Sustainable Brazil. Horizons of Industrial Competitiveness

Transcription

1 Sustainable Brazil Horizons of Industrial Competitiveness

2 Table of contents Introduction 3 Ingredients Needed for Growth 4 The World Market 7 Scenarios for Competitiveness 14 Manufacturing Markets in

3 Introduction *This publication has been produced in Since then, the Sustainable Brazil series has six publications. The latest survey, titled Sustainable Brazil - Social and Economic Impacts of the 2014 World Cup, was launched in This is the fourth in a series of five* publications analyzing the outlook for the Brazilian economy over the coming two decades, with special attention to its most strategic sectors, determined both by their importance in national income generation and by the long-term business opportunities they represent. In this context, manufacturing competitiveness, the subject of this report, occupies a privileged position, both because of its importance in generating income and jobs, and because it places the country in world trade flows, balancing foreign accounts. The following issues are addressed in this series: The potential of the housing market; Economic growth and consumer potential; The challenges of the energy market; The outlook for manufacturing competitiveness; Brazil s perspectives in the agricultural industry. The approach takes into account Brazil s potential in its interactions with the world market in order to outline scenarios through the year A deep understanding of the behavior of the principal determining factors of the global situation is a prerequisite for valid projections of Brazilian growth. A set of data encompassing a universe of one hundred countries was analyzed, not just in economic terms, but also in terms of demographic dynamics, quality of life, human resources and natural resources. An assessment of this type must necessarily transcend the strict limits of the current outlook. This study looks at long-term trends related to the process of technological and market development. Thus, the effects of crises like the current one, begun in the US housing market and taking on global dimensions, represent temporary deviations that are smoothed out over the time period considered for the projections. This study, a joint effort by Ernst & Young Terco and the Getulio Vargas Foundation, also seeks to define the concept of development for Brazil in the coming decades. More important than asking if the country will grow a lot or a little is asking if it well grow well, leveraging its potential to the maximum, but in a sustainable way. Competitive manufacturers, with export capability, are an important element of the dynamism and stability of the Brazilian economy. This publication provides valuable insight on the perspectives of the sector over the next two decades in order to guide corporate planning and provide guidance on developing manufacturing and foreign trade policies.

4 4 SUSTAINABLE BRAZIL HORIZONS OF INDUSTRIAL COMPETITIVENESS Ingredients Needed for Growth Diversification Economic development is still seen as synonymous with industrialization. This is because, historically, the countries considered developed passed through a process of structural change in which agriculture gave way to manufacturing, a modern economic activity with high productivity. This occurs with the slow reallocation of resources from one sector to another, that is, with the migration of rural labor to urban centers in search of the new job opportunities provided by investments in fixed capital in order to manufacture goods. In parallel with the consolidation of manufacturing, service sector growth creates more diversification in production. A broad production structure makes the economy more vigorous because income generation does not depend predominantly on one sector. The same thinking is valid with respect to international trade strategies. An economy that depends strongly on exporting raw goods, for example, has a trade balance very sensitive to the volatility of international market prices. An abrupt fall in the price of commodities, in this context, disrupts macroeconomic policies by compromising the trade balance. Brazil s productive base is diversified. Economic policies should seek to preserve it, ensuring conditions for growth of the sectors in which comparative advantages exist. Competitiveness The projections from the model scenario developed for this study allowed us to map the principal markets importing manufactured goods all over the world. In this way, the export potential of Brazilian products was calculated, both for those that are already successful and for those that represent new opportunities in international markets. As seen in the second publication of this series, the general consumption of families is expected to grow 3.8% a year from 2007 to 2017 in the domestic market, a rate that should drop a bit from 2017 through 2030, to 3.4%. A significant part of this growth will be related to manufactured goods, or in other words, there is a great potential for rising sales of a wide range of

5 The international market for manufactured goods creates challenges for Brazilian manufacturers, who are constantly faced with competition. A products. The opportunity to meet this domestic demand with domestic production depends, obviously, on the competitiveness of Brazilian industry. The supply of manufactured goods with a high technological content has grown significantly on the world market. New products are released daily, changing habits and creating needs previously unimagined. This is the case of goods related to information technology and communication, responsible for raising productivity levels in all economic sectors. Innovative products, as a rule, are designed in the rich, industrialized countries, but a significant portion of their production is performed in the emerging Asian countries due to a combination of cheap, abundant but relatively qualified labor and energy availability. The international market for manufactured goods creates challenges for Brazilian manufacturers, who are constantly faced with competition: both from industrialized and emerging countries when producing goods with a high technological content, and from less developed countries when producing goods with lesser technological content. Growth of the world market for manufactured goods, (%) per year, 2007 to 2030 Products Growth of world imports Growth of Brazilian exports Brazilian exports in US$ (billions)* Manufactured goods 3.7% 1.8% Steel 5.2% 1.9% Chemical products 4.1% 1.4% Transport equipment** 2.7% 1.5% Office and telecommunications equipment 7.9% 2.3% 5.38 Source: FGV (*) At 2007 prices. (**) Includes automobiles and aircraft

