by Nomi Prins
The IMF played both sides in adopting its related policy statement. It noted that “full liberalization” was not “an appropriate goal for all countries at all times,” but “countries with extensive and long-standing measures to limit capital flows are likely to benefit from further liberalization in an orderly manner.” In other words, despite concerns, opening borders for cheap capital remained its mantra. It was a blow to Mantega and a victory for unfettered capital flows in the era of conjured money.
Still, at the end of the year, Mantega told Brazil’s key economic newspaper Valor Econômico that the one-year anniversary of Brazil’s new economic policy (lower rates and bank spreads) was a “period of structural change.”57
Despite being low for Brazil, its relatively high interest rates still attracted historical levels of foreign speculative capital, overvalued the real, and hurt the “competitiveness of Brazilian production.” Yet, he asserted, “the era of easy, risk-free gain” is over.58
Prophetically, his message contained warnings. First, because the era of easy money emanating from the West and Japan was far from over. Second, a reduction in interest rates and depreciation in the real could cause losses to the same export sectors that had borrowed abroad and replaced domestic products with imported ones and could also hurt those parts of the financial sector that relied on higher rates for their profits. Conjured-money policy outside of Brazil was inadvertently causing more problems for the future than helping solve present ones.
INFLATION RISING
No sooner had bank spreads fallen than inflation rose, partly because of climate change. In early 2013, a deep drought plagued Brazil (its worst in half a century), putting upward pressure on electricity and food prices.59 This precarious state of affairs put Mantega, in his office in the P block of the Esplanade of Ministries, in a quandary. He had two choices. The first—act as if inflation wasn’t happening. The second—avoid focusing on rising inflation. He opted for the second.
He told Reuters on February 7, 2013, “The trend is for inflation to fall.”60 His comments were the polar opposite of Tombini’s seemingly uncharacteristic hawkish views.61 (A small group of Tombini’s supporters was quick to tell Reuters that he was often misunderstood and was in fact more conservative in terms of monetary policy than his reputation indicated.)62 Brazilian political and central banking policies were at odds. Tombini realized Mantega would not attain the fiscal objectives he had promised the BCB.63 And so, an acute epoch of every man for himself began. So were the seeds sown of a political shift that would shock Brazil and reverberate throughout the world. Tombini wanted to raise rates to combat inflation—a stance on which international traders made bets favoring him. On March 14, 2013, Goldman Sachs economist Alberto Ramos forecast a possible increase in the SELIC by April or May.64
The media inflamed the tense situation. During her April 10 morning show on Globo (an almost monopolistic Brazilian TV channel), TV star Ana Maria Braga sported a tomato necklace, signifying how expensive tomatoes had become.65 Six days later, the BCB switched course and began a rate-hiking trend to contain inflation. This was also a month after Tombini addressed a Goldman-sponsored event in São Paulo that portended the hikes.
And yet, though inflation rampaged, the BCB’s April 16 minutes revealed ambiguity over exactly how to address it.66 Since 2012, taming the real had been an acceptable factor to explain increasing inflation (though not enough to solve Brazil’s current account problems). Less politically tolerable was citing contributing factors such as a tight labor market and higher wages. Blaming robust employment for inflation would entail curbing the labor force, which was not a popular leftist platform. The BCB minutes wisely shied away from mentioning employment being too high.
From there, policies shifted regarding the treatment of external capital flows into Brazil. If the Fed, as rumored, ended ZIRP or “tapered” QE, Brazil would have to pay more interest to attract the hot money upon which its economy had become dependent. It was a financial catch-22; permitting such inflows had driven currency overvaluation.
