and Renato Bignami. 2017. “Resilience and Renewal: The Enforcement of Labor Laws in Brazil.” Latin American Politics and Society 59 (2): 77–102. Costin, Claudia, and Teresa Pontual. 2020. “Curriculum Reform in Brazil to Develop Skills for the Twenty-First Century.” In Audacious Education Purposes: How Governments Transform the Goals of Education Systems, edited by Fernando M. Reimers, 47–64. Springer: Cham. Cuevas, Alfredo, Izabela Karpowicz, Carlos Mulas-Granados, Mauricio Soto, Marina Mendes Tavares, and Vivian Malta. 2018. “Fiscal Challenges of Population Aging in Brazil.” In Boom, Bust, and the Road to Recovery, edited by Antonio Spilimbergo and Krishna Srinivasan, 191–206. Washington, DC: International Monetary Fund. Da Rocha, Leandro P., Valéria L. Pero, and Carlos H. Corseuil. 2019. “Turnover, Learning by Doing, and the Dynamics of Productivity in Brazil.” EconomiA 20: 191–210. David, Guy, and Tanguy Brachet. 2011. “On the Determinants of Organizational Forgetting.” American Economic Journal: Microeconomics 3 (3): 100–123. de Brauw, Alan, Daniel O. Gilligan, John Hoddinott, and Shalini Roy. 2015. “The Impact of Bolsa Família on Schooling.” World Development 70: 303– 316. DIEESE (Departamento Intersindical de Estatística e Estudos Socioeconômicos). 2015. “Balanço das greves em 2013.” Estudos e pesquisas No. 79, December 2015. São Paulo: DIEESE.

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Doner, Richard F. 2020. “Technical Education in the Middle Income Trap: Building Coalitions for Skill Formation.” The Journal of Development Studies 56 (4): 680–697. Doner, Richard F., and Ben Ross Schneider. 2016. “The Middle-income Trap: More Politics than Economics.” World Politics 68 (4): 608–644. Dutz, Mark A. 2018. Jobs and Growth: Brazil’s Productivity Agenda. Washington, DC: World Bank. Ferreira, Francisco H. G., Sergio P. Firpo, and Julian Messina. 2016. “Understanding Recent Dynamics of Earnings Inequality in Brazil.” In New Order and Progress: Development and Democracy in Brazil, edited by Ben R. Schneider, 187–211. New York: Oxford University Press. Foguel, Miguel, Gabriel Ulyssea, and Carlos H. Corseuil. 2014. “Sálario mínimo e mercado de trabalho no Brasil.” In Brasil em desenvolvimento 2014: estado, planejamento e políticas públicas, edited by Leonardo Monteiro Monasterio, Marcelo Côrtes Neri, Sergei Suarez Dillon Soare, 295–323. Brasília: IPEA. Gragnolati, Michele, Ole H. Jorgensen, Romera Rocha, and Anna Fruttero. 2011. Growing Old in an Older Brazil: Implications of Population Aging on Growth, Poverty, Public Finance, and Service Delivery. Washington, DC: The World Bank. Hall, Peter A., and David Soskice, eds. 2001. Varieties of Capitalism: The Institutional Foundations of Comparative Advantage. Oxford: Oxford University Press. Hanushek, Eric A., and Ludger Woessmann. 2015. The Knowledge Capital of Nations: Education and the Economics of Growth. Cambridge, MA: MIT Press. ILO (International Labor Organization). 2016. Non-Standard Employment Around the World: Understanding Challenges, Shaping Prospects. Geneva: ILO. Katovich, Erik S., and Alexandre Gori Maia. 2018. “The Relation Between Labor Productivity and Wages in Brazil.” Nova Economia 28: 7–38. Lutz, Wolfgang, Jesus C. Cuaresma, Endale Kebede, Alexia Prskawetz, Warren C. Sanderson, and Erich Striessnig. 2019. “Education Rather Than Age Structure Brings Demographic Dividend.” Proceedings of the National Academy of Sciences 116 (26): 12798–12803. Medas, Paulo. 2018. “Modernizing Fiscal Institutions.” In Boom, Bust, and the Road to Recovery, edited by Antonio Spilimbergo and Krishna Srinivasan, 173–190. Washington, DC: International Monetary Fund. Nölke, Andreas, Tobias ten Brink, Christian May, and Simone Claar. 2020. Statepermeated Capitalism in Large Emerging Economies. London: Routledge. OECD (Organization for Economic Co-operation and Development). 2019. Education at a Glance 2019: OECD Indicators. Country Note Brazil. Paris: OECD. ———. 2020. Education at a Glance 2020: OECD Indicators. Paris: OECD.

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Power, Timothy J. 2016. “The Reduction of Poverty and Inequality in Brazil: Political Causes, Political Consequences.” In New Order and Progress: Development and Democracy in Brazil, edited by Ben Ross Schneider, 212–237. New York, NY: Oxford University Press. Prates, Daniela M., Barbara Fritz, and Luiz Fernando de Paula. 2017. “Brazil at Crossroads: A Critical Assessment of Developmentalist Policies.” In The Brazilian Economy Since the Great Financial Crisis of 2007/2008, edited by Philip Arestis, Carolina T. Baltar, and Daniela M. Prates, 9–39. Basingstoke: Palgrave Macmillan. Rombaldi, Maurício. 2018. Mega Sporting Events in Brazil: Trade Unions’ Innovative Strategies for the Construction Industry. Berlin: Friedrich-EbertStiftung. Santos, Manoel L. 2019. “Interest Articulation and Lobbying.” In Routledge Handbook of Brazilian Politics, edited by Barry Ames, 132–158. London: Routledge. Schneider, Ben Ross. 2013. Hierarchical Capitalism in Latin America: Business, Labor, and the Challenges of Equitable Development. New York: Cambridge University Press. Serrano, Franklin, and Ricardo Summa. 2015. “Aggregate Demand and the Slowdown of Brazilian Economic Growth from 2011-2014.” Nova Economia 25: 803–833.

CHAPTER 8

International Integration

8.1

Introduction

This chapter examines the Brazilian trade and investment regimes and their effects on technological upgrading. It provides detailed coverage of Brazil’s trade agreements, tariff structure, and the effects of China’s industrialization and integration into the WTO on Brazilian trade and domestic industry—the so-called “China shock”. It also deals with the impact of capital inflows, leading to a Dutch disease experience in Brazil. Furthermore, it delves into the political economy of Brazilian trade policy, focusing on the Foreign Trade Chamber, CAMEX. Lastly, the chapter covers the efforts towards firm internationalization under the so-called “national champions” strategy. Empirically, the chapter draws on, e.g., tariff data, commodity price data, export and import data, international reserves and capital flow data, as well as expert interviews. It provides insights into the negative effects of the Dutch disease experience for innovation. The chapter is organized as follows. Section 8.2 analyzes the Brazilian trade regime and the integration of the Brazilian economy into global trade flows. Section 8.3 focuses on the investment regime and the integration of the Brazilian economy into global financial flows. Section 8.4 concludes.

© The Author(s), under exclusive license to Springer Nature Switzerland AG 2023 M. Schedelik, The Political Economy of Upgrading Regimes: Brazil and beyond, International Political Economy Series, https://doi.org/10.1007/978-3-031-34002-4_8

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8.2

Trade Regime

The Brazilian economy has traditionally been relatively isolated from global trade flows, for both economic and political reasons. Given its size and relative distance from actual and potential trading partners, there is a natural tendency towards less international trade and a higher share of domestic production (Estevão and Alcaraz 2018, 98). However, compared to similarly large economies, Brazil is very closed to foreign trade (ibid.). This difference can be explained by the country’s trade policy and institutional structure which traditionally has been protectionist, favoring import-competing industrial sectors (Oliveira et al. 2019, 9). As a consequence, a strong coalition between the bureaucracy and business organizations dominated Brazilian trade policy, taking mainly a defensive, status quo oriented position in the trade talks of the late 1990s and 2000s (ibid., 15). Moreover, the PT-led governments aimed to advance economic ties with developing countries and turned away from multilateral and bilateral negotiations with key trading partners in the North (Estevão and Alcaraz 2018, 95–96). This resulted in a number of shallow trade agreements with less significant trading partners (ibid., 99). For instance, Brazil has no trade agreement with its main trading partners, China, the European Union, the United States, and Japan, but has such agreements with the Southern African Customs Union, India, and Israel.1 The most important of Brazil’s trade agreements is MERCOSUR (Southern Cone Common Market), a customs union with its neighbors, Argentina, Paraguay, and Uruguay, founded in 1991. In the course of the 1990s and 2000s, almost all South American economies joined the bloc as associated members and negotiated bilateral trade agreements, some of them fairly extensive (e.g. the Peruvian, Colombian, and Chilean agreements). In 2017, Mercosur accounted for 9.4% of Brazil’s trade flows, 10.4% of exports, and 7.9% of imports (Estevão and Alcaraz 2018, 102). The majority of the existing trade agreements, however, are limited to trade in goods and cover only a limited set of items: the Mercosur-India trade agreement, for instance, comprises a mere 450 tariff items out of more than 10,000 with comparatively small tariff reductions (ibid., 103).

1 See WTO, Regional Trade Agreement database: https://rtais.wto.org/UI/PublicMai ntainRTAHome.aspx, retrieved on 23 February 2023.

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Consequently, the Brazilian economy is fairly integrated with most of South America but is largely isolated from the other major trading blocs. While the PT-led governments had no major interest in trade policy and adopted a rather protectionist stance, business also favored the status quo or even more protectionist measures (Oliveira et al. 2019, 49). In addition, there was no real conflict of interest between export-oriented and import-competing sectors (ibid.). On the one hand, the powerful agricultural sector is comprised of both import-competing sectors, such as dairy products, wine, or coffee, and very competitive, export-oriented sectors, such as cotton, soy beans, sugar, and meat (ibid., 49–50). Due to rising demand from Asia, mainly China, the export-oriented agricultural sectors, however, largely lost interest in trade policy after the stalemate in the WTO Doha negotiations in 2008 and did not push for further trade liberalization with developed countries (ibid., 25). On the other hand, import-competing industrial sectors, which traditionally had been given priority in trade policy, had strong interests in pushing for further trade protection against import penetration from China and the appreciation of the exchange rate (ibid., 10). Even competitive manufacturing sectors, such as pulp and paper, had no real interest in reducing tariff levels, as they benefitted from relatively high protection in the domestic market and relatively open export markets (ibid., 49). Institutionally, the Foreign Trade Chamber (Câmara de Comércio Exterior, CAMEX) is in charge of the bulk of trade policy in Brazil (see Oliveira et al. 2019, 18–21). Originally envisaged as a coordination agency to streamline the decision-making process in this issue area, CAMEX gradually evolved as the de facto authority in the daily operation of trade topics, especially tariff policy, trade defense, trade negotiations, and trade facilitation (ibid., 19). Located at the Ministry of Development, Industry and Foreign Trade with its developmentalist outlook and deep ties to the industrial sector, the import-competing sectors have privileged access to CAMEX and exert substantial influence on trade policymaking (ibid., 27). Baumann and Messa (2017) empirically show that firm lobbying had a profound impact on tariffs and related trade policy issues, in particular from 2010 onwards when Dilma Rousseff launched the Greater Brazil Plan. Using a Grossman-Helpman type model of special interest group influence on trade policy, they find that Brazilian trade policy gave a heavy weight of 25% to lobbying activities of corporate interests in the period from 2005 to 2010 and 35% in the period from 2010 to 2013 (Baumann and Messa 2017, 151). This contrasts sharply with

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the period from 1988 to 2000, for which Gawande et al. (2009) calculate a very low weight given to industry lobbying (3.8%) (ibid., 499; cf. Baumann and Messa 2017, 152). Looking at MFN tariff rates for the period from 2004 until 2017, Brazil’s comparatively high protectionist stance becomes evident (see Table 8.1). Average MFN tariffs increased from 10.4% at the beginning of the period to 11.6% at the end. Agriculture and mining had modest rates on average, around 7% and 3% respectively. Both remained stable or even declined in the course of the period. Average tariffs in manufacturing, by contrast, increased from 10.7% in 2004 to 12% in 2017. The tariffs varied substantially by stage of processing, with fully processed goods featuring the highest tariffs of around 14%, followed by semi-processed goods (9.5%) and raw materials (7%). Zooming into more specific sectors, however, one can see a wide variation of tariff rates. A range of products exhibit tariff peaks of more than 15%, as defined by the WTO: Dairy products (18.8%), sugars (16.7%), beverages (17.7%), cotton (15.3%), textiles (22.7%), clothing (35%), leather and footwear (25.1%), nonelectric machinery (18.3%), and transport equipment (19%). As already indicated in the preceding discussion, extremely high tariff protection cuts across sectoral lines and is vital for both agricultural and manufactured goods. Looking at changes over time, one can identify further interesting variance. Some sectors such as animals and animal products, dairy products, oil seeds, fish, electric machinery, and petroleum remain roughly constant, whereas in others there is a profound increase or even a reduction during the period. Fruit and vegetables, cotton, chemicals, and non-electric machinery, for instance, experience a notable reduction in tariff rates in the range from 5% to 10%. Coffee, sugars, textiles, clothing, and transport equipment, by contrast, show a dramatic increase in tariffs of around 5–25%. Turning from nominal protection (simple tariffs) to effective protection (i.e. taking into account the value added of sectors and the interplay between output and input tariffs, cf. Greenaway and Milner 2003), there is also significant variation across sectors. Castilho and Miranda (2017) and Kume (2019) calculate the effective protection rates of the Brazilian tariff structure. In 2014, busses and automobiles enjoyed an effective protection of 72.5% and 65.5% respectively, followed by clothing and textiles with 39.9% and 30.3% respectively (Castilho and Miranda 2017, 44). Electrical appliances (26.4%), hygiene (20%), and metal products

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Table 8.1 Summary of Brazil’s MFN tariff rates, averages in percent, 2004– 2017 Total By WTO category WTO agricultural products Animals and products thereof Dairy products Fruit, vegetables, and plants Coffee and tea Cereals and preparations Oils seeds, fats, oil and their products Sugars and confectionary Beverages, spirits and tobacco Cotton Other agricultural products WTO non-agricultural products Fish and fishery products Minerals and metals Chemicals and photographic supplies Wood, pulp, paper and furniture Textiles Clothing Leather, rubber, footwear and travel goods Non-electric machinery Electric machinery Transport equipment Non-agricultural products Petroleum By ISIC sector Agriculture, hunting and fishing Mining Manufacturing By stage of processing First stage of processing Semi-processed products Fully processed products

2004 10.4

2008 11.5

2012 11.7

2017 11.6

10.2 8.2 18.8 13.8 5.5 10.6 6.6 7.9 17.7 15.3 7.4 10.5 9.9 7.7 11.3 6.1 13.0 11.0 17.2

10.1 8.1 18.8 13.8 5.7 10.1 6.3 7.6 17.7 15.3 7.6 10.6 9.8 7.5 11.2 7.1 14.8 10.7

10.2 7.9 18.6 9.6 13.7 11.6 7.8 16.7 16.5 7.4 8.0 11.9 10.1 10.2 7.2 10.9 22.7 35.0 15.2

10.2 7.9 18.6 9.6 14.5 11.5 7.9 16.7 16.6 6.3 7.9 11.8 10.1 9.9 7.1 10.5 22.6 35.0 15.2

18.5 11.8 12.3 14.0 0.4

25.1 18.3 11.7 12.2 13.7 0.4

11.7 12.2 18.8 13.9 1.1

11.6 12.1 19.0 13.9 1.0

7.3 4.1 10.7

7.1 3.1 11.8

7.2 3.1 12.0

7.3 3.1 12.0

n.a. n.a. n.a.