6 SUSTAINABLE BRAZIL HORIZONS OF INDUSTRIAL COMPETITIVENESS Taking the reference scenario adopted in this study as a basis - which assumes average GDP growth of 4% per year through 2030, in a sustained development context, but without assuming large institutional changes -- Brazilian manufactured goods will lose market share. This despite the 1.8% increase in exports of manufactured goods during this period. But there are significant differences when specific sectors are considered - the office and telecommunications equipment sector, for example, will grow at an average rate of 2.3% per year, or 0.9 percentage points more than the average growth of chemical products (1.4%). The critical point is that, for all sectors, Brazilian exports will grow at rates below world imports. This demonstrates that there is still much to be done to improve Brazil s performance through Brazilian manufacturing s rate of technological progress has not been as large as that of more developed countries, but it is still greater than that of most emerging countries. Remaining competitive requires large investments to generate and absorb technical innovations, train labor and reduce inefficiencies in the productive process. Additionally, efforts to transform institutions are needed to lower the costs of production and transactions. A scenario resulting in greater performance of Brazilian manufacturing exports - based on wide structural reforms and a more intense innovative effort - is presented at the end of this study. Technological progress in the manufacturing industry, (%) per year, 1960 to % % % % % Japan Singapore Germany Switzerland UK Netherlands US Italy France Belgium South Korea Austria Norway Sweden Spain China Denmark Brazil Israel Finland Source: Getulio Vargas Foundation

7 7 The World Market An Accelerated Rate The international trade of goods has been increasing faster than the growth of the world GDP: 5.3% compared to 3.7% annually between 1990 and Although, in global terms, imports of manufactured goods represent 16% of the world GDP, this share is smaller in the more developed economies since these countries, in general, are more industrialized. This is the case of the United States, whose imports of manufactured goods are only 10% of the GDP since the start of this decade. Of the goods bought and sold, manufactured goods were historically the most dynamic group, with the greatest increase. In effect, World Trade Organization (WTO) data show that trade in manufactured goods grew 7.5% per year between 1950 and 2006, more than double that recorded for agricultural products (3.5%) and also almost double the rate for transactions in the fuel and mining sectors (4%). These numbers demonstrate the importance of the sector in formulating sustained strategies for economic growth. In 2006, more than three quarters of the exports from Asia, Europe and Evolution of imports of manufactured goods (%) do PIB* 18% 16% 14% 12% 10% 8% 6% 4% 2% 0% Source: Getulio Vargas Foundation (*) At 2005 prices North America were manufactured goods. In the rest of the world, this type of product is responsible for less than one third of the value of exports, which are predominantly raw materials. This is a persistent specialization pattern. The total trade volume of manufactured goods totaled US$ trillion in 2006, most related to machines Mundo Estados Unidos 16% 10% and transport equipment (52.9%). These items are distributed in three practically equal categories: a) transport equipment (principally vehicles and aircraft); b) office materials, telecommunications and other machines and equipment; c) capital goods used in the production of goods and services.

8 8 SUSTAINABLE BRAZIL HORIZONS OF INDUSTRIAL COMPETITIVENESS The Seven Largest From the regional standpoint, the increase in imports of manufactured goods was led by the countries in Asia, Oceania, South America and NAFTA, with larger contributions from the developing countries in these regions. Argentina, China, India and Mexico have the largest growth rates for imports of manufactured goods, all with an annual trade expansion of over 10% from 1990 through Brazil s growth rate was 8.7% per year. In the case of South America, the high growth rate of 8.9% during the period was due to the economic liberalization of all countries in the region since the end of the 1980s. This process was characterized by a reduction in trade and other barriers to the sale of goods, especially those imposed on manufactured goods, well protected by industrial policies until then. Despite the increasing participation of developing countries in general, only seven economies concentrate more than half the value of world imports of manufactured goods: The United States, China, Germany, Great Britain, France, Japan and Italy. It is no coincidence that they are also the seven economies that lead exports of manufactured goods, together representing 58.8% of the total. Most imports of manufactured goods are intermediate inputs for the production of new goods, which are exported by these seven important players in the international market. In this group of countries, China, Germany and Japan distinguish themselves due to their large trade balances in relation to manufactured goods, and the United States due to its high deficit of US$ 522 billion in A substantial portion of the sale and purchase of goods still takes place internally in large regions of the globe. This shows that regional agreements influence trade flows. Additionally, statistics indicate that distances continue to be an important limiting factor for the international flow of goods. European Union countries exported 72% of their production to countries within the EU in A similar situation occurs, to a lesser extent, in Asia and North America (46% and 53%, respectively). Central and South America also export a significant portion (38%) of their manufactured goods to countries in their regions - it is a percentage slightly larger than that exported to North America (36%). Note that the growth rate of export of manufactured goods from Central and South America to North America has been effectively less than the growth in exports to other regions. If the evolution of imports by the United States is analyzed, in which the dynamism in the demand for Asian manufactured goods is clear, one sees that Central and South America have lost competitiveness in exports to the north-american market.

