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This is to certify that the ‘

thesis entitled

THE EFFECTS OF MINIDEVALUATIONS ON
THE BRAZILIAN ECONOMY
presented by

Eduardo Matarazzo Suplicy

has been accepted towards fulfillment
of the requirements for

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ABSTRACT

THE EFFECTS OF MINIDEVALUATIONS ON
THE BRAZILIAN ECONOMY

BY

Eduardo Matarazzo Suplicy

On 20 August 1968 the Brazilian National Monetary
Council decided to follow a new system of adjustments to
the foreign exchange rate. From that date, small adjust-
ments would be made at short intervals in order to prevent
the substantial differences between internal and external
prices that characterize an inflationary economy with a
pegged exchange rate. The minidevaluations constitute an
attempt by policy makers to minimize the degree of exchange
rate risk while avoiding the possible destabilizing effects
of a free exchange rate.

The purpose of the dissertation was to study the
impact of minidevaluations on the Brazilian balance of
payments and on the domestic economy. The main findings
of the study were the following: The system of minideval-
uations of the exchange rate at short intervals proved to
have several advantages over the system of sharp devalua-
tions at long intervals for the Brazilian economy. The

main advantage was the greater stability in the relation

Eduardo Matarazzo Suplicy

between internal and external prices for those involved in
the foreign sector of the economy. Thus, the exchange
rate risk involved in export, import, direct foreign
investments, and international loan operations was practi-
cally eliminated.

It was shown that Brazilian exports were posi-
tively affected by the policy of minidevaluations. The
regression analysis showed that this policy made exports
of manufactures more responsive to changes in the level
of real income and significantly more responsive to
changes in the level of real remuneration to exporters.
This latter occurred both through changes in the real
exchange rate and changes in the level of fiscal incen-
tives. Exports of primary products also were shown to be
positively affected by the smaller fluctuations in the
real exchange rate under the minidevaluations.

The econometric analysis of imports indicated that
a significant shift in the parameters of the import func-
tion took place as a result of two causes: the lowering
of import tariffs and the policy of minidevaluations.
Imports became more responsive to income changes and
especially responsive to changes in the real exchange
rate adjusted for dollar inflation, tariffs, auction fees,
and other trade barriers.

Minidevaluations have had two major impacts on
capital movements. First, they substantially diminished

destabilizing short-term capital movements which previously

Eduardo Matarazzo Suplicy

had been harmful to the value of the cruzeiro. Second,
along with other measures, they constituted a necessary
Condition for the exceptional influx of foreign capital
into Brazil that has occurred since 1968. The regression
analysis of direct foreign investments indicated that
they were reSponsive to profit opportunities--which were
represented by the rate of growth of the economy--and to
the decrease in the exchange rate risk caused by the
minidevaluations. It was seen that the differential
between domestic and foreign levels of real interest rates
played an important role in attracting foreign loans and
financing into Brazil. The portfolio approach to analyz-
ing capital flows showed that interest differentials and
the evaluation of risk, as determined by the exchange rate
policy, political factors, and other events, were all
important in determining the influx of foreign capital.
By normalizing the expectations of economic units and by
establishing the conditions for reasonable economic
calculations in foreign exchange operations, minidevalua-
tions have helped the government in forecasting and
managing future developments with respect to the foreign
indebtedness and reserve position of the country. Under
minidevaluations, the exceptional growth in exports,
imports, and capital flows was accompanied by a similar
increase in service payments and receipts. Among service
payments the items which registered larger increases were

capital income (interest, profits, and dividends),

Eduardo Matarazzo Suplicy

transportation, and travel. Among service receipts, trans—
portation and capital income increased most.

The econometric analysis of price behavior indi-
cated that minidevaluations have not constituted an
inflationary factor. On the contrary, they may have
aided the government in its pursuit of gradual stabiliza-
tion of prices in Brazil.

Finally, evidence was presented that minidevalua-

tions had a positive impact on the growth performance of

the economy. Qualifications as to the nature of this
growth were made and suggestions for further research

were cited.

THE EFFECTS OF MINIDEVALUATIONS ON

THE BRAZILIAN ECONOMY

BY

Eduardo Matarazzo Suplicy

A THESIS

Submitted to
Michigan State University
in partial fulfillment of the requirements
for the degree of

DOCTOR OF PHILOSOPHY

Department of Economics

1973

To Marta,

with all my love.

ii

ACKNOWLEDGEMENTS

I wish to acknowledge the help and encouragement
received from the members of my dissertation committee,
Professors Mordechai E. Kreinin, Chairman, Jan Kmenta,
and W. Paul Strassman of Michigan State University, and
Professor Clark W. Reynolds of Stanford University. I
have drawn heavily on Professor Kreinin's knowledge of
international economics and I am extremely grateful to
his dedicated and detailed criticism of my work. I greatly
benefited from Professor Kmenta's review of my econometric
results and from Professor Strassman's critical remarks
and suggestions. My lengthy discussions with Professor
Reynolds and his encouraging and substantial comments
were most helpful.

I am indebted to William G. Tyler, Carlos Von
Doellinger, Juergen B. Donges, Paulo H. Pereira Lira,
Fernao C. B. Bracher, Joel Bergsman, and others who have
written about minidevaluations and the foreign sector
of the Brazilian economy.

I wish to thank those friends with whom I have had
vivid discussions and those who have encouraged me to

proceed with my graduate studies. Among these are José

iii

David Langier, Luiz Carlos Bresser Pereira, John R. Moroney,
Ary Bouzan, Alberto Oliveira Lima, Paulo Roberto Silva,
Jorge da Cunha Lima, Manoel Whitaker Salles, and Antonio
Angarita Silva. I am grateful for the encouragement
received from Gustavo de Sa e Silva and Carlos José
Malferrari, Directors of EAESP.

I wish to acknowledge the generous financial support
given to me by the Escola de Administracao de Emprésas
de Sao Paulo, Fundacao Getfilio Vargas, the Ford Foundation
(1971), the International Center for the Advancement of
Management Education, Stanford University (1972), and
the Coordenacao de Aperfeicoamento de Pessoal de Nivel
Superior, CAPES (1973).

I wish to thank Annibal V. Villela, Superintendent
of INPES-IPEA and all those that I have interviewed to
gather information. These will be mentioned by name in
the text.

I am grateful to Gary Ingvaldson for assisting
me in the Computer Center, to David Allen and Elizabeth
Johnston for their editing help, and to Irene Orr for her
patience and goodwill in typing the manuscript.

My greatest debt is to my dear wife, Marta, who
has so enriched my daily life and who has encouraged me
most, and to my children Eduardo and André, who gave me

so many joyous moments along this journey. I am also

iv

grateful to my brothers and sisters for their encouragement
and especially to Teté for her help in sending information.
Finally, I am grateful to Papai and Mamae, and

to Luiz and Noémia, for being such wonderful parents.

TABLE OF CONTENTS

Page
DEDICATION . . . . . . . . . . . . . . . ii
ACKNOWLEDGEMENTS . . . . . . . . . . . . . iii
LIST OF TABLES . . . . . . . . . . . . . .Viii
LIST OF FIGURES . . . . . . . . . . . . . . xiv
LIST OF APPENDICES . . . . . . . . . . . . . xv

INTRODUCTION . . . . . . . . . . . . . . . 1

Chapter
I. ANALYSIS OF FIXED, FLEXIBLE, AND SEVERAL
DEGREES OF FLEXIBILITY OF EXCHANGE RATES . . 6
The System of Fixed Exchange Rates . . . . 7
The System of Flexible Exchange Rates . . . 10
Proposals for Greater Flexibility of
Exchange Rates . . . . . . . . 16
Sharp Devaluations in Countries with Chronic
Inflation: A Special Problem . . . . . 21
The System of Mini-Adjustments . . . . . 23
Summary . . . . . . . . . . . . . 34
II. HISTORICAL BACKGROUND OF FOREIGN EXCHANGE
POLICY OF BMZIL O O O O O O O O O O 36
The Role of Foreign Exchange Policy in
Fostering Import Substitution . . . . . 41
The Post-August 1968 Period: The
Minidevaluations . . . . . . . . . . 59
III. THE EFFECTS OF MINIDEVALUATIONS ON EXPORTS:
THE OVERALL EVIDENCE . . . . . . . . . 69

Effects of Fiscal Incentives for Exports . . 73
Effects of Minidevaluations on Exports
of Manufactured Products: An Interpretation 89
Effects on Exports of Non-Manufactured

Products . . . . . . . . . . . 100
Concluding Overall Evidence Concerning
Total Exports . . . . . . . . . . . 107

vi

Chapter

IV. ECONOMETRIC ANALYSIS OF THE EFFECTS OF
MINIDEVALUATIONS ON INDUSTRIAL EXPORTS . . .

The Method for Testing the Effects

of Minidevaluations . . . . . . . . .
Regression Analysis of Exports of
Manufactures . . . . . . . . . . .
Conclusion . . . . . . . . . . . .
V. ECONOMETRIC ANALYSIS OF THE EFFECTS OF
MINIDEVALUATIONS ON EXPORTS OF BASIC
PRODUCTS 0 O O O O O O O O O O O C
The Model . . . . . . . . . . . .
The Regression Results . . . . . . . .
Conclusion . . . . . . . . . . . .
VI. THE EFFECTS OF MINIDEVALUATIONS ON

BRAZILIAN IMPORTS o o o o o o o o o 0

Brazilian Imports Since 1968 . . . . . .
Econometric Analysis of Import Behavior . .

Conclusion . . . . . . . . . . . .
VII. EFFECTS OF THE SYSTEM OF MINIDEVALUATIONS ON
SERVICES, CAPITAL MOVEMENTS, AND FOREIGN
INDEBTEDNESS O O O O O O O O O O O 0

Effects of Minidevaluations on Capital
Movements . . . . . . . . . . . .
The Effects of Minidevaluations on Foreign
Indebtedness and Accumulation of Foreign

Reserves . . . . . . . . . . . .

The Behavior of Services . . . . . . .

Conclusion . . . . . . . . . . . .
VIII. THE EFFECTS OF MINIDEVALUATIONS ON INFLATION

AND ECONOMIC GROWTH . . . . . . . . .

The Effects of Minidevaluations on Inflation
The Effects of Minidevaluations on
Economic Growth . . . . . . . . . .

IX. CONCLUSION . . . . . . . . . . . .
APPENDICES . O O C O O O O O O O O O O O
BIBLIOGRAPHY . . . . . . . . . . . . . . .

vii

Page

119

120

123
142

143
144
147
150
151
153

154
170

174

174

196
203
215
216
216

237

252
258

345

Table

II-3.

II-4.

II-5.

III-1.

III-2.

III-3.

III-4.

III-5.

LIST OF TABLES

The Ratio of Brazilian Exports and Imports
to Gross Domestic Product 1967-1971 . . .
Brazil's Balance of Payments, 1967-1971 . .

1920-
100) o o o o

Indicators of Brazilian Foreign Trade,
1967 (Indexes base:t 1939 =

Free-Trade, Import and Export Exchange Rates,
1946-1967. . . . . . . . . . . .

Real Effective Exchange Rate for Manufactured

Product Exports, 1946-1968 . . . . . .
Sharp Devaluations (1964-1968) and
Minidevaluations (1968-1972) . . . . .

Real Exchange Rate Adjusted for Dollar
Inflation, 1968-1972 .- . . . . .

Index of Remuneration to Exporters of
Industrial Products via the Fiscal
Incentives to Export, 1961-1971 (lst
Quarter 1961:100), Tyler's Estimation . .

Real Remuneration to Brazilian Industrial
Exporters, 1961-1971 (in constant terms,
that is, Cr$/US$ of the first quarter
1961), Tyler's Estimation . . . . . .

Total Exports and Manufactured Product
Exports of Brazil, 1953-1972 . . . . .

Brazil's Total Exports and Exports of
Industrial Goods in 1971 (CACEX Broad
Classification . . . . . . . . . .

Brazil's Exports of Manufactures to Different
Markets 1965-1970 (US$1,000 FOB) . . . .

viii

Page
, 4
, 5
, 38
. 54
. 58
. 61
. 64
. 74
. 77

93
. 97
. 101

Table

III-6.

III-7.

III-8.

III-9.

III-10.

III-ll.

III-12.

III-l3.

IV-1.

IV-2.

IV-3.

IVFA.

Brazil's Total Exports and Shares in World
Exports and in Exports of Less Developed
Countries, 1946-1972 . . . . . . . .

Export Values of Most Important Basic Exports
of Brazil (FOB US$1,000,000) . . . . .

Performance Indexes of Brazilian Basic
Exports (Base year 1946 = 100) . . . . .

Price Indexes of Some Basic Export Goods
Dollar Price (Base Period: 1965-1967 = 100)

Share of Major Basic Export Goods in Total
Brazilian Exports 1964-1971 . . . . . .

Brazilian Exports by Sectors, 1964-1972
(Index Numbers Base: 1964:100) . . . .

Brazilian Exports by Sectors, Percentage
Share in Total Exports 1964-1971 . . . .

Brazilian Exports to Different Economic
Regions, Percentage Participation of
Each Region, 1964-1971 . . . . . .

Variables Used in Regression Analysis of
Exports of Manufactures. Definitions,
Sample Means and Correlation Coefficients .

Regression Analysis to Explain the Behavior
of Brazilian Exports of Manufactures
(Xlt)- Ordinary Least Squares Regressions
with log Xlt as the Dependent Variable; 33
Quarterly Observations from lst Quarter of
1964 to 2nd Quarter of 1972 (2nd Quarter
1964 deleted due to Unusual Political
Events). . . . . . . . . . . . .

Test of Effects of Minidevaluations on Exports
of Manufactures (Xlt) with a Distributed-Lag
Model. Ordinary Least Squares Regressions
with Log Xlt as the Dependent Variable . .

Test of Effects of Minidevaluations on Exports
of Manufactures (Xlt) with the Best Fitted
Models. Ordinary Least Squares Regressions
with log Xlt as the Dependent Variable . .

ix

Page

103

105

106

108

111

113

115

117

127

129

136

139

Table

VI-l.

VI-Z.

VI-3.

VII-1.

VII-2.

VII-3.

VII-4.

VII-5.

VII-6.

VII-7.

VII-8.

VIII-l.

VIII-2.

VIII-3.

Page

Data for Estimation of Brazil's Import

Function (Model I) . . . . . . . . . 157
Data for Estimation of Brazil's Import

Function (Model II) . . . . . . . . 158
Net Product Protection and Effective

Protection, 1966-1971. Joel Bergsman's

Estimation . . . . . . . . . . . 172
Differential Yields on Internal and External

Securities Compared to Devaluation Rates . 178

Autonomous Capital Movements 1963-1972,
US$ millions o o o o o o o o o o o 183

Differential Between the Real Return on a
Bill of Exchange in Brazil and the
Real Euro Dollar London Interest Rate . . 190

Differential Return on Domestic and Foreign
Securities, the Rate of Growth of the
Economy and the Inflow of Capital . . . . 192

Brazil's Foreign Indebtedness and Foreign
Reserves on December 31, 1960-1972 . . . 197

Brazil's Net Indebtedness and Exports,
1960-1972, US$ millions . . . . . . . 200

Term Structure of Brazil's Foreign
Indebtedness, US$ millions . . . . . . 202

Brazil's Balance of Services, 1960-1971,
US$ millions . . . . . . . . . . . 211

Definitions, Sample Means, and Correlation
Coefficients: Price Behavior Models . . . 225

Values of Variables Used in Models to
Explain Price Behavior in Brazil . . . . 226

Application of the Quantity Theory of Money
to Explain‘Price Behavior in Brazil and
Examination of the Appropriate Lag in the
Influence of Changes in Money Supply on
Changes in the General Price Index.
Ordinary Least Squares Regressions with
pt as the Dependent Variable, 19 Annual
Observations: 1954-1972 . . . . . . . 229

Table Page

VIII-4. Test of the Effect of the Minidevaluations
on Price Behavior in Brazil. Application
of the Haberger Model with Modifications.
Ordinary Least Squares Regressions with
pt as the Dependent Variable; 19 Annual
Observations: 1954-1972 . . . . . . . 233

VIII-5. Variables Used in Growth Models, Definitions,
Sample Means, and Simple Correlation
Coefficients; 12 Annual Observations:

1960-1971 . . . . . . . . . . . . 247

VIII-6. Data Used in Estimation of Growth Models to
Test the Effect of the Minidevaluations . . 248

VIII-7. Test of the Effect of the Minidevaluations
on the Brazilian Economic Growth.
Ordinary Least Squares Regressions with
9t as the Dependent Variable; 12 Annual

Observations: 1960-1971 . . . . . . . 249
A-l. The International Trade Policies in Brazil . 260
B-l. Brazil's Exports of Manufactured Products

in Constant Dollar Value, Annual and
Approximate Quarterly Data: 1964-1972 . . 279

8-2. The Real Exchange Rate (Wholesale Industrial
Price as Deflator) and the Real Exchange
Rate Adjusted to Dollar Inflation for
Brazilian Exports: 1963-1972 . . . . . 282

B-3. The Real Exchange Rate (Wholesale Price
for all Goods as Deflator) and the
Real Exchange Rate Adjusted to Dollar
Inflation for Brazilian Exports: 1963-
1971 (Tyler's Calculations) . . . . . . 286

8-4. Residuals from Linear Time Trend Regression
of Brazil's Industrial Product in Real
Terms--Annual Data: 1959-1971 (Base
1949:100) . . . . . . . . . . . . 289

B-S. Residuals from Linear Time Trend Regression
of Brazilian Industrial Production
(Proxy)--Quarterly Data 1961-1972 . . . . 290

B-6. Monthly Variation in the Real Exchange Rate
for Exports (Percentage Change, Without
Signs . . . . . . . . . . . . . 291

xi

Table Page

8-7. Data for Estimation of Brazil's Supply of
Exports of Manufactures Quarterly Data:
1964-1972 . . . . . . . . . . . . 292

B-8. Data for Estimation of Brazil's Supply of
Exports of Manufactures, Annual Data:
1964-1971 . . . . . . . . . . . . 294

C-1. Effects of Minidevaluations on Exports of
Manufactures (Xlt) Ordinary Least-
Squares Regressions with Annual Data.
Log Xlt is the Dependent Variable . . . . 300

D-l. Brazilian Export of Basic Products Other
than Coffee . . . . . . . . . . . 307

D-2. Export Exchange Rate for Basic Products
Other than Coffee . . . . . . . . . 308

D-3. Price Indexes of 28 Basic Products
Products Exported by Brazil Based
on the Average Price per Unit (US$/
ton) Base l964=100 . . . . . . . . . 309

D-4. Participation of Basic Products in the
Total Value of Brazilian Exports (To
be Used in Table D-S) . . . . . . . . 310

D-S. Construction of Price Index of Exports of
28 Basic Products Price Index Times
Proportion of Participation in Total
Exports . . . . . . . . . . . . 312

D-6. Monthly Variation in the Real Exchange Rate

for Exports (Percentage change, without

signs) . . . . . . . . . . . . . 314
D-7. Data for Estimation of Brazil's Export

Supply Function of Basic Products
Other than Coffee . . . . . . . . . 315

E-l. Case of Rapid Inflation and One Sharp
Devaluation . . . . . . . . . . . 319
E-2. Case of Rapid Inflation and Monthly

Devaluations . . . . . . . . . . . 320

xii

Table Page

E-3. The Official Import Exchange Rate and
the Import Real Exchange Rate
Adjusted to Dollar Inflation; 1955-1972 . . 321

E-4. Monthly Percentage Change in the Real
Exchange Rate for Imports . . . . . . 331

F-l. Brazil's Import Coefficient Calculated in
Current Prices, 1947-1972 . . . . . . 334

F-2. Brazil's Import Coefficient Calculated in
Constant Prices of 1949, 1947-1971 . . . 335
F-3. Brazil's Import Coefficient in Several
Periods . . . . . . . . . . . . 336
F-4. Brazilian Imports US$ millions (FOB) 1964-1971 337
F-5. Brazilian Imports: 1964-1971. Index

Numbers Base Index: 1964 = 100 . . . . 338
F-6. Brazilian Imports by Groups of Products,

Percentage Share of Each Group in

Total Imports 1964-1971 . . . . . . . 339

F-7. Purchasing Power of Exports and Capacity
to Import . . . . . . . . . . . . 340

G-l. Data Used in Estimating the Behavior of
Direct Foreign Investments . . . . . . 344

H-l. The Productivity Residual in Brazilian
Economic Growth . . . . . . . . . . 348

xiii

Figure

I-l

III-l

III-2

VI-l

VI-2

VII-l

VII-2

VII-3

LIST OF FIGURES

The Equilibrium and the Pegged Exchange Rate
Under Sharp Devaluations . . . . . . .

The Equilibrium and the Pegged Exchange Rate
Under Sharp Devaluations (Alternative
Situation) . . . . . . . . . . . .

The Equilibrium and the Pegged Exchange Rate
Under Minidevaluations . . . . . . . .

Profitability of Exporter Under Sharp Devaluations
ProfitabilitycfifExporter Under Minidevaluations

The Effects of Changes in the Price Level
(Brazilian Industrial Wholesale-Price Index)
and in the Official Exchange Rate on the Real
Exchange Rate for Exports Adjusted for
Dollar Inflation (United States Wholesale-
Price Index) . . . . . . . . . . .

The Effects of Devaluations of the Exchange
Rate and of Fiscal Incentives on Brazilian
Exports, 1960-1972 0 o o . . . . . .

Total Brazilian Exports, Quarterly Moving
Averages, US$ MillionsFOB, 1964—1972 . . .

Brazil's Imports in Constant Cruzeiros of 1949,
GDP in Constant Cruzeiros of 1949, and the
Real Exchange Rate Adjusted for Dollar
Inflation and Import Barriers . . . . .

Brazil's Imports, GDP, Capacity to Import and
Real Exchange Rate Adjusted for Dollar
Inflation and Import Barriers . . . . . .

Brazil's Balance of Services, 1947-1971,
Current Dollar Value . . . . . . . .

Service Payments, 1947-1971, Current Dollar
Value . . . . . . . . . . . . .

Service Receipts, 1947-1971, Current Dollar
Value . . . . . . . . . . . . .

Page

26

27

27
29

29

66

91

109

159

160

204

206

208

Appendix

A.

LIST OF APPENDICES

The Battery of Incentives for Exportation .

Exports of Industrial Goods:

Sources,

Effects of Minidevaluations on Exports of
The Regression Results

Manufactures:
with Annual Data

Exports of Basic Products:

The Data,

The Annual Average of the Monthly Percentage
Variation (with no signs) in the Real

Exchange Rate

Data Used in the Analysis of Brazilian

Imports . .

Data Used in Estimating the Behavior of
Direct Foreign Investment

Evidence of Greater Efficiency After

Minidevaluations

XV

and Data Problems

The Variables,

The Variables,
and Measurement Problems

Page

258

276

296

305

316

333

343

345

INTRODUCTION

On 20 August 1968 the Brazilian National Monetary
Council decided to follow a new system of adjustments to
the foreign exchange rate. From that date, small adjust-
ments would be made at short intervals in order to prevent
the substantial differences between internal and external
prices that characterize an inflationary economy with a
pegged exchange rate. The minidevaluations constitute an
attempt by policy makers to minimize the degree of exchange
rate risk while avoiding the possible destabilizing effects
of a free exchange rate.

The purpose of this dissertation is to study the
impact of minidevaluations on the Brazilian balance of
payments and on the domestic economy. The main question
to be examined is whether or not this system of adjustment
was among the key economic policies that were responsible
for the exceptional dynamism of the country's foreign
'sector and of the whole Brazilian economy from 1968 to
1972.

In the first chapter the current state of the
ciebate regarding the advantages and disadvantages of
pegged and several degrees of flexibility in the foreign

exchange rate will be reviewed. In particular, the

advantages of a system of small adjustments within short
periods of time as opposed to sharp devaluations separated
by long intervals will be analyzed.

Chapter II will present the historical background.
After examining the role of foreign exchange policy in
fostering import substitution in Brazil since the Second
World War, the characteristics of the new policy of mini-
devaluations will be described.

The next four chapters will analyze the merchandise
trade performance of Brazil before and after the adoption
of the policy of small adjustments in the exchange rate.
Chapter III will examine the behavior of Brazilian exports
from 1964 to 1972. Quantitative estimates of incentives
for exporters which will be used later in econometric
studies and some recent studies of Brazilian exports will
be discussed. In Chapters IV, V, and VI econometric models
will be used to assess the effect of different systems of
adjusting the exchange rate--sharp devaluations from 1964
to 1968 and minidevaluations from 1968 to l972--on exports
of manufactured goods, on exports of primary products, and
on.imports, respectively.

An evaluation of the effects of different exchange
:rate systems on capital flow movements, the foreign
ijadebtedness position, and accumulation of foreign reserves

vuill be made in Chapter VII. An attempt will be made to

apply the portfolio approach to an analysis of capital

movements. To complete the analysis of the foreign
sector the behavior of the major service items from the
late forties to the early seventies, but mainly during
the minidevaluations, will be discussed.

In Chapter VIII attention will turn to the domestic
economy. Econometric models that explain price behavior
and growth will be used to test the effect of minidevalua-
tions on two major objectives of economic policy pursued
by all administrations in the past decade: gradual price
stabilization and acceleration of economic growth.

Finally, Chapter IX will summarize the findings
and conclusions of the study. The minidevaluations will
be viewed in the larger context of general development
strategy. Qualifications will be made and suggestions
for further research will be cited.

The ratio of exports and imports to the gross
domestic product for the years 1967 to 1971 is shown in
Table i-l to give an indication of the importance of
the foreign sector in the Brazilian economy. Brazil's
balance of payments is listed for the same years in Table
i-2 so as to indicate the importance of each trade item

vvithin the foreign sector of the economy.

.mmumfiwumm wnmcaEwHoum«

 

.mm .Nnma quEm>on mm .moHEmcoom manpcsmcou
cum “Hammum 0p oocmm .xmudv .Hnma omwouuomxm .Hoflumuxm OHUHwEOO .Hflmmum "mmousom

 

 

 

 

 

m.m H.mam.ma m.m m.mhm.ma «o.oom.m~m Huma
m.h m.mom.ma m.m h.v¢m.oa «o.oom.~na onma
m.m o.mmm.m o.w m.vam.m m.amm.ama mmma
m.m m.mmm.m ~.m m.nna.m m.mmm.mm mmma
o.m m.amm.q o.m n.4om.v m.mmv.an noma
m Hmcoflaawe muu w HmcoHHHHE who choHHHHE who
mow useuuso ca moo ucmuuso CH ucmuuso CA
on muHOQEH mmflccmsouoz ou manomxm omflccocouoz Annoy uoscoum
mo oaumm mo muHOQEH mo Genoa mo manomxm owumoEoo mmouw
.anmaihwma

uospoum owummaoa mmouw o» muHOQEH can muHOme cmHHwNmum mo ofluom chII.HIH mqmds

 

 

 

TABLE i-2.--Brazi1's Balance of Payments, 1967-1971.
U.S. $ Millions
1967 1968 1969 1970 1971
A--Trade Balance 213 26 318 232 - 346
Exports (FOB) 1654 1881 2311 2739 2904
Imports (FOB) -1441 ~1855 -l993 -2507 -3250
B--Services - 527 - 556 - 630 - 815 - 978
Receipts 185 20 290 378 444
Payments - 712 - 761 - 920 -1193 -1422
C--Transfers 77 22 31 21 12
Receipts 107 75 82 87 94
Payments - 30 - 53 - 51 - 66 - 82
D--Balance on Current
Transactions (A+B+C) - 237 - 508 - 281 - 562 -1312
E--Net Capital Flow 27 541 871 1015 1832
F--Net Errors and
Omissions - 35 - l - 41 92 35
Surplus (+) or
Deficit (-) - 245 32 549 545 555

 

Source:
TFebruary 1972).