Money flow was a double-edged sword. Though it might prove harder to control future foreign capital outflows, external capital was needed to close the balance of payments. Foreign capital won. On June 4, 2013, the government announced it would cut the IOF tax rate on credit, bond, securities, and derivative transactions to make it easier for foreign money to enter (a reversal of the earlier position).67 Mantega continued to fear extensive capital outflows combined with a reduction of inflows if the Fed were to “taper” its QE policies, as was rumored, which could hurt Brazil. So, two weeks later, the tax on currency exchange transactions by foreign investors for funds entering Brazil’s exchanges and markets was also removed as a measure to keep capital in.68
Since Tombini had taken the helm of the BCB in January 2011, annual inflation had shot up to more than 6 percent, the top of the BCB’s target range.69 By June 2013, utility price hikes demoralized the population. With an increase of twenty cents in bus fares in the city of São Paulo as a final straw, a wave of social media–organized street protests swept the country. Citizens staged anti-Rousseff demonstrations against FIFA’s World Cup event and protested other seemingly unnecessary expenditures they deemed unwise uses of dwindling national funds for the purpose of showing off internationally.
The protests gained national prominence, and participants from varied ideological positions made various demands. Dilma Rousseff was only one target of these demonstrations. Protestors spanned from the Far Left to anarchists, members of the center-right, evangelicals, groups calling for the return of the monarchy, neo-Nazis, and the famous black-blocks, who were responsible for the most aggressive demonstrations and vandalism.
Massive protests broke out against raising bus tariffs in São Paulo and the rest of Brazil’s major cities. State police reacted violently, which generated solidarity protests throughout Brazil. Other protests targeted poor quality in public services like health and education, popularizing such terms as “for a FIFA standard public health system” and “for a FIFA standard public security.” The references to the federal government’s support of the costly World Cup was clear. Since 1988, Brazil has had a Unified System of Health (SUS), free health care coverage for every Brazilian citizen, sustained by the federal government. But because it did not provide the best service in terms of quality, people criticized subsidizing the World Cup over hospitals.
Regarding inflation, there was enough blame to go around. Some economists, notably the revered Werner Baer, Tombini’s former economics professor at the University of Illinois, believed Tombini had been betrayed by Mantega, who hadn’t controlled spending and borrowing in tandem with low rates, which would have boosted investment. Though Tombini started raising rates in April 2013 to fight inflation despite a weak economy—absent the government’s role of curbing spending—hikes were not enough to curtail inflation. Plus, higher rates choked credit, further hurting the economy.
By late August, Brazil faced a potential currency crisis. During the Rousseff years, current account results grew a bit worse each year, culminating in total disaster in 2014. In 2013, there were current account problems, almost zero GDP growth, and massive demonstrations against corruption. The real was dropping. Fast. Wanting a weaker currency was one thing; having one crushed by foreign speculation was another. Brazil wasn’t alone in its concern about the strong US dollar. Emerging market central banks began draining billions of dollars in reserves to prop up currencies against the dollar, even with no US rate hike materializing.
For Brazil, the method differed. By defending the real in the futures instead of spot foreign exchange (FX) market (eight times as large and more liquid), the BCB could avoid touching its $375 billion reserves as other central banks were doing.70 It could sell dollar and buy real contracts and settle the difference later. Companies that had to pay interest on debt in dollars but received profits in real were most active in those contracts. To reduce volatility, the BCB offered them the
ability to access extra dollars later if needed.
By November 11, 2013, the BCB had raised rates back to 10 percent, reflecting not just a rate hike to thwart growing inflation but a slap in the face to Rousseff’s prior support of the old BCB policy of cutting rates. It was the sixth hike that year.71
Brazil’s economy deteriorated as the US economy improved. That trend of bifurcating economies between developing and developed countries in the past would have signified just another global financial cycle and Brazil’s relative position in it. When emerging economies overheat because of massive capital inflows from developed nations, there is no internal majority pushing for restrictive financial measures because the money is generally welcomed.72 When that capital leaves for greener pastures, the emerging country is left with a hole to fill.
In Brazil, the ongoing ideological battle of wills and elites over monetary policy raged internally. But externally, they were pressured by the presence of epic global central bank intervention that caused a deluge of capital flows from G7 countries seeking higher yields through a coordinated, unprecedented fabrication of capital. This had unnaturally fueled excessive speculative inflows from dominant to recessive countries, from those that controlled monetary policy or created the most artisanal money to those that reacted to it.
