Meanwhile, the vision of Brazilian order and progress as seen by the urban elite, intellectuals, and newspaper editorials was challenged again by the supposedly anarchic sertão , this time in the South. In August 1914, as world attention focused on the outbreak of war in Europe, a very different conflict burst forth in the Contestado region of Santa Catarina. A popular rebellion, also known as the Contestado, confronted the "colonel"-dominated socioeconomic and political system. Where the Salvationist Movement aimed at substituting one oligarchy for another, the Contestado rebels rejected the national system and wanted to remake their part of the Brazilian reality. As with Canudos, the response of state and federal authorities was pulverizing violence.

The region's economy was based on livestock, the collection of maté, and lumbering. Its social structure concentrated wealth and power in the hands of a few "colonels," around whom lesser landowners were arrayed. Most families lived at the sufferance of those men or had shaky land titles. A jurisdictional dispute between Santa Catarina and Paraná arose because each state issued deeds to the same land. The no-man's-land attracted fugitives from throughout Brazil. The construction of the São Paulo-Rio Grande do Sul Railroad and the timbering and colonization operations of United States capitalist Percival Farquhar added foreign elements to the already volatile mix. The Brazil Railroad and the Southern Brazil Lumber and Colonization Company forced Brazilians off their expropriated lands, imported European immigrants, and sawed away at virgin pine, cedar, and walnut trees. People whose families had lived in the region for a century suddenly saw their lands rented or sold to others. As if that were not enough, in 1910 the threat of war with Argentina loomed, and authorities speeded the railroad's construction and expanded labor crews to about 8,000. In this environment of tumultuous destruction of the forests, social tensions rose with evictions and the sudden introduction of foreigners and modern technology. The local "colonels" secured their own interests, abandoning their customary paternalism and leaving the mass of people adrift. The Contestado was afflicted with a collective identity crisis, which caused many to turn to messianic religion as solace.

The people of the Contestado followed a local healer, Miguel Lucena Boaventura, known as José Maria, who soon died in a confrontation with Paraná Military Police. His followers refused to accept his death, however, and believed that he was either alive or would rise again. His story mixed with the Luso-Brazilian belief in supernatural assistance in desperate times. This phenomenon, called Sebastianism, transformed the submissive population, accustomed to acting only with the "colonel's" approval, into a resolute fighting force. Their attacks on the railway and lumbering operations and the failure of negotiations with federal authorities led to an escalation of hostilities in 1912 and a fierce military campaign that in 1915 involved 6,000 troops, modern artillery and machine guns, field telephones and telegraph, and the first use of aircraft in a Brazilian conflict. The fighting was spread over a wide area, and the many redoubts of about 20,000 "fanatics," as the army called them, made suppression slow and difficult and also revealed the military's weaknesses. The number of casualties was uncertain but sizeable, and henceforth the army maintained a garrison in the region. The Contestado was subdued by the end of 1917.

Army reformers, a key group of whom returned from training in Germany by the end of 1913, wrote commentaries on the campaign in the new military monthly, A Defesa Nacional . They regarded the Contestado as "an inglorious conflict that discredited our arms." They blamed the republic for its "lack of elevated political norms, the abandonment of thousands of Brazilians . . . segregated from national society by the lack of instruction, by the scarcity of easy means of communication, by the want of energy, and by the poverty of initiative that, unhappily, has characterized the administrations generally since the time of the monarchy." They warned military leaders that "the lesson of the Contestado" was that the army's passivity in accepting poorly conceived political measures would only damage it "morally" and would bring Brazil "the most funereal consequences."

The Contestado joined Canudos as an important component in the army's institutional memory. Veterans played meaningful roles in military and national affairs in the next decades