SUNS4371 Wednesday 10 February 1999

Brazil: Over the edge with high interest policy?

Rio de Janeiro, Feb 8 (IPS/Mario Osava) - Prolonging the high interest rate policy - a constant component of agreements with the International Monetary Fund (IMF) - will push Brazil over the edge, warn a growing
body of economists.

Present interest rates are already enough to "kill the Brazilian economy three times over," said deputy Delfim Netto - the man who led the economic destiny of the country for several years in the seventies and eighties. The Central Bank interest rate was a steady 39% in the last week.

Concern over the issue swelled after the government and IMF announced some of the founding principles of the new Brazilian adjustment programme Thursday, including greater fiscal discipline and control of inflation through the increase in interest rates.

The struggle against the inflation resulting from devaluation of the real is a high priority in the revised agreement beaten out by the Brazilian authorities and the IMF technical mission, in Brasilia last week.

Interest rates will only fall after price increases have been brought under control, concluded Stanley Fischer, Deputy Managing Director, of the IMF, who participated in the negotiations last week.

Brazil and the IMF are "locked into what could be a joint suicide pact," said Netto, putting himself firmly in the growing worldwide camp of people who want the fifty year old IMF replaced given its failure to contain world financial turbulence.

Other economists attending a seminar in Sao Paulo Friday, criticised IMF recommended policy and defended a prompt reduction of interest rates.

Brazil needs to regain credibility along with investors and that can only be done with lower interest rates, said Jose Julio Senna, former Central Bank director and present-day owner of an economic consultancy.

The high interest rate which was supposed to attract foreign capital in fact had the opposite effect: increasing fears among investors that the government will go bankrupt as public debt explodes, he argued.

Now the biggest general concern is that all the effort of spending cuts and tax increases is useless, as it is the mushrooming fiscal deficit which causes the high interest rates.

Brazil has been registering a primary surplus in recent years - that is, the State has been spending less than the gross income obtained. However, the nominal deficit, caused by the financial cost of the public debt, is already more than eight percent of Gross Domestic Product.

In the last five years, the average real interest rate paid by the government in its capturing of resources was above 25% and credit for companies and individuals cost even more.

No economy can survive without imbalances with financial costs so high, Claudio Haddad, an economist commented before the real nosedived. Haddad was formerly director of an investment bank unable to withstand the international crises.

As well as suffocating the productive sector, high interest rates cause intense disputes over the government's subsidised credit which is offered through state banks, creating distortions, privileged groups and, consequently, greater political pressure for special treatment.

And this problem is almost a tradition in Brazil. Previously, the increase of Central Bank rates - which influences and affects the entire market - sought to attract foreign investors, who demanded increasingly large payments to compensate for the risk of a devaluation of the real.

Today it is clear that doubling the exchange reserves of the country in three years - getting to $74.656 billion in April 1998 - only served to offer enormous profits to speculatory capital and contribute to increasing domestic public debt, one factor of the present crisis.

Economists in general consider high interest rates indispensable at least during these months when the exchange devaluation exerts pressure on prices dependent on imports and exportable products. But keeping up present levels is unjustifiable as the effects of the devaluation on inflation will be limited, said Juarez Rizzieri,
president of the University of Sao Paulo Economic Research Institute, which measures inflation in this city.

Expectations, however, are for a further rise. The economic recession will be brutal, predict economists, and the government's own research institute has forecast a 3.9% reduction in Gross Domestic Product.