Boletim do Banco Central

do Brasil,

8, no. 2

CHAPTER I

ANALYSIS OF FIXED, FLEXIBLE, AND SEVERAL

DEGREES OF FLEXIBILITY OF EXCHANGE RATES

Since the publication of Milton Friedman's classical
essay, "The Case for Flexible Exchange Rates,"1 in 1953,
numerous works have dealt with all aspects of the different
degrees of flexibility in exchange rates.2 Although the
debate still goes on, few countries have pursued policies
other than that of fixed exchange rates since the advent
of the 1944 agreement, following the rules of the Inter-

national Monetary Fund. Therefore, few experiences have

 

1Milton Friedman, "The Case for Flexible Exchange
Rates," in Milton Friedman, Essays in Positive Economics
(Chicago: University of Chicago Press, 1953), pp.F157-203.

2The arguments favoring fixed rates, flexible rates,
and several degrees of flexibility are summarized in
Mordechai E. Kreinin, International Economics: A Policy
A roach (New York: Harcourt, Brace, Jovanovich, Inc.,
1971), Chap. 10, pp. 169-76, and are extensively discussed
in M. O. Clement, Richard L. Pfister, and Kenneth J.
Rothwell, Theoretical Issues in International Economics
(Boston: Houghton, Mifflin Co., 1967), Chap. 6. A con-
certed effort to find the best approach to greater albeit
limited flexibility of foreign exchange rates is represented
in George N. Halm, ed., arranged by C. Fred Bergsten, George
1N3 Halm, Fritz Machlup, and Robert V. Roosa, Approaches to
Igggater Flexibility of Exchange Rates: The Burgengtock
Pagers (Princeton: Princeton University Press, 1970T.

displayed the flexibility necessary for an empirical
determination of how they would work. Since 1968 Brazil
has realized small devaluations within short periods of
time; this policy now can be examined and may well offer

new insights into this field of discussion.

The System of Fixed Exchange Rates

 

As used here, fixed exchange rates refer to the

 

adjustable peg that exists today under the articles of

the International Monetary Fund. The present system of
international monetary organization requires countries to
commit themselves to maintain the foreign values of their
curriencies within a narrow margin of a fixed par value

by acting as residual buyers or sellers of currency in the
foreign exchange market, subject to the possibility of
effecting a change in the par value itself in case of

"fundamental disequilibrium."

Advantages and Disadvantages

 

The existence of a single currency within a
nation's frontiers has the following advantages: It
simplifies the profit-maximizing computations of producers
and traders; it facilitates competition among producers in
cufferent parts of the country; and it promotes the inte-
gration of the economy into a connected series of markets,
.including both the markets for products and the markets

:fior the factors of production (capital and labor). By

analogy, fixed exchange rates similarly will encourage the
integration of the national markets which compose the
world economy into an international network of connected
markets, with beneficial effects on efficiency and growth.3
This analogy, however, is defective. First, the
factors of production, as well as goods and services, are
free to move throughout a domestic economy, except for the
existence of barriers created by distance and cultural
differences. In the international economy, the movement
of labor is in general restricted by national migration
policies, and the movement of capital is limited by
barriers created by national laws. Tariffs and other
barriers to trade also inhibit the movement of goods.
Those barriers prevent the system of fixed exchange rates
from establishing the equivalent of a single international
money in the sense of a currency the purchasing power and
usefulness of which tends to equality throughout the market
area. Moreover, if the ridigity of exchange rates is main-
tained, not by appropriate adjustments of the relative
purchasing power of the various national curriencies but
by variations in the national barriers to trade and payments,

it contradicts the argument for fixed exchange rates as a

 

3This analogy is based on the discussion by Harry
Gw Johnson, "The Case for Flexible Exchange Rates, 1969,"
in Harry G. Johnson and J. E. Nash, U.K. and Floating
LExchanges (London: The Institute of Economic Affairs,
1969), reprinted in Halm, ed., Approaches to Greater
Flexibility, pp . 91-111 .

 

 

means of attaining the advantages internationally that
are provided domestically by a single currency.

Second, acceptance of a single currency and its
implications is not necessarily beneficial to particular
regions within a nation. The pressures of competition in
the product and factor markets promoted by adoption of a
single currency frequently result instead in prolonged
regional distress in spite of the apparent freedom of labor
and capital to migrate to more remunerative areas. On an
international scale, the likelihood of regional distress
is substantially greater because of the previously men-
tioned barriers to mobility of both factors and goods.

Yet there is no international government, nor any effective
substitute established by international cooperation, to
compensate and assist regions of nations suffering through
the effects of economic change occurring in the environ-
ment of a single currency.

It is commonly believed that the fixed-rate system
exercises "discipline" over the nations involved in it
and prevents them from pursuing "irresponsible" domestic
policies. But this belief is a myth since nations have
the option of evading discipline by using intervention
or devaluation. The system obliges nations either to
accept whatever rate of inflation or deflation emerges
from the policies of other nations in the world economy or
to employ whatever policies of intervention in international

trade and payments they consider to be appropriate.

10

Defenders of the fixed-rate system argue for a
solution along two complementary lines: "harmonization"
of national economic policies in accordance with the
requirements of a single world currency system; and
progressive evolution toward international control of the
growth of international liquidity, combined with "surveil-
lance" of national economic policies. But countries have
shown themselves extremely reluctant to accept the surrender
of national sovereignty in domestic economic policy. This
is due to the lack of an international mechanism for com-
pensating those who lose out through adherence to the rules
of the single currency game and to the fact that nations
differ sharply in their views on priorities among policy
objectives, especially with respect to the relative

undesirability of unemployment and inflation.

The System of Flexible Exchange Rates
Under this system, fixed exchange rates are
abondoned altogether. The values of all currencies are
permitted to fluctuate (or float) in terms of each other

in response to market conditions of supply and demand.

‘Advantages and Disadvantages

The main advantage of flexible exchange rates
<derives from the law of supply and demand: The value of
all.currencies settles at a price that clears the market
ifiar foreign currencies. In a competitive market, if

qiuintity demanded exceeds quantity supplied at a given

11

price, the price of the good is increased until the market
is clear. The same holds true if quantity supplied is less
than quantity demanded at a given price. Exchange fluctua-
tions then maintain a continuous equilibrium in the balance
of payments. This solves one of the main problems of
economic policy, because external adjustment does not
conflict with policies which are needed for domestic stabi-
lization.

The need for reserves is thus drastically reduced
and might even be eliminated. The issue of how to generate
adequate reserves in the international financial community
is resolved because adjustment of the balance of payments
is immediate and continuous rather than postponed for a
long period until strong pressure forces action.4

Fluctuating rates make monetary policy more effec-
tive as a tool for the achievement of domestic stabiliza-
tion. Suppose a central bank wishes to cope with a
depression by lowering interest rates. Under a fixed
exchange rate, the lower interest rates would encourage
investments to the extent that they are sensitive to the
cost of credit. The effect of this policy is limited by
that sensitivity. At the same time, capital funds would

flow out of the country seeking higher interest rates.

 

See Egon Sohmen, International Monetary Problems
and the Foreign Exchanges (Princeton, J.J.: International
FInance Section, Department of Economics, Princeton
University, 1963).

12

The result would be a growing balance-of—payments deficit.
If the exchange rate were flexible, this deficit would lead
to a depreciation of the exchange rate, which would encour-
age exports and discourage imports. The improvement in
trade balance, through the multiplier mechanism, would
result in a domestic expansion in employment and output.
In the case of inflation, the reverse sequence would take
place if the central bank were to combat inflation by
raising interest rates. If the currency of the country .
with high interest is weak, however, short—term capital
would not flow in unless forward coverage was available.5
-Opponents of a fluctuating exchange rate believe
that the fluctuations represent a considerable risk for
those involved in all types of international transactions.6
This risk, they assert, tends to lower the volume of foreign
trade and investments. They argue that commodity traders

and investors only can make advance estimates of costs and

prices with fixed rates. In open economies, highly

 

5See Robert A. Mundell, "Flexible Exchange Rate

and Employment Policy," Canadian Journal of Economics and
Political Science, 27 (November 1961), 509-17; and

Robert A. Mundell, "The Monetary Dynamics of International
Adjustment Under Fixed and Flexible Exchange Rates,"
Quarterly Journal of Economics, 84 (May 1960), 227-57,
both reprinted as chap. 1? and 11 of Robert A. Mundell,
International Economics (New York: The MacMillan Company,
1968. See also Egon Sohmen, Flexible Exchange Rates:
Theory and Controversy (Chicago: University of Chicago
Press, 1961).

 

 

 

 

 

 

6This discussion follows the clear survey of argu-
, ments in Kreinin, International Economics, pp. 170-76.

 

13

dependent on foreign trade, constant exchange fluctuations
would introduce continuous variations in the domestic
price level as well as in the structure of relative
domestic prices. Disruptive fluctuations then would occur
such as incessant reallocation of resources and loss of
confidence in the currency as a store of value.

The risk introduced by fluctuating exchange rates,
however, depends upon the size of the fluctuations, and
they are not necessarily large, as Canada's ten years of
experience with the system indicates.7 If fluctuations
are expected to be small, it should be relatively cheap
to insure against them in the foreign exchange market.
Indeed, in the highly competitive market of exchange rates,
if the underlying supply and demand factors involve a high
measure of response to price change, the fluctuating rates
can be expected to be reasonably stable. Under such condi-
tions of high elasticities, it requires only a small
change in the exchange rate to bring forth whatever quantity
response is made necessary by any change in either demand
or supply conditions.

Elasticities in international markets, however,
may be low in the short run since it takes time for trade
to respond to relative price variations. Also, merchandise

trade may be characterized by high elasticities for large

 

7See Rudolf R. Rhomberg, "Canada's Foreign Exchange
Market: A Quarterly Model," International Monetary Fund
Staff Papers, 7 (April 1960), 439-56.

14

price changes but low elasticities for small price changes.
The significant transaction costs in international trade
may account for that. In such a case, exchange fluctua-
tions might be very large. But the supply and demand for
foreign exchange is governed by more than just trade
transactions. Capital flows movements may offset part of
the pressure in the exchange market that result from

trade flows.

Some opponents of flexible exchange rates concede
that the underlying factors of goods, services, and invest-
ment transfers make for reasonably stable--a1though
f1uctuating--exchange rates. They contend, however,
that even small fluctuations in the exchange rate can
elicit and feed upon speculative activity. Suppose the
value of a currency rises in terms of foreign currencies.
Speculators then may expect it to rise further, and they
purchase that currency in large quantities. These self-
justifying expectations and actions would bring about the
anticipated increase in the value of the exchange rate.
The Opposite would happen in the case of a decline.
Therefore, the mild variations underlying market factors
would be converted by the speculators into sharp fluctua-
tions. Speculation would be destabilizing in nature.

In rebuttal, advocates of flexible rates say that

it is not reasonable to assume that speculation would be

15

destabilizing in nature.8 In order to make profits,
speculators need to sell when the currency's price is
high and to buy when it is low. Therefore, on the average,
speculators would narrow rather than aggravate the range
of fluctuations. On the other hand, proponents of flexible
rates go on to argue that speculation can be more destabi—
lizing under fixed rates than under flexible rates.
Under a pegged rate, when a currency is weak, the specula-
tor knows with reasonable certainty that the movement, if
it happens, can only be in one direction: devaluation.
He will sell his holdings in order to buy a strong currency,
and he is almost certain to gain. Such speculation is
often both destabilizing and excessive. Fluctuating rates,
on the other hand, offer more risk and therefore may
dampen speculative activity.

Opponents of flexible exchange rates assert that
these promote inflation for two reasons. First, under
this system governments are no longer subject to the
discipline exerted by the fixity of the exchange rate.
Under fixed rates, governments are forced to avoid infla-
tionary policies for they lead to deficits in the balance
of payments and also impose inflation in other countries.
What the fixed-rate system really imposes, however, is
not the 2229 to conform to the average world trend of

prices but the obligation to do so. This trend is not

 

 

8See Friedman, "Case for Flexible Exchange Rates."

16

stable in general and may be either inflationary or
deflationary. Moreover, under pegged rates, countries

can evade the safeguards against rapid inflation in
several ways: by drawing reserves and borrowing, by
imposing restrictions on international trade and payments,
and also by devaluing their currencies.

The second reason that flexible rates might be
inflationary is their tendency to be characterized by
random depreciations. These, by raising the cost of
living, provoke wage and price increases, which could
result in further depreciation and continuous inflation.
Adjustments in that exchange rate should be made only
gradually, however, under flexible rates and would be
less likely to require drastic revisions of wage- and
price-setting decisions than they would under a fixed-rate
system. On the other hand, the extent to which increases
in the cost of living produce compensatory wage increases
depends very much on the economic climate set by the
government's income, fiscal, and monetary policies.

Proposals for Greater Flexibility
of Exchange Rates

 

After considering all of the merits of the case,
many economists and practitioners believe that complete
exchange flexibility could result in monetary indiscipline

and that it could be injurious to international transactions.

 

9See Johnson, "Case for Flexible Exchange Rates."

17

Several proposals have been put forward for altering the
present IMF system so as to achieve more flexibility of

exchange rates.10

Optimum Currency Area

The proposal for an optimum currency area involves
the establishment of fixed exchange rates between closely
knit countries which, taken together, could be looked
upon as regions of one and the same country. Free fluc-
tuations would be permitted among such blocs, which would
be called optimum currency areas. There are several
guidelines for determining which countries could compose
such an area.

First, countries within a currency area should
have a high measure of coordination in fiscal and monetary
policies as well as a high level of mobility of labor and
capital among them. When resources are highly mobile,
the adjustment process occurs by their movement from a
deficit (depressed) region to a surplus (prosperous)
region. These conditions should then help to lubricate

the adjustment mechanism.ll

 

loThe Burgenstock Papers, cited in Footnote 2,

constitute a confrontation between academic economists
and practitioners from the banking and business world.
They provide an intensive study of various proposals for
limited flexibility in the exchange rates.

11Major contributions on the theory of optimum
currency areas are: Robert A. Mundell, "A Theory of
Optimum Currency Areas," American Economic Review, 50
(September 1961), 657-65; Ronald I. McKinnon, "Optimum
Currency Areas," American Economic Review, 53 (September

 

18

Second, the area should be large enough to allow
most international transactions to be carried on within
the bloc. Thus, the fluctuations between the composite
exchange rate of the area and those of other areas would
not seriously affect domestic price levels.

Third, the size of the currency area should be
such as to minimize the costs of adjustments under the
income and switching mechanisms.12 The cost of achieving
external balance through domestic income policy depends
mainly on the marginal propensity to import (m). The
ratio 1/m indicates how much income would have to be
decreased to produce a fall in imports by one unit of
value, say, one dollar. The cost of devaluation, on the
other hand, is the deterioration of the terms of trade,
ignoring internal redistribution effects. Assuming export-
supply elasticities equal to infinity, the effects of a
1 percent devaluation would be an improvement in the

balance of payments of (mm + n - 1) percent and a worsening

X

in the terms of trade by 1 percent. Therefore, to improve

the balance of payments by one dollar, the terms of trade

 

1963), 717-25; and Peter B. Kenen, "The Theory of Optimum
Currency Areas: An Eclectic View," in Robert A. Mundell
and Alexander K. Swoboda, eds., Monetary Problems of the
International Economy: Papers and Discussions (Chicago:
University of Chicago Press, 1969), pp. 41-60.

12See H. Robert Heller and Mordechai E. Kreinin,
"Adjustment Costs, Optimal Currency Areas, and Inter-
national Reserves"; and Kreinin, International Economics,
pp. 174-75, 351-52.

 

 

19

cost amounts to 1/(nm + nx - 1) where nm is the elasticity
of demand for imports in the devaluing country and nX is
the elasticity of foreign demand for exports of the coun-
try in question. (In the case of finite export-supply
elasticities the cost would be smaller.) The cost of
devaluation would be greater or smaller than the cost of
income adjustment depending on whether 1/(nm + nx - l) is
greater or smaller than 1/m. At a certain degree of
"closedness" of a country or group of countries, the two
costs of adjustment would be equal. This break-even point
would determine the optimum size of the currency area.

In addition to the suggestion of establishing
optimum currency areas, three other major proposals have
been advanced for permitting the foreign exchange market
to make automatic adjustments within limited ranges.

These are the "wider band," the "crawling peg," and the
movable band proposals.13

The wider band proposal would retain the present
IMF system of pegged exchange rates and would permit
exchange rates to fluctuate to, say, 5 percent on either
side of par. Adjustments in balances of payments then

would be more rapid, and the need for reserves would be

lessened.

 

l3See George N. Halm, Toward Limited Flexibilipy
of Exchange Rates (Princeton: International Finance
Section, Department of Economics, Princeton University,
1969), reprinted as chap. 1 in Halm, ed., Approaches to
Greater Flexibilipy.

 

 

 

20

Under the crawling peg or sliding parity proposal,
daily fluctuations in par value would be confined within
present or somewhat wider limits, but a country in dis-
equilibrium would make preannounced small changes in its
parity every month until equilibrium was attained. The
two advantages of the system are that the country could
make parity adjustments before the pressure became too
explosive and that some of the political stigma attached
to large, discrete exchange variations would be removed.
On the other hand, if speculative activity were to be
stimulated by preannounced exchange adjustments, the
country would have to manipulate interest rates or resort
to other measures to stem destabilizing capital flows.

A variation of the crawling peg proposal would
make the parity on any business day a moving average of
the rates actually set in the market over some fixed
period of the immediate past. The par value would grad-
ually adjust itself upward or downward over time to the
market pressures of excess supply or excess demand for
the currency.

An even more flexible proposal would be that of
the movable band, which would combine wider bands with
the crawling peg. Evaluation of how this suggestion would
work in practice has been hindered by the relative lack of
direct experience in application. Analyzing Brazil's

experience with a system of minidevaluations, a variation

21

of the crawling peg proposal, from August 1968 to the
present early 1973 therefore is likely to contribute
significantly to this rich field of discussion.
Sharp Devaluations in Countries with
Chronic Inflation: A Special Problem

The degree of flexibility of the exchange rate is
specially relevant for those countries which have been
confronted with high rates of inflation for long periods.
During the past two decades this has been the case for
several Latin American nations. Using December 1963 as a
base period, with an index number equal to 100, the
consumer price index in October 1972 was 898 in Argentina,
1,577 in Brazil, 1,825 in Chile, and 5,375 in Uruguay.

The annual rate of inflation in each of these countries
during the last ten years was almost always greater than
10 percent and sometimes even surpassed 100 percent.14
All four governments have been attempting, with varying
degrees of success, to curb the endemic inflationary
process.

While simultaneously combating inflation and pro-
moting development, one major decision the governments
face is how to adjust the exchange rate. Once the exis-
tence of chronic inflation is admitted, and thus the
inevitability of depreciation of the domestic currency is

accepted, three possible methods are available for adjusting

 

14International Financial Statistics, 26 (April,

1973).

22

the exchange rates: sharp devaluations at relatively wide
intervals; continuous depreciation of a floating exchange
rate; or relatively frequent but small devaluations at
short intervals.

The system of sharp and periodic (between periods
of one or two years) devaluations has presented very
difficult problems for economies in which it has been
applied. The case of Argentina, for example, has been
thoroughly analyzed by Diaz Alejandro in his treatise on
the effects of discrete devaluations. His analysis is
discouraging:

The policy of sharp devaluations followed by a
pegging of the peso tended to yield alternating
periods of under- and overvaluation of the peso.
Such a policy aggravated the erratic gyrations
of relative prices. The similarities of the
circumstances under which the devaluations of
November 1955, January 1959, and April 1962

were undertaken are striking. All of them took
place with gold and foreign-exchange reserves
nearing a vanishing point, in the midst of a
frenzy of speculation and severe social and
political disturbances. They were also taken
under inflationary conditions, closely following
large increases in money wages and the money
supply; tighter fiscal and monetary policies
tended to follow rather than precede devaluations.15

The system of completely flexible exchange rates,
as seen above, is feared by most practitioners, even in

countries with relatively stable price levels, because of

 

15Carlos F. Diaz Alejandro, ExchangehRate Devalua-
tion in a Semi-Industrialized Countpy: The Experience of
Argentina, 1955-1961ITCambridge, Mass.: The M.I.T. Press,
1968), p. 191.

 

23

possible destabilizing effects and possible detrimental
effects on international transactions. This fear, of
course, is aggravated in countries in which inflation is

chronic.

The System of Mini-Adjustments

The system followed by the Brazilian monetary
authorities has consisted of changing the official exchange
rate, that is, the value of the cruzeiro with respect to
that of the dollar, by relatively small amounts at time
intervals which have varied from 14 to 70 days. The
basic guiding principle in making the adjustment is the
difference between the domestic rate of inflation and that
of Brazil's main trading partners.16 Other factors con-
sidered by the authorities are the movement of short- and
medium-term interest rates in Brazil as compared to those
prevailing in foreign capital markets and also the trends
in the balance of payments and in the international
investment position of the country. To prevent a specu-
lative capital exodus the authorities pursue rates of par
value adjustments which are lower than the difference
between the nominal interest rates at home and abroad.
The exact amount and timing of adjustment are never publicly

known before hand.

 

16Since October 1972 the National Monetary Council

has been quoting the value of the cruzeiro not only with
respect to the dollar but also with respect to the other
main currencies.

 

.— _-‘4q

 

 

 

 

 

.

 

24

In View of continuous inflation at higher rates
than in most other countries there was no need of appre-
ciations during the period covered in this study, from
August 1968 to December 1972.17 Because of this, the

word minidevaluations has been chosen to identify the

 

new Brazilian exchange system throughout this dissertation.
This system of small changes in the exchange rate

within short intervals can be expected to be the most

appropriate for countries with chronic inflation and

perhaps even for countries with more stable economies.

It can be considered as a variation of the crawling peg

or the creeping peg system. Juergen Donges has considered

a devaluation of 1 or 2 percent every two to five weeks

 

17In view of the sharp 10 percent devaluation of
the dollar on 12 February, 1973, the Brazilian authori-
ties-~for the first time—-decided to revalue the cruzeiro
by 3 percent with respect to the dollar. This action was
taken two days after the decision of the U.S. government.

18The advantages of minidevaluations are well dis-
cussed in two articles by Paulo H. Pereira Lira, "Cruzeiro
o Preco Exato da Moeda," Revista Economica,Jorna1 do Brasil
(26 March 1971), 32; and "Endividamento Externo e Desen-
volvimento," Revista Economica, Jornal do Brasil (31 March
1972, 120. See also Banco Central do Brasil, "Nuevo
Metodo de Reajuste en Brasil," CEMLA: Boletin Mensual
15 (January 1969), 1-3; William G. Tyler, "As Taxas de
Cambio Cadentes e a Inflacao Endemica," levista Brasileira
de Economia, 22 (December 1968), 80-93, and "Exchange Rate
Flexibility Under Conditions of Endemic Inflation: A Case
Study of Recent Brazilian Experience," unpublished paper,
USAID, 1971; Juergen B. Donges, Brazil's Trotting Peg, A
New Approach to Greater Exchange Rate Flexibility in Less
Developed Countries (Washington, D.C.: American Enterprise
Institute for Public Policy Research, August 1971); and
Fernéo Carlos Botelho Bracher, "Sistema Cambial de Taxa
Flexivel," O Estado de 550 Paulo, 24 (November 1968), 71.
This section draws heavily from these contributions.

 

 

 

 

 

25

too fast to be characterized as a "creeping" movement
and has called the system the "trotting peg."19

The main advantage of a system of small adjustments
performed within short periods of time is that it guarantees
a reasonably satisfactory exchange rate level for those
involved in foreign trade and finance. It prevents the
occurrence of long periods of increasing overvaluation with
consequent depletion of foreign reserves and of periods
with substantial undervaluation with consequent accumula-
tion of foreign reserves as would normally occur in a
highly inflationary economy using discrete devaluations
over long time intervals.

In order to avoid a chronic overvaluation of the
exchange rate, assuming no modification in the rules of
foreign trade, periods of undervaluation should alternate
with periods of overvaluation so that the long-run average
exchange rate remains approximately equal to the equili-
brium exchange rate. Figure I-l illustrates this case.20

Political factors make it difficult, however, both
to estimate what the equilibrium exchange rate is and to
maintain periods of undervaluation of the exchange rate.
What is more likely to occur, therefore, is governmental
devaluation of the domestic currency each time which only

approximates that value believed to be the equilibrium

 

19Donges, Brazil's Trotting Peg.

20For the discussion of Figures 1 to 5, see Tyler,
"As Taxas de Cambio."

26

Par value of
domestic cur-
rency in terms

of foreign
currency periods of overvaluation

and depletion of reserves

 

?

 

 

 

 

 

 

‘ pegged
periods of undervaluation rate

and accumulation of reserves i<\\

 

 

time
Figure I-l.--The Equilibrium and the Pegged Exchange Rate
Under Sharp Devaluations.
exchange rate. In this case, periods of temporary equili-
brium follow periods of overvaluation, as illustrated in
Figure I-2. The consequence is a long-run depletion of
foreign exchange.
Under the system of mini-devaluations, the periods
of overvaluation and undervaluation of the par value of
the domestic currency are minimized. The par value closely
follows the equilibrium value, as illustrated in Figure I-3.
A more rational allocation of resources is to be
expected from the system of minidevaluations which main-

tains a relatively stable relationship between internal and

27

par value of

domestic \\\\\ *\\\.

currency in

terms of
foreign \periods of different .
currency degrees of overvaluation

 

 

 

 

 

begged rate

 

time

Figure I-2.--The Equilibrium and the Pegged Exchange Rate
Under Sharp Devaluations (Alternative Situation).

small and frequent exchange rate adjustments with

par value Of no significant overvaluation or undervaluation

domestic
currency in
terms of
foreign
currency

 

 

 

(assume same scale in the axis as time
Figures 1 and 2)

Figure I-3.--The Equilibrium and the Pegged Exchange Rate
Under Minidevaluations.

28

external prices. Uncertainty is diminished for those who
have to make decisions about the productive capacity of
exportables and importables in the economy.

Under the system of sharp devaluations within long
intervals, the exporter normally faces a substantial
exchange risk because he is never sure of the timing or
size of the next adjustment. Once the exporter fixes a
sales price in terms of foreign exchange for his product,
the domestic inflationary process results in increasing
costs and in a decreasing margin of profits in terms of
domestic currency. Figure 4 illustrates the case for a
firm facing constant returns to scale and a fixed price
in terms of foreign currency. Assuming that inflation
raises the costs of production with time and that discrete
devaluations occur over long intervals, the firm will
experience alternate periods of profits and losses.

Assuming that production costs are affected by
the domestic inflation and that small devaluations within
short intervals follow approximately the same rate of
inflation, the profit margin of the firm tends to be more
stable, as illustrated in Figure 5. Elimination of the
exchange risk should greatly affect the expectations of
exporters. This should have a positive effect on invest-
ments in the export sector, on exports, and hence on the
growth of the economy.

