Follow me boys: Brazil's Lula would like to make South Americans one big happy family. It's going to take a lot.

Heavy rains in southern Guyana turn the dirt road that links the towns of Lethem and Linden into a river of mud. Much of the population is cut off. Trade between the Guyanese capital Georgetown and Boa Vista in Brazil's Roraima state grinds to a halt.

If policymakers thousands of kilometers away in Brasilia have their way, that situation may soon change. The paving of the Linden-to-Lethem road is one of the first of two dozen infrastructure projects throughout South America worth up to US$5 billion to be financed by Brazilian state development bank Banco Nacional de Desanvolvimento Economico e Social (BNDES) and multilateral agency Cnrporacion Andina de Fomento (CAF).

Projects include a railway from Chile to Argentina, as well as land, air, and water transport facilities on the Napo River, Ecuador's main access to the Amazon. Leaders hope to stimulate $25 billion in annual trade between Brazil and the rest of Latin America, although such trade now accounts for just over one in five dollars of the South American giant's global commerce.

"South American integration is of extreme and fundamental importance. It makes a lot of sense. Yet it's the government that needs to invest in infrastructure for integration, thereby creating markets that attract private investment in the future" says Roger Agneni, head of Companhia Vale do Rio Doce, the Brazilian mining and transport giant.

In addition, BNDES has taken the unprecedented decision of earmarking $2 billion to finance Venezuelan and Argentine exports, including their sales not only to Brazil but also to other Mercosur countries.

Financing Argentine and Venezuelan exporters may help economic recovery in both countries and would arguably benefit Brazilian business in return. Yet why should Brazilians help finance the pavement of roads and ports in Guyana, a country with an economy the size of some of Brazil's smallest states?

To a large extent the answer lies in geo-politics. For the same reason that led to the creation of Mercosur, the four-nation trade bloc of Brazil, Argentina, Uruguay and Paraguay, Brasilia is now eager to strengthen and broaden the alliance as a counter-balance to other trade blocs, such as the European Union but particularly the North American Free Trade Agreement (NAFTA). Talks toward creating a Free Trade Area of the Americas (FTAA) are gaining ground, with bilateral deals being signed so quickly that Brazil must act fast to strengthen its own relations with the countries around it, some of which were technically at war with each other in recent years.

"There is a romantic view in part of the government that South American integration could replace FTAA negotiations," says Carlos Langoni, head of the Center of World Economics at the Getulio Vargas Foundation, a business think tank, in Rio de Janeiro.

Pushing Petrobras. In only eight months in office, President Lula has met with all of South America's presidents and has nearly doubled the number of Brazilian diplomats throughout the region. Under government instructions, Petrobras, the state-controlled oil company, is considering financing barter trade and infrastructure projects in exchange for oil.

"Lula has consolidated the concept that integration is fundamental for South America to have more strength in its international [trade] negotiations:' says Enrique Garcia, president of the CAF.

Darc Costa, vice-president of BNDES, spells out the objectives even more bluntly. "South American integration is a response to NAFTA. Trade has become regionalized, not globalized, and if we don't create our own bloc, we'll remain sidelined," he says. That means "we can no longer work within national boundaries in South America," Costa says.

Regional integration is an old dream, but it has taken on a new urgency with the encroaching 2005 deadline for hemispheric free trade. "We are taking the first steps to create here what was done in the European Union:' Lula said upon signing Peru into the Mereosur bloc in August. "We need to unite, to create a South American nation."

With like-minded left-leaning presidents now in power in several South American countries, the process of integration is gaining new momentum. "Integration is driven by politics and there is now a new political affinity in the region, a process led by Lula and [Argentina's Nestor] Kirchner," says Gilberto Dupas, professor of international economic studies at the University of Sao Paulo.

State-run Petrobras is studying the construction of a $2 billion oil refinery in Recife in a joint venture with Venezuela's state oil company Petroleos de Venezuela. Nestor Cervero, Petrobras's international director, admits "there is a political element" in the oil company's integration efforts. "Petrobras is also a political instrument and we receive direction from the government," he says. Yet he insists commercial criteria take precedent. "All our international operations are profitable and always have been" he says.

