Brazil Currency Crisis

Transcription

1 From the SelectedWorks of Yogendra Sisodia Winter February 1, 2010 Brazil Currency Crisis Yogendra Sisodia Available at:

2 Brazil Crisis : Story of remarkable recovery Yogendra Sisodia

3 Sequence INTRO CAUSES CONSEQUENCES AND RESCUE STEPS BRAZIL CRISIS : UNIQUE FEATURES INDIAN CASE AND SUMMARY (LESSONS)

4 INTRO AND PRE CRISIS SCENARIO

5 Real Plan (1994) Brazil s central bank made an effort during the 1990s to reign in inflation and public spending. The new currency Real, in combination with interest rates in excess of 30%, stabilized inflation for the first time in decades. Between 1994 and 1998, the real was set to a crawling peg which permitted the currency to depreciate at a controlled rate against the dollar.

6 Real Plan (1994) Brazil began to liberalize not only foreign investment restrictions but also trade. Brazilian tariffs were lowered from an average of 51 percent in 1988 to an average of 14 percent in Despite this Huge Differences between U.S. and Brazilian inflation rates under the Real Plan.

7 Real Plan

8 Devaluation

9 Devaluation

10 CAUSES

11 1999 Crisis Causes The financial crisis that erupted in Asia in 1997 quickly spread to other developing regions, international investors panicked and pulled their capital out (FLIGHT TO CAPITAL) Brazil's financial crisis in early 1999 included both fiscal and balance of payments weaknesses: The bulk of the government's domestic debt which amounted to 40 percent of GDP consisted of short-term financing.

12 Net External Debt

13 Brazil : Key Economic Indicators

14 Current Account

15 Falling Reserves

16 Brazil s Fiscal Deficit While Approaching 1999 Crisis

17 CONSEQUENCES AND RESCUE STEPS

18 Consequences Varying degrees of underemployment and current account deficits. Unemployment climbed to 14% in 1998 from a low of 6% a decade earlier.

19 Rescue Steps The first decision was whether to go back to a managed peg or fixed-rate regime, or whether to float. A full-fledged inflation-targeting framework. Raising interest rates to 45 percent since devaluation of the real was creating inflationary pressures. Raising interest rates attracting holding foreign capital in the country. International financial plan November, 1999 $41.5 billion International Monetary Fund. Lengthening the maturities of the government's domestic debt.

20 Consolidated Public Sector Primary Surplus

21 IMF to Rescue Total = 20875

22 Brazilian interest rates

23 FDI and Reserves Trend

24 BRAZIL CRISIS : UNIQUE FEATURES

25 Why Brazil crisis was not severe Brazil's private sector was not excessively leveraged. Private sector exposure to foreign exchange risk at the outset of the crisis was low. Early inflation targeting cum flexible exchange rate system adaptation.

26 Why Brazil crisis was not severe : Industrial production

27 Why Brazil crisis was not severe : Exchange Rates Through Periods of Devaluation

28 GDP Annual Growth Rate

29 Strong Banking Regulation Less Banking Financial leverage. Brazil was not among the signatory nations of the 1987 Basle Accord but did, in 1994, establish risk-based minimum capital requirements consistent with the accord. Brazilians raised their risk-based minimum capital requirements from the 8 percent Basle Accord standard to 10 percent. In November, following the onset of South Korea s financial crisis, Brazil raised the requirement to 11 percent. In 1994 moreover, absolute minimum capital limits had been set for any bank, regardless of where these minimums would place it in terms of risk-based capital ratios. Commercial banks could have no less capital than 6 million reals.

30 Strong Banking Regulation

31 Tight Monetary Policy

32 INDIAN CASE AND SUMMARY (LESSONS)

33 Movement in Foreign Exchange Reserves

34 Movement in Foreign Exchange Reserves (US $ million)

35 Trade Balance

36 Indian Union Government Accounts

37 Inflation : Global Comparison

38 Indian Inflation Indicators

39 Inflation : WPI Inflation Composition

40 Growth in IIP (YoY)

41 Scheduled Commercial Bank Survey

42 India's External Debt

43 Summary : Pictorial Representation

44 Summary : AA-DD Model

45 Summary : AA-DD Model The AA curve represents the asset market and the DD curve represents the output market (goods and services). When the central bank devalues the currency, the exchange rate shifts upward. Domestic goods are now less expensive and output will expand. Depreciation benefits: an increase in employment, an improvement in the current account, and an increase in foreign reserves.

46 Summary : AA-DD Model (GDP Growth)

47 Summary : Roots of Exchange Rate Crises

48 Summary : contagion

49 Summary : Integrated View

50 Summary : Lessons of Developing Country Crises The lessons from developing country crises are summarized as: Choosing the right exchange rate regime. The central importance of banking. The proper sequence of reform measures. Short-term capital has a speculative, volatile and erratic character. Crisis lead to flight of capital. The importance of contagion.

51 Summary The drive toward liberalisation of the capital and financial markets, without the necessary attention to the design and execution of regulation structures appropriate to the circumstances, was based more in ideology than in economic science -Joseph Stiglitz

52 References: Banco Central do Brasil RBI Bloomberg IMF and WB Wikipedia

53 Looking for Questions

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