Should the country follow a policy of small and

frequent devaluations, the relative sizes of which are

29

export
prices and
production
costs in
terms of

 

domestic
currency

profit margin

 

 

export prices///’/////

0&fi9

 

 

losses

 

 

 

time

Figure I-4.--Profitability of Exporter Under Sharp
Devaluations.

export
prices and
production
costs in
terms of
domestic
currency

 

 

 

time

Figure I-5.--Profitability of Exporter Under Minidevalua-
tions.

30

equal to the rate of domestic inflation less the average
rate of inflation of its main trading partners, then one
may expect the profit margin of the exporter to be
reasonably stable for two reasons. First, if inflation is
prevalent in the main trading countries, the price of the
good in terms of foreign currency is expected to increase
approximately by the same rate of inflation. Second, the
price of the export good in domestic currency increases as
minidevaluations occur. Figure 5 also serves to illus-
trate the net result of these forces.

The government of a developing economy knows that
attainment of an accelerated growth path requires an
expansion of imports--mainly machinery and intermediate
products to feed the processes of investment and indus-
trialization. This increase in import needs may represent
a balance of payments problem. Therefore, the government
may be interested in promoting exports so as to eliminate
the foreign exchange bottleneck and to generate additional
aggregate demand in order to stimulate the economy.
Promotion of exports can be implemented through several
tax exemption and subsidy devices which have the effect
of increasing the relative price obtained by export sales
with respect to that obtained by domestic sales.

Under a system of sharp devaluations at long
intervals in an inflationary economy, fiscal incentives

to export are likely to have only a limited beneficial

31

effect. On the other hand, the system of frequent small
adjustments in the exchange rate has the advantage of
providing the continuity of all incentives to export.

The system of minidevaluations is expected to
have a stabilizing impact on production, employment, and
inventories in the economy and thus to promote greater
efficiency. Under the system of sharp devaluations,
exporters who believe that a devaluation is to occur
soon try to retain their production in stock until the
adjustment is effected. Just after devaluation, exporters
have incentives to produce more and to sell the accumulated
stock. While exports are encouraged, the reverse occurs
with imports, and what happens to imports has an effect
on production and sales of their competing domestic
products.

The elimination of the exchange risk under the
system of minidevaluations also affects international
loan operations. Firms and state agencies may take
advantage of the money market abroad where real interest
rates may be lower and long-run funds more abundant.

One of the main problems involved in the system
of sharp devaluations is the destabilization of specula-
tive movements. Whenever a significant change in the
foreign exchange rate is anticipated, people convert
domestic currency into foreign curriencies, which results

in a periodic intense pressure in the domestic credit

32

market. Funds which normally serve domestic financing
are temporarily diverted to buy foreign currencies. Once
the devaluation is effected, individuals convert the
foreign currency into domestic currency to obtain a
profit, the size of which depends upon the size of the
adjustment. Then the money is loaned in the domestic
market for a relative high (due to inflation) nominal
interest rate. When a new devaluation is expected, the
domestic currency, plus the interest gained, is converted
into foreign currency, and so on. High speculative gains
serving no useful function from the nation's point of
view accrue to individuals.

Under the system of frequent small devaluations,
there is no incentive for anyone to buy foreign exchange
simply for the purpose of gaining from devaluation. If
devaluations occur, say, at intervals of 20 to 50 days,
the interest rate policy can be used to prevent specula-
tion. Because the market rate of interest in an infla-
tionary economy tends to be greater than the rate of infla-
tion, it is easy for the government to pursue minidevalua-
tions at an average rate smaller than the monthly rate of
return that an investor can obtain in the domestic market.
If the expectation is such that a small devaluation may
occur any time within the next 50 days, this element of
surprise discourages speculation even more.

Under the minidevaluation system the old taboo

that usually accompanies devaluations in most countries--

33

the monetary authorities denying that it will occur until
the last minute--is also abolished. It removes all
reasons for agitation, rumors, or speculation. The
public simply knows that the exchange rate is to be
readjusted in accordance with the conditions of the
economy vis-a-vis the international situation.

Finally, some observations can be made with
respect to the possible effects of the system of minide-
valuations upon the evolution of domestic prices. There
is no rigid relationship between the domestic prices and
the foreign exchange rate. The behavior of the former is
also affected by other elements, such as movements in
interest rates and capital flows, which serve as references
to evaluate the convenience of adjusting the exchange rate.
The tendency, therefore, is for internal prices to affect
the level of the exchange rate.

The extent to which exchange rate devaluations may
affect the inflationary process depends upon the relative
value of imports and exports with respect to the total
supply of goods in the economy. Prices of imports and
exports in domestic currency rise with devaluation. Under
a system of sharp devaluations this may result in sudden
and large compensations for accumulated maladjustments in
several sectors of the economy. The impact of the infla-
tionary forces should be much smoother under a system of
minidevaluations, which should help the government in

curbing inflation. In addition, the higher productivity

34

of the economy permitted by minidevaluations also fights

inflation.

Summer

The system of minidevaluations of the exchange
rate at short intervals have several advantages over the
system of sharp devaluations at long intervals, especially
in a highly inflationary economy. The main advantage is
the greater stability in prices for those involved in the
foreign sector of the economy. Thus, the exchange risk
involved in export, import, direct foreign investments,
and international loan operations is eliminated. For a
developing economy promoting exports, minidevaluations
represent the continuity of incentives to export. The
stabilizing effect on production, employment, and inven-
tories in the sector of importables and exportables and
the elimination of destabilizing speculative movements
should result in a more rational allocation of resources
throughout the economy, with a consequent increase in
productivity. The smoother and eXpected adjustments in
the exchange rate involve no difficult political problems
in decision making and should help the government in
achieving its objective of slowing down inflation. The
system of minidevaluations should greatly facilitate the
process of external adjustment for the government of a

country. To what extent these beneficial effects of the

35

system adopted by the Brazilian monetary authorities in
1968 actually have occurred will be examined in detail

in the following chapters.

CHAPTER II

HISTORICAL BACKGROUND OF FOREIGN

EXCHANGE POLICY OF BRAZIL

The exchange rate policy has figured importantly
in shaping Brazil's economic development. Several types
of exchange policies and differing degrees of control
have been utilized in the period since the Second World
War. Rates of import and export exchange frequently have
varied quite drastically; bonuses, charges, and auctions

have comprised a de facto system of multiple exchange

 

rates. The import exchange rate policy has been employed
to gain revenue and especially to promote growth through
the fostering of the production of import substitutes.
The exchange policy served as a protectionist instrument
before the system of specific duties, which was rendered
ineffective by inflation, was changed into the more func-

tional ad valorem system by the general tariff reform of

 

1957. The exchange policy also hindered the growth and
diversification of exports until the mid-19605.l
Beginning in the late 19308, the Brazilian economy,

which had been based mainly on the export of primary

 

lSee Tyler, "Exchange Rate Flexibility."

36

37

products, gradually transformed into a highly industrialized
and diversified one, with a decreasing dependency on
external supplies. This progressive relative decrease of
foreign trade with respect to the Gross Domestic Product
(GDP) is illustrated in Table II-l.2 In 1939 cruzeiros,
the ratio of imports to GDP fell from an average of 22.4
percent between 1920 and 1929 to 6.1 percent between 1961
and 1967. The highest was 28.7 percent in 1925, following
a peak year for the purchasing power of exports, and the
lowest was 4.5 percent in 1965, a year of industrial
recession. In physical terms, the increase in imports
(measured by a weighted index of merchandise based on
relative prices) was very small: 2.4 percent per year
between 1920 and 1947 and only 0.3 percent per year between
1947 and 1967 (exponential growth rates). The import
quantity index also fluctuated widely, as reflected in
the bottom and peak indexes, respectively, during the four
decades: 61.5 (1921) and 155.7 (1928); 66.0 (1932) and
114.8 (1937); 59.9 (1942) and 197.9 (1947); 181.3 (1953)
and 289.0 (1951); 162.6 (1965) and 243.2 (1960).

The physical quantity of exports expanded at a
rate of 1.0 percent per year (exponentially) between 1920
and 1947 and declined by 0.3 percent per year between 1947

and 1967. The growing gap that developed between the

 

2A5 originally prepared by the Getulio Vargas
Foundation. See Mario Henrique Simonsen, Brasil 2002
(Rio de Janeiro: 1972), APEC Editora, pp. 95-101.

 

38

 

 

 

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no macaaaam ca mmsam>

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39

 

 

.mmuem .aa

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m.w m.moa a.aa o.vma m.oma m.mm m.m- mmma
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m.aa m.em a.m m.mma m.a¢a «.moa m.oma mama
«.Va a.mm m.m m.mma; m.aoa m.mma mvma

m.omH

40

physical quantity of imports and exports after the 19305
was made possible by: (1) an improvement in the terms of
trade during certain periods, particularly the late 19405
and first half of the 19503; (2) the flow of direct
investment into the country. Foreign corporations have
shown a continuously strong propensity to invest in Brazil
as compared to other Third-World countries; and (3) the
increase in foreign indebtedness, especially in periods
when the terms of trade took a turn for the worse, as in
1962 and 1963.

There was a decrease not only in the share of
aggregate imports in Gross Domestic Product but also in
the share of imports in the market supply of most commodi-
ties. Import-substituting industrialization proceeded at
a rapid pace. By 1949, most common nondurable consumer
goods already had been substituted with domestic produc-
tion. In that year imports amounted to only 4 percent of
the total internal supply of such goods. Imports of
intermediate products contributed 25 percent, while
consumer durables and capital goods accounted for approxi-
mately 60 percent. By 1959 the share of imports in con-
sumption of durables, intermediate, and capital goods had
been reduced respectively to 6, 12, and 33 percent. By
the mid-19605 the Brazilian industrial system was excep-
tionally integrated. The share of imports of intermediate
and capital goods was less than 10 and 20 percent, respec—

tively. Between 1949 and 1964 industrial production more

41

than tripled, while imports of manufactured goods decreased

30 percent.3

The Role of Foreign Exchange Policy
in Fostering Import Substitution

 

The key parts that exchange rate policies as well
as tariff and nontariff barriers took in this process are
described below. The factors that led to the adoption of
these policies are related to world conditions of the last
fifty years, which were not always favorable to trade
expansion. The Great Depression adversely affected Brazil's
export revenue, especially from coffee, discouraging fur-
ther dependency on the foreign sector. In 1928 Brazil.
exported some 15 million bags of coffee at about US 23
cents a pound; in 1931-1932 the same quantity of bags was
exported at 7 to 9 cents a pound. Brazil, then, confirmed
the belief that the industrialized countries suffer from
unemployment and curtailment of production during a serious
depression but not from a large reduction in prices;
countries which are essentially primary producers do not
experience a large reduction in production or employment,
but their exports do undergo a sharp decline in price.

The 1930 exchange rate of Cr$8.30 ("old" cruzeiros) to the

dollar changed to Cr$l8.70 in 1939. Although the Second

 

3See Celso Furtado, Obstacles to Development in

Latin America, translated by Charles Ekker (Garden City,
New Yofk: Anchor Books, 1970).

 

42

World War favored Brazil's terms of trade in its generation
of a heavy demand for exports, the possibility of export
shipments was restricted, and a drastic rationing of
imports was made necessary. This resulted in an increase
in the foreign exchange reserves from about US$70 million
to some US$700 million in 1945. The rate of exchange was
unaltered, at Cr$18.70 per dollar. Of the US$700 million
reserves, about one-third was in sterling and not freely
usable; Great Britain declared its inability to pay except
by transferring its capital investments.4 During 1945-
1947, the Brazilian Government, concerned with the level
of coffee prices in international markets, kept the
foreign exchange rate constant at the war period rate,
even though price levels in Brazil had increased much more
than in the industrial countries, particularly the United
States. Experience had shown that partly because of
inelastic demand for coffee the devaluation of the cruzeiro
would cause a decline in international coffee prices.
Also, the tariff system was based on specific prices per
item and the rates had not been adjusted for the new
higher prices. The interests of coffee-export groups pre—
vailed over the interests of the new industries that had

developed during the war years.5

 

4See Eugenio Gudin, "The Chief Characteristics of

the Postwar Economic Development of Brazil," in The Economy
prrazil, ed. by Howard Ellis (Berkeley: University of
California Press, 1969), chap. 1, pp. 5-7.

5See Furtado, Obstacles to Development, pp. 115-16.

 

43

1947-1953: Overvaluation and
Import-Licensing Controls

 

 

Scarcely a year of liberation of imports and over-
valuation of the cruzeiro exhausted reserves and increased
foreign indebtedness. From June 1947 to January 1953, a
licensing system was used to control both the level and
structure of Brazil's imports. A system of rationing
foreign exchange supplies to five different categories
was instituted. Priorities were given to raw materials
and semiprocessed products so that the productive capacity
of the country would continue operating. Machinery for
expanding national productive capacities was assigned
secondary priority, whereas consumer items classified as
"nonessentials" had the lowest priorities. Around 1949,
the Law of Similars--under which imports of products
"similar" to those locally produced were prohibited--
began to be applied and was enforced with gradually
increasing frequency during the succeeding decade.

The maintenance of an increasingly overvalued
exchange rate, kept at Cr$l8.70 to the dollar, charac-
terized the export policy in the period 1945-1953. The
quantity and value of exports declined steadily from 1946
until the Korean War. From 1949 onward, exporters of
certain products which were being priced out of the market
were allowed to sell foreign exchange directly to importers

of nonessential goods. This limited effective devaluation

44

for some export products was important just before and
after the Korean War boom.

The outbreak of that war, and the fear that it
would become another world conflict, caused imports to
soar from US$950 million in 1949 to US$1,703 million in
1951 and to US$1,702 million in 1952. Part of this
expansion was financed by the export boom and part by
compensatory financing. Over 55 percent of the increase
in imports was in capital machinery and equipment. At
the same time, however, many imports were difficult to
obtain because of the war. In 1952, exports fell sharply,
which aggravated the deficit in the balance of payments.
These events strengthened the belief of the government
that dependency on imports should be diminished.6
1953-1959: Multiple Exchange
Rates, Taxes, and Bonuses

The picture was significantly changed in the period
1953 to 1957. In January 1953, a free exchange market was
established to cover financial operations and tourism. In
October 1953, the system of multiple exchange rates with
bonus and taxes was instituted.7 The official exchange
rate was kept fixed as a base. On the export side, differ-

ent rates were established: for coffee, the exchange rate

 

6See Joel Bergsman, Brazil, Industrialization and
Trade Policies (Oxford: OECD, Oxford University Press,
1970Y, chap. 3.

 

7See Alexander Kafka, "The Brazilian Exchange Auction
System," Review of Economics and Statistics, 38 (August 1956),
308-22.

45

was the official rate of Cr$18.36 plus a bonus of Cr$5.00,
or a total of Cr$23.36 per dollar; for other products, the
bonus was Cr$10.00, or a total of Cr$28.36 per dollar.

The bonuses changed from time to time as did the adminis-
trative setup. The average export exchange rate rise
paralleled the domestic price level but with lags. The
system lasted until 1959, and the quantum and the value of
exports did not change substantially during the period.

On the import side, import licenses were eliminated
and replaced by auction sales of foreign exchange licenses.
The monetary authority (SUMOC) allocated available foreign
exchange among five different categories. Each auction
corresponded to a specific category and was subject to
minimal premia. Some imports, however, were not subject
to the auction system. Among these were items for
governmental agencies, wheat, newsprint, and petroleum
products. The rate for these products was the official
exchange rate plus eventual surtaxes which could be
determined by the monetary authority. These goods accounted
for about one-third of total imports. The other imports
were classified into five categories: (1) inputs to
agriculture, certain pharmaceuticals and inputs to the
pharmaceutical industry, and some other essential commodi-
ties; (2) essential raw materials (that is, for favored
industries, almost all producers of intermediate goods);
(3) other raw materials "essential" spare parts and equip-

ment (again for favored industries); (4) fresh fruit and

46

other spare parts and equipment; and (5) all other commo-
dities (most finished consumer goods).

The same bias in ranking that characterized the
licensing period (1947-1953) continued during the exchange
auction period (1953-1957), but the magnitude of the price
effects differed. The lowest exchange rates were applied
to imports of capital and current inputs to agriculture
and some favored industries; the next lowest were applied
to other producer goods, and the third lowest rates were
applied to finished consumer goods.

The net result of the purchase and sale of foreign
exchange went to the Fund of "Agios." Financial transfers

and tourism were under the free market.

Continuous inflation required revision of the
exchange rates for maintenance of export profitability.

In January 1955, four export categories were established,
each with a different exchange rate level. Larger
remuneration was given to products facing greater problems
in continuing to be exported. In May 1956, the bonuses

of some of the categories were increased.

The functioning of the multiple exchange system led
to increasing difficulties. Interest groups constantly
complained and exerted pressure in the interest of changing
import lists. Some domestic enterprises were discouraged,
while the production of highly protected luxury consumption
goods was stimulated. On the other hand, the monetary

authorities were late in adjusting export exchange rates.

47

This was due in part to the decrease in the balance of
exchange operations available to the Fund of "Agios"

that occurred in each adjustment of the export exchange
rate. This in turn resulted in a decrease in the extra
budgetary revenue used by the government in its financial
operations. Higher export remuneration was deleted in the
case of some goods as a means of preventing increases in
domestic prices.

Foreign firms were given a Special incentive to
invest in Brazilian industry by issuance of the SUMOC
Instruction 113 of 1955. This regulation exempted foreign
firms associated with Brazilian enterprises from the need
to provide foreign exchange "cover" for the importation
of machinery, an advantage denied to wholly Brazilian-
owned firms. It was resorted to intensively during 1955-
1960 and figured importantly in the establishment of the
automotive and other industries.

Additional credit and exchange facilities were
extended to domestic and foreign firms by the government
after 1956 to promote industrialization. The subsidy
given to the industries from 1955 to 1960 by such means
was estimated by Eugenio Gudin at about 1 billion dollars.
Consumers in general, people not living in the industrial
areas, and agriculturists in particular bore most of the

costs of industrialization. The monopolistic gains

 

8Conjuntura Econ6mica, 24, No. 1 (1970), 60-62.

48

resulting from protection, although substantial, were not
included in this estimation.9

Until 1957, custom duties were regulated by the
tariff of 1934 expressed in specific sums of cruzeiros.
With inflation and with the depreciation of the cruzeiro
after 1940, those tariffs became ineffective but were
replaced by import licenses and exchange controls.

In August 1957, a new law instituted ad valorem

 

tariffs ranging up to 150 percent and reduced the number
of import categories to only two: (1) general, for
products the domestic supply of which was unsatisfactory,
and (2) special, for most finished goods and for most
producer goods which were available domestically. The
exchange auctions were maintained. Fertilizers, newsprint,
wheat, petroleum, petroleum products, and amortization and
interest payments on foreign loans important for develop-
ment were placed in a separate category. Here, a very

low exchange rate, equal, in general, to the average rate
for exports, was used.

The system governing imports that was introduced
in 1957 remained basically the same until March 1967, when
the scheduled tariff was revised downward, and the multiple
rates were eliminated. Some changes, however, such as
restrictions and exemptions to limit or facilitate certain

imports, were introduced along the way.

 

9Gudin, "Chief Characteristics," pp. 10-11.

49

On the export side, many products were transferred
to the free exchange market in 1957. In December 1959, all
products other than coffee, cocoa, mineral oil, and castor
beans could be sold on the free market. The continuous
inflation, however, together with occasional adjustments
in the export rate, resulted in wide variations and uncer—
tainty as to the export exchange rate.

The real rate was characterized by an average (of
absolute values) monthly variation of over 3.8 percent.
The real rate drOpped 10 to 15 percent in several periods
of three to six months. The rate for individual products
varied even more, causing more uncertainty during 1953-1959.10
This discouraged exports, which, having totalled more than
US$1,500 million in both 1953 and 1954, dropped to less
than US$1,300 million in both 1958 and 1959. Exports of
manufactured products (classes 5,6,7,8 of NBM--Nomenc1atura
Brasileira de Mercadorias), however, starting from a
relatively low level of around US$9 million annually in
1953-1954, rose to an annual level of US$12 to US$13
million in 1958-1959. This might have been due to occa-
sional undervaluation--although with wide variation-~of the

export rate for such goods during part of this period.11

 

loSee Bergsman, Brazil, pp. 35-36.

11See Donges, Brazil's Trotting Peg, p. 12.

 

50

1960-1964: Gradual Abolishment
of Multiple Exchange Rates

 

 

In March 1961, under some pressure and with advice
from the International Monetary Fund, the monetary authori-
ties moved toward the simplification and abolishment of the
multiple exchange rate system. Under SUMOC Instruction 204,
import exchange operations began to be effected at free
market rates, and the subsidy on essential imports of oil,
wheat, newsprint, and so forth, was drastically reduced.
The special category of finished consumer goods, however,
still was maintained with exchange auction. The exchange
rate was effectively devalued 100 percent. In May 1961,
export coffee operations also passed to the free-exchange
market, although the government retained a "contribution
quota" on each dollar exported to be applied in purchases
of surpluses and in the infrastructure of coffee agricul-
ture. Exports, including manufactured goods--sti11 less
than 3 percent of total exports--performed relatively well
in 1961. But the ensuing 1961-1964 period was marked by
social unrest and political instability. Many restrictions
again were placed on imports. Essential imports (oil,
wheat, and newsprint) again were subsidized periodically.
Inflation began to spiral, and devaluation again was
allowed to lag behind price increases. To offset the
effects of exchange overvaluation to some extent, exchange
premiums ("bonecos") which varied according to product were

used.

51

1964-1968: Unified Exchange
Market, But Still with
SharpgAdjustments

 

In 1964, three distinct exchange markets and rates
were in Operation: (1) the bank rate, used for official
transactions abroad; (2) the so-called manual rate, used
in the exchange houses for touristic purposes; and (3) the
black or "parallel" market, used for unauthorized trans-
actions. In May 1964, these different exchange rates
were unified by governmental action. All export and
import operations passed through the free exchange market,
where the exchange rate was pegged periodically by the
monetary authorities. But the period from 1964 to 1968
also was characterized by overvaluation and by sharp dis-
continuities. Between December 1964 and January 1968, the
cruzeiro was devalued three times, by 19, 23, and 18 per-
cent, at respective intervals of 323, 454, and 325 days.
This occurred in spite of the stated intention of the
government in March 1964 to maintain a realistic exchange
rate in order to eliminate distortions and to promote

exports.12 Moreover, in August 1967, the monetary

 

12See Brasil, Ministerio do Planejamento e Coordena—
cao Econ6mica, Programa de acao economica do govérno
revolucionério 1964-1966 (PAEG), 2d ed. (Rio de Janeiro,
1965), pp. 47¥49, 131. The stated objective of the PAEG
was to gradually establish a unified market for all exchange
transactions with a free and flexible exchange rate, which
would be given stabilizing support by the Bank of Brazil.
Celso Furtado's Plano Trienal also pledged to maintain
realistic exchange rates and to keep the same real level.
See Presidéncia da Republica, Plano Trienal de Desenvol-
vimento Economico e Social 1963-1965, (Sintese) (Rio de
Janeiro: December 1962), p. 78.

 

52

authorities stopped selling dollars to all comers, which
promoted the reestablishment of the black market. Exchange
control was less tight in this period, however, than usual
after the Second World War.

In March 1967, the Brazilian economy moved toward
import liberalization. Tariffs generally were lowered and
the special category for imports was abolished. The very
strict protection (tariff plus exchange rate premium) for
these finished consumer goods dropped from the 180-220
percent to the 60-100 percent range.13 Tariffs on other
products were reduced by approximately 20 percent.

Important measures were taken during this period
regarding the flows of capital and payment of returns.
Laws 4131 (of 1962, modified in 1964) and 4390 and Decree
55,726 (February 1965) regulated both the remittance abroad
of returns on investments of foreign firms and the manner
in which foreign firms could raise short- and medium-term
loans either with their mother company or with inter-
national financial institutions. SUMOC Instruction 289,
of January 1965, governed and promoted the ability of
foreign firms to obtain short-term loans (up to one year)
abroad. In.August 1967, Central Bank Resolution #63 made
it possible for both national and foreign firms to raise

short-term loans abroad using banks as intermediaries.

 

13See Bergsman, Brazil, pp. 36-37. After December

1968 the tariffs on many of those products were raised by
100 percentage points.

53

Beginning in 1964, the government began to promote
exports through a series of incentives which will be des-
cribed in detail below. Of key importance among them was
the new exchange policy of August 1968.

Some Detailed Estimates of the Level

of the Real Exchange Rate in the
Pefiodii946-l967

 

 

 

Taking into account protection against imports and
implicit export taxes Joel Bergsman has estimated the free
trade exchange rate and the real import and export rates
for the period 1946-1967. These data are worth including
for purposes of comparison with post-August 1968 events.

The figures are shown in Table II-2, which includes index
numbers of the real value of the free trade exchange rate
and the real cruzeiro value of one dollar of exports or
imports. The free trade exchange rate is an estimate of

the rate which would maintain the balance of trade unchanged
in the absence of tariffs, export taxes, and subsidies.14
The level of protection due to tariffs, exchange premia,
and other restrictions and exemptions averaged 86 percent.
The free trade rate during the period 1954-1964 and the

implicit export taxes averaged 31 percent of that rate.

Both protection and export taxes declined after 1964 and

 

14See Bela Balassa and Daniel M. Schydlowsky,

"Effective Tariffs, Domestic Cost of Foreign Exchange, and
the Equilibrium Exchange Rate," Journal of Political
Econom (May-June, 1968), 356-59; and Joel Bergsman,
Foreign Trade Policy in Brazil," unpublished study

(Rio de Janeiro: U. S. AID, February 1971), pp. 56-57.