9 9 World trade of manufactured goods, 2006 Composition Clothing 3.8% Other 11.5% Steel Industry 4.5% Chemicals 15.1% The largest. in billions US$ (2006) Machines and equipment 52.9% Textiles 2.6% Source: World trade organization Other semi-manufactured 9.6% World import map, Average annual growth from 1990 to 2007* Region/country Total goods Europe 4.0% Great Britain 3.5% France 3.0% Portugal 3.9% Spain 5.9% Germany 3.2% Russia n.d. NAFTA 6.2% United States 6.2% Mexico 9.6% Central America and the Caribbean 6.4% South America 7.5% Argentina 11.7% Brazil 6.4% Chile 7.9% Venezuela 6.1% Asia and Oceania 7.2% Japan 3.2% China 16.1% South Korea 7.0% India 10.2% Australia 5.4% Sub-Saharan Africa 4.9% Middle East and Northern Africa 3.7% World 5.3% Source: Getulio Vargas Foundation (*) At 2005 prices. (**) Includes cattle ranching and fishing. Total de US$ trilhões Manufactures 3.7% 3.5% 3.1% 3.5% 6.2% 3.9% n.d. 6.1% 5.9% 10.1% 6.3% 8.9% 12.6% 8.7% 7.3% 9.1% 7.0% 4.7% 11.3% 7.3% 11.0% 5.3% 3.9% 4.2% 5.0% Agricultural products** -0.5% 0.5% 0.0% 0.7% 1.1% -1.6% n.d. 0.6% 0.8% -2.4% 3.2% 0.1% 0.0% -1.4% 5.9% 0.6% -0.2% -2.0% 4.9% 0.5% 4.0% 1.8% -0.8% 1.4% -0.1% 1st 2nd 3rd 4th 5th 6th 7th 8th 9th Exports 10th 11th 12th 13th 14th 15th 16th 17th 18th 19th 20th 1st 2nd 3rd 4th 5th 6th 7th 8th 9th 10th 11th 12th 13th 14th 15th 16th 17th 18th 19th 20th China* Germany United States Japan France Italy Great Britain Netherlands South Korea Belgium Canada Singapore Mexico Spain Switzerland Sweden Malaysia Austria Thailand Ireland Imports United States China* Germany Great Britain France Japan Italy Netherlands Canada Belgium Spain Mexico South Korea Singapore Russia Switzerland Austria Australia Malaysia Poland 1, , , Source: World Trade Organization (*) Includes values for Taipei and Hong Kong.

10 10 SUSTAINABLE BRAZIL HORIZONS OF INDUSTRIAL COMPETITIVENESS Brazil s Role Since 1980, Brazilian exports have grown quickly, at 8.1% per year, compatible with world trends driven by market globalization. The dynamism in the most recent period - growth of 16.5% per year from 2000 to has contributed decisively to the economic performance of the country: 15.4% of the increase in the Brazilian GDP during this period can be attributed to increased exports. Manufactured goods have contributed most to the expansion of sales abroad - 53% of the total between 1980 and Brazilian exports, by product and principal partners, 2006 (US$ billions*) Products Agricultural Fuel and mining Manufactured goods Iron and steel Chemicals Other semi-manufactured goods Machines and transport equipment Office equipment and telecom Transport equipment Vehicles and parts Other transport equipment Other machines Textiles Clothing Other manufactured goods Personal and domestic goods Scientific and control instruments Misc. manufactured goods European Union United States Argentina China Chile Japan World*** All goods** Source: World Trade Organization (*) Values FOB. (**) Includes products not specified. (**) Includes origins and destinations not specified.

11 11 This good result was despite the parallel increase in imports of these goods, due to the liberalization process at the beginning of the 1990s. There was an important impact on Brazilian manufacturing revenues: data on national accounts published by the Brazilian Institute of Geography and Statistics (IBGE) show that manufacturers income from exports shot up from 6.7% in 1996 to 13.1% in In 2006, exports of manufactured goods totaled US$ 68.4 billion, more than half of all goods exported by the country. Of this amount, 63% were exported to the United States, the European Union, Argentina, Chile, China and Japan, which are also Brazil s largest trade partners (60.5% of total exports). Although recent foreign sales of manufactured goods have been superior to prior periods, Brazil s share of world exports of this type of goods is still very small, about 0.8%. In 2006, this represented the 25th position among the largest manufactured goods exporters in the world. This position could be considered unsatisfactory, given that the country is the tenth largest in the world, with the eighth largest consumer market. The countries with exports similar to Brazil s in this ranking of the largest exporters of manufactured goods have weaker economies in the Brazilian exports by product type Share in % Manufactured goods Agricultural Fuel and mining Source: World Trade Organization (*)Agricultural industry goods appear in this classification with agricultural products. global context, such as Turkey and Hungary. The classification of Brazilian exports into raw materials, semimanufactured and manufactured goods, in an increasing order of added value, allows us to better visualize Brazil s low level of competitiveness. When the evolution of Brazilian exports is analyzed from this point of view, we have reason for concern, since the relative share of manufactured goods in total exports has fallen recently due to the increase in share of raw materials.

