“[Capital controls] worked well in Brazil in terms of controlling financial stability and stabilizing the volatility of the exchange rate, but it should be recognized that there is no free lunch,” said da Silva.
“By the same token we have also had to pay a price in terms of foreign investors’ perception of our policy transparency and predictability of our policies and perhaps, in retrospect, [capital controls] even impacted our own animal spirits at home.”
The admission comes as Brazil’s authorities signal that the administration believes it needs to lower the perceived risk profile of investing in the country. President Dilma Rousseff raised the price of gasoline by 6.6% on March 6, which led Petrobras shares to rise by 12%.
|Luiz Awazu Pereira da Silva, Brazil's central bank deputy governor|
Meanwhile Brazil’s Latin American neighbours are being increasingly critical of the administration’s interventionist financial and economic policies. With the economies of Peru, Chile, Colombia and Mexico growing strongly there is frustration that the largest economy in the region isn’t adding to the positive momentum.
Brazil registered GDP growth of under 1% in 2012. Interest rates have been reduced to 7.25%, but with inflation (Ipca) running at 5.8% there is little room for more monetary stimulus. The Brazilian government was also clear in communicating to the markets that it had wanted to see a reduction in the interest rate because of, at least in part, its desire to lower the valuation of the currency.
On this point the governor of the Central Bank of Colombia, José Darío Uribe Escobar, was critical of Brazil’s multiple objectives for interest rate policy. Speaking to delegates of the Institute of International Finance in Panama shortly after da Silva, Uribe said that since 1999 central bank strategy in Colombia had been solely focused on targeting inflation.
“Monetary policy has played an active role in achieving Colombia’s results,” said Uribe, whose economy has grown 3.8% in 2012 with low inflation. He added that other objectives of monetary policy allow inflationary pressures to return to an economy and lessen a central bank’s capacity to anchor inflationary pressures.
“If the public expectation deviates significantly from the inflation target then monetary policy loses its ability to manage,” said Uribe. “The bank’s credibility is crucial to the success of monetary policy. Credibility comes from developing the proper policy framework and building a track record of success in achieving and maintaining low and stable inflation.”
Ramón Aracena, chief economist in the Latin American department of the IIF, believes that Brazil’s economy will rebound in 2013 to about 3% growth but longer-term trend rates will be lower if the country fails to win back the confidence of international investors.
“To achieve a rate of sustainable growth [at around 3%], the authorities need to rebuild market confidence in the three pillars of Brazilian economic policy that was a floating exchange regime, an inflation-targeting framework and fiscal restraint. And it also needs to accelerate reforms to improve productivity,” he says.
Mexico’s deputy undersecretary for public credit, Alejandro Díaz de León, also called on Latin American countries to adopt free-floating exchange regimes, which will attract investors and therefore add liquidity. “Nobody in Mexico questions the benefits or the merits of a free-floating regime,” said de León.
“An exchange rate with the least possible interference, in a deep and liquid market, does a better job at fixing the relative competition pressures of the economy vis-à-vis the rest of the world. I know it’s a hot topic – even at G20 level – but Mexico’s view is that a free-floating regime will do a lot of good for the economy, and we also believe that macro-prudential measures should be the last element in the toolkit to be used.”
Mexico has been increasing its reserves as its currency appreciates, but at 10% of GDP those reserves are still modest in regional terms. Peru has also been buying dollars, but Peru’s minister of finance, Luis Miguel Castillo, says he sees appreciation as a natural part of the emergence of the Peruvian economy and that productivity increases through greater investment is the critical policy component to avoiding too-rapid currency appreciation.
He pointed out that in 1990 total investment in Peru was 16.5% of GDP (compared with 18.4% in Brazil) while in 2012 Peru invested 26.7% (21.2% in Brazil). Castillo stressed the importance of attracting international investors. “Much of the investment [in the Peruvian economy] was foreign; it is unlikely we would have grown at the rate we have grown without our ability to sustain double-digit private investment growth,” he said.
Castillo added his support to the critique of the use of capital controls to control the currency. “They are not effective,” he said. “They may change the composition of flows but they will not change a trend towards appreciation that we see as structural.
"Obviously this large liquidity doesn’t help our task, but this will eventually change and we need to avoid a significant deviation from the equilibrium foreign exchange rate given fundamentals. We need to endure the next couple of years [of pressures to currency appreciation] without the temptation of distorting our economy.”