Banco Central do Brasil Currency and Maturity Matchmaking

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Banco Central do Brasil Currency and Maturity Matchmaking: Redeeming Debt from Original Sin National

Banco Central do Brasil Currency and Maturity Matchmaking: Redeeming Debt from Original Sin National Policies Panel Ilan Goldfajn November 2002 1

Original Sin: Currency Mismatch • How to measure? Net External Liability versus Present Value

Original Sin: Currency Mismatch • How to measure? Net External Liability versus Present Value of Net Exports • Currency Risk Sharing • Why Do Balance Sheets Matter? 2

Net External Liability: Is this the size of the Mismatch? US$ billion International investment

Net External Liability: Is this the size of the Mismatch? US$ billion International investment position (A-B) Assets (A) Direct investment abroad Portfolio investment Financial derivatives Other investment Reserve assets Liabilities (B) Direct investment in reporting economy Medium and Long Term Debt Others 1995 2000 2001 2002 March -165. 5 -347. 3 -264. 5 -271. 6 59. 3. 5. . . 4. 3 51. 5 0. 0 39. 9. . . 1. 8. . . 5. 0 33. 0 0. 0 108. 1 50. 7 6. 4 0. 0 15. 1 35. 9 0. 0 108. 8 51. 3 6. 6 -0. 2 14. 5 36. 7 0. 0 224. 8 48. 7 159. 3 16. 8 387. 2 122. 3 189. 5 75. 4 372. 6 121. 9 182. 3 68. 4 380. 5 126. 0 181. 4 73. 1 3

Current Account Deficit US$ billion 40 35 33. 4 30 25. 3 24. 2

Current Account Deficit US$ billion 40 35 33. 4 30 25. 3 24. 2 25 23. 2 20 15 8. 6 10 8. 2 5 0 1998 1999 2000 2001 2002* 2003* * BC forecasts 4

Net External Liability versus Present Value of Net Exports • Same intertemporal sustainability analysis

Net External Liability versus Present Value of Net Exports • Same intertemporal sustainability analysis • Tradables versus non-tradables • What is the effect of Dollarization? • FDI or contracting in non-tradables (own currency) – still need to generate tradables but have risk sharing 5

Risk Sharing: Distribution of the Mismatch • Residents versus Non-Residents – FDI (equity in

Risk Sharing: Distribution of the Mismatch • Residents versus Non-Residents – FDI (equity in general) increases risk sharing – Borrowing in your own currency • Public versus Private – Domestic Debt indexed in Foreign Currency • Government provides Hedge to private sector • Intertemporal smoothing of risk: Are future generations willing to bear the risks? – How fast can the government transfer back risk to the private sector? • Stock versus Flows • Floating Exchange Rate versus Hedging – Corporates vs Government • Corporates adjust better than government 6

External Financing Requirements US$ billion 6 4 0. 8 2 0 -2 -4 -3.

External Financing Requirements US$ billion 6 4 0. 8 2 0 -2 -4 -3. 2 -6 -8 -7. 4 -7. 8 2002* 2003* -8. 6 -10 1998 1999 2000 2001 * BC forecasts External financing requirements = current account deficit - net foreign direct investments (includes intercompany loans). 7

Gross External Debt 100% 200 150 52% 100 48% Total Private jun mar 02

Gross External Debt 100% 200 150 52% 100 48% Total Private jun mar 02 dec sep jun mar 01 dec sep jun dec 99 0 mar 00 50 dec 98 US$ Billion 250 Public 8

Domestic FX Exposure Domestic Debt Indexed to the Exchange Rate (Includes FX Swaps) 65.

Domestic FX Exposure Domestic Debt Indexed to the Exchange Rate (Includes FX Swaps) 65. 85 70 65 60 55 Oct-02 Sep-02 Aug-02 Jul-02 Jun-02 May-02 Apr-02 Mar-02 Feb-02 Jan-02 Dec-01 Nov-01 40 Dec-00 50 45 Dec-99 US$ Billion 80 75 9

Domestic Debt Maturity Mismatch: Average Tenure of the Debt vs. Debt Maturing in 12

Domestic Debt Maturity Mismatch: Average Tenure of the Debt vs. Debt Maturing in 12 Months 40 60% 33 40% 30 30% 25 Average Term of the Secur. Domestic Debt Oct-02 Sep-02 Aug-02 Jul-02 Jun-02 May-02 Apr-02 Mar-02 Feb-02 Jan-02 Dec-01 Nov-01 20 Dec-00 10% Dec-99 Months 35 Share of Total Debt 50% 0% Securitized Debt Maturing in 12 Months 10

0 Total 70 Sep-02 Jun-02 Mar-02 Dec-01 Sep-01 Jun-01 Mar-01 Dec-00 Sep-00 Jun-00 Mar-00

0 Total 70 Sep-02 Jun-02 Mar-02 Dec-01 Sep-01 Jun-01 Mar-01 Dec-00 Sep-00 Jun-00 Mar-00 Dec-99 Sep-99 Jun-99 Mar-99 Dec-98 Share of GDP Net Public Sector Debt 63. 9% 60 50 40 30 20 10 External Debt 11

Aug-02 Apr-02 Dec-01 Aug-01 Apr-01 Dec-00 Aug-00 Apr-00 Dec-99 Aug-99 Apr-99 Dec-98 Aug-98 Apr-98

Aug-02 Apr-02 Dec-01 Aug-01 Apr-01 Dec-00 Aug-00 Apr-00 Dec-99 Aug-99 Apr-99 Dec-98 Aug-98 Apr-98 Dec-97 Aug-97 Apr-97 Dec-96 Aug-96 Apr-96 Dec-95 US$ billion Conversions of Credit into FDI Accumulated in 12 months 10 8 6 4 2 0 12

Currency Mismatch versus Balance Sheet: Why do balance sheets matter? • Distribution of Mismatch.

Currency Mismatch versus Balance Sheet: Why do balance sheets matter? • Distribution of Mismatch. – Example: Between Tradable and Non-tradable. – But if aggregate mismatch is OK, why haven’t they reallocated risks (markets)? • Published Balance Sheets – Does a completely hedged company in the tradable sector may get in trouble? 13

Conclusions • Measure of overall currency mismatch leads us to the intertemporal budget constraint

Conclusions • Measure of overall currency mismatch leads us to the intertemporal budget constraint of the country • The interesting issue is risk reallocation between residents/non-residents and between private/public (or current versus future generation). • Balance Sheets problems may reflect short horizons or liquidity problems (not currency mismatch by itself). 14