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PRIMER: Operation Car Wash/Lava Jato

The latest instalment of IFLR’s primer series looks at the ongoing mega-scandal, why it happened, and the knock on effects for Brazil and further afield

The inspiration for a Netflix series and a household buzz word in Brazil, Operation Car Wash (or Lava Jato, as it is known in Portuguese), is one of the biggest – if not the biggest – corruption scandals in history.

Everyone in Brazil has heard of it. It rocked the country to its core and left practically nobody safe from the prying eyes of investigators. Lava Jato was a corruption scandal like no other that toppled governments, brought down multiple corporate giants, and put numerous politicians behind bars.

The effects of the scandal not only greatly impacted Brazil, but Peru, Colombia, Panama and many other Latin American countries were also caught up in the dirty water.

See also: Long read: A fresh start for Brazil?

What happened?

In 2014, a routine operation began in Brazil to investigate and uncover relatively minor acts of corruption that saw black market dealers or doleiros use gas stations and car washes – hence the name – in the country to launder profits. It quickly transpired that the black money market under investigation was part of a much, much bigger corruption scandal led by the state-owned oil company Petrobras.

The operation began in the southern city of Curitiba, where one particular doleiro was running a foreign exchange currency operation out of a gas station and car wash. From this minor act of corruption the operation uncovered information that senior members of Petrobras and other executives were taking bribes from representatives of a number of Brazilian construction companies, including Odebrecht, Galvão and Engevix.

From a humble beginning, the operation has become a symbol in Brazil of the corruption that has infiltrated every level of business and governance throughout the country for several years. Every time the ongoing investigation is extended a new phase is attached; the operation is now in its 57th phase, nearing the 58th. Five years in, the investigation has taken down over 200 people, and led to the impeachment or removal of presidents in several countries.

“It has essentially been a watershed moment – not only with regard to Brazilian anti-corruption efforts, but in Latin America generally,” said Rafael Ribeiro, partner at Hogan Lovells. “It caused not only sister investigations to be launched in several other countries, but also led to populist anger.”


"It has essentially been a watershed moment – not only in Brazilian anti-corruption efforts, but in Latin America generally"


“We can see the impact of it now in Brasilia, where President Bolsonaro appointed the magistrate who had been overseeing Lava Jato as justice and public safety minister,” he added. Sergio Moro, the judge, is now on the other side of the table, setting the anti-corruption agenda in Brazil.

At the most basic level, Lava Jato saw many embroiled in the corrupt act of a number of construction companies, who were receiving bribes for contracts at heavily-inflated prices.

See also: Distressed M&A could ease Brazilian corruption

Who was implicated?

Ever since the scandal began to take shape, the landscape in Brazil has taken a radically different. Peter Spivack, also a partner at Hogan Lovells, compared the operation to picking at a small string and unravelling an entire sweater – although in this case it unraveled an entire closet. “It started small but spread rapidly,” he said.

“There’s a perception that many are untouchable in the Brazilian justice system because of wealth or political power are being prosecuted,” added Spivack. “At one time, close to a third of the Brazilian legislative houses were under investigation, under indictment, or had been charged and convicted with crimes related to Lava Jato.”

The effects have been long-lasting. Many politicians who were caught up in the scandal lost their positions as a result. The eventual winner of the most recent presidential election, right wing ex-general Jair Bolsonaro, ran on an anti-corruption ticket, vowing a crackdown on white collar crime at all levels.

Luiz Inácio Lula da Silva, or Lula, was arguably the greatest casualty of Lava Jato. While Petrobras, Odebrecht and countless other Brazilian firms implicated lost huge amounts of money – not to mention reputation – during the scandal, it was Lula who ended up incarcerated and unable to run against Bolsonaro.

Although Lula continues to deny the allegations that he played an integral part in the scandal, he remains in prison. Past president Dilma Rouseff too was impeached in August 2016 for alleged involvement.

More than 200 individuals in total were implicated, from a wide gamut of political classes, ministers and leaders in the Brazilian Senate. Some were elected officials in the assembly, others business leaders in charge of major construction companies like Odebrecht and UTC Engernharia and others, vendors, service companies and sub-contractors to these construction companies. Also caught were state-owned companies like Petrobras.

See also: The return of the Brazilian IPO

What has changed in Brazil as a result?

Obviously, a lot has changed. Corruption has been tackled head-on, and regimes have toppled.

There have also been some legal side effects. Judge Moro and his team worked closely with the US and other national authorities to learn the techniques that they eventually used to take down the perpetrators.

Prior to the scandal, if an individual was charged and convicted of a white collar crime, they were able to remain out of prison while they launched an appeal, a process that could potentially take several years. These individuals were largely able to operate in society with no consequences during this time.

