from Follow the Money

BRIs, not BRICs …

February 20, 2007

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Presumably the BRIs (Brazil, Russia, India) sound like a French cheese, while the BRICs are pronounced like a construction material.  No matter.   The BRIs are increasingly giving China a run for its money when it comes to accumulating foreign assets. 

That isn’t easy.  I continue to think that China will need to add about $400b (gulp) to its foreign assets in 2007 to offset a $300b plus current account surplus (gulp) and ongoing FDI inflows.  That works out to $30b plus a month.  If China’s capital controls aren’t effective and hot money finds a way to profit from the RMB's expected rise, total foreign asset growth could be bigger.   

But consider what happened in the first full week of February.  India’s reserves increased by $5b.  Russia’s by a bit less than $5b ($4.9b).  Brazil’s reserves were up by $2b.  The euro inched up v the dollar in the first week of February, but not by much.  Most of the growth in the BRIs reserves was real, not the product of valuation changes.  $12b a week implies something like $48b for the month.  That is a China-like pace.

What about last week?  Brazil’s reserves were up by almost $3b in the first four days of last week.  We will have to wait til Carnival ends to find out how much more they added on Friday. (Update: Brazil's reserves reached $97.2b, an increase of around $3.35b) And we don’t have data on the others. 

Right now, private investors the world round are quite keen to borrow yen to buy Indian rupee and Brazilian real.    No wonder.  Those countries have current account surpluses (Brazil) or smaller deficits (India) than the US and they offer higher interest rates as well.   Get rid of the emerging economy stigma, and, well, they offer a more compelling source of yen returns than the US …

For that matter, even the Russia ruble may well offer better yen returns than the dollar.  Goldman expects the ruble to continue to appreciate this year.

None of these countries needs the money, or at least, none of the BRIs needs as much money as the private markets want to supply.   India runs a current acount deficit, but the others don't.

Bottom line: the private markets don’t want to finance a $900b US deficit at current US rates.  Not when the BRIs offer a better return.    But right now the private money flowing into the BRIs gets sent back by their respective central banks to the US and Europe.  The BRIs, by paying more for money borrowed from abroad than they get on lending those funds to the US, effectively subsidize both speculators bringing money into their countries and the United States.    To me, it is nuts.

But nuts or not, I have to give Dooley, Garber and Folkerts-Landau a lot of credit. 

Back when they predicted that Latin America would join the emerging Asia in resisting the appreciation of their currencies against the dollar (financing the US in the process), I scoffed at the idea: Low saving Latin America would never become a big source of financing for the US.    Last year, I -- along with Vitoria Saddi -- argued that relatively high Latin interest rates and the large resulting fiscal cost of sterilization likely would deter large scale Latin reserve growth

It turns out we were wrong. Brazil and Argentina have joined Bretton Woods 2, just as Dooley, Garber and Folkerts-Landau predicted.   

Let’s see how long Latin America is willing to finance the US.  I cannot imagine that Brazil will be willing to add $10b a month to reserves forever.  But that may reflect my own lack of imagination.    I didn’t think China would be willing to add $20b or more a month to its reserves either.

One thing is clear: the willingness of the central banks of Brazil, Russia and India to turn private flows seeking yield in their markets into demand for US treasuries and agencies has become an increasingly important component of the global financial system.  

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