It was hardly a slip of the tongue when Guido Mantega, Brazil’s minister of finance, coined the term “currency war” in late September when describing the state of the global economy. His bold statement publicly reflected the private concerns of investors and policymakers worried about the amount of government intervention worldwide to curb currency appreciation.
This is a particular concern for Mr. Mantega, whose country is home to one of the world’s strongest currencies. In the first ten months of 2010, the Brazilian real gained 4.5 percent on the U.S. dollar and a whopping 25 percent since early 2009.
Originally the finance minister preferred to limit public spending, opposing devaluation of any kind. But he quickly reversed course when many emerging economies, notably in the Asia-Pacific region, lowered their respective exchange rates. The result: when one country intentionally devalues its currency, its exports become cheaper to foreign consumers and imports more expensive to domestic buyers. When other nations follow suit, this practice, known as competitive devaluation, drives down the economic competitiveness of all nations.
To remain competitive, Mr. Mantega increased the tax rate for foreign investments of fixed-income securities two separate times—the second time only one week after speaking at the Americas Society and Council of the Americas in mid-October. Outside economists defended his actions, noting that investors would nonetheless continue to focus on BRIC (Brazil, Russia, India, and China) countries in the interest of high returns on investment.
Now Brazil has emerged as perhaps the leading critic among developing economies on the U.S. role in a currency war. Mr. Mantega suggested non-expansionary measures to increase demand and consumption, but got the opposite when earlier this month the Federal Reserve announced it would buy back $600 billion in government bonds. Known as quantitative easing, the Fed essentially gave itself license to print new money and increase liquidity to raise bond prices and lower long-term interest rates. Brazil did not react kindly; President-elect Dilma Rousseff blasted the move as “disguised devaluation.”
Mr. Mantega recommended that developed nations agree on a consolidated action plan at the International Monetary Fund meetings in Washington DC in October and the G-20 summit in South Korea earlier this month. But if the missions of the two gatherings were to advance discussion on the issue, then they both failed miserably.
Part of the blame rests with China, which has not allowed its currency, the yuan, to appreciate. Just last month, the People’s Bank of China hastily announced that it was increasing China’s lending and deposit rates to mitigate reports of accelerated inflation. Because the U.S. and EU have large current account deficits and China maintains a large account surplus, the Sino-U.S. gridlock has resulted in a large deterioration of current account balances. Most notably, the world’s fastest-growing economy has displayed its remarkable resistance to international pressure in recent months—and can apparently enlist Brazil as an economic ally. At the G-20, Dilma came to China’s defense, while Mr. Mantega even suggested reducing the U.S. dollar’s role as the world’s reserve currency in favor of lumping it into a “basket” of global currencies that would include the real and yuan.
But the United States is not backing down. In a speech delivered last Friday to the European Central Bank, Fed Chairman Ben Bernanke called on China and emerging countries like Brazil to act foremost on reducing their current account surpluses by stimulating domestic demand. Bernanke suggested that capital-abundant developed countries like the U.S. should act on reducing their deficits.
Observers should take note of China’s ever-strengthening alliance with Brazil. It is already Brazil’s largest trading partner, and both countries are in sync when issuing demands to the deficit-mired United States and European Union.
As Mantega is already confirmed to be on Dilma’s cabinet when she takes office in January, it appears that his voice will only grow louder on the global stage. The same cannot be said for Brazilian Central Bank President Henrique Meirelles—the man credited with overseeing the economic prosperity that defined the Lula era—who abruptly resigned last Friday. He cited Dilma’s intention to drive down interest rates almost immediately upon inauguration and her refusal to grant him the same decision-making autonomy he had enjoyed under Lula.
What is clear is that while Brazil’s global economic power will only grow, a Dilma presidency should not be assumed to be a mere continuation of the outgoing administration’s economic policies.
*Ryan Berger is a guest blogger to AQ Online. He works at Americas Quarterly and graduated from Emory University in 2009.