One almost feels sorry for Brazil’s central bank President Alexandre Tombini these days. The man charged with steering the monetary policy of the world’s sixth largest economy has a lot to handle.
The U.S. Federal Reserve has signaled it will finally reduce its quantitative-easing policy, a move that spells the end of the easy money that has helped Brazil's economy coast for years. This has contributed to an initial blow to the Brazilian real, which last week dropped to its lowest level in 4 1/2 years. The currency is now down about 11 percent against the U.S. dollar in the past three months according to Bloomberg data. Meanwhile, yesterday the central bank raised its lending rate by 50 basis points in a signal it plans to keep inflation below 6.5 percent -- the government's upper bound on its target range -- despite its exchange-rate woes.
So Tombini may have made a smart decision when he skipped the U.S. Federal Reserve’s Jackson Hole, Wyoming, symposium last week and on Aug. 22 launched a $60 billion intervention plan using currency swaps and loans to stem the decline. By using derivatives the bank avoids an immediate loss of reserves to defend the currency.
The real jumped the most in almost two years after the announcement. Martin Redrado, Argentina's central bank chief before he was ousted in 2010 by left-leaning President Cristina Fernandez de Kirchner, gave the measure a thumbs up in an Aug. 23 tweet: “Brazil shows how economic policy must stabilize the dollar in uncertain times. They will use US$60 billion in reserves to achieve it.”
Brazil's Folha de S. Paulo newspaper also approved in an Aug. 24 editorial, titled “An exchange tranquilizer,” arguing the move “contributes to quell the protests and alleviate the fears of lack of control over the exchange rate, which could erode even more the confidence of economic agents.”
The jury is still out, however, on how successful the plan will be in the long term. As the Fed’s moves become clearer, more investors will probably continue to pull their money out of emerging-market economies. Brazil’s O Estado de S. Paulo newspaper discussed such doubts in an Aug. 25 editorial: “With foreign reserves exceeding US$370 billion, the Central Bank could use part of that money to address the instability. But the bank has followed a prudent approach and it’s hard to say, for some time, if an alternative measure, burning some dollars, would be more effective.”
The key issue here is how to measure that effectiveness. If the ultimate goal of the program is to offer a limited lifeline to investors and companies with dollar-denominated debt -- as financial flows head back to developed markets -- that may effectively help some investors get out of a jam. Brazilian companies have already seen their debt jump 2.9 percent in July, largely due to a weaker real, according to credit bureau Serasa Experian. But if the bank hopes to somehow restore its credibility, the plan may be too little too late. Already, market participants sense Brazil’s move may not be enough.
Guido Mantega, Brazil's finance minister, tried to instill respect in the central bank’s might, warning investors in an interview with Folha de S. Paulo published over the weekend, that those eager to speculate “may win, but they can lose because the exchange rate floats. So it is imperative to be careful.”
Mantega claims that “pressure of the dollar, in our case, doesn’t respond to capital flight, or a loss of reserves, as in other countries. Here it is hedging and speculation.” But that paints an incomplete picture of what ails Brazil. Poor infrastructure, high taxes, the government’s penchant for meddling in business and generous government spending makes Brazil’s economy vulnerable. This is hardly an encouraging picture once improving fortunes in developed markets offer investors less risky opportunities for their money.
Rodrigo Constantino expressed what many Brazilians were thinking in an Aug. 21 Veja magazine column titled: “The dollar rises and reaches R$2,45. Tombini cancels trip. Brazil is the ugly duckling of the world!” Constantino argues that the government’s “official excuse that this is a global phenomenon loses strength every minute. The problem is ‘made in Brazil’.”
Estado’s Aug. 25 editorial agreed that President Dilma Rousseff’s government could do more at home: “The uncertainty in relation to the Brazilian economy could be much smaller, if the Executive presented a clear plan of administration of public accounts, without makeup, and if it assumed a credible commitment to fiscal responsibility.”
Tombini’s central bank has certainly become a part of the problem as well. Under his mandate the bank continued to cut interest rates to stimulate the economy even as President Dilma Rousseff's government showed a disregard for fiscal discipline. Just as Brazil’s economic troubles are in many ways self-inflicted, any loss of credibility by Brazil’s central bank is largely Tombini’s doing.
(Raul Gallegos is the Latin American correspondent for the World View blog. Follow him on Twitter. To contact the author of this article: Raul Gallegos at firstname.lastname@example.org.)