6.9 9.3 13.9

7.0 9.6 14.1

7.1 9.5 14.0

Source: WTO, Trade Policy Review 2004, 2009, 2013, 2017 Note: Tariff peaks (>15%) are shaded in grey

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(18.9%), among others, are still above the average of 16.7%. Agriculture (6.4), animals (6.4), cement (2.2%), iron ore (1.4%), and refined petroleum (0.7%) are at the lower end of effective protection. Petroleum and natural gas was the only sector with a negative rate of effective protection (−1.4%) (ibid., 43–44). This protectionist regime also prevails in the services sectors where trade is substantially restricted (Oliveira et al. 2019, 15). According to the Services Trade Restrictiveness index calculated by the OECD, almost all of Brazil’s services sectors are heavily restricted from foreign providers. Among the most protected sectors in 2014 were commercial banking (0.441), insurance (0.371), courier (0.554), air transport (0.558), logistics cargo-handling (0.378), and broadcasting (0.486).2 These measures underscore the relatively high level of protectionism in the Brazilian economy in trade in goods and services. Having analyzed the structural aspects of Brazil’s integration into global trade, trade agreements, and tariff rates, we now turn to the empirics of Brazil’s trade flows in the period of investigation. As a first step, we look at the prices of several of Brazil’ export items to understand the reasons behind the export specialization revealed in Chapter 3. As a second step, we pin down the product compositions of merchandise exports and imports in order to get a more detailed picture of Brazilian trade flows. As a third step, we examine aggregated indicators to assess the relative weight of trade for the Brazilian economy and its evolution over time. To begin, Brazilian export specialization in the period of investigation is intimately linked to the commodity super cycle beginning in the 2000s (Canuto 2014). Global demand, heavily driven by the rapid industrialization and urbanization of the Chinese economy, increased steadily until the global financial crisis of 2007/2008. Even after the following recession, China’s and India’s demand for energy and metals for their industrialization kept rising (World Bank 2015). Additionally, China expanded its domestic poultry, pig, and aquaculture industries since 2003 which fueled the country’s traditionally high demand for soybeans (for important ingredients of the Chinese diet such as soy sauce and tofu) (Mondesir 2020). Coupled with several supply shocks, such as droughts and insect

2 See OECD, Services Trade Restrictiveness Index: https://stats.oecd.org/Index.aspx? DataSetCode=STRI, retrieved on 23 February 2023.

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350

Indices, 2016=100

300 250 200 150 100 50

1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016

0

All

Iron Ore

Meat

Natural gas

Sugar

Vegetable oil (soy beans)

Fig. 8.1 Prices of primary commodities, 1990–2016 (Source IMF, Primary Commodity Price System)

infestation in the Midwestern farm belt in 2003, declining output of alternative oil seeds and rising prices for alternative feed crops such as corn and wheat due to the booming ethanol sector, the price for soy rose from $5.64 per bushel in January 2003, to $10.32 per bushel in March 2004, $15.33 in June 2008, and reaching an all-time high of $17.58 in August 2012 (Macrotrends 2021). Other commodities, such as cereals, sugar, cotton, or coffee, reveal similar trends (see Fig. 8.1). The same holds true for fuels such as natural gas and crude oil as well as minerals such as iron ore, one of Brazil’s principle export items. As Fig. 8.1 shows, the 1990s witnessed largely stable prices for primary commodities. Beginning in the early 2000s, however, prices rose dramatically for almost every commodity until the global financial crisis, declining sharply thereafter and rising again until 2012–2014 before they dropped again significantly. One important aspect of the Brazilian growth trajectory during the period of investigation, as revealed in Chapter 3, has undoubtedly been the commodity boom described here (ECB 2016, 16). The sharp recession beginning in 2014 can also, at least partially, be explained by

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the preceding sharp decline in commodity prices (ECB 2016, 18; Cuevas et al. 2018, 22). Next, we delve into the product composition of Brazilian trade flows. Looking at exports, the steady increase of agricultural goods is evident. In 2007, agriculture accounted for 30% of merchandise exports, in 2012 already 35.6%, and in 2016 it had reached 41.5% (WTO 2013, 2017). The most important agricultural export item was food and especially soybeans, with 7.1% and 10.4% of all merchandise exports in 2012 and 2016 respectively. Manufacturing, by contrast, experienced a drastic decline in its share of Brazilian exports, falling from 46.6% in 2007, to only 33.8% in 2012, and 37.9% in 2016. Here, transport equipment, machinery, chemicals, and iron and steel accounted for the majority of manufacturing exports. Mining, especially iron ore and fuels, also significantly increased its share in exports from 20.1% in 2007 to 27.1 in 2012, before going down again to 17.8% in 2016. Hence, the sharp price increases of primary commodities shown in Fig. 8.1 are clearly reflected in the product composition of Brazilian merchandise exports. Of course, the surge in agricultural exports and the accompanying influx of hard currency led the Real to appreciate significantly (Nassif et al. 2018; see Chapter 9). The massive overvaluation of the Brazilian currency at the height of the commodities boom burdened domestic manufacturing companies by making exports more expensive and imports cheaper, thereby contributing to the deindustrialization process analyzed in Chapter 3 (see also Nassif and Castilho 2020). Naturally, these broader macroeconomic trends affected investment flows which mostly targeted the booming commodity sectors instead of manufacturing, counteracting the industrial policies introduced to support manufacturing.3 The “China demand shock” not only affected investment but also factor prices, notably labor: wages in regions and sectors benefitting from the commodities boom rose faster than manufacturing wages in regions hard hit by Chinese imports (Costa et al. 2016). With hindsight, the Brazilian economy approximates the textbook case of Dutch disease in this period (Moreira et al. 2020, 2). Looking at the product composition of merchandise imports, the reverse trend is obvious: Agriculture and mining accounted for slightly over one third of all the Brazilian imports in 2007, down to 26.8% in 3 Industrial Policy specialist, CNI. Interview by Michael Schedelik. Interview No. 30. 24 March 2017, Brasília.

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2012, and only 22.8% in 2016 (WTO 2013, 2017). Manufacturing, by contrast, increased its share of imports from 64% in 2007, to 73.1% in 2012, and reached an astonishing 77.2% in 2016. In the category of manufacturing imports, Chemicals, electrical machines, transport equipment, machinery, and consumer goods stand out with the highest shares of all merchandise imports. Here, the rise of China as a major trading partner plays a crucial role in understanding these patterns. After China’s accession to the WTO in 2001, trade costs declined markedly, leading to a supply-side “China shock” in nearly every economy, advanced and emerging alike (see, e.g., Autor et al. 2013; Moreira and Stein 2019). As a consequence, China’s share of world manufacturing exports rose from 7.6% in 2000 to 19% in 2013. In the Brazilian case, this surge was even more pronounced. China’s share of Brazilian imports rose from a mere 2.3% in 2000 to 21% in 2013, and its participation in the Brazilian manufacturing market rose from nearly nothing to 6.6% in the same period (Moreira et al. 2020, 2; Costa et al. 2016). This trade shock, despite fairly high levels of protectionism, led to the significant displacement of local producers and the substitution of previous importers (Moreira et al. 2020). In regions hard hit by Chinese import penetration, this resulted in slower manufacturing wage increases (Costa et al. 2016), higher unemployment (Paz 2019), and negative effects on product innovations (Moreira et al. 2020). However, Moreira et al. (2020) find a positive effect of Chinese import penetration on total factor productivity, at least in the short term. This relates not only to competition in the domestic market, but also to third markets where Brazilian exports were significantly affected by Chinese competition (Lage de Sousa 2018). Hence, the rise of China as a major manufacturing exporter had profound effects on the Brazilian economy. The dismal performance of the Brazilian manufacturing sector and the rapid deindustrialization can partially be explained by this factor. Several industrial and trade policies of the PT governments were crafted as a bulwark against increasing competition from China but with only limited results.4 In the following, we look at aggregated trade indicators in order to assess the integration of the Brazilian economy into global trade flows. As Fig. 8.2 shows, both exports and imports rose significantly from the late 4 Industrial Policy specialist, CNI. Interview by Michael Schedelik. Interview No. 30. 24/03/2017, Brasília.

35

160

30

140 120

25

100 20 80 15 60 10

40

5

20

0

0

Terms of trade index, 2000=100

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1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015

in percent of GDP

218

Exports

Imports

Trade openess

Terms of trade

Fig. 8.2 Trade, as a percentage of GDP (Source World Development Indicators)

1990s onwards. Exports as a share of GDP increased from 7% in 1998 to 16.5% in 2004. Thereafter, the exports-to-GDP ratio declined gradually to 10.8% in 2010 where it stayed until the end of the period. Imports as a share of GDP likewise increased from 9.4% in 1998 to 14.5% in 2001, before dropping to 11.8% in 2005 and rising again thereafter. As Fig. 8.2 reveals, the period from 2001 to 2008 is characterized by a notable trade surplus, accounting for the export-led growth trajectory analyzed in Chapter 3. After the financial crisis of 2008, however, imports rise faster than exports and account for a higher share of GDP. Accordingly, the period of 2008 to 2013 is characterized by strong consumptionled growth, as revealed in Chapter 3. In consequence, Brazil’s openness towards trade, measured as the sum of exports and imports in relation to GDP, increased constantly from 16.4% in 1998 to 29.7% in 2004. When the export-to-GDP ratio starts to decline, not as a result of declining exports but due to sharply rising GDP, the trade openness indicator falls to 22% in 2009, before moving up again to 27% in 2015. Finally, Brazil’s terms of trade, i.e. the ratio of export prices to import prices, are characterized by a continuous upward trend from 2003 onwards, reflecting the commodity bonanza and the rise of cheap Chinese imports. Hence, although Brazilian trade policy is marked by a continuation of heavy

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protectionism, the economy has become significantly more integrated into global trade flows, especially with its major trading partner China. This section has shown that the Brazilian economy is traditionally comparatively closed to foreign trade. This is reflected in the small number of major trade agreements and the high nominal tariff rates and effective protection rates. In the period covered, this protectionist stance towards global trade prevailed, as key economic sectors aligned with the bureaucracy to favor import-competing sectors. Despite this protectionist outlook, the economy became ever more integrated into global trade flows, especially with its main trading partner China. The main reason for increasing trade openness was twofold: First, Chinese industrialization fueled demand for Brazil’s principle export items, soybeans and iron ore, and, second, China’s entrance to the WTO gave way to the heightening import penetration of cheap Chinese manufacturing goods. Both the demand and supply “China shocks” contributed significantly to the deindustrialization process in the Brazilian economy identified in Chapter 3 and counteracted the industrial policies launched by the PT governments. Investment flows and factor prices responded accordingly and benefitted the booming agricultural sector instead of manufacturing. In addition, the manufacturing sector experienced intense competition from Chinese imports, leading to significant displacement of local producers, slower manufacturing wage increases, higher unemployment, and negative effects on product innovations.

8.3

Investment Regime

Traditionally, the Brazilian economy has been relatively open to foreign capital compared to other large emerging economies such as China or India, tapping external resources to finance growth due to inadequate domestic savings (Hennings and Mesquita 2008, 103). After the end of the external debt crisis and the resumption of capital flows in the 1990s, portfolio investments dominated capital inflows and continuously increased throughout the 1990s and 2000s (Goldfajn and Minella 2005, 12), from virtually nothing in 1990 to US$8.3 billion in bonds and US$2.4 billion in equity in 2001, and US$29.3 billion in bonds and US$37.6 billion in equity in 2010.5 However, portfolio investment flows, 5 See World Development Indicators: https://data.worldbank.org/indicator/BN.KLT. PTXL.CD, retrieved on 23 February 2023.

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both in equity and bonds, decreased and partly turned negative during the exchange rate crisis of 1998, the election crisis of 2002, and the global financial crisis of 2008. Despite this volatile trajectory, the deepening of the Brazilian financial market and marcoeconomic stability associated with the inflation targeting policy of the BCB substantially changed the composition of capital flows from mainly debt instruments to equity stakes (Hennings and Mesquita 2008, 104). Portfolio inflows played a key role in the growing number of IPOs in the domestic equity market in the preGFC period (ibid., 107; see Chapter 6). In a similar vein, foreign capital contributed significantly to the development of Brazilian debt markets, especially regarding long-term government bonds (ibid.). In the aftermath of the GFC, Brazil experienced rapidly rising capital inflows which contributed to a sustained upward pressure on the Real (see Chapter 9). Capital inflows mainly financed the current account deficits of the late 1990s and 2000s (Goldfajn and Minella 2005, 30), but from 2004 onwards were increasingly used to accumulate substantial foreign exchange reserves (Hennings and Mesquita 2008, 115; Kaltenbrunner and Painceira 2018). International reserves piled up from US$9.9 billion in 1990 to US$52.9 billion in 2004 and US$356 billion in 2015.6 Particularly in the years 2006 and 2007, reserves increased substantially by 60% and 110% respectively (Central Bank of Brazil 2019, 76). These accumulated foreign exchange reserves served as a buffer against exchange rate volatility and were used in several foreign exchange interventions (ibid.; Gallagher and Prates 2016; see Chapter 9). Despite the costly process of reserve accumulation and its accompanying repurchase agreements to sterilize the monetary expansion, the BCB prioritized the associated stability of the foreign exchange market over other considerations (Central Bank of Brazil 2019). Consequently, there was no foreign exchange shortage in contrast to previous episodes (Biancarelli et al. 2017, 102). The extensive monetary sterilization operations of the BCB had a significant impact on the domestic banking system: banks, which used the repos of the BCB as collateral, expanded inter-bank lending but also normal credit operations, especially in the booming housing market (Kaltenbrunner and Painceira 2018, 298).

