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Global Economy, Meet Brazil

The Latin giant could help halt worldwide slide, or spur it on. Local elections this month may make the difference.

Globalization may be the world's economic reality, but all politics is still local - as Brazil's newly reelected president, Fernando Henrique Cardoso, is finding out.

The world is standing by to see if Brazil can avoid joining the national economies that have crashed into the financial abyss over the past year. After economic nosedives in Asia and Russia renewed attention on emerging markets, all eyes are now on Brazil: Its stable but overvalued currency, the real, has come under attack, while the disaster-in-waiting of the country's profligate deficit spending has been exposed. In response, international and domestic short-term investors have pulled out to the tune of hundreds of millions of dollars a day.

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As the world's ninth-largest economy, Brazil could either hold off or usher in a wave of economic turmoil to Latin America - and more downward spiraling for the rest of the world, including the United States. Brazil can either shine as the country that proved the domino theory on emerging markets wrong - or enter the pantheon of ignominy.

To replace all the global hand-wringing with a happy samba, the triumphant Mr. Cardoso, reelected to four more years Oct. 4, is promising to the world - the International Monetary Fund, World Bank, US government, and international investors - a tough spending-cuts package and far-reaching administrative reforms that might succeed in holding off a crash.

Yet there remains that minor detail: local politics.

Cardoso may have promised the IMF as much as $20 billion in spending cuts over the next year and fiscal reforms in return for a confidence-boosting infusion of $30 billion or more in international credit. He has promised there will be no drastic devaluation of the real like the chaotic peso devaluation that threw Mexico into a spin in 1994.

But it is Brazil's powerful state governors and its traditionally undisciplined state legislators and national Congress members who will determine if the noise coming out of South America's giant in the months ahead is a sigh of relief or a crescendo of collapse.

Brazil faces a second round of elections Oct. 25, when 13 runoff races for state governors will be decided. The governors are crucial because they hold considerable sway over state congressional delegations - as they do over much of the exorbitant public spending that has left Brazil with a public deficit equal to more than 7 percent of gross domestic product - more than twice what it was when Cardoso took office in 1994. The states' pork barrels and generous (as in an often-loose connection between drawing a salary and actually working) public employment conditions are legendary.

To up his chances of making his plans work, Cardoso wants the most-cooperative politicians possible in the governor's chairs. So even though he has committed to announcing his reform package Oct. 20, many Brazilians say the real force of the economic plan won't be revealed until after the runoff vote. With the governorships of three powerhouse states - So Paulo, Rio de Janeiro, and Minas Gerais - up for grabs, Cardoso needs favorable results.

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Then too, Cardoso will want to push at least part of his package - including an expected tax increase on the country's biggest fortunes - through the lame-duck Congress that will meet through the end of the year. Despite the political stature he boasts as Brazil's first reelected president, no one is sure he'll be able to pull it all off.

"It's still a very open question," says David Fleischer, a political scientist at the University of Braslia in the nation's capital. "There's considerable risk from the international point of view if he goes too slow," he says. Brazil's international reserves have dropped from $70 billion in August to about $40 billion, forcing interest rates up to the Russian and Indonesian levels of 50 percent.

According to Mr. Fleischer, Cardoso might actually get further with the new Congress taking office in February, even though it will be nominally less in his favor. Cardoso's Achilles' heel has always been members of Congress from within his own coalition who consistently voted against him, Fleischer says, add-ing that many of those lost their seats to the opposition left.

Carlos Estevam Martins, a political scientist at the University of So Paulo, agrees, saying a slightly stronger opposition in Congress will likely have little influence because it can offer no alternative economic program.

"All the major segments of power in Brazil, from business and the wealthy to the major media and the armed forces, are on the side of a more open, competitive, and internationally active Brazil," Mr. Martins says. "The elections may have revealed a country with a 50-50 split, but the difference is that the half on [Cardoso's] side knows what it wants."

An important first test will come when Cardoso seeks the enabling legislation needed to enact some already-passed administrative reforms. Regulations are needed to activate new laws allowing states to lay off workers when a state's payroll surpasses 60 percent of revenues. "Some states are spending 95 percent of revenue on staff," says Lacy Gallagher, director of Latin America sovereign ratings for Standard & Poor's DRI in New York. "That's an example of the kind of thing they have to stop."

Even in the past year with international gales whipping, Brazil revealed it has room for maneuver. Discretionary spending went up as Cardoso lobbied his way to congressional approval of a constitutional amendment allowing reelection. And spending jumped again in the recent campaign season, Ms. Gallagher notes.

"But they've also proved that they can deliver," she adds, as when tough tax-collection measures approved a year ago were actually followed by increased tax collections. "In Brazil, it's really a matter of political will."

The question is how far that determination reaches beyond Cardoso. Brazil today is something like the European Union countries that had to fulfill tough, sometimes seemingly impossible fiscal conditions - including reducing deficits to 3 percent of GDP - before entering the club of countries that will adopt a single currency in January next year. In the end, all the EU members but one (Greece) that wanted to join made the grade.

In a similar way, just how much of an international star Brazil really wants to be will be revealed by the distance it goes in changing its ways at home.

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