The crisis continues to worsen in Latin America, as currency selloffs and collapsing markets prompt governments across the region to tap currency reserves and take emergency liquidity measures.
Stockmarkets across the region went into free-fall on Monday. In Brazil, the Sao Paulo Bovespa exchange closed for business twice as equities dropped by as much as 15%. Mexico felt a 7.29% drop in its IPC index, while in Colombia the IGPC was down 4.86%.
The selloff in the currency markets also hurt Brazil the worst — at its lowest point on Wednesday morning the real traded on the nearby future at R$2.4625/$1. At its high point on August 1 the real had stood at R$1.5545/$1. The Mexican peso also dropped some 16% against the dollar intraday on Wednesday. Brazilian and Mexican central banks pumped in dollars in response. Brazil held three spot auctions (amounts unknown) and sold $1.3bn in dollar swaps on Wednesday, while Mexico auctioned $1bn on Wednesday and a further $1.5bn yesterday.
Bond market participants say trading in the region’s sovereign bonds has all but halted. By the close yesterday (Thursday) Argentina’s five year CDS protection cost had gone over 2000bp. Venezuela’s was near 1500bp.
On Tuesday Brazil cancelled a planned local market auction of NTN-B inflation linked notes. This was the first time in seven months the sovereign had cancelled a bond sale. However, after the recent fat years of high commodity prices, countries across the region have strong reserves to fall back on and analysts are little concerned that sovereigns may fall short of funds. The critical area is the squeeze on corporate funding.
"The immediate impact of the credit crunch is being felt on corporates who have lost access to external financing as the markets have seized up," said Nick Chamie, head of emerging markets research at RBC Capital Markets in Toronto, "and now the impact of the credit crunch is also reaching domestic financial systems. Brazil in particular has been feeling that pressure, and the government is taking measures to try and maintain the flow of investment to corporates."
Brazil’s policy responses this week included a further easing of banks’ reserve requirements on time deposits with the central bank: 40% of the requirements can now be met by buying credit portfolios from other banks — a measure that the central bank said should release as much as R$23.5bn ($11.6bn) in capital.
Other measures include announcements that the central bank will lend dollars to Brazilian institutions overseas, and that the government will transfer $5bn from its $206bn currency reserves to the national development bank BNDES for export funding.
Different measures
"The situations and the policy measures are distinct in different countries," said Alberto Ramos, senior economist at Goldman Sachs in New York. "A problem that has emerged in Brazil is that liquidity is not evenly distributed through the financial system, thus small and medium-sized banks with relatively small deposit bases have been hit particularly hard by the liquidity squeeze. The moves on reserve requirements this week should help address that issue."
Elsewhere in the region, Colombia eliminated capital controls on flows into debt instruments — capital controls on equity inflows were lifted in September. Venezuela’s president Hugo Chavez said $7bn could be transferred from the central bank’s reserves (of around $38bn) to the National Development Fund to help meet social spending budgets.
The eyes of regional economists are now turned to the moves countries will take on interest rates. Chile’s central bank was due to set rates yesterday, with analysts expecting a softening in stance after a recent series of hikes.
"Many Latin American countries are now adapting both fiscal and monetary policies to try and cushion the blow of the crisis," said Nick Chamie, head of emerging markets research at RBC Capital Markets in Toronto. "We are seeing central banks move to less hawkish positions on interest rates, while countries are also moving towards fiscal loosening to deal with the expected slowdown."
However inflation remains a strong concern for Latin central bankers — the more so as currencies sell off. According to Alberto Ramos, central banks may aim to find a policy balance of maintaining high interest rates to target inflation, while continuing to inject liquidity into markets.
In Chamie’s assessment, the policy measures taken so far have been sufficient responses to the crisis.
"At this point it could be a mistake for policy-makers to react much more strongly and over-extend themselves," he said. "It makes sense to take a wait and see approach — we don’t know whether the new exchange rate levels are going to be sustained or not."
"This is the real test now for the region’s governments," says Ramos. "In recent years they have been managing abundance — the steps they take now will show their true policy convictions."
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