6 See IPEA database: http://www.ipeadata.gov.br/Default.aspx, retrieved on 23 February.

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The evolution of foreign direct investment is even more striking than that of portfolio flows (see Fig. 8.3). FDI inflows increased from virtually nothing (US$989 million) in 1990, to US$32.7 billion in the year 2000, and to US$97.4 billion in 2011. In the 1990s, the surge in FDI was forcefully driven by the huge privatization programs, mainly in the services sectors such as telecommunications, financial services, retail, gas, and energy as well as real estate (Hennings and Mesquita 2008, 105). Thereafter, manufacturing became the leading destination for FDI, as in earlier decades, followed by services, and natural resources (ECLAC 2020, 60). In the period from 2010 to 2014, coke and petroleum accounted for 26%, the metal industry for 17%, and foodstuffs for 15% of manufacturing FDI (ibid., 61). In services, civil construction, retail trade, financial services, and business management consulting were the main recipients of inward FDI flows (da Silveira et al. 2017, 180). These massive FDI inflows roughly financed the Brazilian current account deficit of the 1990s and the 2010s. Beyond that, inward FDI had a profound impact on the Brazilian political economy. For instance, Owen (2019) found that the announcement of a new investment project in the context of mayoral elections increased the likelihood that the incumbent party won, indicating strong public support for greenfield FDI and the related job creation. Furthermore, several scholars have shown that inward FDI had positive effects on the innovation performance and productivity of Brazilian companies (Ferraz et al. 2018; Viglioni and Calegario 2020). However, this effect depends on the absorptive capacity of firms (Moralles and Moreno 2020) and the country of origin (Polloni-Silva et al. 2021). The period from 2004 until 2011 was also characterized by a remarkable increase in outward FDI flows, supported by BNDES loans for infrastructure projects and the internationalization of targeted “national champions” (Caseiro and Masiero 2014). This deliberate strategy of the incoming PT government was mainly aimed at the core of the Brazilian industrial complex identified in Chapter 4: large firms in sectors such as construction, meat processing, and petrochemicals (ibid., 250). Meat processing giants, such as JBS and Mafrig, received the lion’s share of BNDES subsidies for foreign expansion (ibid., 243; Finchelstein 2017, 588). The other major recipients of BNDES loans were the large construction conglomerates, especially Odebrecht and Andrade Gutierrez, receiving nearly US$12 billion for their foreign expansion (Taylor 2020, 98). In contrast to other emerging economies such as China or India, strong OFDI promotion was targeted at already highly

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100000

600000

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100000 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015

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Fig. 8.3 Inward and outward foreign direct investment, flows (lhs, lines) and stocks (rhs, bars), in US$ at current prices in million, 1990–2015 (Source UNCTAD, FDI statistics)

competitive firms in sectors with low technological potential (Caseiro and Masiero 2014, 250). Brazilian multinationals did not internationalize due to efficiency, cost reducing, or new market exploration motives, but primarily due to geographical proximity, improved financial conditions, and the availability of skilled labor in host markets (de Alcântara et al. 2016). Accordingly, the rates of return7 from OFDI were comparatively low, 1% compared to almost 8% for Chile and 6% for China and Russia in 2011 (Knoerich 2017, 448). FDI outflows peaked at US$28.2 billion in 2006 and again at US$22 billion in 2010 (see Fig. 8.3). In consequence, both outward and inward FDI stocks increased substantially in the period of investigation. FDI inward stocks piled up from a mere US$37.1 billion in 1990, to a peak of US$664 billion in 2012, and US$429.8 billion in 2015. FDI outward stocks increased less pronounced but still significantly from US$41 billion in 1990 to a peak of US$209.9 billion in 2014.

7 Rates of return are calculated by dividing FDI income in year t + 1 by the averages of the FDI positions for year t + 1 and year t. See Knoerich (2017, 448).

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This section has shown that the period of investigation was characterized by strong portfolios and foreign direct investment inflows. In contrast to earlier periods in Brazilian history, there was no foreign exchange shortage, as these inflows financed the growing current account deficit from 2007 onwards. In addition, the Central Bank accumulated substantial foreign reserves as a buffer against exchange rate volatility. Portfolio inflows played an important role in the deepening of the local debt and equity markets. FDI inflows, mainly in manufacturing, increased substantially. In aggregate, they appear to have positive effects on productivity and firm innovation due to spillover effects. Moreover, FDI greenfield investments played a decisive role in (local) politics. The period of investigation was also characterized by a rapid and significant increase in outward foreign direct investment. These efforts were directly supported by the Brazilian government and largely financed by BNDES. However, the national champions policy mainly targeted already highly competitive firms in the core of the Brazilian industrial complex, i.e. in construction, meat packing, and petrochemicals, with low technological potential.

8.4

Conclusion

The goal of the chapter has been to provide an in-depth analysis of the Brazilian trade and investment regime and its effects on upgrading and innovation capacity building. As the first step, we have shown that the Brazilian economy is traditionally comparatively closed to foreign trade. This is reflected in the small number of major trade agreements and the high nominal tariff rates and effective protection rates. This protectionist stance towards global trade prevailed, as key economic sectors aligned with the bureaucracy to favor import-competing sectors. Despite this protectionist outlook, the economy became ever more integrated into global trade flows, especially with its main trading partner, China. This “China shock” contributed significantly to the deindustrialization process of the Brazilian economy and counteracted the industrial policies launched by the PT governments. It also led to significant displacement of local producers and had negative effects on product innovations. As the second step, we have shown that this period was characterized by strong portfolio and foreign direct investment inflows. Portfolio inflows played an important role in the deepening of the local debt and equity markets. FDI inflows, mainly in manufacturing, appear to

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have positive effects on productivity and firm innovation due to spillover effects. The period of investigation was also characterized by a rapid and significant increase in outward foreign direct investment. These efforts were directly supported by the Brazilian government and largely financed by BNDES. However, the national champions’ policy mainly targeted already highly competitive firms at the core of the Brazilian industrial complex, i.e. in construction, meat packing, and petrochemicals, with low technological potential. To sum up, we can conclude that the Brazilian economy is still very closed to foreign trade, diminishing the extent of competition and technology spillovers via imported machinery and equipment. Despite the strong protectionist outlook, the Brazilian economy was hard hit by cheap Chinese imports, which had negative effects on employment, wages, and product innovation. In addition, Chinese demand for Brazil’s agricultural goods and natural resources resulted in a Dutch disease experience and contributed to the ongoing deindustrialization of the economy. Hence, the “China shock” had a detrimental impact on the manufacturing sector but fueled the consumption-led growth model identified in Chapter 3. Furthermore, portfolio and foreign direct investment inflows had positive effects on the deepening of the local equity and debt markets and the productivity of Brazilian companies. However, the massive capital inflows exerted continuous upward pressure on the Real and, thereby, contributed to the dismal situation of the manufacturing sector. As a consequence, the Brazilian trade and investment regime provides mixed incentives for technological upgrading: on the one hand, foreign capital serves as a substitute for high trade protection in terms of competition and technology spillovers; on the other hand, the export specialization in agricultural and mining products in conjunction with substantial capital inflows and cheap Chinese manufacturing goods resulted in a juggernaut for the manufacturing industry and its ability to build up innovation capacities.

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CHAPTER 9

Macroeconomic Management and Domestic Demand

9.1

Introduction

This chapter provides a comprehensive analysis of the Brazilian macroeconomic policy regime and its effects on the incentives for technological upgrading. It thereby complements the empirical analysis of the preceding chapters dealing with the independent variable of this study. The chapter delves into the structural and political factors underlying Brazil’s high and volatile inflation dynamics. It closely examines the evolution of monetary policy from the orthodox “New Macroeconomic Consensus” to the heterodox “New Economic Matrix” and back again. Furthermore, it provides a detailed analysis of the exchange rate interventions by the Brazilian central bank to stem capital inflows and the appreciation of the currency. The chapter also covers the political economy of Brazilian public finances and the causes and effects of the deteriorating fiscal situation. Lastly, it delves into the major social policies enacted or expanded under the Workers’ Party governments and their contribution to demand stimulation. Empirically, the chapter draws on, e.g., inflation and interest rate data, fiscal data, household income and debt data, data on social transfers, as well as expert interviews. It highlights the negative effects of volatile inflation dynamics and sustained currency appreciation on innovation. The chapter is organized as follows. Section 9.2 analyzes the monetary and exchange rate regime and its impact on several economic variables. © The Author(s), under exclusive license to Springer Nature Switzerland AG 2023 M. Schedelik, The Political Economy of Upgrading Regimes: Brazil and beyond, International Political Economy Series, https://doi.org/10.1007/978-3-031-34002-4_9

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Section 9.3 focuses on the fiscal regime and its complementarities to other parts of the upgrading regime. Section 9.4 delves into the role of social policies in molding domestic demand and their contribution to the consumption-led growth model identified in Chapter 3. Section 9.5 concludes.

9.2

Monetary and Exchange Rate Regime

As stated earlier, the key macroeconomic policy regime adopted by Lula and his administration was the so-called “New Macroeconomic Consensus” inherited from his predecessor (Kingstone and Kling 2019, 437). Having campaigned unsuccessfully against Cardoso’s Real Plan in 1994, Lula acknowledged the importance of low inflation to voters and famously subscribed to macroeconomic orthodoxy in his “Letter to the Brazilian People” (ibid.). At the center of this policy regime was the economic tripod of inflation targeting, floating exchange rates, and fiscal surplus targets (Araújo and Arestis 2019, 11). To implement these policies, Lula selected orthodox officials, such as Mereilles as head of the central bank and Palocci and his team in the ministry of finance (see Chapter 4). Regarding monetary policy, the inflation targeting scheme has been hotly debated among Brazilian economists and international observers (Serrano and Summa 2012; Araújo et al. 2017; Matheson 2018; Araújo and Arestis 2019). In this framework, the primary policy tool to contain inflation was the nominal interest rate: the Sistema Especial de Liquidação e Custodia (Selic) rate which was set in line with a Taylor rule (Modenesi et al. 2017, 72). Given the external shocks in the early 2000s, the Argentine peso crisis, and the confidence crisis surrounding the presidential election, the BCB raised the Selic rate to 25% to calm financial markets and contain inflation which was rising to 12.53% in 2002 (see Fig. 9.1). Although inflation was successfully brought down to the inflation target, nominal interest rates remained at very high levels, way above 10%, during Lula’s mandates. As a consequence, real interest rates hovered around 6% and 12% in the 2000s, contributing to the lack of credit and low investment identified above (see Chapter 6). The problem with the inflation targeting policy was that several structural features of the Brazilian economy, that are beyond the control of monetary policy, contribute substantially to the relatively high and volatile inflation dynamics in Brazil (Volpon 2016). First, Brazil is a large, relatively closed economy, making prices vulnerable to internal supply shocks,

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30 25

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Fig. 9.1 Interest rates, inflation rate, and inflation targets, 2000–2016 (Source Banco Central do Brasil; Araújo et al. 2017)

especially food prices (Araújo et al. 2017, 50; Volpon 2016, 86). Second, a large part of the prices (over 20%) in the Brazilian consumer price index basket was set by contract or the government, below or above inflation, others, such as the minimum wage, were indexed to inflation (Volpon 2016, 88–89). This increased inflation inertia and helped fuel inflation greatly when several previously regulated prices such as electricity und fuel prices were readjusted in 2015, accounting for 39.5% of the price increases of the year (Carvalho 2019, 68). Third, due to a comparatively high share of tradables in the consumption basket, there is a relatively high exchange rate pass-through, i.e. the change in domestic prices after an exchange rate variation, of up to 16% in times of external shocks (Marodin and Portugal 2018, 50; Modenesi et al. 2017, 87). This effect is worsened by the fact that the Brazilian exchange rate is closely correlated with international commodity prices due to the high share of commodities in overall exports (Volpon 2016, 87). Changes in commodity prices therefore tend to act as procyclical shocks to the economy, affecting the exchange rate, capital inflows, and domestic prices (ibid.). Finally, the heavy reliance on earmarked credit, which rose to roughly 50% of total credit in 2015, significantly reduced the effectiveness of monetary policy (Byskov 2018,

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276; Volpon 2016, 89). Due to these combined factors, inflation control was difficult and socially costly, making inflation and interest rates higher and more volatile than necessary (Volpon 2016, 91; Modenesi et al. 2017, 74–75). At the end of Lula’s second mandate and especially under Dilma’s presidency, the economic policy regime was gradually changed towards greater heterodoxy (Kingstone and Kling 2019, 439). Under the “New Economic Matrix” launched by Dilma and her finance minister, Guido Mantega, Alexandre Tombini, Mereilles’ successor at the central bank, began to slash the Selic rate from 11% in 2011 to 7.25% in 2012 despite the fact that inflation was already at the upper tolerance limit of the BCB target (see Fig. 9.1). Consequently, real interest rates went down to a record-low of 1.3%. However, the flirtation with heterodox monetary policy did not last for long. By the end of 2012, and with falling commodity prices, a deteriorating current account, as well as rising debt and inflation, the central bank had to raise interest rates again to 10% in 2013 and 11.75% in 2014 (Carvalho 2019, 64). Inflation, in fact, was one of the principle political problems of Dilma’s presidency, haunting her since she took office in 2011. The main inflation drivers were food and transportation costs, sparked by a shortage of low-skilled labor due to near full employment, weather conditions, and a chronic lack of infrastructure investments (Stauffer and Cascione 2013). In June 2013, when the massive street protests against bus fair hikes began in São Paulo, inflation and infrastructure quality were the chief objectives of the protesters (Wills 2013). When the Real depreciated sharply in 2014 and several administered prices were readjusted, inflation soared to 10.67% in 2015 despite the serious contraction of the economy in the same year (ECB 2016, 17). In the crucial pre-crisis period from 2011 to 2013, the “New Economic Matrix” of loose monetary policy, gradual currency devaluations, and fiscal expansion met a tight labor market and booming private consumption (Arestis et al. 2019, 193). The policy measures further stimulated already rising aggregate demand. To control the unavoidable inflationary pressures, the government introduced several price freezes which were controversial from the start and came back with a vengeance in the midst of the subsequent recession (Arestis et al. 2019, 194; Carvalho 2019, 65–68). With hindsight, the erratic monetary policy moves under Dilma are widely criticized as one of the key errors of her presidency, contributing to high inflation and the worst recession in recent Brazilian history (Serrano and Summa 2015; Arestis et al. 2019;

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Carvalho 2019; Gomes da Silva and Fishlow 2021). As an example, when the Selic rate was raised again in 2013, the central bank had lost a great deal of credibility and, in fact, worked against the continued expansion of lending by public banks (Cuevas et al. 2018a, 20). Three principle mistakes can be identified: (1) The misuse of price controls in controlling inflation; (2) communicative failures regarding the flexibilization of the inflation target towards the upper tolerance limit; and (3) pushing the real interest rate below its neutral rate (da Cunha 2017; Arestis et al. 2019). The underlying problem was the mistaken assumption that lessthan-optimal economic growth was due to insufficient aggregate demand instead of supply constraints (da Cunha 2017; Arestis et al. 2019). As a next step, we turn to exchange rate policy which is closely connected to monetary policy. As seen in Chapter 8, high interest rates stimulated large capital inflows, contributing to the gradual and substantial appreciation of the Real in the period from 2002 to 2011.1 The unanticipated appreciation of 2005 and 2006 was the reason for monetary policy being too tight in this period (da Cunha 2017, 11). Another surge in capital inflows followed the quick recovery after the GFC, letting finance minister Guido Mantega speak of a “monetary tsunami” and a “currency war” with the United States and China (Gallagher and Prates 2016, 95). In this context, the finance ministry and the central bank implemented a series of capital controls and interventions in the foreign exchange market from 2009 until 2013 (ibid., 91–92). In addition, the loosening of monetary policy significantly reduced the interest rate differential and capital inflows dropped by 40% accordingly (Biancarelli et al. 2017, 115). In consequence, the Real depreciated substantially from 2011 onwards, feeding, on the one hand, the inflationary pressures in the economy, but, on the other hand, helping the stressed export sectors. When the US Federal Reserve indicated it would taper its policy of quantitative easing in May 2013, a reversal of capital flows to the United States was put into motion which led to a strong depreciation of the Real (Gallagher and Prates 2016, 93). To mitigate the pressure on the Brazilian currency, capital controls were removed quickly in June and July 2013 but with only limited effects (ibid.). Interest rates had to be raised again to stem capital outflows (Carvalho 2019, 64).

