Brazil's Govt Faces Crucial Week For Restoring Confidence
By MARY MILLIKEN
Dow Jones Newswires
SAO PAULO -- Caught between a rock and a hard place one month
before elections, Brazilian President Fernando Henrique Cardoso is under
immense pressure this week to restore investor confidence in the economy
and stem the startling outflow of capital.
Following the tightening in credit announced last Friday, market
participants are expecting austerity measures on the fiscal side and
additional moves to keep capital inside Brazil.
Local media reported that a fiscal package will be announced Tuesday,
after the Independence Day holiday Monday. Cardoso repeatedly denied
this possibility.
Despite the grim deterioration in the domestic scenario, market watchers
still expect the government to avoid a devaluation of the real before the
Oct. 4 elections.
"The most costly option before the elections is a devaluation, which would
be seen as the failure of the Real Plan," said Alvaro Piris, a Latin American
economist at BBV Latininvest in London.
According to the chief foreign exchange dealer at one Sao Paulo bank, a
devaluation would mean "admitting that the policies up to now haven't
been correct."
"I don't think they are going to fiddle with the currency," he added.
Cardoso is well ahead of his main opponent, leftist candidate Luiz Inacio
Lula da Silva, in the polls, and the numbers show he would be re-elected
in the first round of voting.
But if currency stability - the cornerstone of Cardoso's four-year-old
economic stabilization plan, the Real Plan - falls away, the president will
lose credibility not only with voters but also with the international
investment community that has played a key role in the economic
development of Brazil.
Last week served up a string of devastating blows to Cardoso's economic
team, headed by Finance Minister Pedro Malan and Central Bank
President Gustavo Franco.
On Thursday, Moody's Investor Service simultaneously downgraded
Brazil's and Venezuela's foreign currency sovereign ceilings to B2 from
B1.
On Friday, Moody's followed up by downgrading the financial strength
ratings of the three largest private banks, Banco Bradesco SA, Banco Itau
SA and Uniao de Bancos Brasileiros SA to C from C+.
Moody's justified its downgrades by saying that the "increased
international volatility of global capital markets has heightened Brazil's
vulnerability to sudden changes in investors' confidence."
Both government officials and domestic market participants criticized
Moody's downgrade, which puts Brazil on par with Nicaragua.
Despite a widespread perception of unfair treatment by Moody's, capital
streamed out of Brazil at an alarming pace and the stock market engaged
in moments of panic selling.
"It came at a very inopportune moment," said Silvio Camargo, an
institutional equities sales executive at Sao Paulo's Banco Fator.
The Sao Paulo Stock Exchange's Bovespa Index fell by an accumulated
14.7% Thursday and Friday. At one point late Friday, the index was
down by nearly 14% before closing with a 6.1% loss.
On the foreign exchange side, Brazil posted an estimated net dollar
outflow of $2 billion on Friday, putting the accumulated outflow at $6
billion in one week. Foreign exchange sources estimated that the Central
Bank spent some $2 billion on Friday alone on the spot and future
currency markets to keep the real steady.
The foreign exchange dealers also noted that much of the outflow came
from profit remittances by multinational companies as confidence in
currency stability deteriorated.
In an interview published in the Sunday edition of O Estado de Sao Paulo,
the Central Bank's Monetary Policy Director Francisco Lopes said that
reserves had fallen below $60 billion, perhaps to $59 billion, from $70.21
billion at end-July.
While Malan and Franco wrapped up their participation in a two-day
meeting with Latin American colleagues and the International Monetary
Fund in Washington, the Central Bank announced late Friday a move to
tighten credit on the local market and stem the outflow of funds.
As of Tuesday and until the end of the month, the Central Bank has
suspended funding to banks at the basic rediscount rate, or TBC, of 19%.
Banks will only be able to tap Central Bank funds at 29.75%, the ceiling
rate known as the Tban.
The monetary authority alleged that banks were borrowing heavily at 19%
to buy the high-yield Brazilian Brady bonds after weeks of falling prices
due to the Russian financial crisis.
Lopes said this temporary measure - which he termed "monetary
contraction policy" rather than an increase in rates - will push market rates
closer to the Tban.
"As this defensive action by the Brazilian government changes the
expectations about Brazil, the Real Plan and macroeconomic policy, and
we begin to gain rather than lose reserves, the interest rate will
automatically fall towards the TBC," Lopes said in the Estado interview.
Market watchers say that, in theory, the higher rates mean higher debt
servicing costs and a widening in the public deficit, already at a worrisome
7% of gross domestic product.
That reasoning is what is leading the market to expect a fiscal tightening
these days. "Some kind of fiscal measure would be appropriate," said
BBV's Piris.
But analysts point out that any measures are likely to aim more at boosting
credibility in the government's willingness to tackle the deficit rather than
actually making an impact in the public accounts.
"Before an election, it's almost impossible to see a significant fiscal
measure," said Piris.
The respected weekly magazine Veja quoted an anonymous government
source as saying that the fiscal package would outline measures to reduce
the deficit over the next three years, without providing further details.
Fator's Camargo said a good solution for Brazil would be a mix of fiscal
austerity policies and the support of multilateral organizations for possible
debt financing difficulties in Latin America.
Growing expectations of a reduction in U.S. interest rates should also help
relieve some of the tension on Brazil.
While market watchers remain optimistic that Brazil will weather the storm
and avoid the dreaded devaluation, the markets will continue in the throes
of uncertainty before the Oct. 4 elections.
"We are going to have 30 very bad, nervous days," said Camargo.
-By Mary Milliken; 55-11-813-1988; mmilliken@ap.org |
