The recent Brazilian FX market: a few comments

One of the difficult moments in the recent past of the Brazilian financial markets was during May 2006 when the BRL jumped from 2,06 in the second day of the month to 2,35 on the 23rd day of the same month: a devalue of 14% in three weeks. The panic in that month came from the foreign investors struggling to sell off their Brazilian Treasury bonds. After initial hesitation, our Treasury started a massive repurchase of these bonds, demonstrating that they knew how necessary was the offering of liquidity to maintain its own credibility within the market. The potential gains of allowing the market to go down would have been a kind of “one-shot game”. The Brazilian FX market in these past few days seems to have some similarities with what occurred two years ago. However, our Central Bank is not showing to have the same urgency in bringing down the BRL rate that reached  peak of R$ 2,40/US$.

Lula’s declaration, published at “Valor Economico” yesterday arguing that the Central Bank should act but preserving “our” reserves, indicates how much our main authority lacks on understanding the current economic crisis. How is it possible to preserve the Brazilian reserves at a moment on which the main obligation of the Central Bank is to preserve the value of our own currency? After all, the main fraction of these reserves are not our own; they are the counterpart of foreign investments in Brazil. Now, at the moment that these investors, for innumerous reasons, have decided to leave the country, the Central Bank is offering a very narrow door.

The argument that the current run towards dollar is due to the short positions of our companies in the future markets does not make too much sense. It is not within the BM&F future market that the BRL is formed, but due to the net position of the FX market as a whole. The panic of those companies is directly proportional to the action (or the inaction) of our Central Bank. And to allow these short positioned companies to bankrupt does not seem a very plausible action.

Anyway, the BACEN should act fast, as the option of letting our currency meltdown 50% in few days is not a good attitude to maintain the credibility build in the past recent years. Hurry up!