1 See Bank of International Settlements statistics: https://stats.bis.org/#ppq=CBS_C_ AND_OTH_EXP_UR;pv=11~10,5,6~0,0,0~name, retrieved on 23 February 2023.

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The movements of international capital flows and their effects on the exchange rate can be interpreted as a textbook case of “original sin redux” (Carstens and Shin 2019). Although the Brazilian Treasury successfully de-dollarized its foreign liabilities, thereby limiting the risks associated with a currency mismatch, i.e. the negative consequences of currency depreciations on domestic borrowers (dubbed “original sin”, cf. Eichengreen and Hausmann 1999), it simultaneously increased the exposure towards external financial shocks. By shifting the currency risk towards international lenders, the local bond market became more vulnerable to procyclical shocks: when the local currency appreciated, capital inflows rose as gains to investors were amplified; when the local currency depreciated, capital outflows were triggered as the value of assets in the foreign investor’s home currency declined (Hofmann et al. 2021, 2). Consequently, international capital flows tend to be even more volatile in countries with local currency-denominated bonds than in those with dollar-denominated bonds, exacerbating exchange rate volatility (Bertaut et al. 2021). Apparently, this happened in Brazil, with negative effects on macroeconomic stability. This section has shown that the macroeconomic policy regime changed significantly in the period of investigation with negative effects on several economic variables. Lula firmly subscribed to the “New Macroeconomic Consensus” of inflation targeting, floating exchange rates, and fiscal surplus targets. Dilma experimented with her “New Economic Matrix” of loose monetary policy, currency devaluations, and fiscal expansion but was forced to resort to the orthodox regime at the beginning of her second mandate. With hindsight, monetary policy was too tight during Lula’s first mandate, especially the years 2005 and 2006, given the unexpected surge of capital inflows. This contributed to the appreciation of the Real and had negative consequences on export industries. During Lula’s second mandate, real interest rates steadily went down and were below inflation from 2009 onwards. When Dilma took the helm in 2011, inflation was already at the upper tolerance limit but her administration introduced an ever looser monetary policy coupled with a forceful expansion of subsidized credit by public banks. Furthermore, the introduction of capital controls and interventions in the foreign exchange market in this period helped to stem capital inflow and led to a substantial depreciation of the Real from 2011 onwards. This, in turn, fueled inflationary pressures in the economy. When commodity prices and revenues started to decline, Dilma was confronted with rising inflation and a contracting economy.

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If monetary policy under Lula was temporarily too tight, it was definitely too loose under Dilma I. In addition, the misuse of price controls to hold inflation down exaggerated the problem and contributed to the economic crisis of 2014 onwards.

9.3

Fiscal Regime

With regard to fiscal policy, the Lula government stuck largely to orthodoxy and fiscal discipline, achieving primary surpluses of over 3% of GDP from 2003 to 2008 (see Fig. 9.2). After reelection in 2006, they started deviating from this policy by introducing several industrial policies such as PAC and the expansion of BNDES loans. In the wake of the global financial crisis, this move towards greater state involvement in the economy became more pronounced and the government enacted a strong fiscal stimulus package (Prates et al. 2017, 24–25). With significant policy space gained in the preceding years, the primary surplus went down to 1.9% of GDP in 2009 but continued to be positive until 2013. The economy responded positively to the stimulus and real GDP growth surpassed 7% in 2010 (Cuevas et al. 2018a, 19). Under Dilma Rousseff, a lot of the policies that were designed to respond to the crisis were made permanent. Reassured by the immediate success of the stimulus package, Rousseff’s administration deviated more strongly from the primary surplus target and introduced several fiscal measures to continue boosting the economy from 2012 to 2014. Chief among them were extensive tax exemptions targeted at the domestic manufacturing sector (Prates et al. 2017, 26). These measures, implemented under the umbrella of the “Greater Brasil Plan” from 2011 onwards, were originally intended to increase productive and technological capabilities in key sectors but were subsequently turned into a cash bonanza for virtually all manufacturing sectors, including construction and even services (Afonso and Pinto 2014; Carvalho 2019, 69–74). Dazzled by the “neo-developmentalist coalition”, the Rousseff government naively believed that the major corporations would translate the tax breaks into productive investment. However, the intended investments were not realized; the companies used the cash bonanza to deleverage and raise profit margins instead (Carvalho 2019, 73–74). With bearish prospects of aggregate demand, rising inflation, and increasing global and domestic uncertainty, corporations simply held back on investment

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45

15

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30

-5

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Fig. 9.2 Government revenues, expenditures (lhs, lines), and budget balance (rhs, bars), as a percentage of GDP, 2000–2016 (Source IMF, Fiscal Monitor database)

(Gottschalk and Torija-Zane 2017, 178). Moreover, Brazilian nonfinancial corporations had piled up significant levels of debt in the boom years with both domestic and international financial markets awash in liquidity. Non-financial corporations’ debt burden had risen from 35.6% of GDP in 2010 to 48.5% of GDP in 2015.2 Foreign debt as a share of total debt went up from 20.5% in 2010 to 25.7 percent in 2015, a modest ratio compared to other emerging economies (ibid., 180; Canuto 2017). A large part of this debt overhang can be traced back to the continued forceful expansion of public sector lending after 2011, contributing to a policy-driven credit cycle which turned sour in the 2014–16 recession (Canuto 2017). With hindsight, economic activity under Dilma’s presidency can largely be interpreted as an “investment-less credit boom” (ibid.; World Bank 2017, 203). Accordingly, Rousseff later acknowledged that the extensive tax cuts were a key strategic error of her presidency (Londoño 2017). Similarly, keeping an expansionary fiscal stance through

2 See IMF, Global Debt database: https://www.imf.org/external/datamapper/datase ts/GDD, retrieved on 23 February 2023.

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public sector bank lending when the economy already showed signs of overheating did more harm than good by inflating the debt burden of corporations and households (Canuto and Cavallari 2017; Canuto 2017). As a further consequence, the expansionist policies contributed significantly to a deterioration of the fiscal situation, in particular when commodity prices started to decline in 2013 (Canuto and Cavallari 2017, 2). As shown in Fig. 9.2, government revenues, which had been roughly constant around 35% of GDP in the previous years, started to contract notably in 2013 to 32.5% of GDP in 2014 and 28.2% of GDP in 2015. At the same time, expenditures rose from 37.4% of GDP in 2013 to 38.5% in 2015, contributing to a negative primary balance of −0.6% of GDP in 2014 and −1.9% of GDP in 2015. More strikingly, however, the overall balance deteriorated from −2.95% of GDP in 2013 to −10.25% of GDP in 2015. A large part of the deficit can be traced back to the substantial increase in interest payments on government debt from 3.5% of GDP in December 2013 to 7.22% of GDP in January 2016 (Arestis et al. 2019, 195). Another was due to the repayment of the infamous pedalas fiscais (“fiscal pedalling”), a series of fiscal tricks to reach the primary surplus target, which amounted to R$ 58.7 billion in 2015 (Leahy 2016; Holland 2019, 94). As known, these creative accounting measures, such as the rollover of payments to public banks, were the official reason for Rousseff’s impeachment in 2016 (Holland 2019, 94, Fn. 4). Given this rapidly deteriorating fiscal situation and rising inflation, the government changed course and implemented austerity measures to regain some confidence. However, this change not only decimated her already waning political support but again worked procyclically and made the ongoing economic contraction even more severe (ibid.; Carvalho 2019, 104). The urgency to stem the deteriorating fiscal situation in the midst of one of the worst recessions in Brazilian history can be explained by some peculiarities of the Brazilian public budget: a large portion of government spending has been highly complex and rigid, mandated by the constitution or indexed to the minimum wage or inflation (Medas 2018, 176–177). Pensions and other social benefits, in particular, kept on rising while tax revenues faltered, representing a highly dynamic part of government spending (Oair and Gobetti 2017, 225). Given its relatively young demographic structure, spending on pensions in Brazil is among the highest in the world (Cuevas et al. 2018b, 193). In 2015, spending on pension benefits amounted to 7.4% of GDP and income transfers to

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households rose to 9.4% of GDP (Holland 2019, 96). All of the budget rigidities combined presented a sizable share of primary spending and contributed to a deficit bias, promoting spending in times of upswings which was hard to undo in times of crises (Medas 2018, 177). They also contributed to the procyclical policies observed under Dilma’s second mandate as public investment is the main discretionary category to be cut when expenditures grow faster than revenues (ibid., 176). High interest payments on the public debt exaggerated the problem, soaring from 3.5% of GDP in December 2013 to 7.22% of GDP in January 2016 (Arestis et al. 2019, 195). Hence, there is a widely shared consensus among Brazilian economists and international observers that the worsening fiscal situation mandated spending cuts, even though they aggravated the recession (Oair and Gobetti 2017; Canuto and Cavallari 2017; Medas 2018; Arestis et al. 2019; Holland 2019). The problematic fiscal situation unfolding under the second Dilma government becomes evident by looking at aggregate public debt positions.3 Gross government debt as a percentage of GDP increased from 60% in 2013 to almost 80% three years later, the same figure as that in the year 2002 when Lula was elected. This is a very high value compared to other emerging economies which had roughly 40% on average in the same period (Medas 2018, 183). Brazil’s net debt position shows the same trajectory, rising sharply from 30% in 2013 to 46% in 2016. At the same time, external debt stocks, which had been successfully reduced from almost 50% to below 20%, went up again to over 30% in 2015, albeit mostly in long-term government bonds. Short-term debt as a percentage of external debt remained low at around 10%.4 This section has shown that the PT governments gradually leveraged the fiscal policy space gained through rising commodity revenues by introducing several industrial policies to promote investment. As seen in the previous chapters, the bulk of these resources benefitted the core of the Brazilian industrial complex of construction, meat packing, and petrochemical firms. The Greater Brazil Plan deviated from the earlier industrial policies by introducing massive tax breaks for a broad range of industrial and even service sectors. Instead of leading to increased investment, these 3 See IMF, Fiscal Monitor database: https://data.imf.org/?sk=4BE0C9CB-272A-46678892-34B582B21BA6, retrieved on 23 February 2023. 4 See World Bank, International debt statistics: https://data.worldbank.org/products/ ids, retrieved on 23 February 2023.

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measures contributed to the rapid deterioration of the fiscal situation. The peculiarities of the Brazilian public budget made drastic austerity measures necessary when growth faltered, exacerbating the unfolding recession. Hence, we can conclude that Dilma’s fiscal policy had only marginal effects on investment but deteriorated the sound public budget inherited from her predecessor. Making matters worse, her macroeconomic policies contributed to the economic crisis and made adjustments more costly than necessary.

9.4

Social Policy as Demand Management

As shown in the preceding section, the worsening fiscal situation in the run-up to the 2014–16 recession is partly linked to heavy government spending on pensions and social benefits. As shown in Chapter 7, the strong real increase of the minimum wage was at the center of this process. Pensions, social benefits, and the formal (and most of the informal) wage structure were directly linked to the federally established minimum wage (Power 2016, 214). The minimum wage rose continuously in real terms from R$ 557 in 2003 to R$ 974 in 2014, an overall increase of 74%.5 Household income per capita rose closely linked to the minimum wage from R$ 676 in 2003 to R$ 1152 in 2014, an increase of 70%. Boosted by rapidly rising real earnings, per capita household final consumption expenditures grew by 3.6% on average between 2004 and 2014. Rising real earnings of the lower classes propelled millions out of poverty and into the “new middle class” (Neri 2012), transforming consumption patterns and the corresponding market dynamics. The famous “C Class” with a monthly household per capita income of R$ 1734 to R$ 7475 (or US$ 1040 to US$ 4485) rose from 65.9 million (37.6% of the population) in 2003 to 118 million (60.2% of the population) in 2014 (Power 2016, 218; Neri 2012). Due to this process, income inequality fell sharply during the period (see Chapter 3). The rising remuneration of large parts of the population, associated with the minimum wage increases and a strong labor market performance, accounts for 54.9% of the declining income inequality in the period from 2002 to 2012 (IPEA 2013). Another part, 23%, is due to the changing distribution of nonlabor income, especially the famous 5 See IPEA database: http://www.ipeadata.gov.br/Default.aspx, retrieved on 23 February 2023.

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Bolsa Família conditional cash transfer program and the noncontributory pension benefit Benefício de Prestação Continuada for the elderly and disabled (Hagopian 2019, 381). Both programs were substantially expanded by the PT governments. In the beginning of 2004, just 3.6 million families were enrolled in Bolsa Família. By 2014, more than 14 million families were enrolled (Layton 2019, 473–74). Average monthly transfers per family increased steadily from R$ 73 in 2004 to R$ 150 in 2014 (ibid., 476). In real terms, the increase was more modest from R$ 73 to around R$ 90, but represented an important source of supplementary income (ibid.). The Benefício de Prestação Continuada program was also significantly expanded. By 2014, 4.4 million individuals received the pension benefits which, unlike Bolsa Família transfers, were directly linked to the minimum wage (Borges Sugiyama 2019, 493). These measures combined, minimum wage increases and the expansion of conditional cash transfers and noncontributory pension benefits, did not only help to reduce earnings inequality and poverty in Brazil, but fueled GDP growth via sustained domestic demand (see Chapter 3). The consumption-led growth trajectory coupled with declining poverty and inequality has been termed “social developmentalism” (Lavinas 2017, 628; Prates et al. 2020, 47). However, there was a marked shift in policy priorities from Lula II to Dilma I: Although the minimum wage policy was maintained, Dilma’s “New Economic Matrix” focused more heavily on the exchange rate and monetary policy instead of social policy (Lavinas and Gentil 2020, 107). As a consequence, Prates et al. (2020) labeled her government “new developmentalist” instead of “social developmentalist”. As shown in the preceding section, growth in the period from 2011 to 2014 was primarily debt-driven, fueled by aggressive public sector lending and household financialization (see Canuto 2017; Lavinas et al. 2019). Both nonfinancial corporate debt and household debt increased significantly from 2011 onwards, peaking at 48.5% of GDP and 28.4% of GDP respectively in 2015.6 The 2011–2014 credit boom was almost exclusively driven by public sector lending and the earmarked credit segment. Outstanding household credit in the non-earmarked segment had reached a plateau in 2010 at 14% of GDP and stayed roughly constant in the subsequent years (Canuto 2017). Outstanding household credit in the earmarked segment rose from 6 See IMF, Global Debt database: https://www.imf.org/external/datamapper/datase ts/GDD, retrieved on 23 February 2023.

