Brazil is in a crisis again. The COVID-19 pandemic has spread across the country and听听has led to a massive health crisis. Investment outflows have been听听and the Brazilian real has听 dramatically. The Brazilian economy is set to again after three years of weak positive growth.

Brazil鈥檚 development bank Banco Nacional de Desenvolvimento Econ么mico e Social (BNDES) has announced some听听to deal with the financial instability caused by the COVID-19 pandemic. However, these measures are being听听for being insufficient. Rather than being a temporary policy mistake that can be corrected easily, 叠狈顿贰厂鈥� passive response is linked to the bank鈥檚 structural retreat from the economy over the past five years.

During the 2000s, BNDES听was acclaimed as a catalyst of the country鈥檚 economic growth. Globally, developing countries such as saw the rise of BNDES as something favourable and sought to mobilise their own national development banks.

By acting as of major domestic companies, BNDES played a key role in Brazil鈥檚 state-activist growth model of which the observers have labelled 鈥�,鈥� 鈥�,鈥� or 鈥�.鈥� Furthermore, BNDES actively supported national champions鈥� strategy by financing export and investment activities. During and after the global financial crisis, 叠狈顿贰厂鈥� role extended and was used by the government to carry out .

A comparison of key financial indicators between BNDES and the World Bank illustrates the scale of 叠狈顿贰厂鈥� rise. 叠狈顿贰厂鈥� loan portfolio increased by over $200 billion during 2002鈥�2011 and it was comparable to the World Bank鈥檚 during the first half of the 2010s (Figure 1(Left)). 叠狈顿贰厂鈥� annual disbursement exceeded the World Bank鈥檚 from the mid-2000s and was over three times larger than the World Bank鈥檚 in 2013 (Figure 1(Right)). This rapid expansion was possible largely due to significant inflows of Treasury financing, whose share in BNDES’ total liabilities increased from 7% in 2007 to 58% in 2014.

Figure 1. Comparison of BNDES and World Bank (2002鈥�2019)

(L) Net loans outstanding / (R) Disbursements

(L) (i) BNDES and World Bank: As of and for the fiscal years ended June 30; (ii) End of the fiscal year exchange rates were used to convert the real into dollars.
(R) (i) BNDES: Calendar years, World Bank: As of and for the fiscal years ended June 30; (ii) Annual average exchange rates were used to convert the real into dollars; (iii) 2019 data for BNDES is annualised data using the data on 2019 1H.
Source: BNDES financial reports; World Bank Group financial reports

However, there was a critical juncture for BNDES when Brazil suffered a dual, economic and political, crisis during the mid-2010s.

A decline in commodity prices, a rapid withdrawal of foreign capital, and depressed investment sentiment caused the in the history of Brazil. There was also that involved the impeachment of President Rousseff and a revelation of complex corrupt networks composed of politicians and the country鈥檚 largest companies.

BNDES, a key financier of the Brazilian economy, was deeply involved in this turmoil. The development bank鈥檚 and came under scrutiny, and BNDES reform became a central component of the government鈥檚 economic liberalisation and fiscal consolidation. The pendulum began to swing to the other direction.

叠狈顿贰厂鈥� reversal of fortune was as dramatic as its rise. 叠狈顿贰厂鈥� loans outstanding, in dollars, has more than halved and its annual disbursement has shrunk by 84% since 2014, making both approximately a third of the World Bank鈥檚 in 2019 (Figure 1). If one holds the exchange rate constant to erase the effect of currency depreciation from around 2 real per dollar in 2014 to 4 real in 2019, the magnitude of changes is less dramatic, though similar trends are evident.

叠狈顿贰厂鈥� shrinking balance sheet was facilitated by the end of new subsidised funding inflows from the Treasury and 叠狈顿贰厂鈥� speedy debt payment to the government since 2015. As a result, the proportion of Treasury financing in BNDES’ total liabilities declined to 31% in 2019 3Q. In terms of assets, 叠狈顿贰厂鈥� loans with a subsidised interest rate () began to be with loans with a market-linked interest rate () based on the five-year real treasury rate and inflation rate in 2018. As the existing subsidised loan programme based on TJLP is phased out by 2023, 叠狈顿贰厂鈥� balance sheet reduction is expected to continue.

