The Importance of Being Brazil

The Importance
      of Being Brazil

Brazil has the ninth largest economy in the world, its market
size is about two-thirds that of the US. The Brazilian economy has historically drawn more
attention from the US mainly because Brazil propounds enormous risks at trying times. It
is obvious from an investor’s point of view that a Brazilian financial crisis is of grave
importance to the US. Brazil is too important of a partner in good times and a
troublemaker in bad times to be left alone.
By Basil M. Karatzas

Unlike the precipitating Russian economy and its tangential repercussions to the US, a
potential fall of the Brazilian economy will be painful and costly. It is not merely the
size of the Brazilian economy but mainly its inter-dependence with the US and the rest of
the world, both direct and indirect that canonizes its importance. While the International
Monetary Fund (IMF) and the World Bank have dutifully kept a watchful eye on Brazil since
recent tumultuous events around the globe, the US government has a vested interest in the
report card of the Brazilian economy.

The Brazilian economy has historically drawn attention from the US because Brazil can
make an excellent financial partner in good times. Of course, times have never been that
good in Brazil (given inflation rates, political events and corrupted political
institutions); nevertheless, Brazil is a solidly developing country that has leapfrogged
in recent years with an impressive betterment of its economy and its political
institutions. Especially after the successful implementation of the Real Plan in 1994,
Brazil and US have been exchanging state head visits and reciprocating trade missions.

Brazil has the ninth largest economy in the world with a 1997 GDP of $USD800 billion.
Its market size (approximate population of 170 million) is the second biggest in the
Americas or about two-thirds that of the US. GDP per capita is $US4, 000 which is
even more interesting from a marketing point of view, given that there is considerable
skewness in income distribution. As of July 1998, Brazil had hard currency reserves of $70
billion ($39 billion as of mid-December), while its inflation has been tamed from
stratospheric levels (2,000% in 1993) to a livable 6% in 1998. Finally, Brazil is blessed
with natural resources in terms of soil fertility, tropical climate and underground
reserves that in emergency can be utilized to secure credit lines; Brazil is the biggest
exporter in the world of coffee and citrus, and one of the biggest producers of sugar
cane, bauxite, ore, gold and oil. In this kind of environment, it is naturally expected
that Brazil has the dowry to make a very hopeful future trade and business partner.

Ironically, the Brazilian economy has historically drawn more attention from the US
mainly because Brazil propounds enormous risks at trying times. Currently, Brazil is
considered to be the key economy that can forestall the Pacific Rim-originating domino
effect of 1997 before it embraces the rest of the world and, yes, the US economy. The
precedence the US is placing on the Brazilian economy is conspicuous from statements and
actions of high ranking and extremely credible US officials, such as Treasury Secretary
Robert Rubin and Fed Chairman Alan Greenspan. In fact, the US has been instrumental in
securing a generous $42 billion credit line from the IMF last fall, approximately
$5billion of which is coming directly from the US government.

US’s concern about the Brazilian economy re-inflamed in spring 1998, when foreign
investors and speculators started an attack on the Brazilian currency (Real) assuming that
Brazil would be the next victim of the Asian contagion and the Russian debacle. Regardless
of the validity of such speculation, the mere psychological dangers were eminent. Within
months, $20 billion was expatriated out of Brazil.

Unlike Russia where the US had limited investments, the US stakes in Brazil are
significant. Specifically, it is estimated that US banks have lent more than $30 billion
to Brazilian interests, more than any other nation in the world. Default on such loans
would unequivocally hurt the profitability of US banks, which in turn would incite another
down-leg of the US equity markets. In 1997, US companies accounted for 26% of all Foreign
Direct Investment (FDI) in Brazil. [FDI is defined as net financial claims of foreign
parent companies on domestic subsidiaries.]

This represents a 34% increase over the previous year; in contrast, total FDI in Brazil
in 1997 increased only by 30%. Four of the ten biggest companies in Brazil are US-owned
(GM, Ford, Texaco and Exxon). Four hundred fifty of the US Fortune 500 companies have
operations in Brazil. Some notable examples of big US bets in Brazil are Coca-Cola’s $1.4
billion investment between 1995 and 1997, and BellSouth’s successful $2.5 billion bid to
buy a wireless telecommunications license in 1997. For certain companies, the exposure to
Brazilian fortunes is mind-boggling:

Whirpool derives $78 out of its $89 million total earnings from its Brazilian
affiliates. US-Personal Computer makers accounted for 33% of the Brazilian market but they
constitute 85% of all PC imports. Finally, Brazil represents the third largest worldwide
franchise system, and US companies have 18% of that market which counts for $2.1 billion
in sales. McDonald’s, for example, opens a new store in Brazil every three days. It is
obvious from an investor’s point of view, therefore, that a Brazilian financial crisis is
of grave importance to US.

Currently, Brazil is one of the few countries with whom the US has a trade surplus
($6.3 billion in 1997, a 60% increase over the previous year). The financial difficulties
in Brazil are expected to eliminate this surplus in 1999. The US is Brazil’s biggest trade
partner with 18% of all Brazilian exports coming to the US, while an impressive 23% of its
imports are originating from the US. In addition, Brazil, in an effort to curb imports,
started imposing tariffs and other regulatory measures, which will further decrease US
exports. Some analysts believe that Brazil is determined to impose on certain imports
maximum tariff levels allowed by the World Trade Organization.

US exports to Brazil are 25% more than those to China despite all the noise about China
importance as an export market. According to the American Chamber of Commerce in São
Paulo, Brazilian imports from the US are responsible for the creation of 210,000 jobs in
the US. In perspective, this number represents 0.2% of the American workforce.

Tourism will be affected by Brazil’s meltdown. Approximately one million Brazilians
were expected to visit the US in 1998 with $3.5 billion to spend. A Brazilian tourist
spends in the US $158 per diem which is exceeded only by the amount a Japanese
tourist spends. While New York and California rank high in the preferences of Brazilian
tourists, Florida, as the top destination, is already feeling the meltdown. According to a
US Department of Commerce international trade analyst, "when Brazil sneezes, Florida
catches a cold".

All said, Brazil is too important of a partner in good times and a troublemaker in bad
times to be left alone. Especially now that Brazil represents the last frontier that can
contain the Asian contagion before it entangles the Latin and North America, its
importance is all more eminent and more appreciated.

Basil M. Karatzas is graduating in May 1999 with an MBA degree in
international Business from Rice University, in Houston, TX. Basil also serves as
President for Platinum Holdings International, an international management and capital
consulting firm, and can be reached at

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