Brazil Sets Reserve Requirements for Currency Positions to Stem Real Rally

Brazil’s central bank set reserve requirements on short dollar positions held by local banks in its third attempt since October to stem a rally in the currency. The real fell for a third consecutive day.

The new rules have the potential to reduce short positions in the dollar to $10 billion from $16.8 billion in December as banks seek to avoid paying reserve requirements on currency operations, Aldo Mendes, the central bank’s director of monetary policy told reporters in Brasilia.

Starting April 4, Brazilian banks will need to deposit in cash at the central bank 60 percent of their short positions in U.S. dollars above $3 billion or their capital base, whichever is smaller. The reserves will not earn interest, Mendes said.

“The international environment is challenging and generates the need to focus on financial stability,” central bank President Alexandre Tombini said. “The central bank takes measures when it decides to take it. This was the adequate moment.”

Policy makers in Latin America are trying to stem currency gains as fast economic growth and low interest rates in rich nations attract capital inflows to the region. Finance Minister Guido Mantega said this week that Brazil’s government is ready to take new measures to prevent the dollar from “melting” and stem the real’s 37 percent rally against the dollar since 2009.

Photographer: Sebastian Bravo/Bloomberg

Monetary Policy Director Aldo Mendes. Close

Monetary Policy Director Aldo Mendes.

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Photographer: Sebastian Bravo/Bloomberg

Monetary Policy Director Aldo Mendes.

Excessive Positions

Tombini said the short dollar positions were excessive relative to the size of the currency market, prompting the central bank to set the reserve requirements. He cautioned Brazilian companies, saying that in a floating regime the exchange rate can swing both ways and that high levels of international liquidity were unlikely to persist.

“This measure is probably the first of a series of moves that the new government will announce -- they will do what it takes to hold the real,” Marcelo Salomon, chief economist for Brazil at Barclays Plc in New York, said in a phone interview.

The measure could weaken the real in the short-term, though is unlikely to have a lasting effect, said Andre Perfeito, chief economist at Gradual Investimentos. The real’s appreciation is based on “fundamentals,” he said.

Since October, Brazil’s central bank has twice raised, to 6 percent, a tax foreigners must pay to buy fixed income and derivative assets. President Dilma Rousseff, in her inaugural address Jan. 1, pledged to protect the country “from the indiscriminate flow of speculative capital.”

Brazil’s real fell as much as 1.17 percent after the announcement before paring losses. The currency weakened 0.8 percent to 1.6869 per dollar. Yields on the interest rate futures contract due in January 2012 rose 1 basis point to 12.1 percent.

Latin America

Other emerging markets including Chile and Peru have stepped up their battle against the weak dollar in recent days.

Chile this week said it will buy $12 billion in the foreign-exchange market to weaken the peso, the region’s best- performing currency over the past six month. Peru’s central bank on Jan. 1 extended reserve requirements for banks to their overseas units to stem inflows increasing volatility in the sol.

‘Infinite’ Tools

Mantega said Jan. 4 that the government has an “infinite” number of tools at its disposal to affect the country’s exchange rate and support exporters hurt by the currency gains.

Brazil’s trade surplus narrowed 20 percent last year from 2009 as a stronger currency and the fastest economic growth in more than two decades fueled imports.

Perfeito said today’s move by the central bank shows that Rousseff’s top concern is preventing the real from strengthening further. The move raises the risk bank President Tombini won’t raise the benchmark Selic rate this month to control inflation running at a 23-month high, he said.

“Perhaps they won’t increase the Selic at the next meeting, because they are trying so hard to control the exchange rate,” Perfeito said. “That’s my worry right now.”

Traders are betting policy makers will raise the benchmark rate by 50 basis points, to 11.25 percent, at their Jan. 18-19 policy meeting, according to Bloomberg estimates based on interest rate futures contracts. Brazil’s real interest rates accounting for inflation, the highest in the Group of 20 nations, are a magnet for speculative capital, Mantega has said.

Inflation Jump

Brazilian consumer prices, as measured by the IPCA-15 index, jumped 5.79 percent in the 12 months through mid- December. That’s the highest inflation rate in almost two years.

Mendes said today’s move had no connection with monetary policy.

In 2009, Brazilian banks held $2.9 billion in long positions in dollars, swinging to $16.8 billion in short positions at the end of 2010, Mendes said.

“It’s bad for the economy when the system swings to one extreme,” Mendes said.

The measures are “prudential” and could spur dollar purchases that weaken the real and reduce the central bank’s daily dollar purchases, he added.

Nelson Barbosa, the Finance Ministry’s executive secretary, said today’s measures had been under consideration since 2008 and will reduce volatility in the foreign exchange market.

To contact the reporter on this story: Matthew Bristow in Brasilia at mbristow5@bloomberg.net; Andre Soliani in Brasilia at asoliani@bloomberg.net

To contact the editor responsible for this story: Joshua Goodman at jgoodman19@bloomberg.net

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