To Save Brazil, the US Must Replay Mexico
Over the past month, Latin Americas economies have been badly battered by the global financial crisis, and the prospects of a full-scale crash similar to what happened to the economies of Asia and Russia are now growing daily. Acting alone, there is not much more the regions governments can do to avoid such a crash. They have already exhausted most of the policy instruments available to them, are rapidly losing foreign reserves, and face a wholesale retreat by investors. The only solution left is a large international support package perhaps $100 billion or more to reassure creditors that Latin America will remain solvent. Only Washington can provide the leadership to assemble this kind of money.
Latin America has been suffering the consequences of Asias economic missteps and the resulting global slide since it began last October. Stock prices have plummeted. Brazils market dropped from a peak of 13,000 to around 6,500. Stocks have fallen by more than 40 percent in Mexico, Argentina, and Chile. External lending to the region has almost dried up. Latin Americas exports have declined with the worldwide contraction of commodity prices and the slowdown in sales to Japan and other significantly depressed Asian nations. Unemployment is rising throughout Latin America, and projected economic growth for 1998 and 1999 has been revised sharply downward.
Worse yet, Latin Americas downturn is now in danger of turning into an economic collapse. Brazil is the country to watch. What happens there will quickly affect the rest of the region. If Brazil is forced either to decisively devalue its currency (the Real) or default on its foreign loans, virtually every other Latin American nation would be thrust into crisis. Closing the countrys huge fiscal deficit would be the best way to protect the economy, but that cannot be done quickly. For now, at least, Brazilian authorities have already done about all they can. In the past month, they have spent some $25 billion (almost one-third of Brazils reserves) to defend the Real. To stem the outflow of dollars, they have raised interest rates to 50 percent. This is an astronomical level. If sustained for more than a month or so, it will dangerously constrict economic activity, force many firms into bankruptcy, and push excessive government spending even higher. In short, the two available policy instruments interest rates and foreign reserves just cannot be used for very long. Brazilian officials also know that imposing extreme, Malaysia-style controls on capital flows would be counterproductive. This would signal that it was time for everyone to take their capital out, and dash any hope of securing new investments, long or short term.
Things could change. Investors in Brazil might be finally convinced by the governments zealous and persistent measures that the Real will not be devalued and that international creditors will be paid. They may also be buoyed by the fact that President Fernando Henrique Cardoso will be reelected on Oct. 4 for a second four-year term, and begin again to give credibility to his commitments to slash deficits and implement other key reforms. It is perilous, however, to count on such a sudden conversion.
The only sure way out is for the international community to assemble a financial package of sufficient magnitude to reassure Brazils creditors, external and domestic, to keep their money in the country. Even better would be a broader package accessible to other Latin American nations too. If they are not already doing so, the US and Brazilian governments should start working to mobilize needed resources, drawing on the G-7 countries, the IMF and other international financial institutions, and major private banks and investment companies. But this will only succeed if the US can come up with a significant contribution of its own and if Washington presses hard on all the other players.
The US-led initiative to stave off financial collapse in Mexico was among the Clinton administrations most impressive accomplishments. When Congress would not approve funding, the White House promptly acted on it own, using a special Treasury-managed fund, and then galvanized international support.
And it worked. Mexicos recovery began almost immediately. The US got all its money back ahead of time and with a hefty profit. Now is the moment for a repeat performance.
* Peter Hakim is president of the Inter-American Dialogue in Washington.