Brazil Drops as Federal Reserve Caution Offsets State Debt Deal

  • Yellen signals renewed doubts on strength of U.S. economy
  • Federal government reaches deal on $126 billion of state debt

The real dropped after Federal Reserve Chair Janet Yellen signaled renewed doubts about the strength of the world’s largest economy, offsetting local optimism that Brazil’s government is making inroads toward cleaning up its fiscal house.

The currency fell 0.5 percent to 3.4133 per dollar on Tuesday, after earlier advancing as much as 1.1 percent following gains in emerging markets on signs the campaign for Britain to stay in the EU was gaining momentum.

The real reversed gains after Yellen said in remarks prepared for delivery Tuesday that the Fed is on watch for whether, rather than when, the U.S. economy would show clear signs of improvement. Just six days earlier, Yellen said a cautious approach to interest-rate hikes “will allow us to verify” that growth, jobs and inflation are improving.

"Investors are digesting Yellen’s speech and this is causing volatility in the real, as we have domestic optimism pressuring the currency up but her comments weighing for a stronger dollar," says Reginaldo Galhardo, a foreign-exchange manager at Treviso Corretora de Cambio in Sao Paulo.

Acting President Michel Temer’s deal with state governors on the 427 billion reais ($126 billion) that they owe the federal government bolsters the case of investors who have made the real the world’s best-performing currency this year on speculation a new administration would improve the country’s economy. The debt load at states struggling through a two-year recession threatened to undermine Brazil’s financial system.

"The recent deal on debt payment between the government and states is also sending a positive signal to investors in Brazil," said Arnaud Masset, an analyst at Swissquote Bank SA in Gland, Switzerland.

Temer’s economic team is trying to shrink a near-record budget deficit that has cost Brazil its investment-grade credit rating and has eroded investor sentiment. Finance Minister Henrique Meirelles has proposed a series of measures to shore up fiscal accounts, such as a cap on federal spending rates.

Brazilian swap rates on the contract maturing in January 2018, a gauge of expectations for interest-rate moves, dropped 0.12 percentage point to 12.66 percent.

Before it's here, it's on the Bloomberg Terminal. LEARN MORE