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Strategies & Market Trends : Telebras (TBH) & Brazil -- Ignore unavailable to you. Want to Upgrade?

To: Steve Fancy who wrote (12205)	1/21/1999 11:17:00 PM
From: djane	Read Replies (1) \| Respond to of 22640

The Economist editorial [also pessimistic -- what's new] Still a big risk. Even with a floating exchange rate, Brazil's problems are far from over economist.com Brazilian shockwaves Dumping on Cardoso Search archive FORTUNE seems once again to be smiling on Brazil. When the government allowed the real to float on January 15th, investors were euphoric. The Sao Paulo stockmarket soared and, though the real fell against the dollar, it did not collapse. Financial markets around the world have also recovered from initial jitters. Investors are pleased that Brazil is not blowing its reserves in a losing battle to defend its currency. Yet it would be wrong to assume that Brazil's problems are over. A floating exchange rate may even, in the short term, make some of them worse. Until last week, for instance, Brazil's economy suffered from punishingly high interest rates needed to protect its exchange-rate peg. Yet now interest rates have gone even higher (this week the central bank raised the overnight rate from just under 30% to 32%), in order to stop the floating currency from sinking out of sight. The hope is that higher interest rates will only be temporary, until Brazil's battered credibility is restored. But that could take some time. Indeed, if Mexico, the only other big Latin American economy with a floating currency, is any guide, interest rates may well stay high. A floating currency means more volatility; volatility implies risk; and to accept risk, investors demand a reward of high interest rates. And although Mexico, which has relatively healthy public finances, can cope with high rates, Brazil cannot. With a burgeoning government domestic debt of over 300 billion reais ($190 billion) and rising, most of it short-term and at variable rates, Brazil cannot afford today's interest rates for long. To get interest rates down will demand two things. The most important is the completion of fiscal reforms. This week brought encouraging news: on January 20th, the lower house of Congress passed a bill to raise civil servants' pension contributions, a measure it had rejected four times before. But there remains much to be done to cut its fiscal deficit below the present 81/2% of GDP. And plenty of people are ready to stymie the federal government's belt-tightening. Opposition state governors, in particular, are continuing to demand a renegotiation of their debts. On January 18th they declared that Brazil could become “ungovernable” if their demands were not met. Defeating them will be one of President Fernando Henrique Cardoso's biggest political challenges. A clear steer Though fiscal reforms are the priority, Brazil's government must also develop a coherent monetary policy. Now that the currency floats, the country has lost its anchor for inflationary expectations. The Brazilians need to decide what inflation goal they want and what policy instrument they will use to reach it. The more investors understand what policymakers are doing, the faster the country will regain credibility. If all goes well on both fiscal and monetary fronts, Brazil's interest rates should fall (further improving the government's finances) and the country could escape with only a minor recession. But if things go badly, Brazil might eventually face two equally unpalatable alternatives. One is to restructure (in other words, default on) its public debt; the other is to erode the debt's real value through renewed inflation. Either outcome would be disastrous. A default would raise Brazil's risk premium for years; inflation would signal a return to the country's unstable past. Avoiding them will require a lot of hard work—and another dose of good fortune.