MORE PROMISES, WORSE RESULTS: HEADING TOWARD 2014
When she sought the presidency, Rousseff railed against austerity as part of her platform of promises. In November 2012, she had spoken at an Ibero-American leaders’ summit in Cadiz, Spain, criticizing austerity as a solution for the economic crisis in Spain.73 “Policies that only stress austerity are showing their limitations,” she had said. “Exaggerated and simultaneous fiscal consolidation in every country is not the best response to the global crisis and could make it worse, leading to worse recession.”
Given Brazil’s economic condition in 2013, though, that anti-austerity sentiment she once espoused died a quick death. By the fall of 2013, Brazil’s financial system was in distress. It had gone from foreign investor darling to demon with lightning speed because of the alleged recovery of the United States and its Pacific Alliance partners. On September 27, 2013, the Economist wrote the first of many scathing analyses of Brazil titled “Has Brazil Blown It?”74 The piece attacked Rousseff, who, the editors deemed, had “created new problems by interfering far more than the pragmatic Lula.”
The Economist further argued that Rousseff “has scared investors away from infrastructure projects and undermined Brazil’s hard-won reputation for macroeconomic rectitude by publicly chivvying the Central Bank chief into slashing interest rates. As a result, rates are now having to rise more than they otherwise might to curb persistent inflation.”
The criticism underscored the power and logic gap in conjuring money: it was fine for elite countries with big banks and central banks to cut rates, not for others.
In early January 2014, Brazil’s former BCB head Henrique Meirelles, who went on to become president of the Advisory Council of J & F Investments in 2012 (the holding company of JBS, Brazil’s largest food company, funded by BNDES during Lula’s and Rousseff’s governments and central to 2017 bribery charges against President Michel Temer), was dismayed. To him, it was important to correct failed “creative” economic policies, like those adopted after his tenure.
“Historical experience,” he wrote in Folha de São Paulo, “shows that the best way is to adopt policies that have worked in many countries, including Brazil.”75 It was his way of justifying the high rates he had sought. His comments were a direct attack against Mantega’s, Rousseff’s, and Tombini’s cheap-money policies, and they sealed the beginning of Rousseff’s defeat. This money conjurer and US ally attacked her publicly, signaling harder days to come. The moment underscored the fateful bet that the PT and Rousseff had made against Meirelles when she kicked him out of the BCB.
By September 2014, Brazil posted the worst current account deficit since 2001.76 It occurred during an anxiety-filled presidential election and intense disputes among Rousseff, the winner; PSDB pro-austerity neoliberal candidate Aécio Neves, who came in second; and the Brazilian Socialist Party candidate and Itaú Bank favorite Marina Silva, who placed third.
The markets became increasingly erratic. The real depreciated by 12.69 percent through 2014 even as the SELIC was raised by 1.75 percent. Gasoline and diesel prices increased by 3 percent and 5 percent, respectively, despite a 60 percent reduction in global oil prices, causing pain to average drivers.
On October 29, 2014, the BCB raised rates from 11 percent to 11.25 percent.77 Other major central banks remained in low-rate mode. Politically, Tombini made it clear that Rousseff would not control monetary policy anymore. Yet inflation would not be tamed. By December 2, the BCB’s Monetary Policy Committee voted unanimously to raise rates to 11.75 percent.78
GROWING SHADOWS OF POLITICAL DISCONTENT
On January 1, 2015, while Brazilians were nursing New Year’s Eve hangovers, Brasília, the capital, witnessed the swearing-in ceremony for President Dilma Rousseff, reelected on October 26, 2014, for her second term. She narrowly defeated Aécio Neves (of the right-wing PSDB) with 51.64 percent to 48.36 percent of the vote. She vowed to kick-start the economy, tackle corruption, and make budget cuts.
It had been an arduous reelection campaign. Reacting to pressures to cut spending and dismissing Mantega during an open press conference with journalists, Rousseff had a plan.79 She selected a new, more hawkish minister of finance, Joaquim Levy. He was a keen austerity proponent, boasting a PhD from the University of Chicago and a long career at institutions like the IMF, the Inter-American Development Bank, the European Central Bank, and Bradesco Asset Management.