With the shrinking size, there has also been a multidimensional retreat of 叠狈顿贰厂鈥� operations.

Firstly, BNDES has lost its role as a credit-crunch fighter.

When the country鈥檚 credit growth rate began to decline with the effects of the global financial crisis in 2008, BNDES, alongside other public financial institutions, rapidly expanded lending until the early-2010s. As a result, public financial institutions鈥� proportion in Brazil鈥檚 total credit outstanding increased from a third in 2008 to half in 2013.

In contrast, Figure 2 shows that the growth rate of credit outstanding provided by BNDES, as well as public financial institutions in general, was below Brazil鈥檚 overall growth rate since 2016. Most notably, the growth rate of BNDES was approximately minus 10% for three consecutive years, indicating that BNDES contributed to, rather than countered, credit tightening.

Figure 2. Credit outstanding growth rate (2003鈥�2019)

Years ending in June. Source: Banco Central Do Brasil; BNDES financial reports.

Secondly, BNDES seems to be losing interest in stimulating industrialisation.

During the 2000s, one of the major concerns of the Brazilian government was the of the preceding decades. With the aim of reversing or slowing down this trend, BNDES actively provided loans to the industrial sector.

However, there are now signs of BNDES withdrawing its efforts to invigorate structural transformation in the form of sector-specific support. Instead, BNDES is increasingly focusing on ; concentrating on lending to the infrastructure sector and resulting in this sector鈥檚 share in the loan portfolio rising from 37% in 2013 to 53% in 2019. In comparison, modern productive sectors鈥� shares in loans outstanding have generally shrunk. The total amount of lending to the manufacturing sector nearly halved and its share declined from 26% to 16% (Figure 3).

Figure 3. 叠狈顿贰厂鈥� loans outstanding by economic sector (2013鈥�2019)

Years ending in June. Source: BNDES financial reports

Thirdly, BNDES is shrinking its role as a shareholder of national champions.

During its prime, BNDES became a key minority shareholder in some of the largest Brazilian companies in a swathe of sectors. The number of firms in BNDES鈥� equity portfolio increased from 130 in 2006 to 157 in 2012, with its average ownership increasing from 11% to 14%.

In contrast, BNDES is now participating in the Brazilian government鈥檚 . The number of companies in 叠狈顿贰厂鈥� equity portfolio declined from 155 in 2013 to 90 in 2019 3Q. In particular, 叠狈顿贰厂鈥� sales of shares in large firms, many of which were involved in recent corruption scandals, has gained traction over the past few years. BNDES completely moved away from Braskem, a subsidiary of conglomerate Odebrecht, in 2017. Ownership stakes in Petrobras and Vale have gradually been reduced (Figure 4).

Figure 4. 叠狈顿贰厂鈥� ownership share in major Brazilian companies (2006鈥�2019 3Q)

Source: BNDES financial reports

Though not reflected in the graph, BNDES all of its shares in Marfrig at the end of 2019. In February 2020, the development bank also a stake of 5.6% in Petrobras, which was 叠狈顿贰厂鈥� to date. The timing to sell shares of some other large firms such as JBS is also being . Prior to the recent financial turmoil caused by the COVID-19 pandemic, Privatization Secretary Salim Mattar听 that 鈥楤NDES could sell its entire portfolio.鈥櫶�

Lastly, the financial relationship between BNDES and the government is being disintegrated.

As well as ending subsidised funding inflows from the Treasury, another principal change in this regard is the dividend policy. Between 2002 and 2014, BNDES contributed to government revenues by paying 87% of adjusted net income as dividends on average. In contrast, the government has applied a much lower dividend ratio from the mid-2010s with the aim of strengthening 叠狈顿贰厂鈥� financial position (Figure 5).