 

54

 

 

mca mma cma ma cm ccam 5mca
NHH «ea cma mm cm comm mcca
vma m5a acm mm 5m comm mcma
mma 5ca cmm mm c5 cc5a vcca
cad cca mmm mm Hca cmc mcma
cma mca com mm mm cmm mcma
mmH mca «mm cm m5 cmm acma
caa mma cmm vm mm cam coma
aaa cma mcm mm mm cca mmma
am «ma cwm am mm mm mmma
cm mma m5~ mm vaa ac 5mma
ac mma cam 5m vqa a5 cmca
mm cma ecm cm ac 5m mmma
H5 ccH «ca an em cm vmma
v5 mmca
c5 mmca
m5 amma
mm cmma
cm cvma
mca mcma
Had 5vca
5HH cvma
Accauvmma How ovum ouch» wouuv “mum“ mummy oouu mo unmouomv Acc.awma\wuuv
oumm oumm mumm mmxma uuomxm cowuomuoum ovum Meow
uuomxm wmmaa mosh» MaomEH umoflHmEH uoscoam momma moan

 

mosao> Hmmm no mmoacca

 

.mcmaucama .mmumm mmcmcoxm uuoaxm can uaomsa .mcmasummumnu.mnaa mamas

55

.mmumem .amumm .mm
.Hwnmam .soEmmaom cw commsomflc one mcoflumESmmo can meme :0 mcoflumufififlq

.mEuomoH coamzlmaosaeom
och mo muoomwo och 30cm 0p haso aonEooooiHHamc now one 5cca How came one

 

.Amc .oz xoccm oomswcoom cuspGSncouv oowmoo mcflUSHUxo mooflam oammoaoc3 mo xoccfl ocu
5Q mouoa HocHEos ocu mamuoamop we cocaoueo oaoB mosao> Hmoa mo moxoch

.ouoa ocmuu ooam may
we cocfl>flc ouou uaomxo ocu mmoa .zuflcs mo copoasoaoo oao =moxou unomxm:

.wuacs mmoa .oumn ocoau
ooam on» an cocm>ac Amcoapmsoxo can mCOfluoHHumoa now owns mucosumsflcm cuflB .coau
noncoam oeumoeoc co moxmu mood .cuaow on cam .momaoco umom .oHanm omcocoxo msam

mmmaamp mcecsaocwv ouon uaomEH osu mo copoasoaoo we =cofluoouonm uoscoam:

.po>oEoH ono3 .cuaom ow
cam .moflcamesm .moxmu puomxo .mmmeHou we mucoemmm mo oocoamn on» ca Edflueaaflsvo
saoucHoE UH503 coaca omcmcoxo one mo ouoEaumo am we =opma oconulooam= one

.pocsaoca you one muaomxo oowmoo

"wouoz

.me .a .a.m maammfl.lomma .mmmam muamum>aac euoaxo
.Domo "chomxov mowoflaom oUoHB csm coaumanMHHumsccH .Hflnoum .coEmmHom HoOH "oousom

.UODCHUGOUII.NIHH mqmdfi

56

reached the relatively low levels of 20 and 15 percent
respectively in 1967. The average product protection
afforded to the industrial sector was only 30 percent in
1967. Years such as 1956 and 1961-1964 featured extremely
high import prices, probably higher than necessary to
prevent imports. The years of minimum import cost (1954,
1955, 1958, and 1960), however, also showed high protection--
in the 50-80 percent range. From 1964 to 1967 the export
and import real exchange rates moved lower and closer
together. i
The real value of the export exchange rate coincided
with that of the import exchange rate in 1945-1946, when the
cruzeiro was substantially overvalued. This overvaluation
is evidenced by the serious balance of trade deficit in
1946 and by the maintenance of the nominal export rate that
was adOpted during the Second World War at a time when
prices in Brazil had risen by 70 percent more than those in
the United States.15
The overvaluation of the cruzeiro was continuously
aggravated from 1946 to 1952 as the export rate fell 40
percent in real terms. From 1953 onward, the export

exchange rate kept up with the rise in domestic prices in

 

15The term overvaluation, however, must be quali-
fied. Import and export supply and demand elasticities,
capital flow movements, debt service, the structure of
import restrictions, and the like all would have to be
considered in a study of an optimal or correct exchange
rate level. See Tyler, "Exchange Rate Flexibility," p. 120.

 

57

terms of annual averages but still maintained the overvalued
level. The exporter was further hampered by the variations
which resulted from infrequent adjustments in the nominal
exchange rate in the face of continuous inflation. The
average month-to-month fluctuation in the real export rate
in 49 months during the period 1948-1966 was over 5 per-
cent. It was common for the real rate to drop 10 or 15
percent within periods of three to six months.16

The export rate of all exports (excluding coffee)
followed a similar pattern of behavior in terms of levels
and fluctuations; as discovered by Bergsman, this similarity
was presented by the real effective exchange rate--inc1uding
all bonuses and other gratifications--for manufactured
exports. The effective exchange rate was calculated by
dividing the current cruzeiro value of manufactured eXports
by the dollar receipts for such exports on a yearly basis.'
This sum then was deflated by the wholesale industrial
price index to obtain the real effective exchange rate for
industrial product exports. The data, as estimated by
Tyler for the pre-minidevaluation period of 1946-1968, are
shown in Table II-3.

The real effective rate for industrial exports

declined 28 percent from 1946 to 1952 (Table II-3). This

 

16See Bergsman, Brazil, pp. 37-54; and Joel Bergs-

man and Arthur Candal, "Industrialization: Past Success
and Future Problems," in The Economy of Brazil, ed. by
Howard 8. Ellis (Berkeley: UniVersity of California
Press, 1969), p. 33.

 

58

 

.soflumccsom momao> OanuoU may we oofleecoom mucussncou ca

cocmflansm mofluom muouooficcH UHanoom Hmsofiuoz och mo ACOHpoUHMHmmoHo

pace on xoccH ma xocsw oomnm HoHHpmscsH oaomoaozz .muoow couooaom

.Hflnmam 0c uoaaouxm oaoawaoo .mmmm 60am opmc paomxm .5HH .m .HI>H oanoe

.mmma undone .mcsum chmD cocaoamooaflfi :taflnoam CH manomxm coasuoomssmz
mo coauOEOHm ocu cam COHuooamwmao>aQ uaomxm: .HoH59 .U EMHHHHZ oom "moousom

 

 

 

 

ca.cm mcmca mm.ccmm mcca
cc.Hm mmvm a5.a~cm 5cma
mm.~m ac5c mv.amam coma
c5.mm mccc ac.cama mcma
mc.mm 5mam 55.aH~H vcma
vc.am aa5a vc.amm mcca
~m.5m mmm ~m.mmm mmca
c~.cm vvc cm.cv~ acma
c5.cm va cv.m5a coca
mq.vm ccm mc.c~a mmca
mc.vm mmm 55.cc cmma
m~.m~ cam mm.am 5mma
cv.wm cca cc.mm cmma
mc.am cma cc.5v mmma
cc.mm «ma ov.cm wmma
cm.mm cca cm.m~ mmca
ma.am 5c cm.ca cha
5c.mm cc cm.ca Hmca
«c.5m cc cm.ca cmma
cc.5m cc cm.ma cema
5H.m~ mm cm.ca ccca
cc.m~ «c cm.ca 5vma
5a.m~ mm cm.ma ccma
1mmma «0 meson ucmumcoo sac Iooaummmac 1mmcxmuoc
ouom omcocoxm xoccH ooaum ouom omcocoxm Moo»
o>auoommm aoom HowaumsccH odomoaon3 o>Huooumm
.ccmalmvma

.muaomxm poscoum counuoowssoz How ouom omcmsoxm o>fiuoommm Hmomll.m1HH mqmdfi

59

was less sharp than the 40 percent decline for all eXports
(Table II-2), but the peak and bottom years were the same
for both categories. Recovery from the low level in 1952
occurred with the exchange reform and devaluation of 1953
and the subsequent exchange policy. SUMOC Instruction 147
established a premium rate for textile exports that substan-
tially increased the industrial export rate in 1958. The
highest yearly average of the period was attained in 1960,
just after the exchange reform of late 1959. Another
decline took place before the 1964 exchange reform, which
resulted in another peak, followed by gradual deterioration
up to 1968. As seen in this dissertation, the effective
real exchange rate played an important role in stimulating
and discouraging exports. The peaks reached in 1960-1961
and again in 1964-1965 were accompanied by substantial
growth rates (ranging from 55 to 85 percent annually) in
the still very low level of manufactured exports.

The Post-August 1968 Period:
The Minidevaluations

 

 

Since August 1968 the Brazilian government has been
devaluing the cruzeiro by relatively small amounts at
fairly regular six-week intervals. As already described
in Chapter I, the exact timing and amount of the mini-
adjustments, although expected by the public, have never
been precisely known. In making the adjustments, the
monetary authorities have been primarily guided by the

difference between inflation rates at home and those abroad,

60

particularly, in the countries with which Brazil chiefly
trades, and by the movements of interest rate differentials
at home and in the principal international capital markets.
Also taken into account are the current balance—of—payments
situation, the amount of foreign reserves accumulated, and
the foreign indebtedness position. Between August (exclu—
sive) 1968 and December 1972, the official exchange rate
was adjusted 35 times at intervals varying from 14 to 80
days. The average interval was 45 days, and the average
rate of change was 1.5 percent. Table II-4 indicates that
the total annual devaluations in the years 1969 to 1972
were about 7 or 8 percent less than the annual rates of
inflation, measured by changes in wholesale prices of all
commodities, in each of these years. The difference is
partly due to external inflation. The difference between
the domestic and external inflation rates, however, varies
according to the price indexes used.

From August 1968 to December 1972 the consumer price
index rose from 100 to 218 in Brazil and from 100 to 122
in the United States.17 In the same period the wholesale
price index for all commodities rose from 100 to 217 in
Brazil and from 100 to 120 in the United States. On the
other hand, during the same period, the industrial whole-

sale price index rose from 100 to 194 in Brazil and from

 

17In terms of consumer prices for both countries,

Index 64 of International Financial Statistics, Inter-
national Monetary Fund, various issues.

61

 

 

 

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mo.~a mo.ca aam.a mm mm.a mc~.e aa\aa
mm.m mm.ma «ma.a mm a~.a mma.a m\oa
oa.m mo.ma cm~.a am ma.a mma.¢ mmxm
mo.m am.m~ ~a~.a mm oa.a mmo.v m\m
mm.m mm.m~ mm~.a mm mo.a mmo.¢ ma\m
ca.a a~.¢~ mmm.a ma oo.a mmm.m ma\m
mm.~ mo.m~ mmc.m mm mm.m mom.m «\a
om.o~ mama
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mo.ma om.mm aom.a mm mm.m mam.m ma\aa
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ma.ma av.am mma.ma emu mm.m mc.m m~\m
ma.ma mam.ma mum -.m om.m a\a
om.mm mmmm
mmm.~m «ma mam.~ om.~ ma\~
om.mm Mmmm
oa.mm coma
am.o~ mam -.~ o~.~ ca\aa
o~.am mama
mm omm.a mmm.a mm\ma
om.am mmma
ImmauacoEEoo Amy
Had no mooaam Ame Moo» Awe Aouou
odomoaoczv ucounso oaowon omoconsm .ouv o o one can
moo» ocu mo H\H co woo» oco GOHUMSHo>oU umoH coHuosHo>oc a m c m ouoa
mamasc ouoaxwv oocam poomwo ca ouma omcocoxo, pmoa oocam cc.ammD Hom1mao
acauoamcH ao>o omcmco omoucoouom mama ouoa omcocoxm

 

.Am5malmwmav mCOHumsam>ocwcm2 can Amwmalvmmav mcofluosflo>o0 muocmll.leH mamma

.ouoa omocoasm

on» Oh uoommoa spas coumasoamo oHoB mouoa omcocoxo on» CH momcoco omoucooaom one

.ooflsecoom ousucsflcoo ca cocmaansm moxoccH UHEocoom HMGOHuoz on“ mo ma cEsaoo

.moaumcoEEoo Ham mo xocsfi ooflam oHMmoHocz Hoaosom ocu on maomoa oumu COHuonsw one
.m5ma ou c5cH anm nonmmm Hmao>om .momuo> Omasuoo oooopcsm .moHEQGOUM manpcshcoo “ooasom

 

 

 

mm.oa mm.oa mam.o mm mam.m ma.e ma\ma
ma.m ma.m mma.a mm mma.m ma.e aa
am.m mm.oa mma.a ma mmo.m oo.m oa
mm.m mm.aa mao.a mm mmo.m mm.m m
mmm.m mm.ma mm.o me mom.m mm.m maxm
oo.m am.ma mom.a mm mam.m mm.m m\m
mm.m om.ca mao.a ma mvm.m am.m ca\m
mmc.~ mm.ea mmc.m om mmm.m mm.m m~\a
ma.ma mmma
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m ma.aa oe.ma mom.a mm mom.m ma.m oa\m
ea.m mm.ca mm~.~ am moa.m mm.m ma\m
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mm.e mc.ma amm.a «a mma.m ca.m maxm
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mo.a ma.va cmo.a ma mo.m oo.m m\~
om.om amma
mm.ma mm.ma mmm.a am mm.a mm.e mm\~a
me.aa ¢~.ma cao.a «a cm.a mm.q ma\aa
mm.oa mo.ma mam.a me am.e mm.¢ «\aa
ma.m mm.ma mam.a cm mm.a mm.a m\m
mm.c mm.ma mmc.o «a mc.a ~c.v q~\m
ma.c mc.~a amm.a mm No.4 mm.v oaxm
mm.a am.~a mmm.a ma mm.a mm.¢ ma\m
ma.m o~.~a mmm.a am ma.a oa.a om\m
m~.a ca.~a am~.a ma aa.a mm.a a\~
om.am omma

63

100 to 117 in the United States a much smaller difference.18
The inflation differential for industrial goods is approxi-
mately the same as the rise in the cruzeiro rate from 100
(Cr$3.65 in August 1968) to 170 (Cr$6.18 in December 1972).
Table II-S shows the calculation of an index of
exchange rate adjusted for both domestic and external infla-
tion. Using the industrial wholesale price indexes in
Brazil and the United States as the respective adjustment
indexes, one obtains an index of real exchange rate adjusted
for dollar inflation equal to 102 in December 1972 as com-
pared to 100 in August 1968. This indicates that, for
industrial goods, the cruzeiro has not become overvalued
with respect to the dollar since the beginning of the mini-
devaluations. Alternatively, using the consumer price
indexes in Brazil and the United States as the respective
adjustment indexes yields a corresponding index equal to
95 in December 1972 as compared to 100 in August 1968
(not shown in Table II-S). Therefore, in terms of all
consumer goods, the cruzeiro has become slightly overvalued
with respect to the dollar since the beginning of the

minidevaluations. The difference between consumer prices

 

18The wholesale general price index for Brazil is

Index 24 of the National Economic Indexes, Conjuntura
Econ6mica, Getulio Vargas Foundation. For the United
States the index is Index 63 of International Financial
Statistics, International Monetary Fund, various issues.
The wholesale industrial price index for Brazil is Index
51 of Conjuntura Econamica and for the United States is
Index 63a of International Financial Statistics.

 

64

 

.pcsm waopocoz HmsoauocuoucH .moaumauoum Hoaocmcwm

 

Hocoapocaoch .omc xoccH .mououm couaco on» mom .momam> oflawuou ooooccsm

 

.MOHEQCOOM musucshsoo .Hm xoccH ”HHNon CH xoccfl ooaum HMHHUmnccfl oaomoaocz "ooasom

 

 

m.moa m.maa c.mm ama Aomacma.c mm\~a
ccH ccH ccH cca Accavmo.m mc\5m\m
Avcxxmc Awe Amy Ame Aac

mmumum cmuacc mmumum cmuacc ooa u mcma .msm Iooa u oc.ammc mama
ca coaumaoca we» now lmv\1av mmma .msac umm who
MOM coumsnpc xoccH oowum xoch ooaam Hamoum How ouom
ouom omcocoxm Hmauumsch HmauumsccH ocu xoccH ooaum omcmcoxm
ammm mo xmcca mammoaozz an cmumaomc mumm . amauumscca amaoamoo

omcmcoxm mo xoccH oaomoaocz

 

.mmmaumcma .coaumamca umaaoc now cmnmsnca mama mmcmnoxm ammmuu.muaa mamas

65

and wholesale industrial prices can be explained in terms
Of growth Of output per capita. During periods of high
rates Of economic growth, the leading sectors have a
higher increase in productivity and, in general, tend to
have relatively lower increases in prices than other
sectors. Rapid increases in real wages in the high growth
sector, mainly industry, lead to increases in the cost of
services and other goods to final consumers, which affects
the consumer price index. This explains why during the
period 1968-1972, years of very high economic growth in
Brazil, the prices in industry increased relatively less

than the consumer price index.19

Stricter price guide-
lines for industrial goods than for other goods also
account for the differential.

Figure II-l shows that the real exchange rate
adjusted for dollar inflation has fluctuated only mildly
around the value Of 100--the base index for August 1968--
during the whole period of minidevaluations. In this case
the Brazilian wholesale price index for industrial goods
and the United States wholesale price index for all commo-
dities were used as the respective adjustment indexes for

domestic and external inflation. The calculations for the

index of Figure II-l are shown in Table B-2 of Appendix B.

 

198ee Ronald I. McKinnon, Monetary Theory and

Controlled Flexibility in the Foreign Exchanges, Essays
in International Finance, NO. 84 (Princeton: Princeton
University Press, 1971), pp. 21-23.

 

Jr. —-

66

Figure II-l.--The Effects Of Changes in the Price Level
(Brazilian Industrial Wholesale-Price Index)
and in the Official Exchange Rate on the
Real Exchange Rate for Exports Adjusted for
Dollar Inflation (United States Wholesale-

Price Index).

67

coma
-roa a5ca c5ma coca coca 5cca coma _ F moma L, — voma *5 _
.r_ F, _ _ _ —, _ _ _ b _ _ _ _ _ _ P — a .1 1 _ r _ , C [r 1 1 a (r P1.

 

I8
12
l8
Tom
Taaa

.loaa
rIowa

Iona

. Iooa " aama umamsa "mmmm xuvcac

Sama 2 $33. 85a 8333: .338 8. @3334 lo:
ouom omcocoxm auom onu «0 xopca aasucoz cma

 

 

 

 

fi# macauonam>ocacaa mo coauom

68

Certainly for industrial goods and somewhat less so
for other goods, the application of the minidevaluations
has arrested the recurrent decline in the real exchange
rate that occurred prior to August 1968. As will be seen
in the following chapters, this phenomneon had important

effects on the Brazilian economy.

CHAPTER III

THE EFFECTS OF MINIDEVALUATIONS ON EXPORTS:

THE OVERALL EVIDENCE

The Brazilian system Of minidevaluations Of the
exchange rate provided the exporter with the prospect of
a relatively stable relationship between internal produc-
tion costs and world market prices. Because the partici-
pation Of Brazil's nontraditional exports in the world
market is very limited, the country's position is close
to that of a perfect competitor,1 and the demand for those
products is highly elastic. Therefore, prior to August
1968, when the cruzeiro was devalued every 12 to 15 months,
nontraditional exports yielded more or less stable dollar

prices in the international markets, cruzeiro returns

remained constant for prolonged periods, and costs of

 

1In fact, the nature of the position Of potential

exporters Of manufactured products should be qualified.
Most of them are not small firms without connections in the
world market but, rather, are firms which are affiliated
with multinational companies. In most cases the decision
whether or not to export is made by the mother firm out-
side Of Brazil. With this problem in mind, the Brazilian
government has Offered several incentives for multinational
companies to export from Brazil. A very interesting study
on this matter is one by Fernando Fajnzylber, Sistema
Industrial e Exportacao de Manufacturados, Anélise da
Experigncia Brasileira (Rio de Janeiro: IPEA/INPES, 1971).

69

70

inputs and wages rose steadily. The new exchange policy
corrected this situation of large fluctuations in the
profit margins Of export sales.

The international prices of the more traditional
products such as coffee, cocoa, cotton, and sugar f1uc-
tuate widely in world markets. This made the virtual
elimination of exchange rate risk, one of the reasons for
fluctuations in cruzeiro prices, significant for exporters
of such products. The minidevaluations also represented
greater stability in the level of incentives for exporters.
Various entrepreneurs stressed in interviews with the
author in August 1972 (and confirmed by other writersz)
that the system of minidevaluations, coupled with the
whole battery of fiscal, financial, and other government-
supported incentives, was largely responsible for the
extraordinary growth of Brazilian exports from 1968 to
1972. While this growth was concentrated mainly in
manufactures, it also featured other products, both

nontraditional and traditional.

 

2See Carlos von Doellinger, Hugo de Barros Castro
Faria, Jose Eduardo Carvalho Pereira, and Maria Helena
T. T. Horta, Ex orta Oes dinamicas brasileiras, IPEA (Rio
de Janeiro: 1971); Fajnzylber, Sistema Industrial e
Exportacao de Manufaturados; Tyler,i"Exchange RateiFlexi-
bility"; Donges, Brazil's Trotting Peg; and Helmut Hesse,
"Promotion of Manufactured Exports as Development Strategy
Of Semi-Industrialized Countries: The Brazilian Case,"

Weltwirtschaftliches Archiv. Review of World Economics,

108, NO. 2 (19725, 234-55.

 

 

 

 

 

71

Directors of some of the leading exporting firms,
those which deal with traditional products such as coffee,
cocoa, and cotton, and those which deal with nontraditional
products, such as manufactured and other primary goods,
all unanimously agreed that the system of minidevaluations
constituted a sine qua non for the high performance Of
the export sector.3 Tyler also interviewed manufactures
about the fiscal, financial, and other types of incentives
for exportation. All respondents stressed the importance
of minidevaluations in diminishing entrepreneurial risk
by enabling them to make more accurate predictions of
export profitability.4 Exporters also regard the exchange
policy as a sign of government commitment to the promotion
of exports. Thus, previous uncertainty as to the govern-
ment's intentions has been substantially reduced. The

new minidevaluation policy permits the exporters to make

 

3Interviews conducted by the author in August Of
1972 with Mr. Horacio Coimbra, Director, Cafe Cacique
(largest exporter of manufactured foods and of soluble
coffee); Mr. Laerte Setubal, Director, Duratex SA (largest
exporter Of processed wood boards); the Superintendent of
SAMBRA, Sociedade Algodoeira de Nordeste (largest exporter
of traditional agricultural products); Mr. Eugenio Staub,
Director, Staub SA (important medium-sized exporter of
electronic parts); Mr. Luiz M. Suplicy Hafers, Director,
Escritorio Suplicy (traditional export agent of coffee,
cotton, and other agricultural products); and others.

4See Tyler, "Exchange Rate Flexibility," p. 19;
and Hesse, "Promotion Of Manufactured Exports," p. 238.
See also William G. Tyler, "Fiscal Incentives for Manu-
factured Export Promotion: The Brazilian Case," Working
Paper 72-01, Department of Economics, University of
Florida.

72

long-range investment plans and marketing arrangements for
selling his products in international markets. At the
same time, the purchaser is assured of greater dependability
of supply.5

In 1964 the total export revenue Of Brazil rose
from the stagnant level of about US$1.4 billion at which ’
it had remained since 1947. From 1964 to 1967 export per-
formance improved only moderately, but with the introduction

of minidevaluations exports attained very high growth rates,

 

5In 1965 the author became directly familiar with
the problem Of dependability Of supply and the on-again-
Off-again nature of export profitability while working
with the Escritorio Suplicy which was trying to sell some
Brazilian manufactured goods abroad. Some fiscal incentives
already were in effect. These mainly were exemption from
direct payment of the sales tax (IVC--Imposto de Vendas e
ConsignacOes), later modified into the value-added ICM tax,
which was put into effect in August 1964, and exemption
from payment of the tax on industrial products (IPI--
Imposto sobre Produtos Industrializados), introduced in
August 1965. The government's slogan was: "Exporting is
the Solution." Escritorio Suplicy was then export agent
for several textile firms which wanted to sell cotton yarns
and fabrics abroad, for a firm which produced canvas shoes,
and for another which marketed paper-fiber boards. Although
a 90 percent inflation had occurred during 1964, the firms
wanted to start exporting after the 57 percent devaluation
of the exchange rate in December of that year. They pro-
vided price lists in the beginning of 1965 which were sent
to possible purchasers abroad. But inflation during 1965
was 52 percent in Brazil. By the middle of the year the
firms needed to readjust their price lists because Of
increased costs. In November 1965 the author visited poten-
tial customers in the United States for a month. On 16
November the cruzeiro was devalued 20 percent,and new sub-
stantial price adjustments were made possible. Potential
buyers, however, were inclined to avoid long-run commitments
with suppliers whose price lists were subject to uncertain
and drastic changes. The situation was different for
primary products like coffee and cotton because purchasers
of such commodities are used to wide fluctuations in
market prices.

73

and Brazil's export revenue reached a total of $2.9
billion in 1971 and $4.0 billion in 1972.

The various Brazilian governments during the past
decade have presented a battery of fiscal, financial, and
institutional incentives for exporters, particularly
those involved with industrial products. The incentives
were intensified after 1968, which markedly affected the
profitability of exports. A detailed examination of
these incentives is presented in Appendix A. Estimates
of their magnitude are essential in order to determine the
effect Of the exchange rate policy as precisely as
possible.

Effects of Fiscal Incentives
for Exports

 

William Tyler, Helmut Hesse, and others have
estimated the effects Of fiscal incentives on exports,
mainly of manufactured products. Their results are dis-
cussed below.

T ler's Estimates of
Fiscal’Incentives

 

 

Table 111-1 shows the 1961-1971 index of remunera-
tion to exporters of industrial products through fiscal
incentives as calculaged by Tyler. The index indicates
how much more a firm would obtain if it were to sell its
product abroad rather than in the domestic market. Excluded
from this table are the impacts Of drawback provisions and

of less important tax exemptions such as relief from the

74

TABLE III-1.--Index of Remuneration to Exporters of Indus-
trial Products via the Fiscal Incentives to
Export,a 1961-1971 (lst Quarter l961=100),

Tyler's Estimation.

 

 

Tax on
Income Financial
Year I.P.I. I.C.M. Tax Operations Total
1961 I 100 100 100 100 100
II 100 100 100 100 100
III 100 100 100 100 100
IV 100 100 100 100 100
1962 I 100 100 100 100 100
II 100 100 100 100 100
III 100 100 100 100 100
IV 100 100 100 100 100
1963 I 100 100 100 100 100
II 100 100 100 100 100
III 100 100 100 100 100
IV 100 100 100 100 100
1964 I 100 100 100 100 100
II 100 100 100 100 100
III 100 101 100 100 101
IV 100 103 100 100 103
1965 I 100 103 100 100 103
II 100 103 100 101 104
III 105.02 103 100 101 109.02
IV 115.07 103 100 101 119.07
1966 I 115.07 103 100 101 119.07
II 115.07 103 100 101 119.07
III 115.07 103 100 101 119.07
IV 115.07 103 100 101 119.07
1967 I 115.07 103.10 102.8 101 121.97
II 115.07 109.30 104.2 101 129.57
III 115.07 109.30 104.2 101 129.57
IV 115.07 109.30 104.2 101 129.57
1968 I 115.07 109.30 104.2 101 129.57
II 115.07 109.30 104.2 101 129.57
III 121.24 109.30 104.2 101 135.74
IV 121.24 109.30 104.2 101 135.74
1969 I 121.24 109.30 104.2 101 135.74
II 121.24 109.30 104.2 101 135.74'
III 127.41 109.30 104.2 101 141.90
IV 127.41 109.30 104.2 101 141.90

75

TABLE III-1.--Continued.

 

 

Tax on
1 Income Financial
Year I.P.I. I.C.M. Tax Operations Total
1970 I 127.41 109.30 104.2 101 141.90
II 127.41 109.30 104.2 101 141.90
III 127.41 109.30 104.2 101 141.90
IV 127.41 109.30 104.2 101 141.90
1971 I 127.41 117.0 104.2 101 149.61
II 127.41‘ 117.0 104.2 101 149.61

 

Sources: Calculated from data supplied by the Ministry
of Finance and CACEX; William G. Tyler, "Fiscal
Incentives for Manufactured Export Promotion:
The Brazilian Case," Working Paper 72-01,
Department of Economics, University of Florida.

aPercentages are calculated from the domestic
price base = 100. The term remuneration is used to mean

the differential between domestic prices and possible

export prices. See Appendix A for the description of
all incentives.

tax on combustibles, lubricants, and electric energy, as
well as other governmental fees. Adding up the tax
incentives related to the tax on industrialized products
(IPI), tax on circulation of goods (ICM), income tax, and
tax on financial Operations (see also Appendix A), reveals
that the differential in remuneration between domestic and
foreign markets became important for the first time in the
last quarter of 1965, when it amounted to an average of

19 percent. This increased to a 35.74 percent differential
in the second half of 1968. By the beginning Of 1971,

exporters could sell their products for an external price

76

of about 50 percent less than the domestic price and
still Obtain the same level Of remuneration.

