The paper starts with the observation that it is increasingly accepted that improving the quality of life in impoverished urban areas depends on the capacity of local residents to form social networks and civic organisations. While much of the literature calls for a retreat of the state to accomplish this, some recent studies have shown that state actors can actually promote empowerment of civic organisations. The article looks at an example of state-fostered civic organising: Porto Alegre's "participatory budget", which involves handing over municipal funding decisions on basic capital improvements to neighbourhood-based forums. The analysis looks closely at the Extremo Sul district in terms of mobilising neighbourhood residents, opening closed neighbourhood associations, building co-operative alliances, and transforming participants' perspectives. It is argued that in response to this policy innovation, innumerable neighbourhood organisations have formed, whilst at the same time clientelist forms of neighbourhood action have been discouraged and participation and inter-group collaboration promoted. It is concluded that the first step to state-sponsored civic organising is that the state must be genuinely open to participation and responsive, and that potential participants must become aware of that responsiveness. In Porto Alegre, this did not happen straight away, but there was a demonstration effect that helped mobilise groups, and the targeted issues were found to be meaningful to poor neighbourhood residents. Community organisers also acted as external agents helping unorganised neighbourhoods organise. Networks of reciprocity and trust were built and clientelism discouraged, as alliances built up from year to year and people changed the way they perceived their interests. Against the trend for promoting self-financing and cost recovery in infrastructure investments, top priority went to raising revenue through taxation and administrative streamlining. Further, government spending set off, rather than discouraged, a boom in civic action. It is argued that the policy prioritised a different kind of investment: building new relationships between government personnel and citizens. This new type of governing privileges accessibility, flexibility, and negotiation. It is argued that, overall, there has been a fundamental transformation of political life in Porto Alegre as neighbourhood residents have shifted from powerless cogs in clientelist machines to being active participants in public life.