Figure 5. Composition of BNDES’ adjusted net income (2002鈥�2018)

Source: BNDES financial reports

In 2017, a new dividend policy that sets the dividend pay-out ratio between 25% and 60% was institutionalised. This policy was dubbed the 鈥�鈥� in 15 years. Reformers that this policy would allow BNDES to accumulate retained earnings, strengthen capital structure, weaken dependence on state funding, and eventually curb government influence on 叠狈顿贰厂鈥� operations.

Through the multidimensional retreat of BNDES from the Brazilian economy, the reformers may now be seeing the anticipated results. The capital adequacy ratio has nearly doubled over the past three years, recording 36% in 2019 3Q. Return on asset and equity ratios have increased by around five-fold and three-fold, respectively. In the next few earnings announcements, we may even see 叠狈顿贰厂鈥� dividend payments temporarily increase despite low dividend ratio due to 叠狈顿贰厂鈥� recent sales of corporate shares.

Using these financial performances as evidence of success, the reformers will try to the market-oriented restructuring which has recently been due to the pandemic-induced economic instability. Despite these circumstances, BNDES is still surprisingly in its potential contribution to Brazil鈥檚 development. How the development projects in demand will be financed remains uncertain. Furthermore, the demand for the 鈥榬eturn鈥� of BNDES is increasing amid the COVID-19 pandemic.听 As a result, the on the desirable role of BNDES in the Brazilian economy will continue.

In sum, the trends since the mid-2010s suggest that we are seeing the beginning of a new chapter in 叠狈顿贰厂鈥� 68-year history. More broadly, the multidimensional retreat of 叠狈顿贰厂鈥� operations, as well as 叠狈顿贰厂鈥� to the COVID-19 pandemic, may be a signal of the beginning of the end of active state capitalism in Brazil. The retreat of BNDES may also be highlighting the fragility or weak of democratic state capitalism in the developing world. Developing countries which have been Brazil鈥檚 model of state capitalism should closely study the rise and fall of BNDES and refine their strategy.

Kyunghoon Kim听is a PhD student in the Department of International Development at King鈥檚 College, London.

Photo of BNDES by .

National development banks are in fashion and here to stay. A number of countries benefited from the global economic boom during the 2000s as exports and commodity revenues surged. These countries鈥� governments stored some of the current and fiscal account surpluses and used the capital to expand state financial institutions. Two prominent types of institutions have grown rapidly, namely (SWFs) and (NDBs), which often have financial return and development stimulation as their core mandates, respectively. Much attention has been afforded to how these organisations鈥� activities have turned into a . For example, the Norwegian SWF鈥檚 investment spans across , including shares in more than 9,000 companies, and China鈥檚 NDBs have emerged as the developing world鈥檚 project backer.

More recently, NDBs have been identified as important agents in funding domestic development projects in a wide range of . The perceived role of NDBs is from a reactive counter-cyclical role towards a proactive patient capitalist role. Popularity in NDBs may appear to be obvious due to the rising interest in pursuing state-designed and over the past decade. While many observations have focused on the growing inclination towards state activism as catalyst to NDBs鈥� expansion around the world, this piece examines three structural challenges incentivising developing countries to mobilise NDBs.听

The first, and the most obvious, rationale is to fix the capital market failure.听

The developing world鈥檚 financial markets and institutions have been expanding, though their aggregate size remains moderate. Figure 1 illustrates the depth of financial development or the significance of diverse financial instruments in relation to economic sizes. This figure illustrates that, despite a notable increase, the index of emerging economies in 2017 was lower than that of advanced economies in 1980. The growth of the index has been slow in low-income countries.