12 12 SUSTAINABLE BRAZIL HORIZONS OF INDUSTRIAL COMPETITIVENESS An even more detailed analysis of the added value for each type of product exported - based on the classification methodology adopted by the Organization for Economic Co-operation and Development (OECD), which classifies products by their technological content - shows that: the US$ 28.9 billion increase in exports of manufactured goods with medium-high and high technological content, between 1996 and 2006, increased its share from 27.1% to 30.4% of the total volume; the share of medium-low tech and low-tech manufactures fell, despite the significant growth in absolute terms (US$ 38.6 billion); but there has been expansion in the share of non-manufactured goods, which reveals a loss of manufacturing competitiveness. Note that this low competitiveness is more drastic when comparing 2000 to Exports of high-tech goods had the worst performance - with growth of 6% per year compared to 15% per year for manufactured goods - and also the smallest contribution to the increase in Brazilian exports, responsible for only 3.3% of the rise in foreign sales. In contrast, the largest expansion among manufactured goods was in the medium-low tech manufacture sector, and the largest contribution to the increase in exports came from the low-tech sector. This clearly demonstrates a recent trend towards specialization in products produced with intensive use of labor and natural resources Brazilian exports in different classifications US$ billions (%) US$ billions (%) Growth (%) per year Total By broad sectors Agricultural Fuel and mining Manufactured goods* Other By product type Raw materials Semi-manufactured Manufactured goods Special operations By technological content Non-manufactured products Manufactured products High tech Medium-high tech Medium-low tech Low tech ,4% 10,5% 9,0% 13,0% 8,5% 11,0% 12,1% 17,6% 14,4% 10,4% 16,5% 11,5% 10,8% 8,3% 11,2% Source: World Trade Organization and the Ministry of Industrial Development and Trade (*) Except fuel.

13 13 - abundant in the country - to the detriment of products with greater added value, those which require higher levels of technology and capital. This idea is reinforced by the fact that the largest contribution to the increase in Brazilian exports between 2000 and 2007 came from the nonmanufactured products segment, whose sales abroad grew almost 23% per year during the period. Brazilian exports by technological content and sectors Share and Growth Sectors Percentage of total exports (%) Growth (%) per year Manufactured products (*) % High and medium-high tech manufacturing (I+II) % High tech manufacturing (I) % Aeronautic and aerospace % Pharmaceutical % Office supplies and computer equipment % Radio. TV and communications equipment % Medical instruments and precision optics % Medium-high tech manufacturing (II) % Machines and electrical equipment % Automotive vehicles. trailers and semitrailers % Chemical products - except pharmaceutical % Railway equipment and transport materials % Machines and mechanical equipment % Medium-low tech manufacturing (III) % Naval construction and repair % Rubber and plastic products % Refined petroleum products and other fuels % Other non-metallic mineral products % Metallic products % Low tech manufacturing (IV) % Manufactured goods and recycled goods % Wood and wood products. paper and cellulose % Food. beverages and tobacco % Textiles. leather and footwear Non-manufactured products Total (in US% billions FOB) % 22.9% 16.5% Source: Ministry of Industrial Development and Trade * The figures for manufactured products are the sum of the four industry segments in bold: high tech manufacturing (I), medium-high tech manufacturing (II), medium-low tech manufacturing (III) and low tech manufacturing (IV). The figures for each of these four segments represent the sum of the figures for the subsectors listed below them. However, the figures for high and medium-high tech manufacturing, in italics, represent the total for each of these sectors.

14 14 SUSTAINABLE BRAZIL HORIZONS OF INDUSTRIAL COMPETITIVENESS Scenarios for Competitiveness Competition on Both Sides Brazil s chances for competitiveness in the world market in the coming decades will be subject to fierce competition from less developed countries with respect to raw materials that require intensive labor and natural resources, and equally strong competition from industrialized economies with respect to more elaborate, high-tech products. Thus, the future evolution of costs of certain items will be crucial for the development of manufactured goods exports, as well as trends in investment in research and development and training of human resources in the countries that seek to lead international trade of manufactured goods. Building Capacities The economies with a large share of exports of manufactured goods, especially high-technology products, are capital-rich and have most of the patents resulting from investment in research and development over a long period of time. Additionally, labor in the first world has a higher level of training than that achieved by countries specialized in exporting raw materials. Statistics in World Development Indicators reveal enormous discrepancies in terms of investment in research and development. In 2003, Investments in research and development and exports of high-tech goods, in Netherlands South Korea Export of high-tech goods (% of GDP) China Great Britain Germany France Denmark Finland Sweden Japan Canadá 2 Portugal Italy United States Argentina Spain Venezuela Norway 0 Chile BRAZIL Investment in Research and Development (% of GDP) 4 5 Source: World Development Indicators