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roughly 5% of GDP in 2010 to 12% in 2016 (ibid.). The share of public banks of outstanding loans increased from roughly 42% in 2010 to 56% in 2016 (ibid.). Consequently, household debt service as a share of disposable income jumped from 19% in 2010 to 23% a year later and stayed roughly constant in the following years (ibid.). In 2014, the debt-toincome ratio of borrowers reached 64% on average (Lavinas 2017, 640). Hence, the strategy to stimulate domestic demand through an extended credit boom in the wake of the financial crisis became a burden, especially when public lending had to be curtailed drastically from 2014 onwards (IMF 2016; Canuto 2017; Lavinas et al. 2019). A large part of the 50 million people graduating into the “C class” were first-time consumers of consumer goods such as white goods, mobile phones, and motorcycles (BCG 2013). The number of households possessing a personal computer rose from 15.25% in 2003 to 46.18% in 2015, those with a cell phone rose from 11.19% to 58.02%, and those with a washing machine from 34.34% to 61.18% in the same period.7 After decades of restricted consumption, the emerging middle class spent almost every Real earned on consumption (Hoefel et al. 2015). Matheson and Góes (2017) found that a one percent increase in disposable income translated into a one percent increase in consumption in this period. As consumption growth was fueled by rising real earnings (Serrano and Summa 2015, 814), authors in the Post-Keynesian tradition dubbed the Brazilian growth regime in the 2000s a “wage-led” one, followed by a shift towards a “profit-led” regime under Dilma (see, e.g., Carvalho and Rugitsky 2015). Beyond the strong contribution to aggregate GDP growth, the emerging middle class was the most dynamic part of the rapidly growing domestic market. Domestic companies able to target this evolving market segment and its thirst for affordable and functional “good enough” products had a considerable advantage over foreign competitors (BCG 2014; Kardes and Chueke 2017). This section has shown that the minimum wage policy and other social policies introduced, or substantially expanded, under the PT governments were an important backbone of domestic market expansion and the consumption-led growth model in the period of investigation. However, the policies became a substantial fiscal burden over time and created 7 See IBGE, Pesquisa Nacional por Amostra de Domicílios—PNAD: https://www. ibge.gov.br/estatisticas/sociais/populacao/9127-pesquisa-nacional-por-amostra-de-domici lios.html?=&t=o-que-e, retrieved on 23 February 2023.

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significant budget rigidities that made adjustments during the economic crisis painful and procyclical. As a consequence, demand stimulation via minimum wage increases and social benefits was complemented by household credit, leading to a debt-led growth model in early 2010s. The forceful credit expansion during Dilma’s presidency left nonfinancial corporations and households with a massive debt overhang and can be interpreted as an investment-less credit boom turned sour in the 2014–16 recession. One of the principle problems of the macroeconomic policy of the PT governments, especially under Dilma’s presidency, was the heavy focus on demand stimulation, even in times of rising aggregate demand, and the neglect of supply side constraints, such as more adequate innovation policies tailored towards technological upgrading of the domestic manufacturing sector.

9.5

Conclusion

The goal of the chapter has been to provide an in-depth analysis of the Brazilian macroeconomic policy regime and its effects on upgrading and innovation capacity building in the period of investigation. Firstly, we have shown that the macroeconomic policy regime changed significantly in the period of investigation with negative effects on several macroeconomic variables. Lula firmly subscribed to the “New Macroeconomic Consensus” of inflation targeting, floating exchange rates, and fiscal surplus targets. Dilma experimented with her “New Economic Matrix” of loose monetary policy, currency devaluations, and fiscal expansion but was forced to resort to the orthodox regime at the beginning of her second mandate. With hindsight, monetary policy was too tight during Lula’s first mandate, especially in the years 2005 and 2006, given the unexpected surge of capital inflows. This contributed to the appreciation of the Real and had negative consequences on export industries. During Lula’s second mandate, real interest rates steadily went down and were below inflation from 2009 onwards. When Dilma took the helm in 2011, inflation was already at the upper tolerance limit but her administration introduced an ever looser monetary policy coupled with a forceful expansion of subsidized credit by public banks. Furthermore, the introduction of capital controls and interventions in the foreign exchange market in this period helped to stem capital inflows and led to a substantial depreciation of the Real from 2011 onwards. This, in turn, fueled inflationary pressures in the economy.

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Subsequently, we have shown that the PT governments gradually leveraged the fiscal policy space gained through rising commodity revenues by introducing several industrial policies to promote investment. As seen in the previous chapters, the bulk of these resources benefitted the core of the Brazilian industrial complex of construction, meat packing, and petrochemical firms. The Greater Brazil Plan deviated from the earlier industrial policies by introducing massive tax breaks for a broad range of industrial and even service sectors. Instead of leading to increased investment, these measures contributed to the rapid deterioration of the fiscal situation. The peculiarities of the Brazilian public budget made drastic austerity measures necessary when growth faltered, exacerbating the unfolding recession. Hence, we can conclude that Dilma’s fiscal policy had only marginal effects on investment but deteriorated the sound public budget inherited from her predecessor. Making matters worse, her macroeconomic policies contributed to the economic crisis and made adjustments more costly than necessary. Finally, we have shown that the minimum wage policy and other social policies were an important backbone of domestic market expansion and the consumption-led growth model of the period of investigation. However, the policies became a substantial fiscal burden over time and created significant budget rigidities that made adjustments during the economic crisis painful and procyclical. As a consequence, demand stimulation via minimum wage increases and social benefits was complemented by household credit, leading to a debt-led growth model in the early 2010s. The forceful credit expansion during Dilma’s presidency left nonfinancial corporations and households with a massive debt overhang and can be interpreteted as an investment-less credit boom turned sour in the 2014–16 recession. One of the principle problems of the macroeconomic policy of the PT governments, especially under Dilma’s presidency, was the heavy focus on demand stimulation, even in times of rising aggregate demand, and the neglect of supply-side constraints. To sum up, we can conclude that the macroeconomic policy regime in the period of investigation was unbalanced, contributing to exchange rate volatility, inflation, and an unstable fiscal situation. Beyond that, it fueled consumption via public spending and, increasingly, via massive credit expansion which resulted in a policy-induced credit cycle which turned sour in the unfolding recession. The unbalanced macroeconomic context provided little incentive for technological upgrading.

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References Afonso, José R., and Vilma da Conceição Pinto. 2014. “Composição da desoneração (completa) da folha de salários.” Texto de Discussão do IBRE No. 41. Rio de Janeiro: Fundação Getúlio Vargas. Araújo, Eliane, Elisangela Araújo, and Fernando Ferrari Filho. 2017. “Monetary Institutions and Macroeconomic Performance in Brazil after the Global Financial Crisis of 2007–2008.” In The Brazilian Economy since the Great Financial Crisis of 2007/2008, edited by Philip Arestis, Carolina Troncoso Baltar, and Daniela Magalhães Prates, 41–68. Basingstoke: Palgrave Macmillan. Araújo, Eliane, and Philip Arestis. 2019. “Lessons From the 20 Years of the Brazilian Inflation Targeting Regime.” Panoeconomicus 66 (1): 1–23. Arestis, Philip, Fernando Ferrari Filho, Marco Flávio Resende, and Fábio Bittes. Terra. 2019. “Brazilian Monetary and Fiscal Policies from 2011 to 2017: Conventions and Crisis.” Challenge 62 (3): 187–199. BCG (Boston Consulting Group). 2013. Redefining Brazil’s Emerging Middle Class: How to Prepare for the Next Wave of Consumption Growth. The Boston Consulting Group. ———. 2014. How Companies in Emerging Markets are Winning at Home. The Boston Consulting Group. Bertaut, Carol, Valentina Bruno, and Hyun Song Shin. 2021. “Original sin redux.” Unpublished manuscript. Biancarelli, André, Renato Rosa, and Rodrigo Vergnhanini. 2017. “New Features of the Brazilian External Sector Since the Great Global Crisis.” In The Brazilian Economy since the Great Financial Crisis of 2007/2008, edited by Philip Arestis, Carolina T. Baltar, and Daniela M. Prates, 101–129. Basingstoke: Palgrave Macmillan. Borges Sugiyama, Natasha. 2019. “Transformations in Social Policy: Progress Toward Social Inclusion and Human Development.” In Routledge Handbook of Brazilian Politics, edited by Barry Ames, 490–502. London: Routledge. Byskov, Steen. 2019. “Earmarked Credit and Public Banks.” In Boom, Bust, and the Road to Recovery, edited by Antonio Spilimbergo and Krishna Srinivasan, 267–278. Washington, DC: International Monetary Fund. Canuto, Otaviano. 2017. “The Brazilian debt overhang.” Center for Macroeconomics and Development, 25 January, 2017. Available at: https://www.cma crodev.com/the-brazilian-debt-hangover/, retrieved on 22 June 2021. Canuto, Otaviano, and Matheus Cavallari. 2017. “Long-Term Finance and BNDES Tapering in Brazil.” Policy Brief PIB-17/20. Rabat: OCP Policy Center. Carstens, Augustín, and Hyun Song Shin. 2019. “Emerging Markets aren’t out of the Woods yet.” Foreign Affairs, 15 March 2019. Carvalho, Laura. 2019. Valsa brasileira: do boom ao caos econômico. São Paulo: Todavia.

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PART III

Comparative Perspectives

CHAPTER 10

Complementarities and Comparisons

10.1

Introduction

This chapter integrates the empirical analyses of the preceding chapters and adds an important theoretical contribution. By drawing on the notion of institutional complementarities outlined in Chapter 2, it identifies five mutually reinforcing negative complementarities between several institutional spheres within Brazil’s upgrading regime. These negative institutional complementarities account for the dismal innovation outcome in Brazil. This is a major contribution to theory-building and promises to cross-fertilize the literatures on innovation systems and comparative capitalism. Furthermore, the chapter locates the Brazilian case in the broader universe of middle-income countries and takes the first steps towards a typological theory of upgrading regimes. Thereby, it contributes to the emerging field of varieties of capitalism in emerging capitalist economies and the efforts to map the political-economic institutions of countries in the Global South. The chapter is organized as follows. Section 10.2 identifies a number of key institutional complementarities between the spheres analyzed in Part II which contributed to the low level of technological upgrading in Brazil. Section 10.3 relates the findings from this research to the broader universe of upper middle-income countries, employing cross-country correlations of major indicators drawn from the empirical analysis. Section 10.4 concludes. © The Author(s), under exclusive license to Springer Nature Switzerland AG 2023 M. Schedelik, The Political Economy of Upgrading Regimes: Brazil and beyond, International Political Economy Series, https://doi.org/10.1007/978-3-031-34002-4_10

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10.2

Institutional Complementarities

This section draws together the findings from the previous empirical analyses of the institutional drivers of technological upgrading in Brazil. It highlights several complementarities across institutional domains that help explain the dismal outcome of technology upgrading and innovation capacity building in the period of investigation. Macroeconomics and corporate finance: As Chapter 6 on finance and Chapter 9 on macroeconomic policy demonstrated, there has been one key impediment to the technological upgrading of Brazilian companies: the lack of access to finance due to excessively high credit costs. The reasons for this outcome are manifold and cut across institutional domains. First, the banking sector is heavily concentrated which allows the largest banks to exert substantial market power. This translates into higher margins for banks and, as a consequence, higher lending rates for customers. Second, the closedness of the Brazilian economy and several other structural features (e.g. wage indexation, price freezes, and an exchange rate correlated with international commodity prices) contributed to high and volatile inflation dynamics. These factors were reinforced by the consumption-led growth model pursued by the PT governments which favored demand stimulation over supply-side reforms. As a result, monetary policy had to be overly restrictive over much of the period of investigation, leading to high interest rates and very high credit costs. Third, to circumvent high interest rates and to provide incentives for investment finance, the PT governments substantially expanded the earmarked credit market, serviced chiefly by public banks and BNDES. The bulk of these subsidized loans, however, was directed at large incumbent firms at the core of the Brazilian industrial complex, mainly construction, meat packing, and petrochemical firms. These firms made windfall profits and were able to internationalize rapidly, but the effects on productivity and technology upgrading were marginal. Beyond that, expanding subsidized credit had several serious negative repercussions: (1) a deteriorating fiscal situation which soon limited the policy space for urgently needed anti-cyclical measures in the recession, (2) a policydriven credit cycle (“investment-less credit boom”) which turned sour in the 2014–16 recession with a massive debt overhang and a serious misallocation of capital, and (3) a less effective transmission channel of

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Monetary policy

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Consumption-led growth model High fiscal costs Fiscal policy

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Fig. 10.1 Institutional complementarity I: macroeconomics and corporate finance (Source Own elaboration)

monetary policy, making it even more restrictive and socially harmful in the unfolding recession than necessary (Fig. 10.1). Low skill trap: As Chapter 7 has shown, the second most important constraint for technological upgrading in Brazil is the low level of human capital. The reasons for this dismal outcome are related to the “low skill trap” identified also by Schneider (2013). Our analysis largely confirms these previous findings. Institutionally, this outcome is caused by negative complementarities between the education system and the labor market. First, the remarkable education expansion in terms of spending and educational attainment of the population was not complemented by an increase in education quality. The low quality of secondary education, in particular, is reflected in comparatively very low education outcomes and contributes to low human capital formation. Second, the Brazilian system of industrial relations is still characterized by a hybrid-corporatist structure with relatively strong union federations. However, union strength does not translate to the shop floor where unions are hardly present. Low union representation on the shop floor and low human capital result in extremely high job turnover. This is further aggravated by the perverse incentives created by the severance pay scheme and other unemployment benefits which often lead to fake or negotiated dismissals. High turnover is a serious drag on labor productivity as workers miss the opportunities of learning-by-doing and knowledge accumulation associated with higher job tenure. Hence, the labor regime also does not provide structural incentives for human capital accumulation. To the contrary, it tends to aggravate the dismal situation and contributes to the persistent low-skill trap (Fig. 10.2).