Facing a choice between the social support base of the Left and the need to promise tolerance for the financial markets and international sentiment, Rousseff went with the latter.
Embryonic in June 2013, antigovernment demonstrations blossomed after Rousseff’s second victory. They were compounded by the problem of leverage, or taking on too much debt during good times without considering the consequences of unwinding.
At first, starting in the late 2000s and into the 2010s, as Brazil’s firms took on more foreign debt, they were subsidized by the government, which borrowed at 14.25 percent and lent to them at 2 percent. A January 2015 IMF paper characterized this “Bon(d)anza” as reminiscent of past Latin American debt crises, but this time corporate rather than sovereign bonds were managed by foreign banks.80 In addition, the real was getting crushed in the markets, rendering foreign interest payments even more expensive to make for Brazilian companies.
On January 24, 2015, the left-leaning and once-dovish Tombini completely crossed over to the “other side.” With his reputation on the line as inflation rose above target limits, he did what other money conjurers around the world were doing: he overstepped his monetary policy role to advocate fiscal austerity to tame inflation. This was an unpopular idea because historically in Brazil these two areas of economic influence were distinct and theoretically separate. This was an unprecedented bid to combine power over both elements, rendering them more political than practical in the process.
“A consistent fiscal policy implemented rigorously ultimately helps inflation converging to the target,”81 he said in an interview at the World Economic Forum in Davos, Switzerland. Fiscal austerity and tight monetary policy jointly implemented during a deep recession, however, was not a strategy that had proven effective, nor one used by Brazil before. But these were desperate times. World policy was becoming Brazil’s policy, or at least Brazil’s elite were now accepting it as so.
By early 2015, Petrobras, the country’s flagship oil company, was mired in domestic scandal and its foreign investors were livid. Lawsuits for billions of dollars of losses resulting from having been “misinformed” about Petrobras’s true condition stacked up. On February 24, 2015, Moody’s cut Petrobras’s rating to junk, pushing its bond prices to record lows. In New York, US judge J
ed Rakoff consolidated lawsuits against Petrobras and its bankers—Citigroup Global Markets, JPMorgan Securities, and Morgan Stanley82—into a large class-action suit.83
A month later, on March 24, the BCB ceased sales of FX swaps in the futures market to support the real. The real sank to a twelve-year low.84 In 2013, the BCB had auctioned $1 billion of dollar loans and $500 million of FX swaps weekly. By 2015, it offered just $100 million a day in swap auctions. However, the swap program was never about simply supporting the real. It was designed to protect local companies that were too indebted in foreign currency. Tombini hoped companies would have enough time to adjust their balance sheets for the new exchange rate situation, despite the fiscal costs of the FX swap program.
He badly miscalculated the extent to which large foreign debts would weigh down Brazilian companies booking profits in real and making interest payments in dollars or other currencies.
THE RISE AND CRASH OF PETROBRAS
Beyond the real dropping and inflation rising, another scandal now snaked into multiple sectors and government areas: rampant corruption and fraud at state-run oil giant Petrobras. During 2014, Petrobras common stock market value dropped by 37.9 percent and its preferred stock by 37.6 percent.
Between January 2003 and March 2010, Rousseff had been the chair of the Petrobras board. In 2015, as the newly reelected president, she had to deflect weekly diatribes from her own minister of finance and BCB head in the midst of investigations into criminal practices at Petrobras and a tanking economy. Brazilian newspapers were relentless in their condemnation of everything she had done or might do.
With oil prices diving and scandal escalating, Petrobras needed money to make interest payments. The firm owed $135 billion in loans and bonds to international investors, and the budget cuts it was proposing were comparatively shallow. Fortunately for Petrobras and indicative of superpower realignments, China came to the rescue. On April 1, 2015, Petrobras signed a $3.5 billion financing agreement with the China Development Bank, part of a broader cooperation agreement with China.85 (Petrobras got another $10 billion lifeline from China in early 2016.)86