15 The difference that separates Brazil from developed countries in terms of investments in innovation is cause for concern. A these investments totaled 2.7% of the US GDP, while those of the European Union totaled 1.8% of the GDP for the region. Japan invested 3.1% of its GDP in R&D, South Korea 2.6% and China 1.3%. Brazil invested less than 1%. In absolute terms, the discrepancy is even larger: while the United States, the European Union and Japan invested US$ 292 billion, US$ 217 billion and US$ 133 billion, respectively, Brazil s investments in R&D were about US$ 5 billion, less than one fourth China s investment and less than one third South Korea s investment. In 2005, US and EU industry invested 3.6% and 5.1% of their income, respectively, in research and development for new products and processes. In the same year, Brazilian manufacturers spent only 0.58% of their net income. Comparison with US industry, world leaders in various markets, is illustrative. In all industrial activities, with the exception of the aeronautical sector, US companies invested much more than Brazilian companies in relative terms. In the chemicals sector, US investments were, in proportion to income, 12.5 times the Brazilian percentage; in the computer sector, eight times greater. Even given that most investments in innovation in Brazilian industry are from third parties -- through research institutes, for example -- the chasm that separates the Brazilian reality from that of developed countries is worrisome. Given internal and external expenses, total investments in innovation by Brazilian manufacturing was 2.8% of net income in In the United States, this percentage was 5.7%. Both innovation and incorporation of new technologies in internal processes -- even when they are already known in market leading countries -- tend to improve productivity, making companies better able to compete in the world market. Recent studies undertaken by the Institute of Applied Economic Research (IPEA) show that the level of efficiency, scale of production and effort to innovate in products or processes are important conditions for exporting. Even if it does not represent an innovation at the international level, improving a product in the domestic market, for example, increases the probability that the company will become an exporter by 17%. This shows that the simple incorporation of technology already existing in more technically advanced countries can create important gains in competitiveness for national companies. IPEA s results also indicate that the fact that a company imports significantly increases the probability that it will export. Product innovations are not the only important factor. The introduction of new production processes also increases the probability that a company will export by 9%. In IPEA studies, companies report that the principal benefit of process innovation is that production becomes more flexible and allows them to consistently meet demands that oscillate greatly. The reference scenario adopted in this publication assumes R&D in Brazil will continue at levels similar to current levels. It is hoped that an investment of 1.1% of the Brazilian GDP in research and development over the next two decades will positively affect productivity, especially in the manufacturing industry. The reference scenario also assumes a significant improvement in skilled labor, with average schooling increasing from 7.8 years of formal instruction in 2007 to 11.3 years in Even so, the country s rate of technological progress

16 16 SUSTAINABLE BRAZIL HORIZONS OF INDUSTRIAL COMPETITIVENESS - 0.9% per year - will be below that expected for developed economies (about 1% per year) and developing countries, like China (1.2% per year). In this way, the technological level of some sectors will continue to be insufficient for competitiveness in the world market. This is a problem that fundamentally affects the hightech goods sectors, such as office and telecommunications equipment (including information technology products, such as computers). In the reference scenario, Brazilian exports of these items will grow at 2.3% per year through 2030, but note that world purchases of these products will grow 7.9% per year during this period. Investments in R&D, (%) of net income, 2005 Activities Manufactures Iron and steel Steel Products Manufacture of metal products Chemicals Other semi-manufactured goods Machines and transport equipment Textiles Office equipment and telecom Transport equipment Vehicles and parts Other transport equipment Other machines and equipment Clothing Other manufactured goods Brazil United States n/a 5.16 Source: Pintec and National Science Foundation, United States. Growing Costs When analyzing production conditions, various infra-structure bottlenecks limit Brazil s growth potential to a greater or lesser extent, due to increases in production costs. This affects the manufacturing industry more than others. Energy is one of the most important critical resources. As described in the third publication in this series, energy prices are expected to rise. Through 2030, the average price of oil should be about US$ 60 per barrel, 117% more that the average price over the last 17 years. The cost of electrical power is also expected to increase more than 30%. Increasing energy expenses will increase production costs in sectors such as: (i) the extraction industry (coal, metallic and non-metallic minerals); (ii) manufacturing of products such as glass, cement, ceramics and basic metallurgy; and (iii) recycling activities. Several of these sectors are linked to the construction supply chain, which will be in strong demand during the next 22 years, as shown in the first publication in this series. Transportation deficiencies, such as the precarious conditions of the highway network, the absence of railways to transport cargo and the inappropriate infra-structure dimensions of various ports and airports, also make domestic products more expensive, reducing their competitiveness abroad. These deficiencies affect the various sectors of the economy in a homogeneous way, often disrupting efforts at exportation. The Brazilian economic growth process, more intense in the next 22 years that in the prior 28, will raise the average salary of workers 2.5% per year. This increase will have

17 17 The cost of energy in brazilian industry, (%) of total cost, 2005 Steel Industry 4.7 Pig iron and iron alloys Recycling Textiles Glass Extraction industries 9.0 Non-metallic minerals 9.8 Ceramic products Aluminum and copper Cement Source: IBGE Annual Industrial Survey Evolution of average annual salaries through 2030, in US$* Country Growth (% per year) China South Korea Brazil Mexico Russia United States Italy Argentina Japan Germany Great Britain France Source: Getulio Vargas Foundation (*) In US$, at 2005 prices. 1, , , , , , , , , , , , , , , , , , , , , , , , % 2.5% 2.4% 2.2% 1.6% 1.3% 1.2% 1.1% 1.1% 1.1% 1.0% 6.2% a positive impact on the domestic consumer market, but it will also affect production costs, which will be larger than expected for the world s large industrial economies, reducing Brazil s competitive advantages. The average salary in China will rise more than in Brazil as a result of economic growth and a more intense productivity increase, but China will still maintain its competitive advantage in labor costs. In 2030, the average Chinese salary will be two thirds the average Brazilian salary. In summary, the increase in Brazilian salaries is a socially desirable process, but it stresses the need to reduce the effects of other factors that hamper Brazilian production, such as the high impact of social charges on payroll.