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Strict labor laws

Fragmented unions

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Fig. 10.2 Institutional complementarity II: low-skill trap (Source Own elaboration)

Competition, protectionism, and national champions: As Chapter 5 on competition policy and Chapter 8 on the international context demonstrated, the third most important barrier to technological upgrading in Brazil is the low level of competition in the domestic market, providing insufficient incentives for innovative activities. The reasons for this outcome are related to the regulatory bias in favor of large, wellconnected conglomerates. These corporations received favorable treatment as “national champions” and received the bulk of state support via subsidized credit and equity injections by BNDES. As a consequence, the degree of competition in the Brazilian market is rather low due to low international integration, high internal trade frictions, and segmented markets. This market structure is one of the key determinants of low innovative activities in Brazilian companies. Several of the most visible measures to support business R&D, such as the Informatics Law and the Inovar Auto program, were predominately designed to protect existing companies from trade competition. Although these programs induced some R&D spending, the cost–benefit analysis with regard to technological upgrading is negative. The high degree of protectionism and the reliance of Brazilian companies on the domestic market made them especially vulnerable to the “China shock” experience. As we have seen, Chinese industrialization fueled demand for Brazil’s principle export items, soybeans and iron ore, and China’s entrance to the WTO gave way to the heightening import penetration of cheap Chinese manufacturing goods. Both the demand and supply “China shocks” contributed significantly to the deindustrialization process of the Brazilian economy and counteracted the industrial policies launched by the PT governments. Investment flows and factor prices responded

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accordingly and benefitted the booming agricultural sector instead of manufacturing. In addition, the manufacturing sector experienced heavy competition from Chinese imports, leading to significant displacement of local producers, slower manufacturing wage increases, higher unemployment, and negative effects on product innovations. As a consequence, the Brazilian trade and investment regime provided little incentives for technological upgrading: the export specialization in agricultural and mining products in conjunction with substantial capital inflows and cheap Chinese manufacturing goods resulted in a juggernaut for the manufacturing industry and its ability to build up innovation capacities. Furthermore, the period of investigation was characterized by a rapid and significant increase in outward foreign direct investment. These efforts were directly supported by the Brazilian government and largely financed by BNDES. However, the national champions policy mainly targeted already highly competitive firms in the core of the Brazilian industrial complex, i.e. in construction, meat packing, and petrochemicals, with low technological potential (Fig. 10.3). Political system and national champions: As Chapter 4 has shown, the fourth most important barrier to technological upgrading in Brazil is the high degree of corruption in the political system, hindering effective policy coordination and policy-oriented collaboration with the private sector. The reasons for this outcome are manifold. First, the extreme fractionalization of the political system in Brazil (“coalitional presidentialism”) poses substantial challenges to coherent and reform-oriented policymaking. Furthermore, the fractionalization of Congress and low levels of party institutionalization led not only to pork barrel politics, but was heavily prone to corruption, as revealed by the Mensalão and Lava High degree of protectionsim Competition regime

Trade regime

National champions‘ policy

Fig. 10.3 Institutional complementarity III: competition, protectionism, and national champions (Source Own elaboration)

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Jato scandals. Widespread corruption has several detrimental effects on innovation policy: the possibility of bribing politicians to bend the rules or extract rents undermines the incentives of businesses, especially the large firms, to invest in R&D or apply for subsidies and grants. Corruption and malfeasance were not limited to the political arena but penetrated, and indeed heavily rested on, public agencies and state-owned companies, above all the oil giant Petrobrás. Dilma Rousseff’s efforts to fight corruption ultimately led to her impeachment, after Congress effectively blocked several of her reform agendas during her second mandate. These points illustrate that effective government coordination necessary for upgrading the institutions supporting firm innovation was seriously hindered by the structural impediments inherent in Brazil’s political system. Beyond this, pork barrel politics and the vast corruption schemes uncovered in this period obviously diverted large sums of government resources away from more productive uses. Second, the key ministry, the MCTIC, and several agencies in charge of coordination and planning, lacked the capacity or the political clout to do this effectively. This reflects the highly fragmented character of the Brazilian upgrading regime. Furthermore, there were only very limited policy-oriented collaboration between business and government. The forums of the early Lula government depended on key individuals to function properly and turned into disuse after they left. MEI was created only in 2008 and started to exert influence over policy making at the end of Dilma’s second mandate. Second, only the first of the major industrial policy frameworks, PITCE, was really targeted at innovation and led to the implementation of several important policy reforms. The subsequent policies, PDP and PBM, had other objectives, such as combating the global economic crisis or defending the domestic industry against rising imports. Hence, innovation lost political priority during the period. Third, the consumption-led growth model spurred by commodity exports benefitted several economic sectors over others: large corporations in construction, finance, mining, and agribusiness were the clear beneficiaries. These companies were also the major campaign donors in the presidential campaigns, fostering close ties to the governing parties. These ties rested not only on then-legal campaign donations but also on illicit payments and bribes, as the several corruption scandals have shown. At the margin of this bloc was the manufacturing sector, traditionally the center of innovative activity. Key economic policies under Lula’s presidency were against the interests of the manufacturing sector.

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It was only Dilma Rousseff who prioritized the interests of this sector and implemented several policies accordingly. However, these measures hardly changed the existing model. Therefore, the Brazilian political economy in the period of investigation can be characterized as a textbook case of rent-seeking: large, well-connected companies in the non-tradable and resource-based industries extracted rents from the industrial policies enacted under the PT governments (Fig. 10.4). Corruption and R&D: As Chapter 5 demonstrated, the fifth most important barrier to technological upgrading in Brazil is the low degree of university–industry collaboration, hindering knowledge flows between the science system and companies. This is especially worrisome due to the fact that corporate R&D continues to be very low in Brazil and the bulk of R&D spending flows to universities and research institutes. The problem with this division of labor is, however, that there are very weak linkages between science and business. Brazilian companies still mostly rely on other informational sources for their innovative strategies such as informal networks, customers, or suppliers. The large subsidies for public R&D were mostly “captured” by the academic sector to fund researchers and scholarships in public universities. Efforts to build up and expand the institutional infrastructure for applied research have only begun very recently. One of the key reasons for this outcome is the context of widespread corruption. Due to the fear of corruption charges, public employees tend to refrain from interacting with the private sector altogether. This has led to a high degree of suspicion between public universities on the one hand and the business sector on the other. Furthermore, relatively rigid and narrow incentive structures in universities with

Political system

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Fig. 10.4 Institutional complementarity IV: political system and national champions (Source Own elaboration)

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Fig. 10.5 Institutional complementarity V: corruption and R&D (Source Own elaboration)

weak support for developing collaborations contributed to the relative isolation of both sectors from each other (Fig. 10.5).

10.3

Brazil in Comparative Perspective

Having identified several negative institutional complementarities that are responsible for the low level of technological upgrading in Brazil, we relate the findings from this research to the broader universe of upper middle-income countries. At this stage, this can only be done in a preliminary way. Nevertheless, we want to highlight several general claims and point towards further research directions. In addition, we dialogue with some of the alternative theoretical approaches reviewed in Chapter 1. One important finding from the empirical analysis of Chapter 4 is the importance of a well-functioning political system which is able to resist broad-scale corruption and malfeasance. This is an important argument in the industrial policy and rent-seeking literatures (see Chapter 1). Furthermore, it is one of the key claims of the influential “Why nations fail” approach advanced by Acemoglu and Robinson, pointing to “extractive” political institutions as the ultimate cause of slow growth and stagnation. Our results broadly confirm this argument. The dysfunctionality of the Brazilian political system is one of the key barriers to effective policymaking. This in turn inhibits the effective allocation of fiscal resources for long-term investments in institutional upgrading. One major factor behind this outcome is the low degree of party institutionalization, impeding the formation of strong and coherent coalitions. We have already shown that the number of effective parties in Brazil is

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R&D expenditures as % of GDP, 2010-17

among the highest in the world. Looking at the level of party institutionalization as measured by the party institutionalization index of the V-Dem project (Bizarro et al. 2017), we observe a clear correlation between party institutionalization and R&D expenditures as a percentage of GDP (see Fig. 10.6). Interestingly, by this measure Brazil fares relatively well with regard to the institutionalization of its party system in comparison with other major upper middle-income countries. This finding suggests that the problems concerning coalition building, corruption, and coherent policymaking identified in Chapter 4 of this book are relevant for these countries as well. Therefore, closer attention to the political underpinnings of growth episodes, as argued by several accounts in the development literature (Khan 2010; Doner and Schneider 2016; Pritchett et al. 2017) and the growth model perspective in comparative political economy (Baccaro and Pontusson 2022), is needed. A further important finding from this book, revealed in Chapters 4 and 5, among others, is the high degree of corruption, hindering effective policy making. Influential theoretical approaches in institutional economics such as the ones by Acemoglu and Robinson and De Soto effectively argue that this is one of the key barriers for innovation and 2.5

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growth, diverting resources away from its most productive uses. Our research demonstrated that large scale corruption has even further negative side effects than those commonly acknowledged. As the Brazilian case has shown, widespread corruption leads to an environment of suspicion and fear of corruption allegations among public officials. This has contributed to low university–industry collaboration and low innovative activity overall. Figure 10.7 depicts the correlation between R&D expenditures as a percentage of GDP and Transparency International’s corruption perception index score for our sample of large upper middleincome countries. Two basic insights can be drawn from the figure: first, Brazil scores relatively well with regard to both measures, indicating that the challenges identified in this book are of similar relevance for other emerging economies; second, the correlation between the two indicators is relatively strong, although countries such as Chile feature a relatively low level of R&D expenditures but a very high Corruption Perception Index score (indicating a low level of corruption). A further important finding from the empirical analysis in Chapter 7 of this book is the low level of human capital. Acemoglu and Robinson’s 2.5

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Fig. 10.7 R&D expenditures in relation to corruption in large middle income countries (Source UNESCO, UIS database; Transparency International, Corruption Perception Index)

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account prominently argues that democratic institutions perform better in human capital formation than their authoritarian peers (see Acemoglu et al. 2019). This is related to the debate about the effects of regime type on economic growth (Olson 1993; Sen et al. 2018; see introduction). Taking the human capital index of the Penn World Tables as a proxy for human capital and the Polity index of the Center for Systemic Peace as a proxy for democracy, we see no correlation between the two indicators. Against the claim of Acemoglu et al., there is no connection between democratic governance and the provision of human capital in our sample of upper middle-income countries (see Fig. 10.8). In a comparative perspective, Brazil features a relatively high level of democratization and a mid-level of human capital. Again, this indicates that the findings from our analysis and the problems associated with the low-skill trap should be relevant for other emerging economies as well. Finally, the empirical analysis of Chapter 8 has shown that the high degree of protectionism is a serious drag on innovation and technological upgrading in the Brazilian economy. Regarding FDI inward flows, we observed mixed effects, however. As the role of FDI is a highly debated

Human capital index, 2010-17

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R&D expenditures as % of GDP, 2010-17

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Fig. 10.9 R&D expenditures in relation to FDI inward stock of large middleincome countries (Source UNESCO, UIS database; UNCTAD, FDI statistics)

topic in the development literature (see Chapter 1), we look at the correlation between FDI inward stock as a percentage of GDP and R&D expenses as a percentage of GDP (see Fig. 10.9). Interestingly, we observe a negative correlation. Countries with a higher share of FDI inward stock as a percentage of GDP spend less on R&D as a percentage of GDP, on average. This finding contrasts with the claims made by the global value chains and multinational enterprises literatures (see Chapter 1) which assert that MNEs have a positive effect on innovative activity in emerging economies. From our perspective, therefore, FDI is no panacea; the institutional context in which MNEs operate is far more important. However, more thorough analyses are needed to substantiate this finding and to delve more deeply into potential mechanisms causing this outcome. Thus far, we demonstrated that Brazil is a fairly representative case of an upper middle-income country regarding several key indicators drawn from the empirical analysis of this study. As a consequence, we argue that the findings from this book should be relevant for other emerging economies as well. In addition, we dialogued with some of the alternative theoretical accounts discussed in Chapter 1 of the book and pointed towards avenues for further research. In the following, we take the first steps towards a typological theory of upgrading regimes. We try to show if, and how, emerging economies exhibit similarities and differences regarding key institutional domains.

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In doing so, we contribute to the emerging debate about varieties of emerging market capitalism (see Chapter 2). At this point, we can do this only in a preliminary way, of course. The basic intuition behind such an endeavor is that institutions do not vary randomly across countries. We expect some form of clustering along the dimensions highlighted in this book and the relevant literature (see Schedelik et al. 2021). The following figures present some preliminary support for this intuition. Figure 10.5 plots the countries of our sample of large emerging economies on two axes providing indicators for the international integration of these economies, which is the crucial institutional domain dividing open and protected varieties of capitalism (Schedelik et al. 2021). We take FDI inward stock as a percentage of GDP as well as trade as a percentage of GDP as measures to show the level of openness towards the global economy. As shown in Fig. 10.10, there are two pronounced clusters of countries, one featuring significantly higher levels of openness than the other. This might be called the “liberal” cluster, comprising 2.1

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Fig. 10.10 Country clustering of large emerging economies I: Foreign direct investment and trade (Note Data for FDI 2017; Data for Trade 2010– 2017; Source UNCTAD, FDI Statistics; World Development Indicators)

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countries such as Chile, Colombia, Kazakhstan, Malaysia, Mexico, Peru, South Africa, and Thailand. The other cluster contains countries such as Argentina, Brazil, China, India, Indonesia, Iran, Ecuador, Russia, Turkey, and Venezuela. Next, we look at two broad indicators revealing the organization of the economies with respect to the degree of economic regulation and social protection. For the former, we take the Economic freedom index published by the Heritage Foundation, for the latter the ratio of minimum wage to value added per worker. As shown in Fig. 10.11, we observe clusters of countries along the two dimensions similar to above. The countries of the “liberal” cluster feature the highest degree of economic freedom, i.e. less regulation, and the lowest degree of social protection. The other cluster exhibits significantly higher levels of social protection and higher levels of regulation, with Venezuela being an outlier. We are tempted to call the second cluster “statist”, due to the higher share of economic regulation. Further studies are needed to substantiate these preliminary findings. At this point, it suffices to note that there are two broad clusters of 80 CHL MYS PER

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Fig. 10.11 Country clustering of large emerging economies II: Economic regulation and social protection (Note Data for 2017; Source Heritage Foundation, Index of Economic Freedom; World Bank, Doing Business Report 2017)

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large emerging economies, one more liberal and open towards the global economy, the other more statist and protected. This confirms the findings from prior research on the varieties of emerging market capitalism (Schedelik et al. 2021).

10.4

Conclusion

The goal of the chapter has been to integrate the findings from the empirical analysis of part II of this book and extend them beyond the Brazilian case. By drawing on the notion of institutional complementarities, we identified five mutually reinforcing negative complementarities between several institutional spheres within Brazil’s upgrading regime. These negative institutional complementarities contributed to the low level of technological upgrading and innovation capacity building in Brazil. This is a major contribution to theory-building in comparative political economy and innovation studies. One negative complementarity between the macroeconomic policy regime and the financial system accounts for insufficient access to finance. A highly concentrated banking sector and restrictive monetary policy, due to high and volatile inflationary dynamics, led to high interest rates and very high credit costs. By trying to circumvent this, the subsidized credit market, serviced chiefly by public banks and BNDES, was significantly expanded, with negative repercussions on the fiscal situation and the transmission channel of monetary policy. Another complementarity is the low-skill trap, alluding to the negative effects of low education quality and high job turnover, identified by earlier analyses, which accounts for the low level of human capital and low labor productivity. A third negative complementarity between the competition regime and the international context, related to a regulatory bias in favor of well-connected incumbents and the “national champions” strategy, accounts for the low level of competition in the Brazilian market. A fourth negative complementarity between the political system and state–business relations accounts for the high degree of corruption in the political system, referring to an extreme fractionalization of Congress and low levels of party institutionalization. Finally, a fifth negative complementarity related to corruption and the R&D regime accounts for the low degree of university–industry collaboration. Due to the fear of corruption charges, public employees tend to refrain from interacting with the private sector, leading to a high degree of suspicion between public universities and the business sector.

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Furthermore, we compared the Brazilian case to other large middleincome countries, by employing cross-country correlations of several main indicators drawn from the empirical analysis. We have shown that Brazil is a fairly representative case of an upper middle-income country regarding several key indicators. Therefore, the findings from this book should be relevant for other emerging economies as well. In addition, we dialogued with some of the alternative theoretical accounts discussed in Chapter 1 of the book and pointed towards avenues for future research. Finally, we took the first steps towards a typological theory of upgrading regimes. Thereby, we made a contribution to the emerging field of ECE varieties of capitalism and the efforts to map the political-economic institutions of countries in the Global South.

