30 June 2005—Sharing the stage at a panel at this year's World Economic Forum, in Davos, Switzerland, the two men seemed like old friends. Brazil's President Luiz Inácio Lula da Silva and Microsoft's cofounder Bill Gates smiled at each other and cordially agreed on a number of issues. But as they departed from the meeting, the truth was that on the subject of software the two are at opposite extremes.

While Gates built his empire based on proprietary software whose source code is Microsoft's best kept secret, da Silva became an ardent advocate of free software based on open source code that users can study and modify. The result is that in recent years Brazil has become one of the world's most prominent battlegrounds of the Microsoft Windows versus Linux war.

It all began when da Silva ordered all ministries and federal agencies to consider free software as an alternative to more costly proprietary systems. Last year alone 15 federal organizations adopted Linux and saved about US $11.8 million in licensing fees they would have paid to use proprietary systems. The government estimates further switchovers could save up to $84 million.

At the same time, da Silva began taking free software to Brazil's poorest citizens. One project includes opening thousands of community computer hubs where Brazilians will surf the Web, access government services, and take computing courses—all on PCs loaded with free software. Another initiative, called PC Conectado, or Connected PC, aims at helping low-income families buy their first computers and get on the Internet—once again, on PCs equipped only with free software.

The goal is to sell 1 million PCs by year-end and even more per year after that. That might not seem like a lot in a country of 180 million, but according to market research firm IDC's branch in São Paulo, only 4 million PCs were sold in Brazil in 2004, and 74 percent of that, or nearly 3 million, were machines on which all taxes were not payed or which contained smuggled components.

After negotiating with computer vendors and banks, the government decided it would do two things to make PCs more affordable through the PC Conectado program. First, it will help PC vendors lower prices by giving them tax incentives that may amount to a reduction of about 10 percent in the final price. It doesn't seem much, but for vendors it's a huge difference in a business with very thin margins and heavy competition from the black market. As a second measure, the government will help consumers acquire the computers by financing their purchase in 24 monthly payments of up to $27 at an interest rate of no more than 2.5 percent per month. That's a good rate in Brazil where yearly inflation can top 8 to 10 percent. The multiple-payment system is critical in a country where members of the lower middle-class almost always buy refrigerators, stoves, TV sets, and other household items on installment plans.

But while the tax incentives will apply to any PC (costing up to about $1050), the financing will apply only to computers with Linux (costing up to about $590).

The decision to equip the PCs with Linux was the last straw for advocates of proprietary software. The most vigorous complaints came from Brazil's minister of development and from software trade groups. They argued that the government should let consumers choose and that too much interference could doom the project, as happened with similar projects in other countries [see table, "Want a Cheap PC?"]. "The more flexible the program the better," says Ivair Rodrigues, an analyst with IDC in Brazil. "Consumers, especially when buying a computer, don't all want exactly the same thing."

As for Microsoft, it has begun to mobilize its lobbying power. After da Silva's administration announced the PC Conectado program late last year, Bill Gates figured that since both men were attending the Davos meeting last January, they could perhaps have a one-on-one conversation on the matter. But although the two met for the panel, da Silva turned down Gates's request for a private meeting.

Microsoft then dispatched executives to meet with government officials in Brasilia, Brazil's capital. It offered its Windows XP Starter Edition, a limited version of its operating system that runs only three programs at a time, doesn't have networking capability, and doesn't support multiple user accounts. Microsoft promoted the Starter Edition, which costs about $30, while a full version costs around $200, in the past in other countries prone to software piracy. It offered it in Malaysia, Indonesia, and Thailand, and it may release it in India and Russia. But it could be a hard sell. On Santa Ifigênia Street, in downtown São Paulo, street vendors sell pirated copies of Windows XP Professional for about $3.50 (two copies for $6). An official copy sold at computer stores may cost about $295.

This past May the federal government announced that the PC Conectado program wouldn't include computers with the Starter Edition, considered too limited. And it explained its preference for free software as a way of helping more people learn how software works and how to create it. "When there is public money involved, decisions must take into account the government's industrial policy," says Cezar Alvarez, one of da Silva's top aides, who leads the PC Conectado program. "The government wants to promote free software as a means of stimulating our national software industry."

A Microsoft spokesman in Brazil said the company, independent of the government's program, is working to make computers more affordable not only in Brazil but also in other countries in Latin America and Asia. In fact, Microsoft beat the government to the stores. It closed deals with Brazilian manufacturers to market a PC similar to the one specified by the government, but equipped with the Starter Edition. It costs around $675 and is already available at popular retailers.

As for the government's program, a bill approving the proposed tax incentives passed the Brazilian Congress this month. Manufacturers, which had been holding out on making PCs for the program, can get started. Millions of Brazilians are waiting.