Following Lava Jato, that has changed. After the first appeal before facing the Supreme Court, the accused must report to jail if a conviction is upheld.

“That puts an enormous amount of pressure on individuals. Brazilian jails are pretty tough, so some implicated individuals are increasingly providing testimony on others in exchange for being placed under house arrest, for instance,” said Spivack.


Brazilian jails are pretty tough, so some implicated individuals are increasingly providing testimony


It was this ruling that ensured that Lula was unable to run in the 2018 election.

It was also particularly difficult for Workers’ Party (PT) candidate Fernando Haddad, Lula’s previous running mate and replacement, to make points against corruption while his predecessor remained in jail. It was comparatively easy for Bolsanaro to win that argument during the election, especially given that anti-corruption was a hugely important issue for many voters.

After his victory, nominating a Minister of Justice like Judge Moro was a bold move. Bolsonaro also put the Council for Control of Financial Activities (Coaf), Brazil’s financial investigative unit, under his control. The federal police will also fall under his jurisdiction, which Moro is populating with the prosecutors and federal law enforcement agents that were with him in Curitiba and during the early stages of Lava Jato.

See also: Brazil’s laws change after corruption scandal

What effect did the operation have outside of Brazil?

Once the scandal erupted in Brazil, it became apparent that the bribery of government officials to win contracts was also taking place in Colombia, along with speculation that it had spread to Peru, Panama, and elsewhere.

Colombia

Odebrecht had significant operations in both Colombia and Peru. Once the scandal came to light, there were a number of significant contracts the government decided to revisit, and ultimately ended up trying to cancel in Colombia. For example, a large road project called Ruta Del Sol, which Odebrecht was financing a large tranche of. After the Colombian government determined that this contract was corrupt, it was terminated.

This had side effects: many banks had been involved in the financing, including domestic Colombian firms. One concern was that the government was able to nullify all corrupt contracts, as if never contracted to begin with. It then became uncertain if the government would honour termination payments, and if investors would lose their stakes.

During this time the Colombian government was also promoting its 4G infrastructure programme, which it was still in the process of securing financing for. Many of the banks that were due to finance the project now found themselves with a massive liability on their books, resulting in a lot of nervousness among the banks about whether termination payments would be honoured. It had a chilling effect on the Colombian government’s ability to finance projects in Colombia.

“Many contracts had been awarded to companies that were implicated in Lava Jato,” said Gianluca Bacchiocchi, partner at Clifford Chance. “It put these countries behind in terms of infrastructure development, they had to terminate infrastructure contracts that had been awarded to these bidders, and many projects had a harder time obtaining financing.”

See also: Colombia’s first private project financing analysed

Peru

In Peru, similarly, construction companies that had been embroiled in the business of Odebrecht and others found it difficult to finance other projects, or win new projects, as a direct result of Lava Jato.

As a result, public officials in the country became worried about being caught up in the allegations by the press. Legally, many politicians and ministry officials’ ability to make decisions and move projects forward were under duress. There had been a strong pipeline of projects in Peru previously, but they effectively dried up because of implication concerns.

“In both Peru and Colombia there is a significant slowdown of infrastructure development and also the ability to finance projects,” added Bacchiocchi. “Some of the largest projects that Odebrecht owned, for example the Chaglia hydro project in Peru, they were forced to sell to raise funds. A number of these deals took a long time before they got regulatory approval in Peru.”

Where are we now?

It is easy to be cynical. Lava Jato had such a broad impact on Brazilian society: popular support for prosecutions was significant and ultimately shaped the 2018 election, as well as the near-term future of Brazilian politics and economics.

There were extensive concerns that resources were concentrated in the hands of the few, and that the system is rigged. One key question is if there will be a long-term change in Brazil or not.

Another is how, or if, the trend will spread to other countries in Latin America. Newly-elected Mexican President Andrés Manuel López Obrador has already stated that he intends to crack down on bribery and corruption in his own country to never-before-seen levels.

Local sources say there has been a real attempt from companies to effect structural change and install laws that promote change and international economic benefit. The investment climate is improved when the system is transparent, and there is an attempt to build innovation – but the challenge for countries like Brazil and others in Latin America is that such progress can be hard to maintain in the long term.

Although the investigation continues, multiple chief executives have already served jail time and been heavily fined. Odebrecht and Petrobras were forced to sell a number of assets, and are now a lot smaller than they used to be.

The corporate world in Brazil was turned on its head, with unprecedented levels of corruption. If the country can grow as a result, then it will have been a truly worthwhile exercise.

See also: Mexico to launch own Lava Jato-style investigation



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