18 18 SUSTAINABLE BRAZIL HORIZONS OF INDUSTRIAL COMPETITIVENESS Manufacturing Markets in 2030 Demand Potential The growth of the world economy had an important impact on the performance of the Brazilian economy in recent years. In the years leading to 2030, the expansion of the world GDP will be positive for Brazil. Growth of world physical production of goods and services should be 3.5% per year over the next 22 years, and the GDP in constant dollars should grow at a rate of 2.7% per year during the period. Note that this projection takes into account the long-term trends of the 100 countries analyzed in this study. Thus, the effects of crises like the current one, begun in the US housing market and taking on global dimensions, represent temporary deviations that are smoothed out over the time period considered for the projections. From the viewpoint of the international demand profile, manufactured goods have a more promising business outlook that agricultural production and extraction both because manufactures have greater added value and because of the simple fact that income increases tend to be used to purchase manufactured goods rather than raw materials. While the demand for products from the agricultural industry should increase, worldwide, at 1% per year through 2030, imports of manufactured goods will expand 3.7% per year. As seen in the last 50 years, the world market of manufactured goods will drive trade over the coming two decades. The demand for manufactured goods will continue to be propelled principally by the European Union block, by the United States and also by the strong consumer base in China. The growth of the Chinese market is seen by all participants in world trade as a great business opportunity. To have an idea of what this represents, Chinese imports of Brazilian manufactured goods will grow 67% between 2007 and Thus, among the largest world importers of manufactured goods in 2030 will be the developed economies (European Union, United States and Japan) and developing countries, which will be large consumers (such as China, Brazil and Russia). Brazilian imports of manufactured goods should grow 5.6% per year, like other emerging countries. Projected growth based on the reference scenario also indicates that emerging economies (e.g. Mexico, Singapore and South Korea) will increase their supply of manufactured goods to the world market. These nations import raw materials and components to produce goods for export in the context of specialization in productive stages, implicit to the globalization process. The largest importers of Brazilian manufactures in 2030 will be, in decreasing order, the United States (19.6%), Argentina (19.3%), Mexico (6.8%), Venezuela (6.6%), Chile (4.1%), Columbia (3.0%), Canada (2.7%) and China (2.2%). The European Union s import of Brazilian manufactured goods will fall from 16.9% in 2006 to 14.6% in 2030 due to the slower economic growth of the block. China, which will be the source of the largest demand for manufactured goods in 2030, does not currently purchase many Brazilian manufactures. In effect,

19 The Brazilian machine and transport A equipment sector has been one of the most important areas of manufactured goods exports. export of this type of goods to the Chinese is relatively small if compared to fuel and mining and agricultural products. In 2006, US$ 450 million in manufactured products were exported, compared with US$ 3.38 billion in agricultural products and US$ 3.68 billion in fuel and mining products. Of the manufactured goods that have effectively been exported by Brazil to China, the greatest potential for growth during the period of this study s projections is in the machine and transport equipment sector (including vehicles and automotive parts) and in the chemical product sector. The accelerated growth of the Chinese GDP, at 7.9% a year from 2007 through 2017, will stimulate an increase in imports of these two classes of product, representing a great opportunity for national manufacturers to build their business with this country. In this context, the Brazilian machine and transport equipment sector has become one of the most important manufactured goods export categories. Chinese imports of these Brazilian products are still small, but the same cannot be said of the demand from the United States, Argentina and the European Union, who in 2006 imported US$ 7.08 billion, US$ 6.22 billion and US$ 4.80 billion, respectively. The expected rate of growth of the GDP of these countries are 2.7% (United States), 2.8% (Argentina), and 2.1% (European Union), much lower than that of China, but the initial base on which Brazilian manufactured goods exports can grow is larger in the case of these traditional partners, and thus the potential for growth in absolute terms is great, better than in trade with China. Although Brazilian exports of steel and office and telecommunications machines and equipment are lower, their annual growth will be satisfactory, about 1.9% and 2.3%, respectively. Exports of chemical products will grow slower (1.4% per year), and exports of other manufactured products except from the agricultural industry should expand at a rate of 0.89% a year. Projections from the reference scenario indicate that Brazil will decrease its share of world exports between 2007 and World imports of manufactured goods will grow at a rate of 3.7% per year and Brazilian exports will grow only at a rate of 1.8%. Brazil s projected performance is a consequence of the insufficient increase in competitiveness, due to the following factors: growing energy costs; substantial infra-structure bottlenecks; a tax structure that elevates the final price of goods; and insufficient investment in research and development. Impact on the Trade Balance Given the weight of manufactured goods in the sum of Brazilian imports and exports, the trade balance in the coming years will not be as positive as in the recent past, since exports, according to the reference scenario, will not grow as quickly as imports - 2.8% per year compared to 3.5% per year. Projections for Brazilian exports and imports in 2030 US$ 306 billion and US$ 264 billion, respectively indicate a trade balance of US$ 42 billion, slightly larger than the trade balance in 2007, at US$ 40 billion.