References Acemoglu, Daron, Suresh Naidu, Pascual Restrepo, and James A. Robinson. 2019. “Democracy Does Cause Growth.” Journal of Political Economy 127 (1): 47–100. Baccaro, Lucio, and Jonas Pontusson. 2022. “The Politics of Growth Models.” Review of Keynesian Economics 10 (2): 204–221. Bizarro, Fernando, Allen Hicken, and Darin Self. 2017. “The V-Dem Party Institutionalization Index: A New Global Indicator (1900–2015).” V-Dem Working Paper 2017: 48. Gothenburg: University of Gothenburg. Doner, Richard F., and Ben Ross Schneider. 2016. “The Middle-income Trap: More Politics than Economics.” World Politics 68 (4): 608–644. Khan, Mushtaq H. 2010. Political Settlements and the Governance of GrowthEnhancing Institutions. London: SOAS, University of London. Olson, Mancur. 1993. “Dictatorship, Democracy, and Development.” American Political Science Review 87 (3): 567–576. Pritchett, Lant, Kunal Sen, and Eric Werker, eds. 2017. Deals and Development: The Political Dynamics of Growth Episodes. Oxford: Oxford University Press. Schedelik, Michael, Andreas Nölke, Daniel Mertens, and Christian May. 2021. “Comparative Capitalism, Growth Models and Emerging Markets: The Development of the Field.” New Political Economy 26 (4): 514–526. Sen, Kunal, Lant Pritchett, Sabyasachi Kar, and Selim Raihan. 2018. “Democracy Versus Dictatorship? The Political Determinants of Growth Episodes.” Journal of Development Perspectives 2 (1–2): 3–28.

CHAPTER 11

Conclusions

11.1

Introduction

This chapter brings together the main strands of the argument and highlights the main findings of this book. It summarizes the results of the preceding chapters and locates them in the upgrading regimes framework. It demonstrates that this theoretical perspective is better able to explain the political economy of upgrading than alternative approaches. It argues that the upgrading regimes concept provides new insights into the barriers to overcome the middle-income trap. By elucidating mutually reinforcing negative complementarities within the institutional set-up of the political economy, (dis)incentives for firms’ innovation strategies are seen in a new light. Finally, the chapter points to avenues for further research and elaborates on the policy implications of this book. It argues that innovation policy in emerging economies needs to take a holistic perspective on technological upgrading. The chapter is organized as follows. Section 11.2 summarizes the main findings of the book. Section 11.3 discusses the advantages of the upgrading regimes framework against the backdrop of competing approaches and highlights avenues for future research. Section 11.4 concludes by pointing to the economic policy implications of this research.

© The Author(s), under exclusive license to Springer Nature Switzerland AG 2023 M. Schedelik, The Political Economy of Upgrading Regimes: Brazil and beyond, International Political Economy Series, https://doi.org/10.1007/978-3-031-34002-4_11

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11.2 Technological Upgrading in Brazil: The Main Findings The aim of this book was twofold. Firstly, we aimed to explain the puzzling empirical outcome of a mismatch between over proportional R&D expenditures and the mediocre innovation outcome in Brazil under the Workers’ Party governments. Thereby, we aimed to contribute to the ongoing debate about the balance sheet of the neo-developmentalist model pursued by the PT as well as the broader debate about appropriate policies and institutional configurations to overcome the middleincome trap. Secondly, we aimed to contribute to theory-building in the broader institutional literatures on technological upgrading in emerging economies. Regarding the first objective, we highlighted several key institutional features of the Brazilian political economy which are only partly related to the neo-developmentalist model and date back to the twentieth century. In addition, we assessed the key economic policies implemented by the Workers’ Party, with a particular focus on industrial and innovation policies. Several of these policies are core elements of the neodevelopmentalist model of the PT and the topic of intensive debates (see Chapter 1). • Finance. One of the key barriers to technological upgrading in Brazil is the insufficient access to funding, particularly for small and medium-sized companies. We identified two main reasons for this: (1) a highly concentrated banking market and (2) restrictive monetary policy. These features are related to the episodes of financial crises and hyperinflation in the 1990s and early 2000s. Since then, Brazilian authorities have favored stability over credit expansion. The flipside of macroeconomic stability, however, has been excessively high interest rates and restricted bank lending. As these features— banking crises and volatile inflation dynamics—on the one hand, and credit scarcity on the other, are widespread in emerging economies, this finding should be relevant beyond the Brazilian case. • Human capital. Another main barrier to technological upgrading in Brazil is the low level of human capital. We identified one basic reason for this: High job turnover. High turnover rates hinder knowledge accumulation and learning-by-doing effects associated with longer job tenure. High job turnover, in turn, is caused by

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segmented labor markets, low union representation on the shop floor, strict labor laws, and low-skill levels. This finding confirms earlier research on the low-skill trap in Latin American economies and beyond. Competition. A further important obstacle to technological upgrading in Brazil is the low degree of competition in the domestic market, providing little incentives for innovative activities. We identified two basic reasons for this: (1) a compeitition regime exhibiting a regulatory bias in favor of well-connected incumbents and (2) a high degree of protectionism. These aspects are connected to the political strategy of fostering national champions. Given the sectoral focus on construction and other low-technology intensive sectors, the policy had only marginal effects on technological upgrading. This is an important finding given the recent rejuvenation of the national champions strategy not only in emerging economies but also in advanced economies. Political system. Another main barrier to technological upgrading in Brazil is the high level of corruption, hindering effective policy coordination and policy-oriented collaboration with the private sector. We identified two basic reasons for this outcome: (1) the dysfunctional political system of coalitional presidentialism and (2) its reliance on vast sums of campaign finance by large business conglomerates. Both features are ubiquitous in other parts of the Global South. Multiparty presidentialism is not unique to Brazil. It is a core feature of most Latin American democracies and in many countries in Africa and the former Soviet Union as well. The findings of our research should, therefore, be also relevant for these contexts. Corruption. A final key obstacle to technological upgrading in Brazil is the low degree of university–industry collaboration, hindering knowledge flows between the science system and companies. This is a well-known phenomenon in other emerging economies as well, even in China. Our research identified one basic reason for this: the high level of corruption. Due to the fear of corruption charges, public employees tend to refrain from interacting with the private sector altogether. We strongly argue to further investigate this connection. Earmarked credit. As a way to promote credit access, the PT substantially expanded the earmarked credit market. These subsidized loans accounted for over half of the outstanding credit in

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the 2010s and reached all sectors of economic activity. Beyond merely targeting credit constraints of companies, government-driven lending fueled a consumption-led growth model. The expansion of subsidized credit led to an unsustainable credit boom which later went bust. In addition, it made the transmission channel of monetary policy less effective. In hindsight, it is safe to say that this was too much of a good thing. We would argue that the PT focused too much on the stimulation of consumption and not enough on crucial public investments. • National champions. The PT governments leveraged BNDES’ lending and equity injections to foster “national champions” on a global scale. Vast sums were spent on a handful of already competitive companies, mainly in construction and meat packing. Given the low-technology profile of these companies, the policy had only marginal effects on technological upgrading in the Brazilian economy. We would argue in line with other critics, that this was also too much of a good thing. BNDES lending is a very powerful developmental tool. However, it should have been deployed more targeted at sectors with greater technological potential. • Public R&D. The PT invested large sums in the R&D regime. However, the bulk of these expenditures was “captured” by the academic sector and used to fund basic research and scholarships. This is the main reason for the puzzling outcome observed in the introduction. The main part of (public) R&D expenditures in Brazil—and presumably in other emerging economies as well—is not directed at firms but at the science system. Although subsidizing basic research is important, there should have been a stronger focus on applied research and direct technological support for companies. • Private R&D. The main instrument to support firm innovation in Brazil are tax incentive schemes for business R&D. We have shown that one of those schemes, the Good Law, is an apt tool to foster technological upgrading in Brazilian companies. However, the other two major tax incentives schemes, the Informatics Law and the Inovar Auto program, were less effective in this regard. In fact, the main aim of those schemes has been to protect the respective sectors from trade competition. R&D expenditures were merely a side effect or even a fig leaf. One principle feature of the Brazilian political

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economy is the intricate tax structure, the famous Custo Brasil, and high regulatory burdens. Well-connected incumbents are able to bypass these regulations or receive generous exemptions. However, small and medium-sized companies are seriously disadvantaged. • New Economic Matrix. The most visible and highly disputed policies implemented by the PT under Dilma Rousseff were a set of heterodox macroeconomic policies under the umbrella of the “New Economic Matrix”. Capital controls and interventions in the foreign exchange market helped to stem massive capital inflows and prevented a further appreciation of the Real. However, the substantial reduction of the Selic rate alongside a continued massive credit expansion had serious detrimental effects on the Brazilian economy and contributed to the recession of 2014–16. In addition, enormous tax exemptions for nearly all the major industrial sectors as well as a series of price freezes were, in retrospect, rather erratic policies to help the strained manufacturing sector. They did not contribute to raise the investment rate at all. In line with several critics, we argue that the “New Economic Matrix” was a failure. On balance, we argue that the neo-developmentalist model provided important impulses for Brazilian economic development in general and technological upgrading in particular. Under the PT administrations, important institutional reforms and policy initiatives were implemented and huge investments in research and education realized. However, more than often these policies lacked focus and clear performance criteria, several of them being redesigned to cater entrenched interests. In hindsight, we can identify two important turning points. Firstly, the global financial crisis shifted the focus of the Brazilian authorities further towards demand stimulation. The associated capital inflows reinforced the upward pressure on the Real and shifted the focus of several policies towards protectionism. Secondly, the drastic fall in commodity prices in 2011 and 2013 contributed to a rapidly deteriorating fiscal situation which ultimately brought an end to the neo-developmentalist model. Regarding the second objective, we advanced the framework of “upgrading regimes” for the study of technological upgrading in emerging economies. Thereby, we aimed to contribute to the debate

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about more context-sensitive models in innovation studies and comparative political economy. • Institutional domains. One important contribution of this book is the synthesis of two institutional approaches—the innovation system approach and the comparative capitalism framework. We elaborated on a set of institutional and political variables that proved to be decisive in the Brazilian experience during the period of investigation. We are confident that they are similarly important in other emerging economies as well. • Institutional complementarities. A further key contribution of our research is the identification of a set of negative institutional complementarities which are detrimental to technological upgrading in Brazil. We are confident that the institutional configurations in the realms of finance, human capital, competition, the political system, and corruption are also relevant for other countries in the Global South. • Varieties of ECE capitalism. In addition, our analysis contributes to the debate about varieties of ECE capitalism. This line of research has developed several mid-range models of emerging market capitalism which feature positive or negative institutional complementarities. We confirmed several of these complementarities in our research. Firstly, the low-skill trap, as highlighted in the HME model, is one of the key negative institutional complementarities hindering technological upgrading in Brazil. Secondly, the notion of cronyism, an important aspect of the PME model, features prominently in our complementarities related to the political system and corruption. Thirdly, we have shown that foreign direct investment, a key pillar of the DME model, has important albeit mixed effects on technological upgrading in Brazil. Fourthly, we underscored the importance of public investments in R&D and skills which are relevant features of the SME model. However, our findings qualify the relevance of the national champions strategy for technological upgrading, another important aspect of the SME model. • Consumption-led growth in ECEs. Finally, our research contributes to the emerging debate about growth models in ECEs. Recent efforts in this line of research have identified several ECE growth models and their potential pitfalls. Our analysis demonstrated that the Brazilian growth trajectory changed from a commodities-based

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export-led growth model to a consumption-led growth model thereafter. At the beginning, the latter was wage-based and later shifted towards a debt-led model. Generally, we can conclude that consumption-led growth models in emerging economies, particularly in the larger and more closed ones, are prone to inflation. While this phenomenon has been largely absent from the experience of the advanced economies until recently, volatile inflation dynamics are frequent in ECEs. In addition, there are limits to the stimulation of domestic demand and those limits are arguably more narrowly defined in emerging economies than in advanced economies. Figure 11.1 summarizes the key findings of this book by locating them in the theoretical framework developed in Chapter 2.

11.3

Empirical and Theoretical Research Implications

This book advanced an institutional perspective on technological upgrading, drawing on the innovation system approach and the comparative capitalism framework. The concept of “upgrading regimes” offers a holistic approach, including a set of institutional variables which mutually reinforce each other. We highlighted several negative institutional complementarities which hinder the effective implementation of innovation policies and contribute to the low level of technological upgrading in Brazil. The combined framework is better able to explain this outcome than its parts. For instance, while the IS approach heavily focuses on R&D and the role of scientists in knowledge creation and flows, the VoC approach centers on employee skills more generally (Herrmann and Peine 2011, 687–88). However, both aspects proved to be very important in the empirical analysis. Additionally, both perspectives do not take the demand side and political variables fully into account. The latter are crucial aspects of the emerging growth model perspective (Baccaro and Pontusson 2016). As this research has shown, a focus on the macroeconomic and political context of technological upgrading was decisive in explaining the dismal outcome in Brazil. As a consequence, we argue that such a combined framework is superior to the individual approaches employed on their own.

274

M. SCHEDELIK SOCIAL BLOC: NO UPGRADING COALITION Pork barrel & corruption Political coalitions: heterogenous & fragile

Bulk of subsidized Low political priority credit: infrastructure & national Supply champions

R&D Regime: low applied research; low UIC Education, training & labor relations: Low HC; high turnover

Government coordination: fragmented

Rent-seeking & low policyoriented collaboration

Demand Macro context: unbalanced

K

A

The firm

Incentives

Corporate finance: high credit costs

Socioeconomic groups: non-tradables & natural resources

h, L

Technological Upgrading in Brazil Low-skill trap Aggregate dynamics: • Total factor productivity: -0.1 • Labor productivity: 1.5 • Capital deepening: 1.3 • Capital productivity: 0.3

Excessive focus on demand stimulation

Competitive structure: limited

International context: trade protection; China shock; mixed FDI spillovers OFDI promotion: national champions in low-technology sectors

Sectoral dynamics: • Medium/High tech VA: decline • Structural change: modest • RTA: agriculture related sectors • RCA: primary goods Firm-level dynamics: • Innovation rate: 31.7 • Nature of innovation: frugal • Kinds of innovative activities: frugal • Patenting: behind-the-frontier

Fig. 11.1 The Brazilian upgrading regime, 2000–2015 (Source Own elaboration)

The “upgrading regimes” approach has several advantages over the competing perspectives discussed in Chapter 1. In contrast to statist approaches, such as the developmental state or industrial policy literatures (e.g. Haggard 2018; Aiginger and Rodrik 2020), the state is not analyzed in isolation from, but embedded within, the broader institutional

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environment. Economic policies are judged whether they are “incentive compatible” with the institutional configurations “on the ground” (Hall and Soskice 2001). In contrast to internationalist approaches, such as the GVC or MNE literatures (e.g. Kemeny 2010; Gereffi 2014), domestic companies, including those focusing on the domestic market, take center stage. Export-oriented or FDI-centered upgrading strategies are only one way to overcome the middle-income trap. In large middle-income countries in particular, the domestic market needs to be taken much more seriously in empirical analyses (Brandt and Thun 2016). Furthermore, the political dynamics underlying upgrading strategies are still less understood than the economic recipes (Doner and Schneider 2016). Hence, the “upgrading regimes” approach offers a holistic perspective on technological upgrading which takes the state, firms, and politics seriously but locates these variables in the broader institutional environment of emerging market capitalism. In contrast to the dominant neo-institutionalist perspective, advanced by authors such as Acemoglu and Robinson (2012), the upgrading regimes approach encompasses a broader set of institutions than the narrow focus on “inclusive” versus “exclusive” ones. The mechanisms and complementarities uncovered in this book can only partially be captured by this simple dichotomy. Whereas the complementarities related to the political system and the competition policy regime may be analyzed through the lense of “Why Nations fail”, the others cannot. The spheres of education, finance, and R&D do not feature in the framework at all and the negative complementarities identified cannot be explained by reference to mere rent-seeking alone. Here, it is pertinent to take a closer look at the strategies and interactions of economic actors, and how those are influenced and constrained by their institutional environment. For instance, the notion of inclusion/exclusion cannot elucidate the low-skill trap or the suspicion trap in R&D between business and academia. The perverse incentives created by the severance pay schemes and other labor market institutions are unintended consequences of an institutional configuration evolving over time. The same holds true for the other mechanisms explored in this book. We are confident that the results of this research are valid beyond the Brazilian case. Further research should, therefore, apply the framework to other large middle-income countries and refine the mechanisms uncovered here. This can be done through further country case studies as exemplified in this book or through comparative studies drawing on, e.g.,

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qualitative comparative analysis. Moreover, company case studies in Brazil and other large middle-income countries can be employed to substantiate the arguments of this book. A natural starting point would be countries with similar institutional settings, such as multiparty presidentialism. However, it may also be the case that the institutional complementarities identified here display differently in other contexts.

