Brazil Says New Tax on Foreign Investment Is to Avoid Bubble

Ibovespa Dilma Rousseff, chief of staff of Brazilian president Luiz Inácio Lula da Silva and his hand-picked candidate to succeed him, told reporters that the government of Brazil's decision of creating an additional 2% rate for the Tax on Financial Operations (IOF) to be levied on foreign investment geared at the country should not affect Foreign Direct Investment (FDI).

That is, there should be no additional tax on multinational investment in the productive chain of the Brazilian economy.

With the IOF, the government understands that there should be no reduction in the flow of investment by multinational companies. FDI includes funds turned to investment in the productive side of the economy, like the establishment of factories.

Forecasts by the Central Bank of Brazil show that foreign investment in the productive sector in the country should reach US$ 25 billion this year and US$ 38 billion in 2010.

According to Dilma Rousseff, the additional IOF should only be levied on foreign capital operations in the stock markets and on fixed income investment (public and private securities) when the funds enter the country.

"We are not taxing foreign direct investment. We are only taxing investment," said the Chief of Staff, adding that the additional IOF being levied is one of the mechanisms that the government has adopted to control the appreciation of the Brazilian real against the dollar.

Finance minister Guido Mantega, in turn, explained that the government's objective with levying the 2% IOF on foreign investment in the stock markets and in fixed income investment is to avoid a "bubble" in the stock markets and excessive appreciation of the real, which, according to him, could "affect Brazilian production."

"Our concern is not making money. This is a regulatory tax and the objective is to balance the inflow and outflow of foreign capital in the economy of Brazil to avoid excess, not to cause a bubble in the stock markets or excessive appreciation of the Brazilian currency, the real," said the minister, after participating in a meeting of the Petrobras Administrative Board.

Mantega warned, however, that the measures adopted should not avoid the appreciation of the real and added that the risk is the excessive appreciation of the currency. "I believe the measures are not going to avoid appreciation of the real as that reflects the strength of the economy," he said. "And Brazil is a strong economy. Therefore, the currency is strong."

The minister warned that the real cannot appreciate too much or else it may weaken the productive chain. According to him, time is necessary for the measures adopted to generate a result. "What we have established is a toll to the excessive inflow of dollars."

The president of the National Confederation of Industries (CNI), Armando Monteiro Neto, considered the 2% tax positive. "The government, which has a relatively low scope of operations regarding exchange rates, had to do something, to give a sign to the market that it is prepared to avoid the worsening of the appreciation of the Brazilian real, which is having a great impact on the export sector," said Monteiro Neto.

He recalled that the Brazilian currency had its greatest appreciation against the dollar in 2009: 26.7%. And this concerns industry as exports of manufactured products dropped heavily when compared to the same period in 2008.

"The accumulated appreciation of the real is almost 30%, and exports of manufactured products dropped the same 30% up to September, when compared with the same period in 2008. The government knows about exporter unsettlement, as this also affects industrial employment," said the CNI president.

Monteiro Neto added that, apart from making the country lose competitiveness on the foreign market and lose space to competitors like China, the appreciation of the real also has long-term reflexes. "One of the prices that investors take into consideration is the exchange rate. And one of the things that have been having the greatest impact on the economy of Brazil is the rate of investment, which is dropping. If exports become more expensive and imports become cheaper, productive investment will be affected," he said.

To the president of the Federation of Industries of the State of São Paulo (Fiesp), Paulo Skaf, "the measure is important as, first of all, it shows that the government has acted, contrary to the point of view that it is the market that establishes exchange rates. Apart from that, the initiative reduces the revenues of short-term foreign capital, unstimulating speculation and generating incentives to production and job generation in Brazil".

However, the consultant of the Economic Accounting, Actuarial and Financial Research Institute Foundation (Fipecafi), Luiz Jurandir Simões Araújo, understands that the government's initiative "is a punctual and not structural measure ", whose effects will be short lived. To him, a short period in time should generate loopholes to avoid the tax.

To the specialist in finance, in the short run this tax should cause a certain impact on the result of IPOs (Initial Public Offerings), through which companies collect funds for investment.

Anba/Bzz

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  • Show Comments (2)

  • ch.c.

    at two percent it appears to be just enough to caution consumers, but not enough to scare them away.
    Consumers ?????????

    Tax is charged to ALL FOREIGNERS…ONLY….NOT LOCALS !
    And including Foreign Pension Funds….who are not “consumers” as you state.

    In my view, TOTALLY UNFAIR….if a tax is for Foreigners Only !
    Or should the Bubble be good (more good – if you prefer) only for Locals ?

    Anyway…..a BUBBLE IS A BUBBLE…BY DEFINITION !
    No one knows when and how high it will peak but….IT WILL !
    I went out of all my brazilians shares 2 weeks before, not even knowing that Brazil will start this tax !

    I simply smelled a Bubble ! No doubt that the Brazilian market can go higher.
    Without ME !
    Taking money off the table, especially with big profits, and good you feel whatever happens next !

    But I still do have some brazilian shares in my Global Emerging Funds…by definition !
    The proceeds of sale of my brazilian shares have simply been invested in China, not yet Bubbling !
    😉 😀 😉

  • Responder

    The tax strategy seems to be logical, at two percent it appears to be just enough to caution consumers, but not enough to scare them away. If anything, I don’t think we will see much change in terms of the Real. This is especially the case when considering competing markets, where Brazil, is expected to gain 4.5% in 2010. Moreover, taxing FDI I would assume would have a negligible effect on Real appreciation, but a damning effect on FDI partner retention. I’ll look forward to the markets to see any change, ceterus paribus of course.

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