Friday, 16 March 2012

Brazil joins the currency world war

Brazil has been no stranger to monetary intervention and currency devaluation, but, until now the political rhetoric has been rather passive on this subject. The tone changed a bit after Brazil`s finance minister Guido Mantega declared this week that his country will no longer "play the fool" and let its currency appreciate while richer nations gain economic advantage by devaluing theirs. As a result the government extended this Monday a tax on foreign loans to 6% (similar to the Robin-Hood tax that the European Union is planning to implement). Will this coll down the hot money inflows ?

Brazilian real

After the September 2008 debacle, the real has been on a constant appreciation against the dollar, from a low of around $0.4 to a high of $0.64 in July 20011. It is now trading at $0.558 and the government is planning to adopt measures that would fix the value of the real to a relatively narrow band. The five-year Brazilian real / US dollar from Bloomberg:

The main policies that the government might adopt would be to impose higher levies on foreign capital inflows (or capital controls) which would limit the demand of currency. and to pursue more easing policies. The problem here is that companies can ingenuously work around these capital controls by using local subsidiaries to do their bond investments. Furthermore, meddling with the interest rates could open up the cage of the inflation monster, and the rich history of South American inflationary recessions serves as warning in this matter.

All in all, the global situation starts to resemble a massive corporate price war which will probably be one by the state which will print the most without actually unleashing the money into the real economy (i.e. without generating too much asset inflation and consumer inflation).  

Copyright AFP (Agence France-Presse), 2012

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