20 24 SUSTAINABLE BRAZIL HORIZONS OF INDUSTRIAL COMPETITIVENESS World Map of IMPORTS OF MANUFACTURED GOODS The largest importers of manufactured goods In 2030 Country 1st 2nd 3rd 4th 5th 6th 7th 8th 9th 10th 11th 12th 13th 14th 15th 16th 17th 18th 19th 20th China United States Mexico Singapore South Korea Germany Great Britain France Canada Italy Spain Thailand Malaysia Turkey Japan Russia Australia Belgium Brazil Netherlands US$ billions* 4, , Source: FGV (*) At 2007 prices. Country United States Mexico Country Argentina Brazil Chile Venezuela 3.0% 6.2% 2.3% 5.6% 5.1% 2.9% 3.0% 6.2% 2.3% 5.6% 5.1% 2.9% 2.0% 4.9% 1.8% 4.6% 4.0% 2.3% 2.8% 5.6% 1.9% 5.1% 4.1% 2.3% 2.7% 6.0% 2.4% 5.7% 4.7% 2.8% Nafta 3.3% 3.3% 2.3% 2.9% 3.2% South America 4.0% 3.7% 3.3% 3.1% 4.0% Central America and the Caribbean 1.2% 1.0% 0.9% 1.3% 1.5% Brazil 5.6% 5.6% 4.6% 5.1% 5.7%

21 A Average annual growth from 2007 to 2030* World 3.7% Total manufactured goods 5.2% 4.1% 2.7% 7.9% Steel Chemical products Transport equipment** Office and telecommunications equipment Source: Getulio Vargas Foundation - (*) At 2005 prices. (**) Includes automobiles and aircraft. Europe 0.9% 1.0% 0.1% 0.8% 0.7% Middle East and Northern Africa 0.6% 0.5% 0.4% 0.7% 0.6% Country Great Britain France Portugal Spain Germany Russia 0.5% 0.1% -0.5% 1.5% -0.1% 3.2% 0.5% 0.1% -0.5% 1.5% -0.1% 3.2% -0.1% -0.4% -1.0% 0.7% -0.8% 2.1% 0.7% 0.4% -0.5% 1.2% -0.3% 2.0% 0.5% 0.2% -0.5% 1.2% -0.4% 2.7% Asia and Oceania 7.3% 9.2% 8.2% 7.3% 10.7% Country Japan China South Korea India Australia -0.1% 12.4% 6.4% 1.8% 4.1% -0.1% 12.4% 6.4% 1.8% 4.1% -0.8% 10.8% 4.6% 2.1% 2.8% -0.3% 11.1% 4.5% 0.7% 3.5% -0.4% 12.9% 5.0% 2.5% 3.5% The market in US$ (billions)* Sub-Saharan Africa 4.3% 3.1% 3.3% 4.2% 5.1% Products Manufactured goods** Steel Chemical products Transport equipment Office equipment and telecom World imports 19, , , , , Brazilian exports Brazilian share 0.9% 1.2% 0.3% 1.1% 0.1% Source: FGV (*) At 2007 prices. (**) Includes fuel.

22 22 SUSTAINABLE BRAZIL HORIZONS OF INDUSTRIAL COMPETITIVENESS Thus, the trade balance, which was equivalent to four months of imports in 2007, should represent, in 2030, less than two months of imports. The loss of market share should occur in various industrial sectors for different reasons. Increased domestic demand should also reduce the impetus to import in some segments. Examples of activities that should experience this situation are those that provide inputs for the construction and automotive sectors -- the domestic consumption of these manufactured goods should expand at high rates over the next two decades. In the years leading to 2030, productivity should lead to advances in competitiveness across the economy, and are projected at 0.93% per year, a rate lower than that expected of the more industrialized countries and China. In relation to Brazilian manufacturing, productivity is expected to grow 0.7% yearly. This rate of expansion reflects insufficient investment in innovation, understood in a broad sense, from creating new products to adopting new processes, new organizational methods, etc. For a Better Future As seen in the second publication in this series, the economic policies practiced beginning in the 1990s, with cumulative advances, allowed the creation of foundations to sustain relatively high growth for the next two decades. However, the reference scenario outlined for the country does not assume significant advances that would result in Brazilian manufacturing s improved competitiveness. This case assumes that the current situation, which limits the competitive inclusion of Brazilian manufactures in the international market, will be maintained. The scenario with additions, however, does assume an elevated potential for economic growth, in which Brazilian manufacturing has increased competitiveness. This is because adoption of some specific policies would strongly influence investment, productivity and a consequent reduction in costs. Of the factors that affect growth, five can directly improve the performance of Brazilian manufacturers: labor: a reduction in the labor charges paid by companies would accommodate growth in real salaries, associated with productivity increases. taxes: a gradual reduction in taxes and simplification of the tax structure would favor business and reduce costs. infrastructure: recovery of transport networks would reduce costs and alleviate logistics bottlenecks. education: setting more daring goals for secondary schools and for the quality of education in general would increase labor productivity. technology: Increasing spending on R&D in Brazil, from 1.1% to 1.5% of the GDP, and an increase in the government budget for basic and applied research, would result in even greater productivity gains. The five points cited above depend on political decisions that Brazilian society must make in the coming years. However, there is an alternative premise in the scenario with additions that depends on the world energy context: if the price of oil remains at US$ 44 per barrel, lower than that predicted in the reference scenario, the cost of manufactured goods will decrease and the demand for them on the world market will increase, with positive effects on Brazilian manufacturing. In the scenario with additions, the average rate of investment of 24% of the GDP, the average level of schooling of 12.5 years in 2030 and spending on research and development at about 1.5% of the GDP have direct effects on the productivity of the Brazilian economy, elevating growth projections from 4.0% to 4.6% annually. The growth rate of consumption would rise to 4% per year, creating greater possibilities for industrial expansion. In the scenario with additions -- which is less than ideal, but within the possible -- Brazilian exports would grow faster, especially those of manufactured products.

