Re: Brazil and the IMF

["Henry C.K. Liu" <hliu@xxxxxxxxxxxxxx>]

The real fundamental problem with Brazil was two fold: 1) A misguided
emphasis on export and 2) a misguided monetary policy of fixed exchange
rates.

Both of these policy errors trapped Brazil into being a victim of dollar
hegemony.

No version of debt resolution can save Brazil, however humane or ingenious.

Brazil needs to adopt the State Theory of Money and free up sovereign credit
for the revitalization and development of its domestic economy.  This can
only be done with exchange control.  Tell the IMF to go home and impose
strict control on imports payable in foreign currencies.  Require all
Brazilian exports to be payable in Brazilian real.

See:
http://www.atimes.com/atimes/China/DG23Ad04.html

see:
Crippling debt and bankrupt solutions
By Henry C K Liu
http://www.atimes.com/atimes/Global_Economy/DI28Dj01.html

In Brazil, the government was forced to allow a short two-day period of 9
percent devaluation of its peg before it threw in the towel on January 15,
1999, and suspended foreign-exchange control and abandoned the peg to allow
the Brazilian real to free-float. Seven years earlier, in 1992, even the
mighty British Treasury had to throw in the towel in its failed defense of
the pound sterling against the onslaught of the bet against the currency
staying in the Exchange Rate Mechanism from George Soros's hedge fund.

During the first two days of the Brazilian crisis, the government tried to do
a stock purchase, copying Hong Kong's example of "market incursion" in August
1998. But it was a non-starter. Hong Kong had to use US$18 billion in two
days to foil the manipulation of its stock and futures markets on August 29,
1998. Brazil had only US$30 billion reserve left by January 14, 1999,
compared with Hong Kong's US$100 billion, and the Brazilian market was bigger
than Hong Kong's. So the government decided that it was futile even to try,
after some faked moves failed to spook unimpressed speculators.

For many years, IMF experts had touted the myth of the indispensability of
fixed exchange rates for small economies heavily dependent on external trade,
such as Hong Kong, or large free-trade economies facing high inflation, such
as Brazil, in the context of an international finance architecture set up by
the Bretton Woods regime. The inertia of the status quo and the lack of hard
data on the uncertain effects of de-pegging had permitted this myth to assume
the characteristics of indisputable truth, even though the Bretton Woods
fixed-exchange-rate regime had been abandoned since 1991 and deregulation of
global financial markets had totally changed the rules of the international
finance game.

Brazil pegged its currency to the US dollar as a way of fighting chronic and
severe inflation. When the Real Plan was introduced in 1994, inflation was
3,000 percent annually.

The overvalued Brazilian currency peg inflicted much pain on the economy,
first in the export sector and subsequently spreading throughout the entire
economy. Both industry and labor had wanted for a long time a lower-valued
currency (the real) to relieve Brazil from a high (70 percent) interest rate
and to revive an export sector saddled with heavy foreign debt, even if the
pre-devaluation low inflation of 3 percent was expected to rise as a result.

The crisis in Brazil was triggered by a moratorium on state debt payments
imposed by the large and wealthy state of Minas Gerais on January 12, 1999.
On January 13, Brazil devalued the real by 9 percent, having seen its foreign
reserves drop by more than half in the previous five months to US$31 billion.
A drain of $1.8 billion from the Brazilian central bank was recorded the
following day. At that rate, Brazil only had 15 days to go before it would
run out of reserves.

On the morning of January 15, to stop the financial hemorrhage, Brazil lifted
exchange-rate control entirely and allowed the real to float freely in the
foreign-exchange markets without central-bank intervention. Within minutes,
the real fell to 1.60 to the dollar from its previous 1.32, but by day's end
settled around 1.43. By the end of the trading day on January 15, Brazil had
managed to halt the flight of the dollar, with the real down 10.4 percent for
the day and 18 percent from the pegged rate, even though the market had
estimated the real to be overvalued by 30 percent.

In the long run, a gradual float to the estimated market value was considered
reasonable. But the overvalued currency was allowed to linger too long and
did too much structural damage to the economy, which continued on a downward
slide. The real is now trading around 3.6 to a dollar.

Still, with a free-floating currency, Brazil's short-term interest rate fell
from 71.65 percent to 36.11 percent in one day and the stock market jumped 34
percent on January 15, 1999 from its previous low, with lifting effects
worldwide on other markets. The Dow Jones Industrial Average (DJIA) rose
219.62 points, or 2.4 percent, to 9,340.55 on that day. US Treasuries dropped
sharply, reversing the flight to quality, pushing yield on 30-year bonds up
to 5.12 percent from 5.05 percent. By 7pm on January 15, only $173 million
had left Brazil's foreign-reserves coffer.

In 1999, Brazil had to face a budget deficit and a $270 billion foreign debt.
But its self-imposed penalty of an overvalued peg was removed, gaining
improved conditions for export and stimulative effects for domestic demand.
However, IMF conditionalities forced Brazil to adopt austerity budgetary
measures and privatization that prevented domestic economic development.

With Brazil's currency free-floating, it was obvious that Argentina's
currency board regime could not hold. Argentina tried dollarization briefly,
but the combined penalty of high interest rates, asset deflation, reduced
exports, trade deficits and high unemployment finally pushed the country off
the cliff in 2001, defaulting on its $95 billion sovereign debt. Argentina is
living proof of the myth of dollarization as the path to economic security.
http://www.atimes.com/atimes/China/DJ16Ad04.html

"James K. Galbraith" wrote:

> PKT friends --
>
> I have just published an essay on Brazil, the IMF, and larger monetary
> issues through the Levy Institute;  it is available at
> http://www.levy.org/docs/pn/02-2.html for those who may have an interest.
>
> With regards.
>
> James Galbraith
>
> *****
> Professor James K. Galbraith
> Lloyd M. Bentsen, Jr. Chair in Government/Business Relations
> LBJ School of Public Affairs
> The University of Texas at Austin
> Austin TX 78713-8925
>
> See the UTIP web-site at http://utip.gov.utexas.edu
> See the ECAAR web-site at http://www.ecaar.org
> See the Levy web-site at http://www.levy.org