Tyler also has calculated a real effective exchange
rate for Brazilian manufactured exports adjusted for
dollar inflation in order to compare that rate with the
increase in local currency remuneration due to fiscal
incentives. The Brazilian wholesale industrial price
index was used to deflate the effective exchange rate,
and the U.S. wholesale price index was employed to adjust
for dollar inflation. Table III-2 shows that, even after
accounting for dollar inflation, the Brazilian export
exchange rate (in terms of cruzeiros per dollar) in real
terms has fallen since 1961. A sharp decline occurred
between 1961 and the first quarter of 1964, and a slight
one occurred between the overthrow of Joao Goulart in
1964 and 1968. After the initiation of the minidevalua-
tions in August 1968, however, the real effective exchange
rate as adjusted to the dollar inflation has remained at
approximately the same level and has fluctuated only
moderately.

The combination of the real effective exchange rate
as adjusted to dollar inflation with the fiscal incentives
for export gives the rate of real effective remuneration.
Table III-2 shows that this rate has increased approximately
27 percent since the second quarter of 1964. This increase
has been due to the fiscal incentives which have more than

Offset the decline in the real exchange rate.

77

TABLE III-2.--Real Remuneration to Brazilian Industrial
Exporters, 1961-1971 (in constant terms,
that is, Cr$/US$ Of the first quarter

1961), Tyler's Estimation.

 

Dollar Inflation
Adjusted Real

Index Of
Remuneration to
Industrial
Exporters via the Rate of Real

 

Effective Exchange Fiscal Incentives Effective
Ratea for Export Remunerationc
(X2) (X3)

1961 I .201 100.00 .201
II .223 100.00 .223

III .196 100.00 .196

IV .214 100.00 .214

1962 I .209 100.00 .209
II .200 100.00 .200

III .216 100.00 .216

IV .218 100.00 .218

1963 I .161 100.00 .161
II .170 100.00 .170

III '.179 100.00 .179

IV .164 100.00 .164

1964 I .160 100.00 .160
II .211 100.00 .211

III .191 101.00 .193

IV .211 103.00 .217

1965 I .205 103.00 .211
II .198 104.00 .206

III .199 109.02 .217

IV .202 119.07 .241

1966 I .202 119.07 .241
II .192 119.07 .229

III .188 119.07 .224

IV .177 119.07 .211

1967 I .177 121.97 .216
II .184 129.57 .238

III .182 129.57 .236

IV .178 129.57 .231

1968 I .184 121.57 .238
II .177 129.57 .229

III .173 135.74 .235

IV .183 135.74 .248

78

TABLE III-2.--Continued.

 

 

Index of
Remuneration to
Dollar Inflation Industrial
Adjusted Real Exporters via the Rate Of Real
Effective Exchange Fiscal Incentives EffeCtlv? c
Ratea for Exportb Remunerat1on
(82) (X3)
1969 I .186 135.74 .252
II .190 135.74 .258
III .189 141.90 .268
IV .192 141.90 .272
1970 I .195 141.90 .277
II .192 141.90 .272
III .189 141.90 .268
IV .189 141.90 .268
1971 I .189 149.61 .282
II .186 149.61 .279

 

Sources: Ministerio da Fazenda, Boletim do Comercio

' Exterior, various issues; Con'untura EconOmica;
Federal Reserve Bulletin; William G. Tyler,
"Fiscal Incentives for Manufactured Export
Promotion: The Brazilian Case," Working Paper
72-01, Department of Economics, University Of
Florida.

 

 

 

aInstead Of using the nominal exchange rate to
calculate the real exchange rate, an effective exchange
rate for manufactured exports was estimated and employed.
The effective exchange rate incorporates exporter earnings
from varying export bonuses which were widespread before
1963. It was calculated by dividing the cruzeiro value
of manufactured exports by their dollar value. All values
are in (new) cruzeiros.

bSee Table 111-1 above.

cThe real effective remuneration to manufactured
exporters is calculated as:

79

Hesse's Estimates of
Fiscal Incentives

 

 

Helmut Hesse, in a manner similar to Tyler's, also
has estimated the impact Of fiscal incentives on the
remuneration of exporters. His calculations are designed
to answer the following question: what export price (in
Cr$) would yield the same net profit as a price (including
all taxes) on the domestic market, if all fiscal incentives
are taken into account? Whereas Tyler calculated the
impact of fiscal incentives on export remuneration from
1961 to 1971, Hesse has done the same for only one period,
May 1971. He found that the combined fiscal incentives, on
the average, permitted the export price to be reduced to
64 percent Of the domestic market price without reducing
net profits, as of May 1971. (These are approximately the
same results found by Tyler, who estimated an almost 50
percent [49.61%] differential in remuneration between
the domestic and foreign market during the first semester
of 1971. That is, under Tyler's estimation, the combined
fiscal incentives for exports of manufactures [excluding
the drawback] permitted the export price to be reduced to
66.6 percent of the domestic market price without reducing
net profits.) The variances among the 43 manufacturing
sectors estimated by Hesse, however, are large. They
range from 16 percent for tobacco products (which have
extremely high indirect taxes» to 42 percent for beverages,

to 59 percent for textiles and domestic appliances, and

80

to 71-75 percent for meat, dairy products, cereals, other
foods, fats and Oils, sacks, bags and linen goods, lumber,
chemicals, metal castings, and airplanes.

The breakdown for the 43 sectors of the various
incentives as of May 1971, on the average, is the follow-
ing. First, the IPI and ICM tax credits (subsidies)
amounted to 14.7 percent of the fob value of exports.
Because of these credits, an exporter could sell for a
price equal to 87 percent of the domestic market price
and receive the same net profit. Second, exemptions from
indirect taxes on export products and on inputs in export
production (drawback included) made it possible to reduce
the export price to 76 percent of the domestic market
price (84 percent if no rebate from the ICM paid on pre-
vious stages Of production) without reducing net profit.
The 24 percent differential between the export and domestic
price is composed Of an 8 percent IPI exemption, a 7 per-
cent ICM exemption, an 8 percent rebate of ICM on previous
stages of production, an 0.6 percent drawback, and 0.4
percent reduction from other indirect taxes. Third, the
variance Of the value of indirect tax credits and exemptions
is quite large between the industrial sectors due to
different tax levels. Finally, the corporate income tax
exemption amounts to a subsidy of 3.3 percent of the

domestic market price.

81

Tyler's Econometric Analysis Of the
Fiscal Incentives for Export and
the Exchange Rate Level

Tyler specified a regression model in which the
dependent variable is Brazil's manufactured exports and
the independent variables are the fiscal incentives, the
real exchange rate, a proxy for capacity utilization, and
world demand. This model presents an identification
problem, but given that Brazil's share in total world
manufactures exports is less than 1 percent, one may
assume that the demand for Brazil's industrial exports
is perfectly elastic. Therefore, the model essentially
represents an export supply function. Increases in the
real exchange rate in fiscal incentives or in world trade
shift the demand curve upward. The proxy for capacity
utilization affects supply.

Using quarterly data from 1961 to 1970, the basic

regression equation estimated was

log X -l4.309 + 1.435 log X + 4.052 log x +

1 (3.174) (2.843) 2 (3.681) 3
.003 X4 - .050 X5
(.959) (-4.476)
R2 = .90 D. w. = 1.00
where:
X1 = constant dollar value of Brazil's manufactured

exports;

X2 = dollar inflation adjusted real effective exchange
rate (Cr$/US$1.00);

82

X
II

fiscal incentives for eXport;

><
ll

4 total world imports; and

proxy for capacity utilization (residuals from
time regression line of Brazilian industrial
production).

X
m
II

The t values appear in parentheses beneath the regression
coefficients. The estimated Durbin-Watson statistic
indicates a problem of significant autocorrelation of
residuals. Whereas the independent variables X2, X3, and
X5 all are statistically significant at the 1 percent
level, X4 is significant at only about the 30 percent
level. All variables show the expected signs.

In this regression study, the real effective
exchange rate, X2, shows a relatively high elasticity
of 1.4, which indicated the importance of relative prices
in affecting the supply of exports. Xs's negative sign
and its high level of statistical significance indicate
the existence Of a recession-boom effect on capacity
utilization and on exports. In periods of domestic
recession, such as occurred in 1965, producers try to
place their output in foreign markets. The regression
coefficient Of .050, however, is rather low. Therefore,
this factor is not of overall importance and might diminish
with time as the export of manufactures becomes a more
regular activity. .

The estimated elasticity of the fiscal incentive

variable X3 was 4.1, very high, more than double that of

the real exchange rate. The interviews conducted by Tyler

83

suggest that this result could be attributed to the
indirect or qualitative effect of the fiscal incentives.
As a result of the governmental incentives, producers
became more and more interested in exporting. With time,
this qualitative effect should be smoothed out, and the
estimated parameter might fall to a value closer to the
elasticity Of the real effective exchange rate.

Tyler also has used a similar methodology to
analyze the period between 1961 and 1968, and, quite
interestingly, the results did not show the importance
of the fiscal incentives. Tyler concluded, then, that
the fiscal incentives were too recent, that they had
affected only a few Observations, and that there was a
lag in their effect. That is why, although entrepreneurs
had given importance to the fiscal incentives for exports,
those incentives failed to be significant in the regres-
sion analysis for the earlier period.

Doellinger's Regression Analysis of
BraziIian Dynamic Experts

 

The model utilized by Tyler to analyze Brazilian
exports apparently was developed in collaboration with the
IPEA (Instituto de Planejamento Economico e Social) group.
This group, headed by Carlos Von Doellinger, ran regres-
sion equations similar to Tyler's to explain the behavior

of exports of nontraditional primary products and

 

6See Tyler, "Fiscal Incentives," p. 33, note 10.

84

manufactured products from 1963 to 1968, that is, prior to
the minidevaluations.7

Nontraditional primary products included all
primary products except coffee, grains, cotton, cocoa,
bananas, and carnauba wax. Those "traditional" primary
products were excluded because the purpose of the research
was to analyze the factors influencing the export expansion
Of products which did not have much importance in Brazil's
foreign trade previous to the 19605. For both nontradi-
tional primary products and for manufactured products
(Classes 5,6,7,and 8 of the SITC), Brazil's participation
in world trade is marginal. Consequently, the inter-
national market price can be considered exogeneous, and
the foreign demand for the Brazilian products studied can
be assumed to be perfectly elastic during the period under
examination.

The best statistical results Obtained can be
summarized in the supply functions presented below. The
first supply function involves exports of nontraditional

primary products (quarterly data from 1963 to 1968).

log X1 = 7.28 + 0.541 log X2 + 2.12 log X3 - 4.61 D
(1.93) (7.15) ' (6.36)

F = 30.2

R2 — 0.85

 

Doellinger, et al., ExportapOes.

 

85

The coefficients of t and F are significant at

5 percent, and

X1 = constant dollar value Of eXports of the various
products;

X2 = real exchange rate (Cr$ per US$1.00) deflated
by the wholesale price Of agricultural products,
except coffee);

X3 = production index Of the previous period based
on exported primary products; and

D = dummy variable, which assumes value 1 during
the first semester of each year so as to take
into account the effects Of the period,
between harvests, when external sales are
extremely reduced.

The function denotes a high elasticity coefficient
of production, 2.12, indicating that good harvests help
to increase exports, and a rather low elasticity coeffi-
cient with respect to the rate of exchange, 0.54. This
means that the variations that occurred in the rate of
exchange during the period, generally quite large and
difficult to predict, have had only a limited influence
on foreign sales of nontraditional primary products.

The second function involves manufactured products

(quarterly data from 1963 to 1968).

log x1 = 3.82 + 0.63 log x + 1.48 log x

(1.09) 2 (3.39) 3
- 2.31 log X4 -0.74 D
(-2.91) (-4.70)
R2 = 0.91
D. w. = 1.97

86

The coefficients are significant at 5 percent,
except for the exchange rate, which is significant at 10
percent, and

X1 = dollar value of exports of manufactured goods;

X

2 real exchange rate, deflated by the wholesale

price index of industrial products and

inflated by the index of remuneration to
exporters via fiscal incentives (following
Tyler's approach and index);

X3 = production index of exportable industrial goods;

X4 = index of utilization of industrial capacity
(based on index of variation of employment); and

D = dummy variable, which assumes value of 1 during
1963 and the first two quarters of 1964, to take
into account the institutional changes that
occurred after 1964.

The results show the very important influence of
the index of capacity utilization. The coefficient, with
a negative sign, is the highest, reflecting the tendency
during this period for exporters of industrial goods to
regard foreign sales more as an residual outlet available
during domestic recessions rather than as a regular
activity. The foreign exchange-fiscal incentive index,
X2, has an elasticity coefficient lower than one (0.63)
and has little significance. As already noted, this
contrasts with results obtained by Tyler, whose study
included part of the period during which the minidevalua-

tions were in effect. The production index is less rele—

vant here than in the case of primary products.

87

The important conclusion of the IPEA study is that
during the period 1963-1968, despite existing incentives
for exports, the external commercial activities of Brazilian
producers depended more on the conditions of supply (for
primary products) and domestic demand (for manufactured
products) than on the conscious determination of exporters
to seek foreign markets. It is only after the institution
of the minidevaluations in August 1968, aided by the
establishment of tax credits in 1969, that exports of both
manufactured goods and primary products started to boom.

Tyler's Regression Analysis
of Minidevaluations

 

In another regression model Tyler attempted to
incorporate the frequency of devaluation as a variable
influencing exports of manufactured goods. The result
however, was not conclusive. Using quarterly data from

1961 to 1970, he estimated the following regression

equation:
log X1 = -l3.577 + 1.415 log X2 + .005 X3

(-3.386) (2.628) (.546)

+ 2.634 X4 + 1.238 X5 - .037 X6

(1.430) (1.405) (-2.184)

2

R = .90 D.W. = .91
where:

X1 = constant dollar value of Brazil's manufactured
exports;

88

X2 = dollar inflation adjusted real effective exchange
rate for manufactured exports (Cr$ per US$1.00);

X3 = absolute (that is, without signs) percentage
variation in X

2;
X4 = fiscal incentives for export;
X = total world imports; and

X6 = proxy variable for Brazilian industrial capacity
utilization (residuals from time trend regression
line for industrial production).

The results are similar to those presented pre-

viously. The independent variables X and X

2 4 5
all are statistically significant, the first two at the

and X6’ X

5 percent level, the latter two at the 15 percent level.
The exchange rate variable X2 was significant and presented
a high elasticity of 1.4, but the frequency of devaluation
variable, X3, was not significant and did not show the
theoretically "correct" negative sign, although it had a
very low regression coefficient of .005. Therefore, this
test of the minidevaluation policy proved inconclusive.8

Tyler also combined the real exchange rate and
fiscal incentives into the real rate of effective remunera-
tion to Brazilian industrial exporters and represented by
X7 to estimate the alternative regression equation, with"
the use of quarterly data from 1961 to 1970 (see Table

III-2):

 

8Tyler, "Exchange Rate Flexibility," pp. 19-19b.

89

log x = 3.857 + 1.616 log x + .001 x

1 (3.551) (2.775) 7 (.139) 3
+ .008 X5 - .035 X6
(6.364) (-3.380)
2
R = .88 D.W. = .90

where variables X7, X5, and X6 are statistically signifi-
cant at the 5 percent level. As before, X3, indicating
the frequency of devaluations, is insignificant.

Effects of Minidevaluations

on Exports of Manufactured
Products: An Interpretation

 

 

 

There is an additional interpretation for Tyler's
regression analysis not to show the importance of the
fiscal incentives for the period 1961 to 1968 but, rather,
to show that they were very important when the data for
1969 and 1970 were added (see pages 81-83 above). Only
after the minidevaluations were initiated in August 1968
did firms have a guarantee that the level of remuneration
of exports would not fluctuate widely. Therefore, minide-
valuations represented a continuity in the level of fiscal
incentives, and, to a certain extent, they also represented
a guarantee that the remuneration for exports would remain
satisfactory during the future period, when medium- and
long-run contracts could be agreed upon. Figure III-1
shows the progress of exports of manufactured goods and of
total exports, the index of remuneration to eXporters of

industrial products through fiscal incentives to export,

 

 

5..

vv

(L)
O '-

A}!

UY

.... 1

!n
d“

.‘r
bu

‘-

' o

.D

.n
‘i

' 1

(l!

”v.

‘ .

n. -

I

~~
A.‘

90

~the index of the real effective exchange rate as adjusted
to dollar inflation, and the index of the rate of real
effective remuneration. The last named index is the
combination of the first two indexes. It can be observed
that whereas the index of remuneration through fiscal
incentives becomes important after the end of 1965 and
increases steadily thereafter, the real effective exchange
rate as adjusted to dollar inflation fluctuates violently
between 1961 and 1964, rather widely between 1964 and 1967,
and only moderately from 1968 onward. The combination of
these two indexes, the rate of real effective remuneration,
shows upward and downward movements until August 1968, when
it shows an almost steady movement upward from then on.
The effect of this trend on exports is apparent.
Exports of manufactured goods which had increased
from US$204 millions in 1962 to US$381 millions in 1968,
according to the broad CACEX definition, already a
reasonably good performance, experienced exceptional
growth rates from 1968 onward, as shown in Table III-3. The
compounded growth rate for the period 1969-1972 was
approximately 31 percent (CACEX broad definition). The
level of about US$1.1 billion dollars (CACEX broad defini-
tion) was reached in 1972, approximately the same as the
y/zi.lue of coffee exports. Although the world trade share
of Brazilian manufactures in these products is still

I’l'egligible (0.1 percent in 1969), the annual increase in

k

91

Figure III-1.--The Effects of Devaluations of the Exchange
Rate and of Fiscal Incentives on Brazilian
Exports, 1960-1972.

993
iafl

5 million"

‘ I'vkl
4000—}

3800—1 U 5 °
. . J
milli'wn.
PIN
3600'“ .360
3400'“ »J4Cr
Period of mini-devel t ns
3200-4 .323
Index
3000 - {300 r30!)-
2800 “ >280 NW»
2600‘“ L260 ~,w
Rate of Real Effective
Remuneration to Industri
2400a Exporters r1 >240 *240
." .\ ;
’ \'\ I.
_ I ‘ \ .r'
2200 [I [1 l‘ 0! : >22( bzy)
’ ‘ f\\ I I I 5‘8.; .
‘ \ I :N..
I \II V ‘ H 7 \
2000 ... 201 v | .' \\,'l t/\ ~200 r282»:
(1961) § ; f ‘\
Real Exchange Rate i : ///
leoo -* Adjusted to Dollar ' 4 : , >189 ”180'
Inflation | I] l
l
I

1600 .. (Using wholesale price
index for :11 commoditi
both in Brazil and in

the U.S.A.)
1‘00 -(

U.S. $10269
1200 '4 millions (1960)

92

0.5. S 3990 millions
(1972)

 

r”’

LI
I
‘J

r’
U.S. $1,226
millions (1964)

 

(1960) \

 

Index of Remuneration to Exporters
of Industrial Products Via the

  
 

BOO -( Fiscal Incentives to Export
60¢) )—~
400 ---
200 — 0.5. $204 llions (1964)
-- v“’..- --4
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149. 61
P—f—f—I- (1971’ ”1‘0 ”143

   
 

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Exports of
Manufactured
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sification).

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llturers (excluding

’1’ semi-manufacturess)

1 according to new CACEX .200
,--°‘ classification.
:Exporti of manufacturers accordin|
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world trade was only 15.2 percent (SITC classes 5 to 8) as
compared to over 50 percent (SITC classes 5 to 8) for

Brazil's exports during 1969-1970.

The spreading diversification of exports with

regard to products and countries also has been an important

achievement of the last decade. The share of manufactures

in Brazil's total exports grew from 1 percent in 1958 to

11- 2 percent (narrow definition) in 1970, or from 14.3
percent in 1964 to 28.4 percent (CACEX broad definition)
in 1972.

That industry has become more and more export
minded is evidenced in Brazil's exports of manufactures.
The growth rate in this section has been about three times
higher than the industrial production of the country,

which had a compounded growth rate of 12.1 from 1968 to

1971 - The participation of exports of manufactures in

the industrial product, although low, increased from about

3 percent in 1967-1969 to an estimated 5 percent in 1970

(narrow definition) . 9

All kinds of manufactured products are being
exPorted by Brazil, including shoes and refrigerators to

the Uni ted States, clocks to Switzerland, clothes to

Italy, testing and measuring instruments to Germany,

photoelectric cells to the Netherlands, and cars, buses,

See Carlos von Doellinger, "Exportacdes brasil-

eiras: diagnéstico e perspectivas," Pesquisa e Planejamento,
1 (June 1971), 83—140.

96

electronic products, and office machines to other Latin

0 O 10 0 I O O I O U
ZUnerican countries. ThlS impre351ve diver31f1cation of

Brazil's manufactured exports is illustrated in Table III-4,

which shows the exports of semiprocessed and manufactured

goods during 1971. The participation of the most important

single items in the total value of exports was relatively

low: 1.71 percent for soluble coffee and 1.75 percent for

processed beef among the manufactured goods; 2.47 percent

for sawn pinewood and 1.35 percent for castor oil among

the semiprocessed goods.ll

LAFTA countries, as shown in Table III-5, continue

to be the most important buyers of Brazil's manufactures,

as they were in the early 1960s. This is to be expected

in view of their proximity and of the advancement of
Brazil's industry in relation to that of those countries.

Brazil may be in a good position to supply equipment which
suits the conditions of countries at similar or less

advanced stages of development. DeSpite the fact that

exports of manufactured products to LAFTA countries has
increased substantially, their share in Brazil's exports

diminished from 52 percent in 1965 to 35 percent in 1970

10See Hesse, "Promotion of Manufactured Exports,"
pp. 252-54.

11It is interesting to note in Table III-4 that
although the participation of industrialized goods in total
dollar. value of exports in 1971 was 28.3 percent, their
Paytlclpation in total weight (tons) was only 6.95 percent.
This only confirms the generally known fact that the

density value of industrialized goods is much greater than
that Of raw materials.

97

{TABLE III-4.--Brazi1's Total Exports and Exports of
Industrial Goods in 1971 (CACEX Broad
Classification).

 

Participation in

 

 

 

1971 Total Exports (%)
US$ US$
Millions 1,000 Millions 1,000
FOB Tons FOB Tons
Total exports of 2903.6 43824.5 100 100
all products
(A+B+C+D+E)
A: Industrial 822.0 3043.3 28.31 6.95
ggc>ods
a1) semipro- 239.3 1271.4 8.24 2.90
c_:_essed goods
l-carnauba wax 10.6 12.7 0.37 0.03
2-iron and steel 8.7 89.0 0.30 0.20
for rerolling
3-pig iron 5.9 112.9 0.20 0.26
4-iron alloys 6.8 19.6 0.24 0.04
5-pinewood, sawn 71.8 583.0 2.47 1.33
6-sawn wood, other 10.2 117.2 0.36 0.27
than pine
'7-cocoa butter 24.3 21.1 0.83 0.05
8-pea11ut oil, raw 22.9 62.0 0.79 0.14
9-castor oil, raw 39.3 132.7 1.35 0.30
lO-Ofcher vegetable 1.6 7.4 0.06 0.02
9118 (excluded
items 8-9), raw
ll-wood pulp 4.6 33.3 0.16 0.08
lZ-hides and skins, 14.0 5.6 0.48 0.01

Prepared or
tanned

TABLE III-4 . --Continued.

’—

98

Participation in

 

 

 

1971 Total Exports (%)
US$ US$
Millions 1,000 Millions 1,000
FOB Tons FOB Tons
B—semiproces—n .4 .4 0.00 0.00
sed steel mill
Iproducts (ex-
czluded items
2-3-4)
314——c>ther semi- 18.3 79.4 0.63 0.17
§>rocessed pro-
diucts
k>) manufac- 582.8 1771.8 20.07 4.05
tured
lS-rubber, pro- 4.7 4.2 0.16 0.01
cessed
16-ccoffee, 49.7 23.3 1.71 0.05
processed
l7-footwear 29.3 7.1 1.01 0.02
l8—boilers, 38.4 19.9 1.32 0.04
machines, and
mechanical ap-
paratuses and
instruments
(excluded items
24-25-26)
l9-beef, processed 50.9 34.3 1.75 0.08
20-iron, steel, or 9.9 68.5 0.34 0.16
steel alloy
plates, hot-
rolled or cold-
rolJLead
21-cotton yarn 6.8 6.5 0.24 0.01
22"W00d veneers 18.6 32.7 0.64 0.07

99

TABLE III-4.--Continued.

 

Participation in

 

 

1971 Total Exports (%)
US$
Millions 1,000 Millions 1,000
FOB Tons Tons
23-e1ectrical 28.5 6.4 0.98 0.02
machines, ap-
paratuseSIand
other electrical
appliances for
technical use
24-office machines 27.1 2.3 0.93 0.01
and accessories
25-earthamoving, 5.9 3.1 0.20 0.01
digging,and
drilling equip-
ment
26-machine tools, 4.6 2.9 0.16 0.01
parts and acces-
sories
27—rolling stock 25.0 13.2 0.86 0.03
-and vehicles
28-other steel-mill 19.6 119.6 0.68 0.27
products (ex-
cluded item 20)
29-molasses, edible 8.6 454.3 0.30 1.04
30-menthol 17.1 1.6 0.60 0.00
31-essentia1 oils 10.4 4.9 0.4 0.01
32-vegetable and 36.9 79.1 1.27 0.18
fruit juices
33-cotton fabrics 11.0 8.9 0.38 0.02
34-glass and glass- 14.2 22.3 0.48 0.05
were
35-other manufac- 165.6 856.8 5.70 1.96

tured goods

100

TABLE III-4.--Continued.

 

Participation in

 

 

 

1971 Total Exports (%)
US$ US$
Millions 1,000 Millions 1,000
FOB Tons FOB Tons
B: Basic prod- 1987.9 40342.2 68.46 92.05
ucts, raw
materials”
C: Ship-chand- 22.2 217.7 0.77 0.50
1er's
supplies
D: Re-exports 6.1 184.1 0.21 0.42
E: Special Trans- 65.3 37.6 2.25 0.08
actions

 

Source: CACEX/NUCEX, Banco do Brasil. The classification
of manufactured and semiprocessed goods is a
combination of the criteria adopted by INTAL
(1966-1967) and UNCTAD (1965).

(narrow definition). The U.S. percentage share of Brazil's
manufactured products reached a peak of 36 percent in 1968
and then declined to 21 percent in 1970, whereas the share

of EEC and several other countries increased.12

Effects on Exports of Non-
Manufactured Products

 

 

The effects of the minidevaluations also were

apparent on exports of products other than manufactured

 

12The data of this paragraph and of Table III-5 are

based on the classification of manufactures used by CACEX
during 1971 and published in the Boletim (Banco do Brasil),
6 (1971). In 1972, CACEX started to use another one, the
broader classification of Table III-4.

