Over the last five decades, the Brazilian economy has been on a virtual roller coaster.
Periods of strong economic growth and high expectations have been followed by crises,
devaluations and even hyperinflation. This is what happened in the late 1980s,
for example. In 1989 Brazil experienced 1,320% inflation and in 1990, 2,740%.
The result is that 50 years after experiencing what became known as the Brazilian Miracle,
Brazil has still not managed to take the leap forward it needs to become a developed country.
Still, over the past few decades Brazil has attracted investment from many companies,
and in many financial circles it has come to be considered one of the great hopes
among emerging economies. Have you ever heard of the BRICS? I am sure you have.
So, why have we chosen to talk about Brazil in this new collaboration with Value School?
Well... We have done this firstly to find out when and why the Brazilian economy
became so popular and secondly because we want to answer three key questions:
Can stock markets help small investors protect themselves from periods of crisis,
political upheaval and the processes of high inflation
and even hyperinflation that are so common in many emerging countries?
What does the case of Brazil tell us about all this?
And thirdly, can the case of Brazil teach us anything about how to best
apply the processes of economic reform? We will try to answer all these questions,
but first.... The first thing we have to do is to find out where this story begins, the origin of
this particular roller coaster that we see today. (BRAZIL’S ECONOMIC MIRACLE)
The period from the end of the 1960s to the end of the 1970s has come to be known as Brazil's
economic miracle... Although, as we will see, it was not really a miracle at all.
We are talking about a complex, difficult period,
a period marked by a military dictatorship, repression and persecution of any political
and social movement that was not properly aligned with the military bodies in power.
However, in spite of everything, during those years the economy
also registered enormous economic growth. They are known as "the Years of Lead”.
To give you an idea, in 1968 Brazil's GDP was growing at 9.8%,
and by 1973 this growth reached an astonishing 14% .
However, beyond the economic growth that the country registered during the first
years of the dictatorship, the truth is that the bases for this growth were not the best.
The military government stimulated the arrival of foreign capital and measures were implemented
to protect financial investments, but they also bet on stimulating internal demand through the
execution of large infrastructure works. We are talking about projects such as the
Itaipu [ee tie PU] mega hydro-electric plant, the Transamazonian highway and the Angra Nuclear Power
Plant. All financed with public money and debt. What’s more, in 1964 the military created the
Central Bank of Brazil, which they did not hesitate in using to finance their enormous public
works projects. As a result, during the military reign, Brazil’s foreign debt multiplied by 30
and inflation grew and exceeded 34% in 1974. So, when the first oil crisis broke out in 1973,
crude oil quadrupled in price at the same time that international credit became
scarce. That’s when the Brazilian economy began to have problems.
In just two years, GDP growth was reduced by 10 points. Despite this, the military government
decided to continue with its huge public spending plans to try to boost the economy.
And that, that only made the economy even more vulnerable. So in 1979 when a new
oil crisis followed the Iranian revolution, Brazil's economy faced another severe blow.
Economic growth practically disappeared, it simply vanished; income from raw materials plummeted,
the foreign debt had to be renegotiated at ever higher and higher interest rates,
and the government accounts no longer added up, either above or
below the line, not on one side, nor the other. The Brazilian economy was headed for disaster.
And that, that pretty much described what happened.
Unable to resort to foreign credit and with a growing imbalance in public accounts,
the government turned to the Central Bank for financing.
And friends, that was the beginning of the end.
Inflation soon exceeded 100% per year and various attempts to stabilize the situation did not work.
In the end, the economic crisis itself led to the fall of the military government in 1985.
Of course, the advent of democracy did not bring prosperity either. In
1987 the Brazilian government suspended their loan payments and between 1989
and 1993 the country practically lived under constant hyperinflation. Check it out.
(“When I was 10 years old in the 1980s in Brazil, my job was to run through the supermarket aisles
to pass adults who, armed with labeling machines so large that they made us laugh,
wandered around the place raising prices throughout the day.” - Rodrigo Zeidan,
Professor of Economics and Finance at New York University in Shanghai)
At the same time, during the first three years of the 1990s, the GDP per capita plummeted by 10%.
And so, we arrive at 1994, the year in which what has perhaps been the
most ambitious plan for reform in Brazil's history was launched.
(THE REAL PLAN) The Real
Plan was designed with a very clear objective: "The establishment of balance in the government's
accounts to eliminate the main cause of Brazilian inflation.” End quote.
But the truth is that it didn't just stop there. The Real Plan initiated by Fernando Henrique
Cardoso, first as Minister of Finance and later as President of Brazil, aimed to go much further.
Cardoso's plan sought to completely transform the reality of the Brazilian economy by means of:
the privatization of the public sector, financial system reforms, attracting foreign investment
and the opening up of the Brazilian economy to the world through Mercosur.
But the first task was undoubtedly to contain the wild hyperinflation
that the country was suffering. In an attempt to achieve price stability,
the government launched a rapid action program that aimed to end the budgetary
imbalance in the public accounts and immediately afterwards established a new monetary standard,
the Real Value Unit, the value of which was linked to the US dollar and which was assigned a fixed
daily rate in Cruzeiros by the Central Bank. Little by little wages, rates and prices
were quoted using this new value unit. And finally on 1 June 1994,
the Real Value Unit became the new currency of Brazil, commonly referred to as the Real.
And do you know what? The effects on inflation were immediate. While during the
first two financial quarters of 1994 inflation registered an average increase of, wait for it,
more than 40% per month, after the introduction of the Real this was reduced to just over 3%
during the second half of the year. Inflation gradually declined until
1998 when it registered an annual increase of only 2.6%. Take a look.
First objective achieved. The next goal was to restructure and recapitalize
the entire financial system. An operation that was led by the state itself through PROER, the
Program to Stimulate the Restructuring and Strengthening of the National Financial System.