Figure 1. Financial development index: Depth (1980鈥�2017)

Source: IMF Financial Development Index Database

More importantly, patient capital providers have a weak presence in developing countries. Institutional investors, which include insurance companies and mutual and pension funds, have been identified as potential investors in development projects. However, these investors鈥� size in major developing economies is just over 40% of the GDP on average, which is small compared to that of advanced countries (Figure 2).听

Figure 2. Institutional investment assets (2017 or latest)

Note: EMD 20 = 20 largest emerging market and developing countries with available data
Source: World Bank Global Financial Development Database

The expectation that advanced countries鈥� institutional investors would do the heavy lifting seems to be exaggerated. While these investors may have with limited liquidity constraints, development projects often require different types of patience that cannot be understood in strictly financial terms. Moreover, international development finance institutions鈥� efforts to crowd-in private capital have, so far, been .听

Infrastructure financing is a key example. On top of the fact that the private sector as a whole accounts for a small fraction of total investment in the developing world ( in 2017), the contribution of institutional investors has been limited, averaging of total private participation in 2011鈥揌1 2017.听

Many developing countries are now trying to fill this gap, or fix the capital market failure, by mobilising NDBs.听

Secondly, the role of external development funds is shrinking in middle-income countries, causing the so-called .

As developing countries move up from the low-income to middle-income status, the relative size of aid inflows shrinks, and the terms and conditions become . Tax revenue often struggles to rise quickly enough during this period to fill in the gap.听

There has been a notable decline in the ratio of overseas development assistance (ODA) to GDP in middle-income countries (Figure 3). The recent ratio is only approximately a fifth of what it was 25 years ago. The ratio is now small for upper middle-income countries, averaging just 0.07% during the 2010s. This figure is higher in lower middle-income countries but has seen a dramatic decline from 3.2% in 1991 to 0.7% in 2017.听

Figure 3. Net ODA (1970鈥�2017)

Source: World Bank World Development Indicators

In addition, the tax revenue in middle-income countries has failed to keep up with economic expansion. The tax revenue-to-GDP ratio stagnated during the second half of the 2000s and declined by nearly one percentage point between 2011 and 2016 (Figure 4).听

Figure 4. Tax revenue (2005鈥�2016)

Source: World Bank World Development Indicators

The shrinking role of ODA and tax revenue means that the government must search for non-budgetary financial resources, such as those from NDBs, to conduct development projects.

Thirdly, NDBs can act as policy tools that enable governments to overcome legal and political constraints in fiscal management.听

The financial technocrats鈥� attachment to fiscal stabilisation has been highlighted as a hurdle in expanding development investment. As well as this factor, there are legal issues that make it difficult for governments to expand development financing. The developing world has been adopting fiscal rules with zeal from the early 2000s (Figure 5). In 2015, 60 developing countries had fiscal rules in place. While fiscal rules contain diverse characteristics in terms of coverage, strength, and flexibility, they tend to constrain governments鈥� investment capacity.听听听听听

Figure 5. Number of countries with fiscal rules (1985鈥�2015)

Source: IMF Fiscal Rules Dataset

Furthermore, fiscal reallocation is often challenging because existing budget structures are a reflection of past political and social struggles over priorities. More specifically, governments may arouse public discontent when attempting to redirect significant amounts of fiscal resources from consumption spending towards capital investment. This possibility can make governments lethargic, especially in democratic countries where elected officials start counting down for the next election from their first day in office.听

NDBs have been used by executives to bypass legal and political difficulties in mobilising fiscal resources in countries such as and . A number of newer democratic developing countries are also considering this option to navigate through constraints.听

Due to these issues, namely the limited role of private capital and donor funds, domestic institutional difficulties in expanding fiscal investment, combined with the moderation of the theoretical and ideological battle over state economic activism, the developing world鈥檚 interest in NDBs is expected to continue, as demonstrated with the case of Indonesia.听

Of course, NDBs are not a silver bullet: they are inevitably under the influence of the and and vulnerable to partisan politics and rent-seeking. NDBs鈥� effective operation requires of technical knowledge, market information, and coordination capacity. However, considering the structural factors highlighted in this piece and the colossal development goals, developing countries鈥� and 鈥�鈥� using NDBs should be encouraged with the potential challenges in mind.听

Kyunghoon Kim is a PhD student in the Department of International Development at King’s College, London.

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