101

 

 

 

 

 

 

 

 

 

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102

goods. Total Brazilian exports, mostly raw materials and
food products, did not show any progress from 1960 to 1964,
during which time they fluctuated around an average of
US$1,412 million dollars. From 1965 to 1968, total
exports began to show a positive upward trend despite a
moderate setback in 1967. After 1968, however, under the
policy of minidevaluations and with the accumulation of all
incentives for export, total exports boomed. The rela-
tively exceptional levels of US$2,904 millions in 1971

and US$3,990 millions in 1972 were reached. As shown in
Table III-6, Brazil's share in world exports, which had
slipped from almost 3 percent in 1946 to a low of 0.88
percent in 1968, began to recover the ground lost after
the minidevaluations and surpassed the 1 percent mark in
1972. Brazil's share in exports of less developed coun—
tries had suffered a considerable decline from about 10
percent in 1946 to 4.3 percent in 1968, but it has shown
some improvement in the past four years and reached about
5.1 percent in 1972.

Basic or nonindustrialized products also contributed
substantially to this growth in export. Table III-7 shows
the export value of Brazil's main basic products from
1964 to 1972 according to the classification by CACEX
adopted in 1971. Table III-8 shows the export performance
of the same products in index numbers (base 1964 = 100).
In spite of fluctuations that occurred in the eXport

dollar revenue of some commodities such as coffee and

103

TABLE III-6.--Brazi1's Total Exports and Shares in World
Exports and in Exports of Less Developed
Countries, 1946-1972.

 

Share of Total

 

Total Share of Exports of
Exports World Exports Less Developed
Year US$ Million (%) Countries(%)
1946 985 2.90 10.04
1947 1154 2.29 8.34
1948 1185 2.20 7.38
1949 1030 2.30 7.21
1950 1355 2.46 7.74
1951 1769 2.36 7.97
1952 1418 1.96 7.27
1953 1539 2.38 8.80
1954 1562 2.04 7.51
1955 1423 1.71 6.38
1956 1482 1.60 6.31
1957 1392 1.40 5.82
1958 1243 1.31 5.31
1959 1282 1.27 5.25
1960 1269 1.13 4.86
1961 1403 1.19 5.33
1962 1214 0.98 4.34
1963 1406 1.04 4.63
1964 1430 0.94 4.29
1965 1595 0.97 4.52
1966 1741 0.96 4.53

104

TABLE III-6.--Continued.

 

Share of Total

 

Total Share of Exports of
Exports World Exports Less Developed
Year US$ Million (%) Countries(%)
1967 1654 0.98 4.71
1968 1881 0.88 4.37
1969 2311 0.95 4.76
1970 2739 0.98 5.06
1971 2904 0.93 4.78
1972 3990 1.1 (est.) 5.1 (est.)

 

Source: International Financial Statistics (IMF), various
years; and CACEX, Banco do Brasil. The total
world exports shown in the IMF publication exclude
the Council for Mutual Economic Assistance
countries, Mainland China, North Korea, North
Viet-Nam, and Cuba.

cotton--due to many exogeneous factors such as weather
conditions and world demand and supply movements and
controls--the overall export performance of basic products
during the 1968-1972 period was excellent. The index of
total basic exports increased from 100 in 1964 to 122 in
1968, with one downward movement in 1967. After 1968 the
index increased continuously and reached 233 in 1972. From
1964 to 1968 the compounded annual rate of growth of total
basic exports was 5 percent, and from 1968 to 1972 it was
about 18 percent.

The export index number of practically all main

basic exports in 1971 was much higher than in 1968. The

105

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106

 

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107

only exception was coffee, but this was due to the 1969
frost. In 1972 coffee exports performed almost as well as
in the high years of 1969 and 1970. Wide price fluctuations,
however, due to weather conditions and other factors, always
have characterized primary products trade. Table III-9
illustrates those wide fluctuations in the price indexes
of some Brazilian basic export goods in the period of
1964-1971. Cocoa, in particular, has shown the most
violent variations in prices from year to year.

To diminish the risk facing any country which
depends on a limited number of commodities subject to
great price fluctuations, Brazil has been moving in the
right direction by diversifying its exports. This is most
dramatically illustrated by the case of coffee. During
the 1950s, coffee's contribution to Brazil's total exports
amounted to an annual average of 62 percent. This share
decreased to 27 percent in 1971. Table III-10 shows the
export share of major basic export goods during 1964-1971.
Iron ore, sugar, beef, corn, and soybeans are some of the
primary products which have substantially widened their
share of total Brazilian exports in recent years.

Concluding Overall Evidence Concerning
Total Exports

It was shown that exports of both industrialized
and basic products have improved substantially since August
1968, during which time the policy of minidevaluations was

in effect. In summarizing this evidence, three types of

108

TABLE III- 9. --Price Indexes of Some Basic Export Goods
Dollar Price (Base period: 1965-1967=
100)

 

1964 1965 1966 1967 1968 1969 1970 1971

 

Green 110 113 98.1 91.1 90.7 93.3 127
coffee

Sugar 166 94.8 102 102 126 132 142
Cotton 104 102 98.2 100 110 93.1 93.9
Cocoa 108 69.8 105 120 141 204 150 123

Iron ore 108 106 101 94.0 90.6 89.7 97.5

 

Source: Conjuntura Econémica, 27 (March 1973), 130.

results regarding total Brazilian exports will be described
below.

First, Figure III-2 gives moving quarterly averages
of the (monthly) dollar value of total Brazilian exports
from 1964 to 1972. Two linear functions relating total
(exports and time are adjusted to the series of data for
the period previous to the minidevaluation policy (from
January 1964 to August 1968) and for the period of the
minidevaluation policy (from August 1968 to 1972). Whereas
the slope of the first function denotes moderate improve-
ment in exports in the first period, the slope of the second
function clearly indicates the exceptional rate of growth
in exports that occurred in the second period.

Second, the substantial increase in diversification

attained by Brazilian exports in recent years is illustrated

109

Figure III-2.--Total Brazilian Exports, Quarterly Moving
Averages, US$ millions FOB, 1964-1972.

Note:

The regressions were calculated with
approximate monthly data taken from a
figure published in ExPortacao 1947-1972,
CACEX, Banco do Brasil.

 

110

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uuomxm owmmm “ohm: mo wumchI.oHIHHH names

112

in Tables III-11 and III-12. These tables classify all
export goods according to ten different sectors. Table
III-ll shows that, in terms of index numbers, all ten
sectors showed remarkable growth from 1968 to 1971, in
general much greater than that obtained from 1964 to 1968.
As some of the sectors, such as animal products, products
of chemical and allied industries, mineral products, manu-
factures of base metals, electrical machinery and appli-
ances, and "other products" presented very high rates of
growth, their percentage share in total exports rose to
more prominent positions. As a result, the export compo-
sition in 1971 already was substantially modified with
respect to that of 1968. Vegetable products, in particular,
in spite of a 20 percent increase in exports in those four
years, had their participation in total exports reduced
from 68 percent in 1968 to 53 percent in 1971.

Third, Table III-13 gives evidence of the increas-
ing market diversification obtained by Brazilian exports.
In particular, the concentration of goods sent to the
U.S. market has diminished substantially. The U.S. share
of total Brazilian exports dropped from an average of 33
percent during 1964-1968 to 26 percent in 1969-1971. This
is a continuation of a postwar trend which has accompanied
the movement away from dependence on coffee. The average
U.S. share of Brazilian exports during the 19503 was 46

percent when coffee's share in total exports was 57 percent.

113

 

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114

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115

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116

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117

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118

The movement away from coffee dependence accelerated after
1968, along with concomitant market diversification. The
European Economic Community, "other European countries"
(aside from the EEC and EFTA), and Japan and other Asian
countries have gained most in their shares of Brazilian
exports in the past four years. The share of the Latin
American Free Trade Association increased moderately, from
a 10.6 percent average in 1964-1968 to an 11.4 percent
average in 1969-1971. In the whole group of Third World
countries, however, a substantial increase is shown, from
an average share of 14.7 percent during 1964-1968 to 17.3

percent during 1969-1971.

CHAPTER IV

ECONOMETRIC ANALYSIS OF THE EFFECTS OF

MINIDEVALUATIONS ON INDUSTRIAL EXPORTS

As analyzed in Chapter III, there are indications
that Brazilian exports have been positively affected by
the policy of frequent small adjustments in the exchange
rate. Theoretically, the main reason for this beneficial
influence is the substantial decrease in risk which
characterized exporter remuneration under the previous
system of wide fluctuations in the exchange rate.

The use of econometric methods to prove this theory
has not been successful to date. Tyler's attempts were
inconclusive (page 88 above). The major concern of this
chapter is to perform a better test of the effects of
minidevaluations on the eXport of manufactured products.

The first section of this chapter discusses a
method for testing the effect of minidevaluations. The
second section presents the regression analysis of exports

of manufactures.

119

120

The Method for Testing the Effects
of Minidevaluations

 

A method for testing the equality of two regression
equations--one for the pre-minidevaluation period and
another for the minidevaluation period-~13 applied several
times in this dissertation. It is explained here by using

0 O l 0 O I
Jan Kmenta's exp031tion. Con51der a regre551on equation,

+ --- + Bk Xik + 8i]

which has been estimated for a sample of n observations.
Suppose now that m (>K) additional observations are obtained
and that one wishes to test the hypothesis that the addi-
tional observations come from the same population as the
first n observations. For example, suppose that the
first n observations are from the period.oowide and
unexpected fluctuations in the exchange rate and that the
m additional observations come from the period during
which the minidevaluations were in effect. If it is
expected that the parameters of, say, the export supply
function during the minidevaluation period may be dif-
ferent from those of the pre-minidevaluation period,

the null hypothesis that the parameters of the export

supply function have not changed may be tested. To

exemplify:

lJan Kmenta, Elements of Econometrics (New York:
The Macmillan Company, 1971), pp. 373-4.

1 = 81 + 82 X12 + 81 X13t + "’ + Bk xlk + 51
(i = 1,2, ---, n),
and
Yi = A1 + A2 Xi2 + A3 Xi3 + —-- + 1k Xik + 8i
(i = n + 1, n + 2, ---, n + m).
The null hypothesis, then, is
HO: = Bl = 81’ 82 = 12, ---, Bk = Ak .

This is to be tested against the hypothesis that

The relevant test statistic is obtained

H0 is not true.
by applying the leastrsquares estimation method to the first

to the second set of data

set of data (1 = 1,2, ---, n),
n + l, n + 2, ---, n + m), and to the two sets of
For the combined

= 1! 2! ---l

(i=

data combined (i
set of data, the regression equation is:

n + m).

Y = ---
51 +62 Xi2 + 53 Xi3 + + 5k Xik + 6i
2: ---I n + m)

The sum of squares of the least-squares residuals then can

be denoted as:

122

m
A A A 2
i=1
n+m Y 2
SSEZ = E ( i - X1 - X2 xi2 - X3 xi3 - --- - Xk Xik) I
i=n+1
n+m A A A 2
SSEc = 21 (Y1 - 61 - 62 Xi2 - 83 Xie - --- - 6k Xik) '
1:

where the circumflexes over the coefficients indicate that
these are the estimated ones. The appropriate statistic to

test Ho is then

- +
(SSEc 558 5582) /K

1
(SSE1 + SSE2)/(n + m - 2k)

~

Pk, n + m - 2k.

This test statistic is applicab1e_only if the
number of additional observations exceeds the number of
parameters to be estimated, that is, if m > k. If m < k,
G. C. Chow and, alternatively, F. M. Fisher, have shown
that the appropriate test is as follows.2 To the first

n observations fit the least-squares regression

Y1 = 81 + 82 X12 + 83 X13 + "’ + Bk xik + 51

 

2G. C. Chow, "Tests of Equality Between Sets of
Coefficients in Two Linear Regressions," Econometrica, Vol.
28, pp. 591-605, 1960; and F. M. Fisher, 1'-Tests of Equality
Between Sets of Coefficients in Two Linear Regressions: An
Expository Note," Econometrica, Vol. 38, pp. 361-6, 1970.
See J. Johnston, Econometric Methods, 2nd Ed. (New York:
McGraw-Hill Book Company, 19727, p. 207.

 

123

and compute the sum of squares of least-squares residuals
SSEl. Then, to the pool of n + m sample observations fit

the least-squares regression

Y.=0+0X.+5X.+---+0

1 1 2 12 3 13 X' + E"

k 1k 1

again computing the sum of the squares of residuals SSEC.
The test of the null hypothesis that the m additional

observations obey the same relation as the first is given

by

 

(sss - SSE )/m
c 1 ~ F
(SSElZTn - k) m,n - k °

The formulation of the hypothesis leading to these
F statistics allows for all of the regression parameters
to change from one set of data to another. To test an
hypothesis involving only some of the regression coeffi-
cients requires use of binary or dummy variables.

Regression Analysis of Exports
of Manufactures

Inasmuch as Brazilian exports of industrial
goods constitute a very small percentage of total world
trade in this category, the world demand encountered
by Brazilian industrial exporters may be considered
as perfectly elastic. This facilitates the task of

estimating an export supply function for these goods.

124

In Tyler's formulation,3 the constant-dollar value
of exports of industrial goods is positively related to
both the level of real remuneration to exporters and to
the level of world trade (proxy for world income) and
negatively related to the level of capacity utilization
of Brazil's industry. The index of real remuneration to
exporters of manufactures is the product of two components:
the index of the real exchange rate adjusted to dollar
inflation and the index which denotes the level of fiscal
incentives for exports of manufactures. Tyler preferred
to use these two latter indexesas two separate independent
variables instead of simply their product. There is an
argument, however, for using the index of real remuneration
to exporters. This should be the most relevant variable
in affecting the decision of exporters. As the product
of the other two, it is clear that a drop in one of the
variables may be compensated by a rise in the other. The
individual effect of either one of the two depends sub-
stantially on the behavior of the other.

There is one difficulty in interpreting the influ-
ence of industrial capacity utilization on exports of
industrial goods. During 1961-1968, when Brazil was
passing through great fluctuations in economic activity
and exports of industrial goods were in their first and
uncertain stage of development, a clear negative relation

obtained between intensive use of industrial capacity-~as

 

3See page 89 above.

125

a sign of a high level of domestic demand--and exports of
manufactures. After 1968 the Brazilian economy entered a
period of high economic activity and growth which was
partly due to the expansion in exports. Thus, this
expansion contributed significantly to the greater,
if not full, utilization of industrial capacity. There-
fore, the negative sign between the proxy for capacity
utilization and exports found by Doellinger and Tyler
might be reversed when the years 1968-1972 constitute a
substantial portion of the period under study.4 Moreover,
if this is the case, the index of capacity utilization
_should lose its significance as an independent explanatory
variable in the export supply function.

As a point of departure based on the above
rationale, variants of two competing models of the
Brazilian industrial export supply function will be

tested with the use of quarterly data from 1964 to 1972:

log Xlt - 81 + 82 log X2t + 83 log X3t + 84 log X4t

+ 85 X5t + at; (I)

log X1t = 81 + 82 log X6t + 84 log X4t + 85 X5t + 8t (II)

 

This interpretation is supported by the following:
the simple correlation coefficient between log xlt and X5t
18 negative, equal to -.53, for the period 1964-1968, and
positive, equal to .79, for the period 1968-1972, a dramatic
change (See Table IV-l). For Doellinger's and Tyler's
results see pages 81 and 85 above.

126

Variants of these models will allow for the deletion of
variables which might show insignificance, particularly
in the case of X5t' and for different forms of lags in the
response of exports to changes in the level of real
remuneration to exporters.

The definitions of all variables and their sample
means and simple correlation coefficients with the depen-
dent variable are shown in Table IV-I. These last two
items are shown for three different periods: (1) pre-
minidevaluation: first quarter of 1964 to second quarter
of 1968; (2) minidevaluations: second quarter of 1968 to
second quarter of 1972; and (3) combined: first quarter
of 1964 to second quarter of 1972. The methods, sources,
and problems faced in collecting data for all variables
are discussed in Appendix B.

Below, a search is made for the models which show
the best fit. This includes the test of a model with a
geometric lag distribution and of models with simpler
lagged forms concerning the response of exports to changes
in the real remuneration to exporters. The method to test

the effects of minidevaluations discussed in the first

section of this chapter is applied to the best fit models.

Testing of Competinngodels
Equation 1 in Table IV-2 shows the estimation of

Model (I) for 33 observations from the first quarter of 1964

1227

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2128

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129

TABLE IV-2.--Regression Analysis to Explain the Behavior of

Brazilian Exports of Manufactures (x

Ordinary Least Squares Regressions With log Xlt
33 Quarterly Obser-
vations from lst Quarter of 1964 to 2nd Quarter

as the Dependent Variable;

of 1972 (2nd Quarter 1964 deleted due to
Unusual Political Events).

 

 

Eq. 1 Eq. 2 Eq. 3 Eq. 4
Constant -21.837 -17.024 -16.058 -15.590
log X .969
2t ( 1.610)
( .119)
log X .362
3t ( .368)
( .716)
log X6t .872 .311
( 1.514) ( .454)
( .141) ( .654)
log x _ 1.028 .874
6(t 1) ( 2.097) ( 1.450)
( .045) ( .158)
log x4t 2.370 2.021 1.908 1.837
( 3.680) ( 5.887) ( 5.956) ( 5.100)
( .001) (<o.0005) (<o.0005) (<o.0005)
x5t .0004 .0008 .001 .001
( .263) ( .687) ( .971) ( .8932)
( .794) ( .497) ( .339) ( .379)
R2 .914 .913 .918 .919
82 .902 .904 .910 .907
8 74.552 101.354 108.821 79.432
Sig. <o.0005 <0.0005 <0.0005 <0.0005
D.W. 1.12 1.07 1.13 1.12

 

The Durbin-Watson statistic values are not conclusive as to

the presence of autoregression.
variables are in Table IV-l.

The definitions of the
The numbers in parentheses

under each coefficient are the t-values and the significance
levels of the estimated coefficients, respectively, in that

order.

..Hw

I I
.1\‘ S b

 

 

130
to the second quarter of 1972.5 The overall significance
(<o.0005) and the coefficient of determination (R2 = .91)

indicate that the sample regression line fit the observa-
tions well. All of the coefficients, except that of the
proxy for capacity utilization (XSt), possess theoretically
correct signs. Exports of manufactures show rather low
elasticity coefficients with respect to the exchange rate
(XZt) and fiscal incentives (X3) and a relatively higher
elasticity coefficient with respect to the proxy for world
income (X4t)' The coefficient of log X2t shows some signi-
ficant (.12), but that of log X3t is highly insignificant

(.72); that of log X has the highest level of signifi-

4t
cance (<.0005), and that of X5t is highly insignificant

(.79).

Similar results are obtained in Equation 2, also
shown in Table IV-2, where the variable X6t’ the product
of X2t and X3t’ replaces these two. The coefficient of
determination corrected for degrees of freedom (R2 = .904)
is slightly greater than that obtained for Equation 1
(R2 = .902). The coefficient of the index of real remun-
eration to exporters is significant at the 14 percent level.
These last two results indicate that X6t should be preferred
to the separate use of X2 and X . This conclusion is

t 3t

(enhanced by the examination of results of Equations 3 and

5The second quarter of 1964 was deleted due to
unusual political events (dock strikes and the military
take over on the 3lst March 1964).

131

4, where lagged values of X are considered, shown in

6t
the same table.

Equation 3 shows the highest coefficient of deter-
mination corrected for degrees of freedom (R2 = .91) of
all four equations in Table IV-2. The elasticity coeffi-
cient with respect to the lagged value of the index of
real remuneration to exporters is close to unity and is
significant at less than the 5 percent level. The proxy for
world income, again, is highly significant, and the proxy
for capacity utilization is highly insignificant.

The results of Table IV-2 concerning the signifi-

cance of variable X the proxy for capacity utilization,

St'
confirm the expectation that this variable should not be
considered as one that explains the behavior of industrial

is

exports in the period under study. Accordingly, X5t

deleted in the following regression models.

The Use of a Distributed Lag Model

One difficult econometric problem is the estima-
tion of the form of lagged effects. In the case of
exports of manufactures, theprevious levels of real
remuneration to exporters may be assumed to be quite
important in forming their expectations as to the current
levels of remuneration. Inasmuch as it takes time to
invest, to produce, and to organize the sale of goods

abroad, a lag occurs in the effects of X6 (or alternatively

132

of X and X3) on X1. The stability in the level of X6 is

2
also expected to have an important effect on X1.

The following distributed-lag model will be used
to test both the form and influence of X6 on Xl before
and during the period when minidevaluations were in

effect:

109 Xlt = a + B 109 X6t"'81log X6(t-1) + 82 log X6(t-2)

83 log X6(t-3) + --- + st’ (III)

where the value of exports of manufactures is dependent
on the current and past values of real level of remunera-

tion to exports. at is the disturbance term. Although

X4, the proxy for world income, was shown to be significant

in the equations examined so far, it was omitted here

for reasons of simplification. Suppose that the coeffi-

cient Bjdecreases exponentially over time, such that6

Bj = B )j j = 1,2 ---- (IV)

with A being any value in the range 0 < l < 1. Then,

Model (III) becomes:

2

log Xlt = a + 8 log X + B 1 log X 1

6t 6(t-1)+ 8

log X + ~-- + s (V)

6(t-2) t

6Ronald J. Wonnacott and Thomas H. Wonnacott,

Efiagnometrics (New York: John Wiley and Sons, Inc., 1970),
pp O 145-46e

133

For the previous t,

log xl(t_1) = a + 8 log X6(t_1) + B A 109 X6(t—2)

--- VI
+ B *2 109 x6(t-3) + + at ( )

Multiplying (V) by A and subtracting it from
(VI), most of the terms drop out (this is the so-called
"Koyck transformation"7) and the following expression is

obtained:

log X1t = 1 log x1(t-1) + a (l- A) + 8 log X6t + St

_ (VII)
AEt-l
or
= a * III
log X1t a + 1 log Xl(t_l)+(3log X6t + at (V )
where
0* = a (l - 1) (IX)
and
4 = -
e at l et-l‘

With the simplifying assumption in (IV), Model

(III) has been brought into the manageable form (VIII),

—_

7 . .
L. M. Koyck, Distributed Lags and Investment

Angl sis (Amsterdam: North-Holland Publishing Co.,

134

the number of regressors has been reduced to two, and the
problem of multicollinearity that would exist in estimating
(III) largely has been overcome. A problem arises,
however, if the "new" disturbance 8* is largely correlated

t

with log X This means that the ordinary least-

l(t-l)'
squares estimates of the coefficients of (VIII) might be
inconsistent and that other methods of estimation should
be used. To avoid this problem assume that at follows
a first autoregressive scheme with the coefficient of
autoregression being equal to A. In this case the least-
squares estimates will be consistent.8
Test of Minidevaluations with a
Distributed-Lag Model

Following the approach explained in the first
section of this chapter, the distributed lag Model (III),
in its transformed expression (VIII) was fit to quarterly
observations of three different periods: (A) pre-
minidevaluation: 15 observations from the third quarter
of 1964 to the second quarter of 1968; (B) minidevaluation:
16 observations from the third quarter of 1968 to the
second quarter of 1972; and (C) combined: 31 observations
from the third quarter of 1964 to the second quarter of
1972. The results are shown as Equations 5A, 5B, and SC
in Table IV-3. From the coefficients of these equations,

the coefficients of the respectively equivalent Equations

‘

8Kmenta, Elements of Econometrics, pp. 479 and 485.

135

6A, 6B, and 6C are then computed.9 These also are shown
in Table IV-3.

The comparison of results in each period (A, B, and
C) is quite interesting. For the period before August 1968,
when X6t' the real rate of remuneration to exporters, behaved
in a very unstable fashion, the regression model (5A)
was quite insignificant and presented a very poor fit
(R2 = .23); the elasticity coefficient of X6t had the
"wrong" theoretical sign, was very low (-.022), and was
not significant at all (.98). For period B, however,
when the mini-adjustments of the exchange rate were under
effect, the equation was highly significant (<o.0005), it
fitted the data well (R2 = .84), the elasticity coefficient
of X6t became positive and was quite high (2.97) and signi-
ficant at the 15 percent level. The fit for the combined
period, C, was even better (R2 = .88); its over-all signi-
ficance was very high (<o.0005), as was that of the two
variables X

(<o.0005) and x (.09). Equations 6A,

1(t-1) 6t
6B, and 6C show the form of the lag. In B and C, it is
seen that exports of industrial goods were influenced not
only by the current real remuneration to exporters but also
by the level of remuneration in the previous quarters, in a

declining fashion. This phenomenon occurred only when the

minidevaluations were in effect.

 

9Formulas VIII and IX above were used in this
computation.

1L36

 

A.mmm .m .mOHHuoEocoom mo mucoEon .mucoEx oomO .oHanuo> unopcomoo
ocu wo osHm> poOOMH oru >3 coxmu mH oHnoHum> xuouocmmeo on» mo oomHm or» cons oHnmoHHcmo uoc mH umou cOmuoz
IcHnuso one .uopuo has» :H >Ho>Huoommou .mucoHonwooo poumEHumo onu wo mHo>oH oocmonHcme on» can mosHm>Iu

ocu one ucoHoHuuooo sumo mops: mononucoumm CH muonEs: one .HI>H oHnme cH ohm moHanum> on» no mcoHuHcHwoo one

 

 

 

 

 

HeOH. ONNO. mOOO. mmm
mOOO.Ov mOO0.0v NON. .mHm
OHO.HOH NNO.mm NOO.H m
Hem. ONO. OOH. NM
ONO. «we. HON. Nm
NN.O OH.O AmIon ooH
OH.O ON.O III leIoOox OoH
Oe.O Hm.O OOOO. I lmIoOox ooH
NO.O H0.0 HOO. I ANIoOOx ooH
mO.O mo.H OOO. I iHIoOox ooH
ANOO. O AOOH. O lane. O
reeN.H O loom.H O AONNO. IO no
HH.H I NO.N I NNO. I HHH.H OO0.0N NNO. I x ooH
AOOOO.OVO Ammo. O AOOO. O
ANOO.m O ANHH.N O AOOO.H O AHIoOH
men. mmm. HOe. x ooH
Hma.H I Ome.O I NO.N Oee. I OOO.N I OOm.e nooomooo
NNOH .uo ooN NNOH .no ocN OOOH .no ocN
IOOOH .no pun IOOOH .uo pom IOOOH .uo pom
HUm coHuoncm Hmm coHumnvm Adm :oHumzvm
MOnm oouosoopO Eouw pouospopO Eoum pouospopO mcoHum>uomno Hm mcoHum>uomno OH mGOHum>uomno mH
we coHumscm mm coHumscm 4m coHuoscm Um coHumscm mm coHumsvm 4m COHumavm

 

.oHanum> ucopcomoo oru mm uHx OOH nuHB mconmoumom moumsvm umooq xuocHouo
.Hoooz wmgnmouanpumHQ m ruH3 AuHxO mousuoowdcmz uo muuoaxm co mcoHuosHm>opHCH2 mo muoomwm uo umoeII.MI>H mqmce

137

The test of the null hypothesis that the 16 addi-
tional observations (1968-1972) obey the same relation

as the first 15 (1964-1968) now can be performed.

[SSEC - SSEa + SSEb)]/k .186676 - (.068509 + .O77467)/3

 

 

F — (SSEa + SSEb)/(n + m-2k)= .145976/(31-6
=———:2::2;32 . -— =
whereas
F3,25,.10 = 2'32'

Therefore, at the 10 percent level of significance,
the null hypothesis of same relationship may be rejected;

it may be concluded that the policy of mini-adjustments

of the exchange rate made a significant difference in
making exports of manufactures more responsive to the
level of real export remuneration. But the 10 percent
level of significance is not satisfactory. Searching for
better fit and greater significance, models with simpler

lagged forms, which also include the variable X are

4t’
tested below for the three different periods.

