October 5, 1998

Brazil Battens Down For Test Of The Real And Unreal

Eric Ellis, Sao Paulo

Sao Paulo's Avenida Paulista is a gleaming testimony, and a sobering reminder, of the economic crisis that threatens to engulf Brazil, and possibly the Americas.

Latin America's Wall Street, as it styles itself, bears an ominous resemblance to Jakarta's now devastated equivalent, Jalan Jendral Sudirman - the shiny new towers of foreign banks and firms that have swooped for a share of the "Brazilian miracle" in recent years.

But along this street in the past two months, like Jakarta last year, the best part of $US30 billion of Brazil's foreign exchange reserves has been blown in a desperate defence of the currency, the real. Blowing 40 per cent of the national savings in an election campaign that culminates today might seem an odd way to get re-elected. But it came naturally to Fernando Henrique Cardoso, Brazil's President since 1994 and the "father" of the real, the most successful of Brazil's five currencies in 12 years.

In retrospect, taking on Cardoso's real seemed an easy bet for speculators and may continue to be, depending on the sort of mandate he gets in today's poll.

But the next time, it's probably the top-up of $US25 billion to $US30 billion from the International Monetary Fund that will be sloshing around Paulista in an attempt to prevent Brazil from slipping into the abyss.

Strangely, FHC, as he's known here, has seen his popularity rise and his re-election assured as Brazil's economic crisis worsened, as much an indictment on his ineffectual opposition as it is a statement of Brazil's paranoia about inflation.

Cardoso may be defying the economic rationalists in defending the real but his determination is easily understood against the recent backdrop of Brazil's hyper-inflation.

No-one is so intimately associated with the real as Cardoso and nothing, not even the runaway unemployment now on the way back, spooks Brazilians more than inflation.

Inflation was running in the thousands during the lost decade of the 1980s and getting worse under the corrupt presidency of Fernando Collor de Mello in the early 1990s before Cardoso, a one-time Sao Paulo sociologist with no real experience in fiscal matters, arrived with the now famous Plano Real.

He abolished the old cruzeiro soon after being appointed finance minister in 1993 by the then President Itamar Franco, and for 50 days in 1994, Brazil was effectively without a currency. But the Plano Real succeeded beyond Brazilians' imagination. Originally starting life pegged at parity to the $US, it actually strengthened for a time against the greenback as Brazilians awakened their sleeping economy and started posting tiger-like growth figures.

After two decades of violent boom-bust cycles, Brazil was starting to appear like a normal country. Confidence, jobs and investment returned. It even weathered the trickle-down of Mexico's 1994-95 tequila crisis.

But the Asia crisis and the Russian meltdown have put extreme pressure on the real, exposing the vulnerability of Cardoso, his Finance Minister, Pedro Malan, and Central Bank president Gustavo Franco to a concerted currency attack in staking the country's economic survival on maintaining a strong real.

The Plano Real's greatest strength has become its Achilles heel - its dependence on foreign currency inflows, which are hardly guaranteed these days. Indeed, spooked investors have been pulling dollars from Brazil at a rate of $A1 billion a day.

But Cardoso is relying on the Malan-Franco team staying in place when he is re-elected, despite less certainty from a cranky Congress about pushing through their reforms.

"It wouldn't make much sense changing the composition of the economic team during a moment of turbulence like this," said Celso Pinto, economic columnist on the Folha de Sao Paulo newspaper.