Jul 07, 2016

Why does the Brazilian Currency Continue to Strengthen?

Author: Michael Cordonnier/Soybean & Corn Advisor, Inc.

The Brazilian currency has strengthened considerably over the past few weeks to trade at approximately 3.3 to the dollar and some analysts are predicting that it could strengthen to 3.0 to the dollar in the coming weeks. I am not an economists, so I am going to rely on experts to try and explain what is going on with the Brazilian currency. Below are six reasons why economists from InfoMoney feel the currency has strengthened in recent weeks.

I really can't judge if these reasons are valid or not, but there has to be some rationale why the currency is the strongest it has been in over a year. What I do know is that a stronger currency is not good news for Brazilian farmers. Since agricultural commodities are priced in dollars, but paid in the local currency, a stronger local currency generally results in lower domestic commodity prices. Therefore, if the Brazilian currency continues to strengthen, it would be one more financial hurdle for Brazilian farmers as they prepare for the 2016/17 growing season.

  1. Until recently, the market had assumed that the Federal Reserve would raise interest rates in June or July, but that sentiment changed with the Brexit vote. Now the sentiment is that maybe there will be an interest rate hike by the end of the year, but not sooner. If that is the case, then there is less reason to flee the Brazilian currency.
  2. New regulations in Brazil are forcing Brazilians to declare if they have money offshore and to bring the money back to Brazil and pay taxes and a fine. The original requirement was that Brazilians had until October to bring the money back, but that may be extended. The idea is that the returning money would increase tax revenues to the federal government and help to hold down the deficit. The total amount of money coming back in is small compared to the overall economy, but it should help the economy and government revenues. With the Brazilian Congress in the process of impeaching President Dilma and the Petrobras scandal continuing to expand, wealthy Brazilian are trying to avoid any unnecessary problems, which makes them more willing to pay the taxes they owe and the fines in order to settle their accounts.
  3. The prime interest rate in Brazil was expected to start declining during the second half of 2016, but the Brazilian Central Bank recently announced that there will only be a gradual reduction in the interest rates. As a result, investors are a little more inclined to keep their money in Brazil due to the good returns, and that in turn, supports the Brazilian currency.
  4. A reduction in what they call "swaps." I am not even sure what this is, but the experts say that the Brazilian Central Bank has an exposure of US$ 62 billion, which is half of what it was in March and that is a good thing for the currency. It allows the Central Bank to have more flexibility in dealing with the economy.
  5. There is apparently now more confidence that the Brazilian Central Bank has the capacity to intervene in order to keep the economy on a more stable footing. In other words, maybe the worse is behind them in Brazil and the economy might be stabilizing, which would allow for an improvement moving forward.
  6. Stronger commodity prices for everything including petroleum, iron ore, soybeans, and corn which should help the economy. The Brazilian economy is heavily dependent on commodity exports and improving commodity prices is an encouraging sign for the economy.