11.4

Economic Policy Implications

We conclude this book by pointing to the economic policy implications of our research. We are aware of the fact that the CC research program does not lend itself easily to policy prescriptions. With this caveat in mind, we follow recent contributions in this line of research that nevertheless try to leverage the perspective for economic policymaking (Nölke 2021). • Finance. There is a tradeoff between financial stability and credit expansion. A concentrated banking sector, such as the Brazilian one, is less prone to instability, at the cost of oligopolistic pricing behavior and high credit costs to consumers and companies. Policymakers in emerging economies need to be aware of that. The hyperprudent regulatory stance of the Brazilian Central Bank, however, might have been too much of a good thing. Furthermore, national development banks can be powerful developmental tools but they are no panacea. As the Brazilian experience has shown, even efficient and well-run institutions, such as BNDES, are not immune to political interference. Preferably, development banks should be designed with a narrow mandate on technological upgrading and largely insulated from political pressures. • Human capital. The intricate problem of low levels of human capital needs to be tackled on a broad front. Investments in education alone are not sufficient. In particular, reforms of the labor market and social benefits should primarily aim to reduce job turnover rates. An obvious candidate are severance pay schemes, such as the FGTS, which contribute to the perverse incentives of negotiated dismissals. • Competition. A competitive structure of the domestic market is important for technological upgrading. Large emerging economies which have the choice to rely on a more domestic-led development strategy need to be aware of this crucial fact. Competition can be introduced either via an effective competition policy regime or via

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trade competition. To neglect both, as in the Brazilian case, is a serious drag on technological upgrading. • Political system. The political systems of emerging economies are prone to corruption. This book demonstrated once more that contexts of widespread corruption hinder effective policymaking. One way to shield the political system from rent-seeking activities is through prohibiting campaign donations, as happened recently in Brazil. Although it might be no panacea, we strongly argue for serious restrictions on campaign donations and other transparency and accountability measures in emerging economies. • Research and Development. R&D investments in emerging economies should primarily target applied research and technical assistance to companies. Basic research and universities are less important for technological upgrading in these contexts. Policymakers need to be aware of this fact. This also means that policies and funds need to be insulated from potential capture by the academic sector.

References Acemoglu, Daron, and James A. Robinson. 2012. Why Nations Fail: The Origins of Power, Prosperity and Poverty. London: Profile. Aiginger, Karl, and Dani Rodrik. 2020. “Rebirth of Industrial Policy and an Agenda for the Twenty-First Century.” Journal of Industry, Competition and Trade 20 (2): 189–207. Baccaro, Lucio, and Jonas Pontusson. 2016. “Rethinking Comparative Political Economy: The Growth Model Perspective.” Politics & Society 44 (2): 175– 207. Brandt, Loren, and Eric Thun. 2016. “Constructing a Ladder for Growth: Policy, Markets, and Industrial Upgrading in China.” World Development 80: 78–95. Doner, Richard F., and Ben Ross Schneider. 2016. “The Middle-Income Trap: More Politics than Economics.” World Politics 68 (4): 608–644. Gereffi, Gary. 2014. “A Global Value Chains Perspective on Industrial Policy and Development in Emerging Markets.” Duke Journal of Comparative and International Law 24 (3): 433–458. Hall, Peter A., and David Soskice. 2001. “An Introduction to Varieties of Capitalism.” In Varieties of Capitalism: The Institutional Foundations of Comparative Advantage, edited by Peter A. Hall and David Soskice, 1–68. Oxford: Oxford University Press.

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Haggard, Stephan. 2018. Developmental States. Cambridge: Cambridge University Press. Herrmann, Andrea M., and Alexander Peine. 2011. “When ‘National Innovation System’ Meet ‘Varieties Of Capitalism’ Arguments on Labour Qualifications: On the Skill Types and Scientific Knowledge Needed for Radical and Incremental Product Innovations.” Research Policy 40 (5): 687–701. Kemeny, Thomas. 2010. “Does Foreign Direct Investment Drive Technological Upgrading?” World Development 38 (11): 1543–1554. Nölke, Andreas. 2021. “In Search of Institutional Complementarities: Comparative Capitalism and Economic Policy Reform.” Journal of Economic Policy Reform 24 (4): 405–412.

Appendix: Interviews

(1) Industrial Policy specialist, Professor, Universidade Federal Fluminense, 04/03/17, Rio de Janeiro. (2) Consultant, FINEP, 06/03/17, Rio de Janeiro. (3) Project analist, FINEP, 06/03/17, Rio de Janeiro. (4) Economist and former BNDES official, Professor, Universidade Federal de Rio de Janeiro, 07/03/17, Rio de Janeiro. (5) Director, PróGénericos, 09/03/17, São Paulo. (6) Innovation specialist, Professor, Fundaçao Getulio Vargas, 13/ 03/17, Rio de Janeiro. (7) Director, Scientific and technological development, FINEP, 13/ 03/17, Rio de Janeiro. (8) Superintendent, Industry and services, BNDES, 14/03/17, Rio de Janeiro. (9) Chief of Department, Industrial complex and health services, BNDES, 14/03/17, Rio de Janeiro. (10) Consultant, BNDES, 14/03/17, Rio de Janeiro. (11) Engineer, BNDES, 14/03/17, Rio de Janeiro. (12) Vice-president, ABIFINA, 15/03/17, Rio de Janeiro. (13) Director, Economic Studies section, ABDE, 15/03/17, Rio de Janeiro. (14) Analist, Economic Studies section, ABDE, 15/03/17, Rio de Janeiro. © The Editor(s) (if applicable) and The Author(s), under exclusive license to Springer Nature Switzerland AG 2023 M. Schedelik, The Political Economy of Upgrading Regimes: Brazil and beyond, International Political Economy Series, https://doi.org/10.1007/978-3-031-34002-4

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(15) Industrial Policy specialist, Professor, Universidade de Brasília, 16/03/17, Brasília. (16) Director, Department of Policies and Programs to Support Innovation, Secretariat for Technological Development and Innovation, MCTI, 17/03/17, Brasília. (17) Coordinator for Entrepreneurship and Innovative Environments, Department of Policies and Programs to Support Innovation, Secretariat for Technological Development and Innovation, MCTI, 17/03/17, Brasília. (18) Chief of Department, INPI, 20/03/17, Brasilía. (19) Coordinator for Planning and Management, Secretariat for professional and technical education, MEC, 20/03/17, Brasília. (20) Consultant, MEC, 20/03/17, Brasília. (21) Innovation specialist, IPEA, 21/03/17, Brasília. (22) Director, EMBRAPII, 21/03/17, Brasília. (23) Technical assistant, EMBRAPII, 21/03/17, Brasília. (24) Political Scientist, Professor, Universidade de Brasília, 22/03/17, Brasília. (25) President, SindiTelebrasil, 23/03/17, Brasília. (26) Economist, CNI, 23/03/17, Brasília. (27) Director, Department of Industrial Complex and Innovation in Health, Secretariat for Science, Technology, and Strategic Inputs, Ministerio da Saúde, 24/03/17, Brasília. (28) Consultant, Ministerio da Saúde, 24/03/17, Brasília. (29) Economist, SENAI/CNI, 24/03/17, Brasília. (30) Industrial Policy Specialist, CNI, 24/03/17, Brasília. (31) Innovation specialist, Professor, Universidade de Brasília, 24/03/ 17, Brasília. (32) Planning Manager, ABDI, 27/03/17, Brasília. (33) Chief of Department, Support for Intellectual Property, CNPq, 29/03/17, Brasília. (34) Economist, Professor, Universidade de São Paulo, 05/11/19, São Paulo. (35) Innovation specialist, Professor, Universidade de São Paulo, 05/ 11/19, São Paulo. (36) Analist, BNDES, 06/11/19, Rio de Janeiro. (37) Engineer, BNDES, 06/11/19, Rio de Janeiro. (38) Innovation specialist, Professor, Universidade Cândido Mendes, 06/11/19, Rio de Janeiro.

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(39) Economic sociologist, Professor, Universidade Federal Fluminense, 06/11/19, Rio de Janeiro. (40) Economic sociologist, Lecturer, Universidade Federal de Rio de Janeiro, 06/11/19, Rio de Janeiro. (41) Economist, Professor, Universidade Federal de Rio de Janeiro, 06/11/19, Rio de Janeiro. (42) Economist, Professor, Universidade Federal de Rio de Janeiro, 06/11/19, Rio de Janeiro. (43) Innovation specialist and former FINEP official, Professor, Universidade de São Paulo, 07/11/19, São Paulo. (44) Director, Department of Technology and Industrial Policy, ABINEE, 07/11/19, São Paulo. (45) Executive director, Fapesp, 07/11/19, São Paulo. (46) Director, Innovation and Technology, SENAI-SP, 07/11/19, São Paulo. (47) Economist, Professor, Universidade de São Paulo, 08/11/19, São Paulo.

Index

A ABDI, 96 ADTEN, 182 B banking sector, 170, 252 competition, 173 concentration, 171 BNDES, 6, 100, 101, 113, 180, 182, 221 Bolsa Família, 195, 239 C CADE, 153 CAMEX, 211 capital flows, 219, 233 CDES, 97 China shock, 217, 254 CNDI, 96 coalitional presidentialism, 103, 255 coalition management, 106 commodity prices, 216

comparative advantage revealed comparative advantage, 79 revealed technological advantage, 76 comparative capitalism, 15, 36 comparative institutional advantage, 37, 38 competition global competitiveness index, 154 policy, 153 product market regulation index, 155 tax system, 155 congress, 108, 110 fragmentation, 104 consumption houshold debt, 241 houshold expenditures, 239 coordinated market economy, 37 corporate campaign finance, 117 corruption, 108, 256, 259

© The Editor(s) (if applicable) and The Author(s), under exclusive license to Springer Nature Switzerland AG 2023 M. Schedelik, The Political Economy of Upgrading Regimes: Brazil and beyond, International Political Economy Series, https://doi.org/10.1007/978-3-031-34002-4

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INDEX

D deindustrialization, 79, 120, 219 demographic dividend, 192 dependent market economy, 15, 42 developmental state, 12 diamond model of competitive advantage, 14 Dilma Rousseff administration approval ratings, 126 cabinet positions, 115 coalitions, 105 ethical clean sweep, 111 impeachment, 111 protests, 121 E economic policy, 276 economic policy ideas, 112 education attainment, 193 government expenditures, 193 human capital, 261 NEET, 194 PISA, 194 quality, 194 vocational education, 195 EMBRAPII, 150 exchange rate intervention, 233 original sin redux, 234 F FGTS, 198 FIESP, 120 financial system, 168 bank lending, 174 earmarked credit market, 175, 252 equity markets, 178 financing gap, 175, 178 public banks, 169 Finep, 180

fiscal policy, 235 budget balance, 237 tax exemptions, 235 FNDCT, 98, 145, 180, 182 foreign direct investment, 221, 261 foreign exchange reserves, 220

G global value chains, 13 governing costs, 107 growth model, 39 debt-led, 40 export-led, 40 FDI-led, 46 investment-led, 46 wage-led, 40 growth regime, 40

H hierarchical market economy, 15, 43 home market hypothesis, 14

I industrial policy, 99 PDP, 99 PITCE, 96 Plano Brasil Maior, 100 innovation degree of novelty, 83, 84 frugal, 34, 85 global innovation index, 9 incremental, 37 innovation rate, 81 innovation survey, 80, 81, 180 institutions, 98 knowledge sources, 151 radical, 37 sectoral innovation rate, 82, 83 type of activity, 85, 86, 88 innovation policy

INDEX

Good Law, 100, 156 Informatics Law, 158 Innovation Law, 100 Inovar Auto, 159 Plano Inova Empresa, 180 subsidized credit lines, 180 innovation system, 14, 32 criticism, 34 in developing and emerging economies, 35 institutional complementarities, 17, 39, 252 institutionalism, 32 L labor market, 199 informal sector, 199 minium wage, 199 real wage growth, 200 labor relations bargaining coverage, 197 job tenure, 197 strikes and lockouts, 197 unions, 196 liberal market economy, 37 low-skill trap, 18, 43, 253 Lula da Silva administration approval ratings, 126 cabinet positions, 113 coalitions, 104 M manufacturing exports, 72, 73 medium and high-tech, 72 MCTI, 96, 145 middle class, 239, 241 middle-income trap, 3 mixed market economy, 42 monetary policy, 252 criticism, 232

285

inflation, 230, 232 inflation targeting, 230 interest rate, 230 multinational enterprises, 13

N national champions, 120, 178, 221, 254 national system of innovation, 32 network market economy, 42 new developmentalism, 6 neo-developmental coalition, 121, 130 new economic matrix, 115, 121, 232 new institutionalism in economics, 15

O output growth, 64 factor inputs, 67 relative contributions, 66

P party system, 103 party institutionalization, 259 patents, 87 patrimonial market economy, 15, 44 PDP. See industrial policy PITCE. See industrial policy Plano Brasil Maior. See industrial policy portfolio investment, 219 production function, 48 productivity growth capital deepening, 69 labor productivity, 68, 73, 74 total factor productivity, 67, 68 PT, 122 approval ratings, 126 partisanship, 124 voting patterns, 125

286

INDEX

R randomized controlled trials, 11 research & development expenditures, 8, 144 number of researchers, 148 universities, 146 university-industry collaboration, 148, 257 S science citations of scientific articles, 147 publication of scientific articles, 146 Senai-ISI, 150 social bloc, 41, 128 Brazil, 129 state-business relations bancadas, 116 corporate campaign finance, 116 state-permeated market economy, 15, 43 T technological capabilities, 10 technological upgrading, 4

patents, 87 structural change, 75 trade agreements, 210 effective protection, 212 exports, 214 imports, 217 openness, 218 partners, 210 policy, 211 tariffs, 212 trade restrictiveness index, 214 U unions, 196 university-industry collaboration, 148, 257 upgrading regime, 17, 48, 273 V value added, 70, 71 manufacturing, 71, 72 varieties of capitalism, 36 Brazil, 45 typology, 44, 263