Test of Minidevaluations with
the Best Fitted Models

The analysis of results examined so far indicate
that the best explanation of exports of manufactures might

be given by a variant of Model (II) above, with the deletion

138

of the proxy of industrial capacity utilization, XSt’ and
with the consideration of some lag in the response of
exports of manufactures to changes in the level of real
remuneration to exporters, X6t' There are also indications
of a structural shift in the behavior of exports as a result
of minidevaluations. To test the existence of this shift,
the following modified variants of Model (II) were esti—
mated for the three periods (A, pre-minidevaluations; B,

minidevaluations; and C, the combined one):

log Xlt = 81 + 82 log X6t + 83 log X4t + Et’ (X)
log X1t = 81 + 82 log x6(t-l) + 83 log X4t + Et' (XI)
log Xlt = 81 + 82 log X6t + 83 log X6(t-l)

+ 84 log X4t + at. (XII)

In Table IV-4, Equations 7A, 7B, and 7C correspond
to Model (X) regressed respectively for periods A, B, and
C, Equations 8A, 8B, and 8C to Model (XI), and Equations
9A, 9B, and 9C to Model (XII).

Equations 7C, 8C, and 9C fit the quarterly data
from 1964 to 1972 very well. All three yield R2 approxi-
mately equal to .91 and a very high level of significance
(<o.0005). The coefficients of the explanatory variables

show the correct theoretical signs and high t values,

.mcoHuoon OCHCHoEoH

onu CH COHmmoCmouousm mo oocomnm moumoHOCH uH pCm .Um oco 0O mcoHumscm mo omoo or» CH o>Hw9HoC00 UOC mH uH

.UN coHumscm mo mono or» CH eHCo mHodonou mo CoHuMHouuooouso o>HuHmoa mo oocomoum wouooHpCH oHumHumum Cemuox
ICHnuso one .uoouo our» CH >Ho>HuoommoH .mucoHonmooo pouoEHumo one mo mHo>oH ooCMUHuHCmHm ocu OCo mosHm>Iu
oCu oum uCoHuHuuooo sumo nopCs monoEUCouom CH muonesc one .HI>H oHnme CH oum moHnoHuo> HHo mo mcoHuHCHuop oCe

.NNOH nouHMSU pCooomIIVOmH uouuosv umun uncoHuo>uomno mm nOpoHuom
.memH uouumsc ocooomIImOmH nouuosv puHCu umCoHuo>uomno OH xwpoHuom
.HmuCo>o HMUHuHHom

ou osp pouoHop «OOH mo Housman pCooomO OOOH uouuodv ocooonIIVOmH uouumsv umHHw "wCoHuo>uomno OH"¢.poHuom

 

1139

 

NH.H OO.H OO.H OH.H «O.H NO.H NO.H OO.H OO.H .3.o
mOOO.Ov OOOO.OV OOOO.OV mOO0.0v OOOO.OV OOOO.OV OOOO.OV OOOO.OV OOOO.OV .OHO
OOO.OOH HOO.OO OOH.OH OO0.00H NOO.Om OON.ON NHO.OOH HOO.mm OH0.0H C
OOO. ONO. OOO. OHO. OOO. NON. OOO. ONO. HOO. Nm
NHO. OOO. NON. OHO. OOO. «ON. NHO. OOO. OON. NO
AOOOO.OVO AOOO. O ANOO. O AOOOO.OVO ANOO. O AHOO. O AOOOO.OVO AOOO. O AHOO. O
AONO.O O AOOH.H O ANOO.O O AONN.N O ANON.O O ANON.O O AHOO.O O AHOH.OHO AOON.O O no
OOO.H NHH.O MOO.H HOO.N NO0.0 ONO.H HOH.N OmO.N OOO.H x OoH
AmeO.H O LOOO. IO AHOO.H O LONO.N O LOHO. O AONO.H O AHIOOO
OON. OOm. I OOO. OOO. Hoe. OOO. x OoH
lNNm. O . AOOO. O ANHO. O ANNH. O AOON. O AOOH. O
ANNO. O AONO.H O AONO. O AONO.H O ANHH.H O ANOO.H O no
OOO. OOO.N Owe. mOO. OON.H NNO. x OoH
HHO.OHI OOO.OOI ONO.OHI HHO.NHI OO.OOI ONO.OHI ONO.NHI OOO.ONI OOO.OHI oomomcoo
oO .om OO .OO «O .om oO .om OO .om 4O .om uN .ou ON .om 4N .om

 

.oHQMHum>u ucopCocoo on» no uHx moH nqu mConmouOom mouozvm umooq euoCHpuo
.mHoOoz pouuHm umom on» CuH3 A Hxv mouduomwscmz no monocxm Co mCoHuooHo>opHCHz mo muuomum mo umoeII.VI>H mande

140

especially in Equations 7C and 8C. The coefficients of
log X6(t-l) in Equations 8C and 9C were,respectively,more

significant than that of log X6 in Equations 7C and 9C.

t
The high t values of the coefficients of Equation 8C

could lead to the conclusion that this is the best model
to explain the determinants of exports of manufactures.

An interesting fact, however, was discovered in the
investigation of whether a structural shift had taken
place in the model from period A to period B as a result
of the minidevaluations. Not only exports became more
elastic with respect to both the current real remuneration

to exporters (X6t) and world income (X but also X

4t) I
had a more rapid effect on Xl during the period under

6

which the minidevaluations were in effect. This is clearly
seen in the equations of periods A and B.

All of the six equations pertaining to periods A
and B present very high over-all significance (<o.0005)
and coefficients of determination (R2) above .73. The
first interesting fact to be noticed is that whereas
Equation 8A provides the best fit (R2 = .707) among the
three alternatives for period Aw Equation 7B (R2 = .879)
does the same for period B. Before the minidevaluations,
exports of manufactures are relatively inelastic (elasti-
city close to .87) with respect to the real remuneration
to exporters lagged by one quarter. In the period during
which the minidevaluations become effective, exports of

manufactures become elastic (elasticity close to 1.70)

141

with respect to the current real remuneration to exporters.
The comparison of coefficients of Equations 9A and 98
also confirms this analysis. Another interesting fact
shown by the three equations in each period is the sub-
stantial increase in the elasticity of exports of manufac-
tures with respect to world income from period A (around 2)
to period B (around 3). The individual coefficients of
log X4 are always highly significant.

The F test statistic is then applied to the three
models to check the existence of a structural shift from

one period to another. The results are as follows.
For Equations 7A, 7B,and 7C:

[SSE - SSEa + SSEb)]/k .1769 - (.0703 + .0520)/3

 

 

(SSEa + SSEb)/(n+m-2k) .1223/(17 + 16 - 6)

_ .0546 27 _ _
F - 715:? X —§ - 4.02 > F3'27’.05 - 2.96.

For Equations 8A, BB,and BC:

.1684 - (.0667 + .0565)/3 = .0452 x 21
.1237/27 .1232 3 '

F = .3669 x 9 = 3.30 > F 2.96.

3,27,.05 =

For Equations 9A, 9B,and 9C:

F _ .1665 - (.0645 + .0516)Z3 _ .0504 x 21
‘ .1161/27 ‘ TIIEI 3 '

F=.4 = . =
341 x 2 3 91 > F3,27'.05 2.96.

142

The F test applied to all three models indicates that,
at the 5 percent level of significance, the null hypo-
thesis of same relationship for the two different periods
may be rejected. Therefore, it may be concluded that the
policy of minidevaluations made a significant difference
in making exports of manufactures more responsive both
to the level of real export remuneration and to the level

of world income.

Conclusion

 

The regression analysis with quarterly data shows
that minidevaluations had a positive effect on exports
of manufactures. The most significant effect was to make
these exports more responsive to changes in the level of
real remuneration to exporters. The regression analysis
with annual data, presented in Appendix C, fell short of
supporting this hypothesis with strong conclusive evidence.
Nevertheless, it also gave indications that exports of
manufactures became more responsive to changes in the
level of remuneration to exporters, both through changes
in the real exchange rate and through changes in the level

of fiscal incentives.

CHAPTER V

ECONOMETRIC ANALYSIS OF THE EFFECTS OF
MINIDEVALUATIONS ON EXPORTS

OF BASIC PRODUCTS

The data presented in Chapter III indicated that
exports of most primary products performed relatively
well during the period when the mini-adjustments of the
exchange rate were in effect. The econometric analysis
of these exports was limited because for most basic
products only annual observations on both prices and
values were available, and these were confined to the
period 1964-1971. An aggregate export supply function for
28 basic products was estimated. For most of these
products, Brazil's participation in world trade is rela-
tively small, so that the international market price
could be considered to be affected only mildly by Brazil's
supply, and the foreign demand for them could be considered
approximately as perfectly elastic.

Because it is far from meeting this condition,
coffee was excluded from these 28 basic products. Brazil
produces about one-third of the world consumption of

coffee. Coffee trade is also subject to unique peculiarities,

143

144

such as the Brazilian government's contribution quota
(US$23.96 per exported bag of 60kg in 1972) and the
regulations of the International Coffee Agreement. Further-
more, since the production cycle of coffee lasts about five
years, it is too early to study properly the effects of the
new exchange rate policy on coffee exports. For some of

the 28 products included in the following analysis--mainly
cotton, cocoa, sugar, and iron ore--Brazil is a major, but

not a dominant world supplier.1

The Model

 

The following models were used to estimate the

export supply of basic exports:

+

log X1t 81 82 log X2t + 83 log X3t + 84 log X4t

+ 87 X7t + at; (I)

log X = B + 8

1t (II)

log X +

6t 84 log X +

4t 87 X + e

6 7t t'

where

Xlt = exports of basic products other than coffee
deflated by the world-trade price index;

x2t = index of real exchange rate for exports of
basic products other than coffee (nominal
purchase exchange rate deflated by the
Brazilian wholesale price index);

 

lBrazil's share in international trade ranges about
5 percent for cotton, 9 percent for cocoa, 6 percent for
sugar and less for other primary products. The country does
not act as a large individual seller, however, for most
primary commodities. There are many export agents who have
a position which approximates that of perfect competitor
in world trade.

145

X3t = price index for Brazil's exports of basic
products other than coffee;

X4t = proxy for world income; world imports
deflated by the price index for world
imports;

X7t = annual average of the monthly percentage

variation (without sign) in the real
exchange rate for exports (X2t). (The
number 7 was used because this variable

is similar to X7t used in annual regressions
for industrial exports); and

X = index of real remuneration to exporters of

6t basic products other than coffee. It is
the product of X times X .

2t 3t

The supply of basic exports is considered as a
function of the real remuneration to exporters, of the
proxy for world income, and of the index of fluctuations
in the real exchange rate. The greater the real remunera-
tion to exporters (X6t)’ the greater should be the supply
of exports (Xlt). Two factors affect the real remuneration
to exporters: the index of real exchange rate for exports

(x2t) and the price index for exports (X Model (I)

3t) °
tests the response of exporters to the separate behavior
of these two indexes. Model (II) tests the response of

exporters to the product of the two indexes. Both models

are similar since

log X6t = log (X2t ° X3t) = log X2t + log X3t

Model (II) may be considered a superior formulation,

however, because it is the final product, X that really

6t'
affects the profitability of exporters, not just its

146

separate components X2t and X3t'

formulations will permit the comparison of the significance,

Testing the competing

signs, and values of the coefficients of log X2 and log X3

t
6t' The proxy for world income, X4t' is

t
with those of log X

also expected to have a positive effect on exports. The

variable X the index of fluctuations in the real exchange

7t’
rate, enters the function as a qualitative variable.
Appendix E illustrates how this variable depicts the
effects of minidevaluations. Small fluctuations in the
real exchange rate mean a low degree of exchange risk to
the exporter. Therefore, the smaller the value of X7t'
the greater should be the incentive to export.

Models (I) or (II) differ from that used by
Doellinger from nontraditional basic products (see Chapter
III, page 84) with respect to some variables. He had
included an index of production of ten primary products
and found that good harvests tend to have a significant
positive effect on exports. As a price variable,
Doellinger had included only the real exchange rate, not
the price index, of exports. No apprOpriate index or
production for the 28 primary products could be found.

An available index based on ten main products would take
into account only about one-third of the value of exports
of the 28 products. On the other hand, one may assume

that the production index of agricultural goods is a

function mainly of their price and of weather conditions.

147

It was not possible to use weather conditions as a variable,
but the price of all 28 basic products, which included not
only agricultural but also mineral and animal products,

were available and were used in a weighted form. Further
discussion of each variable and the data and measurement

problems are presented in Appendix D.

The Regression Results

 

In view of the small number of observations avail-
able one cannot expect high levels of significance for all
individual coefficients. Their estimated values should
not be seen as accurate elasticity values.

First, Model (I) was run to test the separate
effects of changes in the real exchange rate and in the
export prices during the period 1964-1971. The result

is Equation 1.

log X = 6.5755 + .5464 10g X + .5674 log X

1t 2t 3t
(.8187) (.6900)
(.473 ) (.540 )
+ 1.1716 log X4t - .0083 X7t'
(2.2583) (*1.5756)
( .109 ) ( .213 ) (I)
8 Observations, F = 22.661 Significance .014
122 = .9680 '82 = .9250
D.W. = 2.31, does not indicate presence of

autoregression.

148

The t values, and under them the significance values, are
shown in parentheses under the respective coefficients.
The regression was significant at the 1.0 percent

level and presented an excellent fit (R2

=.925). All the
coefficients had the correct theoretical signs. Interest-
ingly, the elasticity of exports of basic products with
respect to the real exchange rate, X2t' was exactly the
same as that found by Doellinger for nontraditional basic
products (see Chapter III, page 84, .054).2 The elas-
ticity with respect to the price of exports was also low
and approximately the same, 0.57. Both were not very
significant, however. Greater significance was shown by
the elasticity coefficient of the proxy for world income.
Its value was slightly higher than unity. Wide fluctua-
tions in the real exchange rate had a negative impact on
the growth of exports, as indicated by the sign of X7t,
but the significance of the coefficient, although greater

than that of log X and log X3t’ did not permit permit

2t

a definite conclusion.

The best fit was obtained with Model (II):

log Xlt = -5.571 + .5485 log X6t + 1.1828 log X4t
(1.4514) (6.4229)
( .220 ) ( .003 )
- .0082 X7t
(-1.9238)
( .127 ) (II)

 

lDoellinger's regression, however, was on quarterly
data.

149

8 Observations, F = 40.4975 Significance .002
R2 = .9681 8'2 = .9442
D.W. = 2.31, no autoregression.

Equation (II), in spite of the small sample size,
presented an excellent fit and a higher coefficient of
determination (R2 = .9681) than that obtained by Doellinger's
best fit model (R2 = .85) for nontraditional exports.

Exports of basic products proved to be inelastic-~the
coefficient was 0.55--with respect to changes in the level

of real remuneration to exporters. The elasticity coeffi-
cient of the proxy for world income was highly significant
(.003), and its value was 1.2. Finally, at the 12 percent
level of significance the coefficient of X7t indicated

that the greater the level of fluctuations in the real
exchange rate, the smaller the rate of growth in exports

of basic products. The simple correlation coefficient
between X7t and log X1t

size of the coefficient of X7t is not so important and

was expected to be small because it related a log value

during 1964-1971 was -.78. The

which had small range, from 8.66 to 9.02, with a nonlog

value, which had a much greater range, from 0.85 to

150

14.1.2 Its negative sign and its significance-~quite

reasonable for only 8 observations--confirmed one main
hypothesis tested in this dissertation: The policy of
mini-adjustments in the exchange rate had a positive

effect on the Brazilian exports of basic products.

Conclusion

 

The very small number of observations available
has limited the quality of the above econometric analysis.
Nevertheless, it may be concluded that the policy of
mini-adjustments in the exchange rate has had a positive

impact on exports of primary products.

 

2The following coefficients were foundwwhen X1
was run against the same variables in a nonlog form
for the same period 1964-1971:

X = 9,299,037.1953 + 4,253,861.1628 X + .0044 X

1t 6t 4t
(1.2992) (7.0502)
( .264) ( .002 )
- 9,873,345.71 X7
(-1.3410)
( .251 )
Overall F = 38.0522 Significance .002
R2 = .9661 132 = .9408

D.W. = 2.24

In this nonlog form the variable X7 has a large coeffi-
cient, but it becomes less significant than in the log
form.

CHAPTER VI

THE EFFECTS OF MINIDEVALUATIONS ON

BRAZILIAN IMPORTS

Since Brazil's demand for imports constitutes only
about 1 percent of world exports, it may be assumed that
the country faces an infinitely elastic export supply
curve. The exchange risk that is inherent in a system of
sharp and unpredictable adjustments in the exchange rate
may have a negative influence on the volume of imports.
Importers are always ready to take advantage of profit-
able opportunities provided by an occasional overvalued
domestic currency. The risks of devaluation, however,
may jeopardize the normal development of imports. For
example, in case of products which need to be ordered well
in advance of the shipment time, so that they can be
produced according to specific requirements, the insta-
bility of the exchange rate constitutes a nuisance that
might discourage trade.

The objective of this chapter is to find out to
what extent imports were affected by the policy of mini-

adjustments in the exchange rate. The demand for imports is

151

152

a function mainly of the relation between internal and
external prices, of national income, and of import barriers.
Important modifications occurred with respect to trade
barriers just prior to the institution of the minidevalua-
tions. In the beginning of 1965 the cost for import
credits (compulsory deposits) was significantly reduced.
In March 1967 a general tariff reform lowered effective
protection of manufacturing industry from 98 percent to

52 percent on the average for all sectors, and from a
range of 10-333 percent to a range of 10-139 percent. The
aims of the reform were to intensify price competition
from abroad, to force import-substituting industries to
economize on costs, and to facilitate an export drive by
these industries.1 Although at the end of 1968 tariffs
were increased again, they were still lower than the ones
that existed prior to 1967. The price and income elas-
ticities of import demand are expected to be greater after
the lowering of tariffs because the prior tariff levels
practically prohibited imports of several goods. This
makes the task of identifying the effects of the minide-
valuations more difficult. As shown below, the import
liberalization policy has made import demand expand con—
siderably more than production or income in the past five

years. After a brief analysis of imports during the period

 

1See Donges, Brazil's Trotting Peg.

 

153

1968-1972, econometric models will be used to examine to

what extent they were affected by new exchange policy.

Brazilian Imports Since 1968

 

From 1968 to 1972 Brazilian imports of merchandise
had an average growth rate of about 23 percent per year,
much greater than that of the Gross Domestic Product
(about 10 percent). This growth was exceptional compared
to the previous two decades. The proportion of imports
over GDP (in current cruzeiros), which had reached the
record low of 5 percent in 1965, surpassed the 8 percent
level in 1971. Machinery and equipment, and chemical,
mineral, and metal products were the main commodity cate-
gories that led this growth. Imports have had a key role
in the process of fixed capital formation in Brazil. In
the past years machinery and equipment constituted about
35 percent of total imports. (See Tables F-l to F-S in
Appendix F.)

I Since 1968 Brazil has not experienced a shortage
in its capacity to pay for imports, despite trade deficits
in 1971 and 1972. This was mainly due to the concommitant
expansion in exports and the increase in the net inflow
of capital at the exceptional average yearly growth of 57

percent (1968-1971). (See Table F-7 in Appendix F.)

154

Econometric Analysis of
Import Behavior

 

The Model

 

The following model was used to describe Brazilian

import behavior:

log X = +

1 81 log X

where:

X1 = total Brazilian imports of merchandise
in constant cruzeiros of 1949;

X2 = Gross Domestic Product in constant cruzeiros
of 1949;

X3 = index of real import exchange rate (nominal
import index deflated by the ratio of the
Brazilian wholesale price index over the
U.S. wholesale price index) adjusted for
import barriers, such as tariffs, auction
fees, and so forth; and

at = disturbance term.

Observations of variables X1 and X2 were available
only on an annual basis. Therefore, the sample size to
test the period of minidevaluations was very small. The
index of real import exchange rate, which was adjusted
both for dollar inflation and for import barriers, was

taken from the work of Joel Bergsman.2 Eighteen annual

observations, from 1954 to 1971, were available.

 

2Bergsman, "Foreign Trade Policy in Brazil."
Bergsman had calculated 17 annual indexes. This author
estimated the 1971 index following his method. Bergsman's
adjustment for tariffs considers the nominal rather than
the effective rate of protection. This has an important
implication discussed at the end of this chapter.

155

The demand for imports is expected to respond
positively to changes in real national income and negatively
to changes in the index of real exchange rate adjusted for
tariffs, and so forth. Since the policy of the government
in certain periods seemed to be one of facilitating imports
whenever the capacity to pay for them was growing, and
since the net inflow of capital has been particularly
associated with imports, the capacity to import also should
be considered as a variable that might determine changes

in imports. By capacity to import goods, X4, is meant:3

><
ll

CFP - S, where CFP = PPX - A + NIC

4
X4 = PPX - A + NIC - S, where PPX = X (MPI/XPI)
X4 = X(MPI/XPI) - A + NIC - S

where:
CFP = capacity of foreign payments.

S = service (commercial and noncommercial)
receipts-service payments

PPX = purchasing power of exports
A = amortizations

NIC = net inflow of capital

MPI = import price index

XPI = export price index.

 

3This is the definition of capacity to import goods
currently used by the Brazilian monetary authorites (see
Table F-7, Appendix F).

156

In view of this expectation the following model was

tested:

log x = 81 + 8 (II)

1 log X2 + 83 log X3 + 84 log X4 + e

2 t’

where X1, X2, X3, and e have the same meaning as is in

t
Model (I), and X4 is the capacity to import. Here, however,
total imports (X1) and real GDP (X2) were measured in con-
stant dollars since the capacity to import was measured
more accurately in dollars than in cruzeiros. A consistent
series of observations for the capacity to import, as
defined above, was available only for 13 years, from 1959
to 1971. (See Table F-7 in Appendix F.)

To examine the effects of minidevaluations on
imports, different approaches were followed. First, both
Models (I) and (II) were tested for period A, 1954 to 1968
for (I) and 1959-1968 for (II), and for period B, which
includes the three years 1969-1971, during which the
minidevaluations were in effect.4 Alternatively, a dummy
variable, D, representing the policy of minidevaluations,
was included in modified versions of Models (I) and (II).
The problems involved in the different tests will be dis-
cussed with the presentation of results.

The data used in the estimation Model (I) is
shown in Table VI-l and Figure VI-l, whereas that used to

estimate Model (II) is shown in Table VI-2 and Figure VI-2.

y

4About one-third of 1968 also should be excluded
from period A but this was not possible with annual data.

TABLE VI-l.--Data for Estimation of Braz

157

Function (Model I)-

il's Import

 

Total Imports
In Constant
Cruzeiros of

Gross Domestic

Produce in

Constant Cruzeiros

Index of Real
Import Exchange
Rate (nominal

import index
deflated by
Brazilian W.P.I./
U.S. W.P.I.)
Adjusted for
Tariffs, Auction

 

 

Year 1949 of 1949 Fees, etc.
X1 X2 X3

1954 24.5 318.2 154
1955 23.7 340.0 194
1956 23.6 350.8 211
1957 25.4 379.1 270
1958 27.0 408.3 249
1959 30.7 431.1 290
1960 29.2 472.9 243
1961 31.4 521.6 321
1962 35.0 549.0 364
1963 30.8 557.5 329‘
1964 25.6 573.8 329
1965 26.3 589.5 288
1966 32.3 619.6 203
1967 34.1 649.2 165
1968 43.8 709.7 169
1969 47.8 773.6 190
1970 56.3 847.2 187
1971 69.6 942.9 183
Sources: Relatorio 1971, CACEX, Banco do Brasil.

1:

 

2
3

February 1971).

° Conjuntura Econdmica, 26 (November 1972).

: Joel Bergsman, "Foreign Trade Policy in
Brazil," U.S. AID (unpublished study,

 

158

 

 

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900-

BOG-H

  
     
   

700-H Gross Domestic Product in
Constant Cruzeiros of

000-1 1949

303-4
Index

400.H 400

300 — 300
.200—I 20°

. . 100
100.. Real Exchange Rate Adjusted for Dollar Inflation and

Import Barriers (in terms of index)
90--
80-
70--
60-
50-
40-d

30.1

20-—

 

Total Imports in Constant Cruzieros of 1949

10.4

 

 

 

ITIIIrIIITTII

1 1
5 9 6O 61 62 63 64 65 66 67 68 69 70 71 72

I l
1954 55 -6 57 58

Lil

Ffirpire VI-1.-—Brazil's Imports in Constant Cruzeiros of
1949, GDP in Constant Cruzeiros of 1949,
and the Real Exchange Rate Adjusted for
Dollar Inflation and Import Barriers.

160

 

 

 

 

 

 

   
   

 

 

 

 

    

 

 

Index
400 H
Index of real import exchange rate adjusted for
300 dollar inflation and import barriers.
q
200«-
100 1
I I if 17 I l’ I I" f 17 I II 1
U.S. $
millions
550,000"
40,000-( Real gross domestic product at
1965/1967 prices
30,000-4
20.000-(
10,000-(
I U l' I I I 1 I I I I I ’T
Capacity to import
4.000-1 at 1965/1967 prices \2’
3,000- "
Imports at 1965/1967 prices
2,000“
1,000--
r I I l T I I I T l I I l

 

1959 60 61 62 63 64 65 66 67 68 69 70 71 72

Figure VI—2.--Brazil's Imports, GDP, Capacity to Import
and Real Exchange Rate Adjusted for Dollar
Inflation and Import Barriers.

161

Regression Results

 

Model (I) regressed for periods A and B gave the

following results:

A. 15 Observations, from 1954 to 1968:

log X1 = .2608 + .5427 log X2 - .1061 log X3 (1a)
(4.4921) {-.9608)
( .001 ) ( .356 )

The numbers in parentheses under each coefficient are the
t-values and the significance levels of the estimated

coefficients, respectively.

F = 10.1101 Significance .003
R2 = .6276 §2 = .5655
D.W. = 1.09, not conclusive as to presence of
autoregression
SSE = .0292.
a

B. 18 Observations, from 1954 to 1971:

log X1 = .1466 + .8190 log X2 - .2418 log X3 (lb)
(7.4574) (-1.8818)
(<0.0005) ( .079)

= 32.2164 Significance <0.0005

F
R2 = .8112 EZ = .7860

 

162

D.W. = .65 dL,2,18,.01 = 0.80

dU,2,18,.01 = 1'26

indicates the presence of autoregression.

SSEb = .0579.

Both the level of overall significance and the
degree of fit substantially improved with the addition of
the three observations. The elasticity coefficients of
imports (X1), both with respect to GDP (X2) and to the
real exchange rate adjusted for tariffs, and so forth,

(X3) more than doubled when the years 1969-1971 were added
to the regression. Still, their values in both equations
indicate very low elasticities. Changes in X3 were not

even significant in determining the level of exports in
period A. This is an indication that the level of tariffs
were so high and prohibitive that changes in relative

prices did not affect imports significantly. The low, but
still very significant, GDP elasticity coefficient indicates
that the import-substituting policies pursued by the
government, especially from 1954 until the tariff reform

caf 1967, substantially limited the response of imports to

 

5When the disturbances are autoregressive, the
least-square estimators are unbiased and consistent, but
they are not efficient or assymtotically efficient. The
respective variances are biased, and as a result, the
tests of significance to the regression coefficients might
lead to incorrect statements. Kmenta, Elements of Econo-
metrics, pp. 278-81.

