Four and a half years after Brazil's FinMin Guido Mantega first re-introduced the world to the term "currency wars," it appears the Brazilians have admitted defeat. Amid what Goldman calls a sharp decline in consumer confidence - to the lowest level in series history - which could also extend the ongoing macroeconomic adjustment processes and therefore delay the recovery of the economy; Brazil's central bank has announced that it will no longer intervene to support the Real via its Dollar-Swap program. In a SNB2.0-esque move, though somewhat anticipated by the market, Brazil enables the devaluation that has occurred to perhaps extend (improving competitiveness) and removing what was becoming a notable fiscal drag. Implicitly, Brazil just followed the Swiss and admitted defeat in the global currency war...
As Goldman notes, according to the monthly FGV Index, consumer confidence (CC) posted a 2.9% mom sa decline in March, adding to the even larger 6.7% and 4.9% mom sa declines recorded in January and February. The overall consumer confidence index is now at its lowest level since the index started to be reported in September 2005. Furthermore, consumer confidence is currently 36% below the April 2012 peak and 28% below the average of the last five years.
The index measuring current conditions declined by a large 5.6% mom sa in March (adding to the 8.6% and 7.0% mom sa declines in Jan and Feb) and the index measuring expectations declined 1.4% mom sa (-6.2% and -4.2% mom sa in Jan and Feb). The two sub-indices are now below the levels sees during the 2008-09 global economic and financial crisis, and also at historical lows (for the series that started in September 2005).
Finally, as reported yesterday, business confidence in the industrial sector declined by a large 8.2% mom sa in March, adding to the 3.4% mom sa decline recorded in February, and is currently 28% below the January 2013 peak. The index measuring current conditions declined 9.0% mom sa in March and the index measuring expectations fell 7.2% mom sa.
Business and consumer confidence remains very depressed given the anticipation of policy tightening, rising inflation, rising taxes, rising interest rates, significant increases in utility and transportation tariffs, deteriorating labor market conditions, and more demanding credit conditions. This poses major headwinds for private consumption and overall activity in the coming months and indirectly contributes to erode overall governability conditions.
Very weak confidence indicators could also extend the ongoing macroeconomic adjustment processes and therefore delay the recovery of the economy.
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As Bloomberg reports, the program, which began in 2013 as part of an effort to limit volatility, wasn’t enough to keep the Brazilian real from plunging 26 percent over the past year to the weakest level since 2003 this month. The swaps became a fiscal liability after growing to about $113 billion, according to Alberto Ramos, the chief Latin America economist for Goldman Sachs Group Inc.
Last year, the weekly total for foreign-exchange swaps shrank to $200 million. In 2015, the bank has offered only as much as $100 million a day in swap auctions. The real touched 3.3148 per dollar on March 20 and traded at 3.1395 on Tuesday.
While the swaps don’t change the supply of physical dollars in Brazil, they support the real by meeting demand from investors who want to hedge against the risk of the decline in the Brazilian currency. They also boost onshore dollar loan rates, encouraging commercial banks to bring the U.S. currency into Brazil to profit from the higher rates onshore.
“This is good not only because they’ll stop increasing their position, but because the daily auctions create more noise in the foreign-exchange market,” Roberto Padovani, chief economist at Votorantim Ctvm, said by phone from Sao Paulo. “They announce the auctions and there’s a lot of turbulence.”
And as Goldman concludes, this is a very welcome move and a step forward to facilitate the needed macroeconomic adjustment...
In our assessment, the Central Bank has intervened excessively in the FX market over the last 19 months, driving the outstanding stock of Dollar swaps to a very high US$113bn, and contributed in keeping the BRL over-valued for most of the period.
While an over-valued currency certainly helped to prevent inflation from escalating to an even higher level in recent years, it ultimately hurt the competitiveness of a number of tradable sectors in the economy and contributed to the significant widening of the current account deficit.
Barring further announcements, at the current pace of daily roll-over auctions the Central Bank seems bound to let roughly US$2.2bn of the swaps maturing April 1st expire (an amount that is broadly equivalent to the amount of new swaps placed throughout the month of March).
Ending the Dollar-swaps program was to some extent already anticipated by the market as in recent weeks the authorities have signaled not only comfort with BRL depreciation but had expressed the view that the stock of Dollar hedge offered via the Dollar-swaps was already close to the level demanded by the market.
The swaps program was turning into an increasing fiscal liability.
Since September the swaps program generated heavy fiscal losses (via net interest-payment recorded in the fiscal balance) as the BRL/USD entered a rapid depreciation path; and the losses have likely accumulated further in February-March given additional BRL depreciation in the month.
As we concluded at the time of Manteca's warning,
We feel sad for the central banks, who apparently don't realize that in this war of attrition there are no losers, and the final outcome is the end of Keynesianism. We hope someone promptly discovers the FX equivalent of the nuke, and a global exchange occurs, as we, for one, can't wait for this most destructive experiment in economic fundamentalism to end already.
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