In defence of Brazil (and US) against China

This isn't the first time for a South American country to charge an Asian counterpart with its cheap currency. In fact, as my previous post shows, Brazil, one of the significant emerging powers, repeatedly voiced strong concerns for China's currency policy.

Looking at how its currency, real, is valued in the markets, you'll see Brazil's complaint is well-founded. The real is now one of the most overvalued currencies among major economies. According to the BIS, the real has appreciated nearly 40% in real terms since the start of 2009, while the yuan, China's currency, once devalued 6% in the midst and has not yet recovered the level of the start of 2009. Who could say Brazil is paranoid?

However, Brazil has a problem blaming China: China is now Brazil's number-one export partner, and Brazil has recently had a huge trade surplus with China. It means that a cheap real would help exporters, especially commodity firms, thrive more in the world's fastest growing economy, but increased trade surplus would cause a trade dispute with China, a country that Brazil is fast deepening a tie with.

One of the reasons of Brazil's clamor is that the country's overall trade surplus has abated since 2006. Last year, it's little more than 20 billion US dollars, less than half of 2006, which a strong real supposedly brought about.

FT blog claims that the real's strength comes from breakneck economic growth fuelled by government spending. In that sense, Brazil's problem looks like homegrown. Taking into account that domestic inflation is rising due to the rise of commodity prices over the globe, however, the country has no choice but to raise its policy interest rates to curb inflation, which in turn helps the real appreciate more.

Brazil is planning to slash its government spending to ease pressure on the central bank to raise interest rates, and hence an upward pressure on the real. But the share of government spending in GDP is 19.5% in 2009, no bigger than 20 to 23% in the 1990's. It's questionable that only the cut in government spending could achieve the goal of a stable currency.

Inflation is also rising in China, which has recently led the country to hike its interest rates. Yet, the speed of the yuan's rise has been stubbornly slow so far. Even though the Obama administration refused to label China a currency manipulator, the tide of requirement for yuan's rise looks like not ebbed among US policymakers. Brazil, together with the US, has every reason to grumble over China's currency when no country dares to get on China's nerves.

Brazil to curb currency speculation

Brazil is set to impose another measure to curb the appreciation of its currency real against the dollar, thus preventing speculative money from flooding into the economy. According to a Bloomberg report,

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.

Brazil's move is quite understandable given the recent steep rise of the currency. In fact, according to the BIS, Brazil's real exchange rates have increased 33% in the last two years, the third biggest gain among all 58 countries which the BIS covers in the broad effective exchange rates data.

It's excessively odd that China, the fastest growing economy in the world, has one of the weakest currencies of all.