Brazil’s ‘currency war’ rhetoric is phoney

Brazil's Finance Minister Guido Mantega has accused the United States of engaging in currency manipulation, and said his country would raise this issue at the World Trade Organization (WTO), adding that the U.S. and Chinese policies are fomenting a trade war.

Is it fair for Brazil to brand the U.S. along with China as a currency manipulator?

In an interview with the Financial Times, which was published on Monday, Mantega specifically blasted the U.S. for its liquidity expansion drive by launching the second edition of the quantitative easing program, saying it will damage emerging market economies by causing massive capital inflows.

Though China too came within his radar, the criticism was softer. We have excellent trade relations with China ... But there are some problems ... Of course we would like to see a revaluation of the renminbi, he said, according to FT.

Analysts say the Brazilian criticism of the U.S. is disproportionate. China’s manipulation of the renminbi remains a far more likely flashpoint for a global crisis than the Obama administration’s stance on the dollar, says Julian Jessop, an economist at Capital Economics.
Mantega had said the Federal Reserves' quantitative easing is deliberate strategy that will weaken the dollar and gain an unfair advantage in global trade.

This is a currency war that is turning into a trade war, Mantega had said. Jessop says the argument is short of strong evidence. ... if QE were designed primarily to weaken the dollar, it has been increasingly ineffective: the dollar did weaken after the confirmation of QE1 in March 2009, but has actually strengthened slightly on a trade-weighted basis since the launch of QE2.

Brazil is grappling with an overvalued currency. Goldman Sachs has rated Brazilian real as the most overvalued currency in the world - a label that suits ill for an export-oriented economy. The real appreciated close to five percent in 2010 against the dollar, following on its spectacular 34 percent surge against the greenback in 2009.

The unseemly strength of real has hit domestic exporters and Brazilian ire over the issue is understandable. However, Jessop says policy choices made in Brazil are largely to blame for the rise in Brazilian currency.

He says local interest rates have to be kept high (the benchmark rate is 10.75%) to offset an overly-lax fiscal stance. The key to taming the real (and preventing overheated and unbalanced growth) therefore lies in recalibrating the macro policy mix in favor of a tighter fiscal position and lower interest rates.

Moreover, it's just not Brazil that is forced to step up capital controls. Ultra-loose monetary policy in the West has resulted in strong capital inflows to the emerging markets and most countries have clamped down on the inflows.

Jessop says emerging countries would rather have chosen this situation over the negative impact of a double-dip recession in the U.S. which the Fed is fighting to keep off with its ultra-loose monetary policy. ... emerging economies would presumably rather be dealing with these challenges than with the consequences of the doubledip recession that might have resulted if the Fed had done nothing. This is still a phoney war.

So why is Brazil particularly harsh on the U.S? Brazil has largely been on the Chinese side when it comes to international monetary policy disputes. At the G-20 summit Brazil was seen supporting the Chinese stance when the U.S. was desperately looking for allies to push through its proposal on putting a cap on current account balances.

And, Jessop points out that Brazil's trade surplus with China could also be a reason. The large surplus that Brazil runs with China might explain why it has been quicker to criticize the US.