Pitfalls. The Brazilian development bank is optimistic and expects the first project could be under way early in 2004. Yet there are a number of pitfalls not only in their implementation but also their longterm success. Projects designed by engineers and assessed by ideologically driven technocrats can overlook economic and political realities. Increasing trade also requires relative price and currency stability between countries, critics argue.

Recent successive currency devaluations in Argentina and Brazil, for example, caused bilateral trade to temporarily collapse. Currencies in most South American countries are now free floating and at times volatile. Ecuador dollarized its economy and Colombia has a fixed exchange rate.

The Mercosur countries are again talking about ways to harmonize macroeconomic and particularly foreign exchange policies. Yet fragile economic fundamentals among its members and the lack of an executive decision-making body suggest further economic volatility and slow progress in policy coordination.

Several of the proposed projects, particularly in the Amazon region, also raise environmental concerns. Roads are a leading cause of deforestation and, even with environmental protection measures, they draw impoverished settlers and lumber companies into the jungle. then there is political and credit risk. Suerrillas regularly bomb oil pipelines in Colombia and indigenous protesters in Brazil's Roraima state repeatedly blocked the construction of a power line and road from Venezuela. This year's oil strike in Venezuela and subsequent economic turmoil there exemplified how political instability can disrupt trade.

Indeed, Brazil faces the danger of "stretching too far to integrate the Andean countries" says Riordan Roett, head of the Institute of Western Hemisphere Studies at John Hopkins University in Washington. "Drugs, violence ... they are difficult and very complex countries."

The BNDES in recent years took a country's sovereign-debt burden into consideration before authorizing loans for foreign projects. Some analysts have expressed concern that may no longer be the case. The BNDES already was forced to write off $668 million in the first half of 2003 as a result of bad debts in the energy sector.

The CAF's Garcia plays down such risks. "We carefully screen the projects for their financial feasibility. The institution has shown its ability to operate in a highly volatile environment" he insists. Indeed, the CAF has an investment-grade rating from Moody's Investors Service, in spite of operating in a region marked by political strife. Unfortunately fur Brazil, most of its expected trade partners garner much lower marks, and the United States will press them hard to come Washington's way first.

WINDOW TO THE WORLD

                '02 GDP         '02 GDP            02'
                US$ billion     per capita      POPULATION
                                   US$            million

UNITED STATES       10,446          36,210          288.5

JAPAN                3,992          31,343          127.4

GERMANY              1,990          24,128           82.5

UNITED KINGDOM       1,557          26,286           59.2

LATIN AMERICA        1,621           3,219          503.6

EUROPE UNION         8,629          22,889          377.0

ASIA PACIFIC

EASTERN EUROPE

                           REAL GROUP             INFLATION
                            % change               % change
                      2002   2003E   2004F    2002   2003E   2004F

UNITED STATES          2.4   2.2      3.6      1.6     2.2    1.8

JAPAN                  0.1   0.9      0.6     -0.9    -0.5   -0.6

GERMANY                0.2   0.1      1.5      1.3     0.9    0.8

UNITED KINGDOM         1.9   1.8      2.5      2.2     2.7    2.3

LATIN AMERICA         -1.2   1.5      3.7     14.9    10.1    7.7

EUROPE UNION           1.1   0.9      2.0      2.1     2.0    1.7

ASIA PACIFIC           2.2   2.4      2.5     -0.1     2.1    0.4

EASTERN EUROPE         4.6   4.0      4.3     16.9    12.5   10.8

                                    CURRENT ACCOUNT
                                      US$ billion
                        2002              2003E             2004F

UNITED STATES          -481.0             -55.0            -598.0

JAPAN                   112.0             109.0             114.0

GERMANY                  46.2              48.4              49.4

UNITED KINGDOM          -14.4             -26.3             -31.7

LATIN AMERICA           -12.6             -10.8             -16.6

EUROPE UNION             62.2              48.3              48.0

ASIA PACIFIC            220.0             174.0             179.0

EASTERN EUROPE           12.0               3.6              -9.0

E = ESTIMATE  F = FORECAST  SOURCE: Consensus Economics

RAYMOND COLITT * SAO PAULO