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Nov 30, 2018 | 12:00 GMT

6 mins read

Brazil's Next President Is Looking to Shake Up Mercosur

The headquarters of Sao Paulo's Stocks Exchange (Bovespa) in downtown Sao Paulo, Brazil, on Oct. 29, 2018.
(MIGUEL SCHINCARIOL/AFP/Getty Images)
Highlights
  • Brazil's new government will try to spur economic growth by pressing the Common Market of the South (Mercosur) to lower its import tariffs and to do away with restrictions that prohibit bloc members from signing bilateral trade agreements. 
  • A presidential election in Argentina means Mercosur has a narrow window of opportunity for altering the bloc's trade policy. A populist victory at the polls will add uncertainty to the negotiations.
  • If Argentina ends up delaying a charter charge, Brazil could threaten to leave the bloc as a pressure tactic.

In 2019, Brazil will pressure its trade bloc partners to make the most significant policy shift in the organization's recent history. President-elect Jair Bolsonaro takes office in Brasilia on Jan. 1, and the new administration will negotiate with the three other full members of the Common Market of the South (Mercosur) to lift the restrictions that prevent member states from negotiating and signing bilateral free trade agreements. Brazil needs the unanimous consent of Uruguay, Paraguay and Argentina for the change. Though they appear willing to vote for it, Argentina remains the wild card in negotiations, mainly because of its October 2019 presidential election. A close race for President Mauricio Macri could make him reluctant to lend Bolsonaro a hand in amending the policy.

The Big Picture

In the early 1990s, Brazil, Argentina, Paraguay and Uruguay created a customs union known as the Common Market of the South (Mercosur) to protect domestic industries and deepen regional trade ties. Today, that union still protects domestic manufacturing, but it also stymies the bloc's attempts at trade agreements. Brazil's new president is looking to change Mercosur's policy on bilateral trade agreements, but he needs to work out the details with the bloc's three other members first. 

Trade and Protectionism

Mercosur was founded as a protectionist trade bloc and has a common import tariff of up to 35 percent on certain products to shield domestic manufacturing from foreign competition. This protectionism has allowed member states to create profitable manufacturing clusters for the automotive and aviation sectors in the face of stiff global competition, but it has hamstrung their ability to sign free trade agreements with other countries and blocs. Mercosur is an agricultural powerhouse — particularly in livestock and sugar — and that considerable production raises fears in trading partners protective of their farming sector and also leads to slow, complicated and cumbersome talks. And Mercosur's tendency to favor strongly protectionist measures for its manufacturers has complicated negotiations with countries and blocs seeking new markets for complex manufactured exports, such as automobiles and consumer electronic goods. 

This problem became quite apparent in Mercosur's lengthy trade negotiations with the European Union. The South American bloc has sporadically negotiated with the union since 1999, and the most recent round of talks faltered during November. The two sides deadlocked on the time frame for phasing in greater automotive imports from the European Union and on European quotas for Mercosur sugar and beef.

Mercosur's charter also complicates foreign trade talks. In 2001, the organization adopted a clause prohibiting its members from individually negotiating and signing new outside trade deals. Mercosur states must collectively agree to such agreements, and removal of the restriction requires the unanimous consent of the four full members.

This map shows the population and GDP of the member countries of Mercosur.

Pushing for Change

A proposal to alter the trade agreement policy has been on Mercosur's radar for several years. Uruguay, a strongly export-oriented bloc member, began suggesting changes to the charter as early as 2015. Unlike Brazil and Argentina, Uruguay has few key domestic manufacturing industries to protect, and agricultural products such as beef are its main source of export revenue. Bilateral negotiations would make it easier for it to take advantage of the growing demand for its agricultural goods. However, a path to change didn't really open up until the political chaos in Brazil declined and Bolsonaro was elected. Under President Dilma Rousseff, Brasilia considered amending the Mercosur charter, but her impeachment and removal from office in 2016 and the 2015-16 recession hampered any serious government moves. 

Now, the pieces are falling into place. A free-trade-oriented, right-wing government will take office in Brazil, and all four member states are largely in agreement on Mercosur's trade policy. A brief negotiation on amending the charter is likely in 2019, and those talks could take one of two broad paths. The most likely course involves relatively smooth negotiations on lifting the restrictions. Argentina and Uruguay appear to favor granting members waivers to negotiate new deals, but the incoming Bolsonaro administration seems to favor killing the restrictive 2001 clause. Under the Argentina-Uruguay proposal, individual nations would receive exemptions to begin negotiations that other members would have the option of joining. For example, Brazil could open talks with the United States, and Argentina and Uruguay would be allowed to be a part of the discussions and final deal.

A chart shows the top trading partners with Mercosur.

The Argentine Complication

The window of opportunity for successful negotiations is narrow. Macri's government could delay talks with Brazil on trade liberalization if a move to weaken Argentina's protectionism doesn't play well with voters. If the presidential race in Argentina turns into a close contest early in the year, then Macri's administration will be more likely to try to postpone a decision or press Brazil for a compromise — such as the proposed waiver system. 

This approach could put Argentina in a politically risky position with Brazil. A delay by Buenos Aires could push any change to the bloc's trade policy into 2020 — and Macri may no longer be president then. Argentines weary of utility price hikes, high inflation and the country's economic slowdown could easily bring a populist Peronist administration to power. A Peronist government could resist amending the policy and push Brazil into taking more drastic measures. In response, Bolsonaro could threaten to withdraw from the bloc as a pressure tactic. 

Under Mercosur's charter, a member state can leave the bloc simply by giving 60 days' notice and repealing the legislation implementing its membership. Bolsonaro's threat would raise uncertainty for investors and even citizens of Mercosur states, since Brazil's future trade ties and political relationship with the rest of South America would be unsettled. If Brazil did withdraw, it would have to decide whether to remain an associate member — enjoying the trade and travel benefits of Mercosur membership but without the bloc's common external tariff or bilateral trade restrictions.

However, this outcome isn't inevitable. While Mercosur will need to hammer out a compromise between Brazil's position and those of the other members, the organization is pushing toward a common goal — and simply differs on how to get there. Therefore, a deal to liberalize Mercosur's stance on free trade agreements is likely in 2019.

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