23 23 These initiatives, added to a more comfortable energy structure, would raise the annual growth rate of Brazilian exports of manufactured goods from 1.8% to 2.7%, with positive impacts on all industrial segments, principally transport, office and telecommunications equipment, which are more sensitive to the quality of labor and R&D investments. The scenario with additions results in a larger trade balance in US$ 75.1 billion - equivalent to 3.2 months of imports, still less than the four months seen in Today there is consensus on the need to stimulate exports. High trade deficits and financing of foreign growth through exaggerated indebtedness are no longer as easily accepted. The function of the projected scenario is to indicate possibilities, but also factors limiting economic growth. We hope that the projections described in this study help to guide debates on the future of the manufacturing sector in the country, to aid companies in planning and society when making choices. Brazil in two scenarios, (%) per year 2007 to 2030 Indicators Economic growth Family consumption Exports of manufactured goods Steel Chemical products Transport equipment Office and telecommunications equipment Reference Scenario Reference Scenario with additions Source: Getulio Vargas Foundation

24 24 SUSTAINABLE BRAZIL HORIZONS OF INDUSTRIAL COMPETITIVENESS Our offices São Paulo SP Condomínio São Luiz Av. Presidente Juscelino Kubitschek, Torre I - 5º ao 10º e 13º andares, Torre II - 5º ao 7º e 10º andares Torre III - 11º andar Itaim Bibi - ZIP Code: Av. Das Nações Unidas, , 14, 15 e 16º andares Brooklin Novo - ZIP Code: Av. Maria Coelho Aguiar, 215 Bloco B - 4º Andar Jd São Luis - ZIP Code: Campinas SP Galleria Corporate Av. Dr. Carlos Grimaldi, andar 3A Fazenda São Quirino - ZIP Code: Rio de Janeiro RJ Centro Empresarial Botafogo Praia de Botafogo, º andar Botafogo - ZIP Code: Rua do Ouvidor, 88-6º andar Centro - ZIP Code: Praia de Botafogo, 228, Ala B - 13º andar Botafogo - ZIP Code: Belo Horizonte MG Edifício Asamar R. Paraíba, andar Funcionários - ZIP Code: Rua Bernardo Guimarães, º andar Funcionários - ZIP Code: Blumenau SC Edifício California Center R. Dr. Amadeu da Luz, andar, conjunto 801 Centro ZIP Code: Brasília DF Edifício Brasil 21 Setor Hoteleiro Sul - Quadra 06 conjunto A, bloco A - 1º andar - sala 105 ZIP Code: Goiânia GO Av. República do Líbano, º andar, sala 402 Setor Oeste - ZIP Code: Curitiba PR Condomínio Centro Século XXI R. Visconde de Nacar, º andar Centro - ZIP Code: Porto Alegre RS Centro Empresarial Mostardeiro Av. Mostardeiro, º andar Moinhos de Vento - ZIP Code: Recife PE Edifício Empresarial Center III R. Antônio Lumack do Monte, andar Boa Viagem - ZIP Code: Salvador BA Edifício Guimarães Trade Av. Tancredo Neves, andar Pituba - ZIP Code: Rua da Alfazema, 761-2º andar Salas 201, 202 e 210 Caminho das Árvores - ZIP Code: Project and editing management: Mitizy Olive Kupermann Editorial coordination: Rejane Rodrigues (MTB ) Printing and design: Branding and Communication Department Infographs: Infografe Revision: Beatriz Marchesini Getulio Vargas Foundation Team Technical coordination and content development: FGV Projetos Project director: César Cunha Campos Supervisor: Ricardo Simonsen Coordinator: Fernando Garcia (in charge of scenario model) Technical staff: Edney Cielici Dias (editorial, research and editorial consulting), Ana Maria Castelo (real estate sector research), Otávio Mielnik (energy sector research), Robson Ribeiro Gonçalves (agribusiness research), Jorge de Oliveira Pires (industrial competitiveness research), Ana Lélia Magnabosco (research of indicators) This is a publication of the Communication and Brand Management Department of Ernst & Young Terco Brazil.