According to Pedro Videla, a consultant to the IMF, the World Bank and a professor at the Iese School of Economics and Business, in Spain, Brazil failed miserably to make structural changes to increase productivity at a time of strong economic growth, and now, he says, the country may pay the price for its mistake. “Now, everyone is very concerned that there is a Brazilian subprime” he said in an interview to Estado de Sao Paulo.
Here’s his interview:
Q: In what types of credit is this potential subprime concentrated?
PV: Consumer goods. From dish washers to housing to cars. The stabilization process allowed Brazilians to buy these goods. People question this statement, saying the household credit to GDP is not even 80% while in Spain it was more like 140%. Well, the country is also impacted by commodity prices which are coming down because the world economy is not growing and the commodity-hungry countries like China and India are having lackluster growth. Furthermore, as Bernanke takes liquidity out of the system, all of those who were buying commodities to protect themselves from inflation in the US should vanish. I know that Brazil was chaos in 1995 and now is better. But the questions are: Can I start a business more easily now than in 1995? Can I invest more easily now? Can I find more human capital now than in 1995? Unfortunately the answer is no.
Q: Is it because the government did not take the necessary measures?
PV: The structural changes that are needed to increase productivity were not made. Very important changes were made as measures of stabilization. This is what is called the first wave of reform. But it lacks the second wave of reforms. Without wanting to meddle in local politics, the perception from the outside world is that the current government, instead of making structural reforms, is being short-term minded and living the moment, creating even more distortions.
Q: What is the impact of the Fed’s policies to Brazil?
PV: It’s very dangerous. Bernanke kept interest rates low because he saw no inflation, so everyone brought money to Brazil, valuing the Real and BC had to create barriers to the flow of capital. But now the opposite is happening and money is flowing back to the US. And what can a country with a current account deficit like Brazil do?
Q: What can happen?
PV: Analysts all over the country say that a crisis in the balance of payments will not occur because now there is a fixed exchange rate. What can happen is a great strain on the financial system and economic growth. The Brazilian financial system doesn’t have the liquidity to continue with the current model. Now it would be interesting to see how many housing and car loans are based in US dollars and not in Real.
Q: You mean debt securities issued abroad to finance consumption …
PV: This is the problem. This creates two incompatibilities. The first is to borrow in the short term for a class that will not pay for the next 20 years. And the second is to borrow debt in dollars and then lend it in Reais. These two distortions are bad.
Q: But Brazil has US$380 billion in international reserves.
PV: This can last for a week, as the Russians know well from their own crisis (in 1998). Russia had the world’s second largest reserve, almost US$680 billion, and needed to defend the Ruble, as commodity prices fell. When the Ruble depreciated, it was a big problem. All households and businesses had their assets in a currency depreciated by 20%, and all of its liabilities in a strong currency. They could not afford it. And when you can not afford it, you use the reserves. You need to check on the Brazilian reserves. We hope that the officials that oversee the banking system have thought about this possibility. It is a concerning question mark.
Q: What can the government do?
PV: They should not feed this bubble further. That is what the Central Bank is doing. That’s why the President is concerned, as this necessarily implies lower growth.
Q: Are you certain of a bubble in Brazil?
PV: The signs are there, like if you go to the Sugar Loaf and a Coke cost me US$1.50. The prices of the apartments also concern me. One could argue that it is not a bubble, but an adjustment of the real exchange rate. But the rising prices of apartments were higher than commercial units. This scenario does not mean that Brazil does not have a good future. The big question is how the transition will happen, if it will be abrupt or smooth.
Q: Can it happen smoothly?
PV: Yes, it is possible. That was what the BC tried to do with the devaluation of the real, but it is very complicated. The BC can not control the exchange and the money flow at the same time. The market undoes it all. The only way to do this in Brazil is raising rates, but there are side effects. In the short term, all companies will lose competitiveness, then there will be less growth in employment and output. It’s a very difficult situation. Perhaps the next elected government will try to make the necessary adjustments.