This was a program where the government intervened in financial entities that
presented problems. These entities were then given credit facilities,
the state bought the unpaid loans they had on their balance sheets and finally
sold the entities, in many cases to large international banking groups.
Between July 1994 and December 1998, 76 banks were liquidated or transferred. It was at
precisely this time that both Banco Santander and the then BBV, Banco Bilbao Vizcaya, entered Brazil
through the purchase of Brazilian banks that had been the objects of government intervention.
So far, so good. The fact is that after inflation was brought under control and the
financial restructuring and privatization programs of public enterprises had begun,
local conditions in the eyes of international investors improved significantly. Suddenly
Brazil became fashionable and foreign capital began to pour into the country.
For example, Telefónica, a Spanish telecommunications operator that is
the largest operator in Brazil today, entered the country in 1998 with the
purchase of the public company, Telesp. To give you an idea of the scale of this move,
it is estimated that between 1993 and 1998, the Brazilian government raised a total of $68
billion from the sale of public companies. Well, at that time everything seemed to be
going smoothly. However, the truth was that the Brazilian roller coaster soon started up again.
The question is, would things turn out differently for Brazil this time?
Listen up. (ALL PATHS LEAD TO HERE)
Everything seemed to be going smoothly and at full speed. However,
little by little things got more complicated. In the first place, the plan had the initial
objective of improving public accounts, but what happened was actually the opposite.
The new social commitments brought about by democracy, the growing weight of the
pension system and financial restructuring all triggered public debt. To give you an idea,
the financial reform alone cost the public coffers around $100 billion.
And not only that, since one of the government's objectives to boost economic growth was to
attract foreign capital, it maintained a policy of very high interest rates,
which greatly increased the cost of that public debt. This, in turn,
forced the state to issue larger amounts of debt in order to finance itself.
Thus, in only four years, between 1994 and 1998, the Brazilian public debt
increased threefold while the public deficit climbed to 7.4% of the fixed GDP.
And this, this leads us directly to the second problem.
The combination of high interest rates with huge issuances of public debt created what is
known as “crowding out”, a massive crowding out. The savings of Brazilians and the huge influx of
foreign capital were mainly directed to the purchase of public debt. After all,
why take risks with other investments when you can simply buy government debt and get a huge return?
This crowding out phenomenon was so great that, despite the enormous amount of capital Brazil
received from the rest of the world, companies found it increasingly difficult to obtain
credit. And not only that, many of the country's large companies
began to direct their resources towards the purchase of public debt too. At that time,
buying government securities was more profitable than reinvesting in their own business.
It may seem incredible, but to a large extent this is what explains why, between 1993 and 2003,
the rate of return for the 500 largest Brazilian companies was to increase by 80% while their
investment only increased by 3.8% per year. The search for easy and apparently secure rents,
drove capital not towards new investment projects but basically towards the purchase of public
debt. A textbook case of what is known in economics as the "crowding out" effect.
In the end, the opening up to the outside world, together with the lack of concrete measures to
boost the competitiveness of local companies, only added to this crowding out effect and an exchange
rate inflated by a policy of high interest rates, caused the account balance to reverse
and enter negative territory. The result was that foreign debt began to grow again.
And then, then along came 1998. The year of both the Russian crisis and the Asian crisis.
These crises made foreign capital begin to flow out of the emerging economies at full speed.
In 1999 the Brazilian economy had to be rescued. The IMF together with the World Bank,
the Inter-American Development Bank and several countries that offered
to be part of the rescue group, had to put more than $40 billion dollars on the table.
Even so, when the Central Bank of Brazil was forced to let the Brazilian Real float freely,
the currency lost more than 60% of its value.
The roller coaster was rolling again... That was, until the next commodity boom between 2000
and 2014 and, soon after, another huge crisis from which the country has still not recovered.
The Brazilian economy has really had its ups and downs.
But... At this point, I'm sure many of you will be thinking...... Well,
Josh, if this video was made in collaboration with
Value School... You must be about to tell us what happened with the stock market.
So what on earth did happen to the financial markets during this time?
Well, the truth is that the Brazilian stock market followed practically the same steps
as the national economy and especially those of foreign capital flows into the country.
As you can see in this graph, in just two and a half years, between the beginning of 1995 and the
middle of 1997, the Bovespa index of the Brazilian stock market increased by a factor of three.
In any case, the most surprising fact is that during the last 50 years and in spite of all
the ups and downs, crises and hyperinflations that Brazil has experienced, the Brazilian stock market
has reaped a real return, that is, corrected for inflation, of 6.7%. To illustrate this better,
let's take the case of two hypothetical investors who, in 1968, would have invested
the equivalent of 100 reais in today’s money. Let’s say the first investor invested his
money in bank deposits while the second invested in an Exchange Traded Fund or ETF
indexed to BOVESPA. Well, today the first one would have absolutely nothing while the second
one would have investments worth R$2,573. I guess that proves the power of equities.
In short, this is the story of how Brazil became fashionable, how it defeated hyperinflation and
how the roller coaster returned in spite of everything. With this story we wanted to put
two ideas on the table: the first is that you have to be very careful with trends and with
reform processes. They are not always the panacea they seem to be. If they are not well mapped out,
the results can be very disappointing. The second is that, despite everything,
investing in equities was the best way for Brazilians to protect their long-term savings.
Now you understand better why the mission of our friends over at Value School is
precisely to promote financial culture. So I really hope you enjoyed this video,
please hit like if you did, and don't forget to subscribe for brand new videos. Don't forget to
check out our friends at the Reconsider Media Podcast - they provided the vocals
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providing independent political coverage. And as always, I'll see you in the next video.