 

163

increases in real national income.6 With the application
of the Chow or Fisher test at the 5 percent level of signi-
ficance, it may be affirmed that a structural shift has

taken place in the regression equation after 1968:

 

 

F _ SSEb ‘ SSEa/m = .0579 - .029313 _
‘ SSEa/n - k .0292/15 - 3
3.93 >F3Ilz'005 = 3.49.

In addition to the lowering of tariffs, the policy

of minidevaluation also might have contributed to the

increase in the elasticity coefficients which have character-
ized this structural shift. This test, however, does not
permit a distinction between the two possible causes.

Minidevaluations Represented
By a Dummy Variable

 

 

A significant result was obtained with the following

modified version of Model (I):

log X1 = 81 + aD + 82 log X2 + 83 log X3

+ + e (I)

D log X3 t

0‘3

 

6The low elasticity values which were found contrast
sharply with the U.S. income elasticity for import demand
for manufactures of +2.35 and with the relative price elas-
ticity of -4.7, as found by Kreinin for 43 quarterly obser-
vations from 1954 to 1964. Mordechai E. Kreinin, Alterna-
tive Commercial Policies-~Their Effect on the American
Ecoggmy (East Lansing: Michigan State University, 1967),
p. .

 

164

In this formulation the dummy variable D is used to
allow both for a differential intercept and for a differ-
ential elasticity coefficient for X3, the real exchange rate
adjusted for tariffs and so forth. The dummy variable repre-
sents the policy of minidevaluations. It takes the values
of zero from 1954 to 1967, of 0.34 in 1968, and of one from

1969 to 1971. The result, for 18 observations, was:

log X1 = .3167 + 9.5954 D + .4030 log X

2
( 1.8266) (3.2845)
( .091 ) (.006)
+ .0237 log X3 - 4.1362 D log X3
(1.2182) (-1.7924)
( .831 ) ( .096 ) (II)
F = 38.53 Significance <0.0005
R2 = .9222 82 = .8983
D.W. = 1.24 d = 0.71

L,3,18,.01

dU,3,18,.01 = 1'42

not conclusive as to presence of autoregression.

Equation (II) was highly significant and showed a

goodness of fit much greater than that of Equation (lb)--

R2 = .92 for Equation (I) compared to .79 for Equation

165

(1b). The coefficient of log X2 was again significant but
low, indicating an inelastic income demand for imports.
The dummy coefficient for the intercept was significant at
the 9 percent level and showed a substantial differential
in the function for the minidevaluation period. Changes
in the real exchange rate adjusted for tariffs, and so
forth, were not significant before 1968--the coefficient

of log X was low and had the incorrect theoretical sign.

3
But a substantial change occurred during the period of
minidevaluations. The coefficient of D log X3 was -4.14,
had the correct sign, and was significant at the 10 per-
cent level. One must be cautious, however, in interpreting
the dummy variable. It represents, indeed, the period of
minidevaluations, but this period almost coincided with

the one during which lower and less prohibitive taxes

came into effect. Therefore, the only possible conclusion
is that a shift has taken place in the basic import func-

tion since 1968. Whether or not the minidevaluations

contributed to it cannot yet be affirmed.

166

The Inclusion of the Capacity to
Import as an Independent Variable

Model 01) regressed for periods A and B7 gave the

following results:
A. 10 Observations, from 1959 to 1968:

log X1 = 7.130 + .1399 .log X - .1920 log X

2 3
(8.9896) (-1.531)
( .024 ) ( .177)
+ .1118 16g x4 (2a)
(.5844)
F = 5:455 Significance .038
R2 = .7317 82 = .5976
D.W. = 1.69, no autoregression.
SSEa = .0110

B. 13 Observations, from 1959 to 1971:

 

lob X1 = 3.4286 + .1503 log X2 - .1343 10g X3
(2.7911) (-.9408)
( .021 ) ( .371 )
+ .4924 log X4 (2b)
(5.248)
( .001)
7

Note that periods A and B have a smaller number of
observations in this case compared to the regressions with
Model (I). Another difference is that here the values of
X1, X2, and X4 were in constant dollar figures instead of

constant cruzeiros.

 

167
F = 27.9924 Significance <0.0005
R2 = .903 82 = .8707
D.W. = 2.06, no autoregression.
SSEb = .0223

The equation gained substantially in significance
and in goodness of fit when the three additional observa-
tions were added. Imports in both periods A and B had a
low but highly significant elasticitycoefficient with
respect to GDP (X2). The elasticity coefficient with
respect to the real exchange rate adjusted for tariffs,
and so forth, (X3), was not significant in A and even less
so in B, where it presented a lower value. The elasticity
coefficient with respect to the capacity to import was
only significant when the period 1969-1971 was added to
the first ten observations. Its value increased from .11
to .49. Imports also were inelastic with respect to the
capacity to import. In the case of Equations (2a) and
(2b) the application of the Chow or Fisher test did not
indicate that a structural shift took place in the para-

meters after 1968:

 

 

F = (SSEb ’ SSEa)/m = (.0223 - .0110)/3
sssa/n - E’ ‘76110/10 - 4
F = 2.05 < F3’6'.05 = 4.76

Care, however, must be used in interpreting the

results of Equations (2a) and (2b). ‘The estimated

168

coefficients, especially that of log X3, might be unreliable
due to the fact that several components of the capacity to
import are dependent upon the level of the real exchange
rate and also were affected, in different degrees, by the
policy of minidevaluations.8 This is particularly true of
exports, as examined in previous chapters, and of capital
inflows and services, as will be seen below (see Table F-7

in Appendix F).

Dummy Variable Used Again

 

In an attempt to isolate the effect of the mini-
devaluations and the effect of changes in the real exchange
rate adjusted for tariffs, and so forth, on changes in
imports, a dummy variable was introduced to allow both for
a differential intercept and for a differential coefficient
of log X3. The dummy takes again the values of zero from
1954 to 1967, of .034 in 1968, and of one from 1969 to 1971.

The result for 13 observations from 1959 to 1971 was:

log X1 = 7.228 + 12.7332 D + .1317 log X2 - .0260 log X3
(6.986) (2.7685) (-.1948)
( .111) ( .028 ) ( .851 )
- 5.5091 D log X3 + .0645 log X4
(-l.806) (.2960)
( .114) (.776 ) (III)

 

8This is a problem caused by a certain degree of
multicollinearity. See Kmenta, Elements of Econometrics,
p. 389.

169

F = 23.2036 Significance <0.0005
R2 = .9431 '82 = .9025
D.W. = 1.63, no autoregression.

Equation (III) was highly significant and its
goodness of fit was the best among all equations used to
test the behavior of imports. In this formulation the
coefficient of log X2 changes in GDP) was again low, but
significant at the 2 percent level. The coefficient of
log X4 (changes in import capacity) became very low and
insignificant. A significant differential at the 11 percent
level occurred both with the intercept and with the elas-
ticity coefficient of the real exchange rate adjusted for
tarrifs, and so forth. Indeed, log X3, which did not have
a coefficient significantly different from zero prior to
the minidevaluations, showed a highly elastic coefficient
of -5.5 for the period after 1968. The fact that the
capacity to import is dependent upon the real exchange
rate might make these coefficients unreliable. But there
is no doubt that there has been an important shift in
import behavior since 1968. It is difficult to conclude
whether its main cause was the lowering of tariffs to less
prohibitive levels of whether minidevaluations also con-
tributed to it, or both.

However, if the effective, rather than the nominal,
protection is considered, one might reach different con-

clusions. The effective rate of protection is the

170

percentage increase in domestic value added made possible
by the tariff structure compared to a situation under free
trade. Joel Bergsman's calculations, as shown in Table
VI-3, indicates that although product protection since
January 1969 has been much lower than before March 1967,
the current levels of effective protection are not so much
lower. Especially for manufactured goods, which consti-
tuted more than two—thirds of Brazilian imports in the past
five years, effective protection since January 1969 has
been only a few points below the pre-March 1967 level.
Therefore, the lower nominal tariffs on the post-January
1969 period may have had only a minor impact on their
"prohibitive" character.9 Accordingly, the shift in the
Brazilian import function that occurred after 1968 must also

be attributed to the minidevaluations.

Conclusion

 

The regression analysis showed that a significant
shift in the parameters of the Brazilian import function
took place with the advent of the minidevaluation policy.
Imports became more responsive to income change and,

especially, to changes in the real exchange rate adjusted

 

9It must be noted, however, that consumer demand
is affected by nominal rather than by effective protection.
Thus the change in the "prohibitive" character of the
tariffs might have been quite relevant as the product
protection for all goods changed from .46 before March
1967 to 0.22 after January 1969 (see Table VI—3).

171

for dollar inflation, tariffs, auction fees, and other
trade barriers. This shift in the parameters of the
import function had two direct causes: the lowering of
the import tariffs and the policy minidevaluations.

The first made some imports nonprohibitive and therefore
more responsive to income and relative price changes.
The second diminished the exchange rask caused by wide
and unpredictable changes in the official exchange rate,
and, because of this, also contributed to making imports
more responsive to relative price changes. It was not
possible, statistically, to distinguish the weight of

these two causes.

172

 

 

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CHAPTER VII

EFFECTS OF THE SYSTEM OF MINIDEVALUATIONS
ON SERVICES, CAPITAL MOVEMENTS, AND

FOREIGN INDEBTEDNESS

This chapter will examine the nature of
capital movements and the foreign indebtedness position
of Brazil in recent years. It will attempt to identify
the influence of the system of frequent small exchange
rate adjustments on those items. To complete the
analysis of the country's foreign sector, it also will
briefly describe the major trends that have characterized
the behavior of services in the past 25 years, especially

during the period of minidevaluations.

Effects of Minidevaluations on Capital Movements
The policy of minidevaluations has had two major
impacts on capital movements. First, it has substantially
diminished destabilizing short-term capital movements
which previously had been harmful to the value of the

cruzeiro. Second, along with other measures, it has

174

175

constituted a necessary condition for an open economy and

for the exceptional recent influx of foreign capital.1

Under the old system of occasional large devalua-
tions at fairly long intervals, huge financial speculative
movements were made whenever a sharp change was expected
in the foreign exchange rate. With running inflation, the
longer the interval between devaluations, the greater would
be the problem around the time of expected devaluation.
Financiers, and people in general, anticipating the change

would convert overvalued cruzeiros into foreign currencies.

They would wait out the devaluation and then buy back the
cruzeiros at the new rate, thus realizing a windfall gain
in the amount of the devaluation. Just after a large
devaluation people could be reasonably assured that no other
change in the pegged exchange rate would occur, in, say,
the next six months. They could then buy bills of exchange
and gain the nominal interest prevailing in Brazil (20
percent per semester was common during 1960-1967). When
people expected a new devaluation they again could convert
their money into foreign currencies. This speculation-
devaluation cycle led to periodic intense pressures on

the credit market. Funds which normally would serve to
finance productive activities would be temporarily diverted

to buy foreign currencies.

 

1This section profited from the analyses of Lira,
"Cruzeiro, O Preco Exato da Moeda"; Tyler, "Exchange Rate
Flexibility"; Donges, Brazil's Tropting Peg; and Bracher,
"Sistema Cambial de Taxa Flexivel."

 

176

Several types of exchange controls were imposed
from time to time to prevent such speculative operations.
The pressure continued to exist, however, as evidenced by
the large differential between the official and black
market value of the exchange rate which prevailed through-
out the sixties until the beginning of the minidevaluations
in August 1968. The differential varied from 15-20 percent
from 1960 to 1968, to 60 to 100 percent in 1963 and 1964.
Although no published data on black market rates during
the period of minidevaluationsane available, interviews
disclosed that these rates, in general, have varied less
than 10 percent from the official rate since August 1968.

The new exchange rate procedure, coupled with the
interest rate policy pursued by the government, has made
the purchase of foreign exchange for the sole purpose of
gaining from devaluation unprofitable. The monetary
authorities have been careful to keep the average rate of
devaluation below the differential between internal and
foreign interest rates. This differential has been about
two percentage points per month and the rate of devaluation
slightly over one percent per month. Since the internal
rate of interest has exceeded the external level by more

than the devaluation rate, there has been no incentive for

_

2See Conjuntura Econ6mica, 26 (November 1972),
supplement, p. 34. The series of data on the black market
rates is not complete, and it does not cover the period
of minidevaluations.

177

Brazilians to invest abroad. The risk element involved in
the adjustment interval, which has varied from 14 to 80
days, has made short-run speculative operations even less
desirable.

Table VII-1 shows that the differential annual
yields between some selected domestic and foreign securi-
ties has, in general, been greater than the annual cruzeiro
devaluation during the period of minidevaluations. This
has been true for the differential return between a
Brazilian bill of exchange--an almost riskless security--
and the London Euro-Dollar interest rate.

Unfortunately, no dataane available on a monthly
basis to evaluate the effects of the minidevaluation
policy on short-run speculative flows. The annual reports
of the Banco Central do Brazil have stated, however, that
speculative short-run movements against the cruzeiro have
substantially diminished since August 1968. On the other
hand, the minidevaluations, along with other important
economic and political measures, have created the condi-
tions for an exceptional influx of capital into Brazil in
the past five years.

Factors Which Have Influenced the
Influx of Capital

 

An examination of the several financial reforms
and political and economic events which have affected the

net movement of capital into Brazil is necessary in order

178

TABLE VII-1.--Differential Yields on Internal and External

Securities Compared to Devaluation Rates.

 

Annual Percentage Rates

 

 

1968 1969 1970 1971 1972
Adjustable Brazilianl
Treasury Bill (ORTN)143.3 22.8 24.0 27.1 23.7
Bill of Exchange2
(letra de cambio) 31.8 30.3 30.5 30.3 29.2
Us Treasury Bill3 5.3 6.7 6.4 4.3 3.7
Euro Dollar London
Interest Rate4 6.4 9.8 8.5 6.6 5.2
ORTN minus US Treasury
Bill 38.0 16.1 17.6 22.8 20.0
ORTN minus Euro Dollar
Rate 36.9 13.0 15.5 20.5 18.5
Bill of Exchange minus
US Treasury Bill 26.5 20.5 24.1 26.0 25.5
Bill of Exchange minus
Euro Dollar Rate 25.4 20.5 22.0 23.7 24.0
Cruzeiro Devaluations 40.9 13.7 13.8 13.8 10.4

 

Source:

1

j ORTN carry a lZ-month maturity.
from December to December.

2

Boletim, Banco Central do Brasil,
F1nanc1al Statistics, IMF.‘

and International

Return shown is

Bill of Exchange of 6-month maturity,
yearly rams After 1971 maturity considered is 360 days.

taken in a

Average tender rate for 3-month U.S. Treasury Bill.

4Average of daily quotations for 3-month deposits.

Cruzeiro devaluation from December of the previous

year to December of the stated year.
is due to two large devaluations decreed in January and

The high rate for 1968

August of that year, just before the beginning of the mini-

devaluations.

179

to properly evaluate the specific influence of the mini-
devaluation policy.

First, important changes have occurred in the
interest rate policy and capital markets. Real interest
rates, due to legal restrictions, had become increasingly
negative from 1960 to 1964 as the rate of inflation
accelerated. Beginning in 1965 monetary correction to
adjust for price changes was instituted and was extended
to main financial instruments as part of the gradual
approach to curb inflation. As a result, real interest

rates became increasingly positive after 1966.3

Second, numerous measures were undertaken to
bolster the development of the Brazilian stock market.
Income tax deduction for stock purposes, the exemption
of capital gains from taxation, the participation of the
government in various ways, and the resurgence of Brazil's
economic growth resulted in an unprecedented stock market
boom from 1967 to 1971. The BV index of price for stocks
listed on the Rio de Janeiro exchange increased by over 16
times from December 1967 to December 1971. The increase
was exceptionally accelerated in the first semester of

1971, during which the index rose by 212 percent.

 

3See Leif Christoffersen, "Taxas de Juro e a
Estrutura de um Sistema de Bancos Comerciais em Condicdes
Inflacionérias," Revista Brasileira de Economia, 23
(June 1969); and Tyler,fiExchange Rate Flexibility."

180

Third, the monetary authorities have promulgated
several regulations to provide mechanisms to channel
short-term and medium-term foreign credit to Brazilian
firms through the commercial banking system.4 Both
national and foreign firms have increasingly acquired
short- and medium-term loans abroad. Foreign firms have
taken the lead in this practice, and many of the loans
have been from parent company to subsidiary. As a result
of some administrative regulations and of the favorable
foreign investment climate, many foreign subsidiaries have
brought money into Brazil as loans rather than having it
registered as foreign investment.

Fourth, the political regime since 31 March 1964
has played a major role in providing the most favorable
climate for foreign investment. The importance of this
factor is particularly notable when it is realized that
few countries in Latin America, Africa, and Asia have
had stable political and economic conditions in recent
years. This, of course, has limited the opportunities for

profitable investments by those who have surplus capital

 

4The main regulations are: (1) Resolution 63 of
the Central Bank (August 1967) for loans granted for a
term determined at the time of application (12 to 36
months); (2) Law 1431, which provides financing for a
minimum of six months with no established maximum term,
but which is dependent upon Central Bank approval; and
(3) SUMOC Instruction 289, which allowed loans for
periods of 180 to 360 days and which could be extended
under Law 1431 at the discretion of the Central Bank.
Instruction 289 was revoked in October 1972.

181

available in the developed countries. Brazil, since 1964,
has been ruled by officers of the armed forces, who with
the help of skilled civilian technicians, have been
attempting to promote the fastest possible development
under a mixed capitalist system. Political democracy has
been kept at a very low level, and dissent has been firmly
repressed. The government, with firm control of the
media, has been successful in maintaining a tranquil
business environment, which, coupled with the formidable
economic opportunities in Brazil, has attracted foreign
investors.

Finally, the minidevaluation policy has substan-
tially diminished the exchange rate risk for those involved
in international financial operations. The initiation and
expansion of large investment projects by foreign companies
have become less dependent on changes in the level of the
exchange rate. Also, there has been less risk of being
suddenly subject to strict foreign exchange controls as
a result of worsening disequilibrium in the balance of
payments, a common situation in the early sixties.

These factors have resulted in an exceptional upsurge
of capital flow into Brazil, as shown in Table VII-2.

Since 1968 the total influx has been increasing at a
compounded rate of more than 38 percent per year. Esti-
mates for 1972 show that the influx in that year was

twice that of 1971 and more than seven times that of 1967.

182

Direct private investment from abroad increased at a
compounded rate of over 20 percent from 1968 to 1972. The
sum of direct investments in the period 1968-1972 was
two-and-a-half times greater than that of the period 1963-
1967. The most dramatic rise, however, has been in loans
and financing. From 1968 to 1971 about 25 percent of
these funds came from the Interamerican Development Bank,
USAID, World Bank, Eximbank, and International Financial
Corporation, organizations which, since 1964, have been
particularly supportive of the Brazilian development

effort.5

The remaining 75 percent of loans and financing,
a proportion that has been increasing in recent years, is
from private operations. Unfortunately, capital influx
data are not available in any greater detail than that
presented in Table VII-2.
Analyzing Capital Flows: Tyler's
Linear Regre551on Equat1on

To analyze the determinants of capital influx into
the Brazilian balance of payments William G. Tyler has
estimated the following linear regression equation:6

F - 334.19 + 9.50 i + 553.11 D
(1.83) (4.23) (t values)

R2 = .90 D.W. = 2.06,

 

SSee Relatdrios 1970 and 1971 (Rio de Janeiro:
Banco Central do Brasil).

6Tyler, "Exchange Rate Flexibility," p. 32.

183

 

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0000 0000 000 000 000 00 000 00 000 00 6666066
000 000 - 000 - 000 - 000 0 A00x0000 0620
0600666 066uo-.000
00 000 00 000 06660 A0
000 - 000 - 000 - 000 - 000 - 000 - 000 - 000 - 000 - 060666600 666
mcmoa 00:00 mo
00 - 00 - 00 - 000 - 000 - 000 - 00 - 00 - 000 - 66660
wuouMmammEoo mo
0000- 000 - 000 - 000 - 000 - 000 - 000 - 000 - 000 - 000 - 6660060000666 00
00 - 00 - 00 - - - - - - - 60666666>60 10
0000- 000 - 000 - 000 - 000 - 000 - 000 - 000 - 000 - 000 - 63600660-.00
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000 000 000 000 000 000 00 000 000 666660606 60
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000 000 000 00 00 00 00 00 00 06660066 60
0 0 0 0 0 00 0 0 00 6666660606 60
000 000 000 000 00 00 00 00 00 00 60666666>60 00
0000 0000 0000 0000 000 000 000 000 000 000 6360060-.0
10660
0000 0000 0000 0000 0000 0000 0000 0000 0000 0000

 

.66600006 000 .0000-0000 606666>oz 0660666 6666666066-.0-00> 6066a

184

where F represents private medium- and long-term capital
influx, 1 equals the real rate of interest paid to holders
of bills of exchange (commercial paper) and D represents
a dummy variable for the minidevaluation policy. Tyler
utilized annual data from 1964 to 1970. The expected
signs were found, with D statistically significant at the
1 percent level and i at a little over the 10 percent
level. The significance of D, however, cannot be attri-
buted solely to the minidevaluation policy. The other
factors mentioned above, such as the nature of the politi-
cal regime and the numerous financial reforms which have
rationalized Brazilian money markets, also have played
their part. These cannot be distinguished in the regres-
sion analysis, however.

Regression Analysis of Direct
Foreign Investments

The flow of direct foreign investments may be
separated from that of loans and financing for the purpose
of analysis. The major determinants of direct private
investment are the expected rate of profit and the risk
associated with it. A good proxy for profit opportunities
available to foreign investors is the rate of growth of
the economy. A major component of risk is that related to
fluctuations in the level of the foreign exchange rate.

To analyze the determinants of direct foreign investments
in Brazil the following ordinary least-squares regression

was estimated for 10 annual observations from 1963 to 1972:

185

I = 76.799 + 5.240 9t - 10.198 f

(1.921) (-2.107) t (t values)

( .096) ( .073) (significance)
R2 = .825 fi2 = .774
F = 16.449 Significance .002,
D.W. = 2.11, no autoregression,

where I represents constant dollar value of direct foreign
investments in Brazil, yt equals the real rate of growth
of the country's gross domestic product, and ft the
annual average of the monthly percentage variation (with
no signs) in the real official exchange rate. The lower
the level of ft’ the lower the level of fluctuations (and
of exchange risk) in the real exchange rate (see discus-
sion of this variable in Appendix E). Table G-l in
Appendix G shows the data used in estimating the above
regression. It can be seen that the value of ft is much
lower after 1968, during the minidevaluations, than
before. The regression shows high overall significance
and a good fit. The coefficients of both 9t and ft show
the expected signs. That of 9t is statistically signi-
ficant at the 10 percent level and that of ft at the 7
percent level.' Therefore, this result indicates that the
minidevaluations, by diminishing the exchange rate risk
associated with the returns to foreign investors, had a
positive influence on direct foreign investments.) Other
factors which affect the expectations of foreign investors,

such as political events, were not taken into account. The

portfolio approach in the next section will consider them.

 

186

Analyzipg Capital Flows:
The Portfolio Approach

 

The portfolio approach to analyzing short-term
capital movements also can provide insights to the recent
upsurge of foreign capital in Brazil. The portfolio theory
views each financier as holding a portfolio of financial
assets, the composition of which is designed to maximize
his return subject to minimum risk. A major determinant
of the portfolio distribution between domestic and foreign
assets is the constellation of interest rates prevailing
in the domestic and foreign money markets. In the case of
an English investor, for example, the composition of his

portfolio can be represented by

<‘.l<
rf nr6

= 9 (ii, iii. st). (1)

where Vi is the fraction of net worth, Vt'

foreign securities, 1: the foreign interest rate, i:

the domestic rate, and st includes variables such as

evaluation of risk and exchange rate expectations.

held in

The equilibrium holdings of foreign assets can be

represented by

f_ .f .d
Vt — Vt g (1t, it, St)' (2)

For the English investor considering Brazilian

securities, the policy of minidevaluations coupled with the

187

stability of the Brazilian government would represent an
important favorable change in the variable 5, which can

be represented by
.61!— V0 9.3 (3)

The decrease in risk would encourage the financier to
include more Brazilian securities in his portfolio.

Similarly, a variation in the interest rate can be

represented by7

91:83fo (4)

An increase in the return on Brazilian securities
would cause the financier to include more of them in his
portfolio. These stock shift effects are one-time
changes in portfolio distribution. As the portfolio
grows over time, the higher return on the foreign
(Brazilian) asset should raise the fraction of portfolio
growth that contributes to accumulation of foreign assets.
With a given vector of interest rates, the growth in

foreign (Brazilian) assets is given by

 

7See T. H. Branson and T. D. Willet, "Policy

Toward Short-Term Capital Movements, Some Implications
of the Portfolio Approach," paper presented at the Confer-
ence on International Mobility and Movement of Capital
sponsored by The National Bureau of Economic Research,
January, 1970; Kreinin, International Economics, pp. 75-76.

EE‘ = 0 = vg (i , i . s). (5)

An increase in the foreign interest rate (or a

decrease in the exchange rate risk) will increase vf, the

equilibrium flow into foreign assets, by

917?: 6231f, 0-
di 81

This is a continuing flow effect. The very general
model of portfolio distribution given by Eq. (1) implies
a fairly rigid relationship between the continuing flow
and stock shift effects. Dividing Eq. (6) by Eq. (4),
one obtains:

de/di v

Flow effect _
Stock effect _

t

dVE/di Vt

 

The ratio of the flow effect to the stock effect
is equal to the rate of growth of the "scale variable."
Thus, if the portfolio is growing at, say, 10 percent per
year, then an increase in the foreign rate of 1 percent
would cause a stock shift of, say, $500 thousand, and the
effect on the continuing annual outflow initially would
be $50 million per year. This effect itself also would

grow at a 10 percent annual rate.

189

The portfolio approach indicates that the flow
effect is small relative to the stock shift effect. It
is changing interest rates that produce large continuing
flows in the balance of payments; high rates primarily
affect reserves. In the light of this theory, how could
one explain the continuous capital upsurge into Brazil,
especially since 1968? Table VII-3 shows the differential
between the real return on two selected securities, the
Brazilian bill of exchange, an almost riskless commercial
paper, and the London Euro-Dollar three-month deposits.
This differential has been continuously increasing since
1968. Therefore, according to the portfolio theory, this
increase should result in both stock shift and flow
effects, which then would produce a substantial capital
influx into Brazil. Another good proxy to indicate the
rentability of investments in Brazil is the rate of
growth of the economy. This rate also has increased sub-
stantially and almost continuously since 1968. It
constitutes a sign that Brazilian assets have become
increasingly interesting to foreigners in recent years.

Unfortunately, the flow and stock effects cannot
be separated empirically. The portfolio theory also does
not say much about lags in the response of investors to
changes in expected returns of different assets. In
addition, the analysis of capital flows should take into

account political events, such as coup-d'états, elections,

 

190

 

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191

nationalizations, revolutionary movements, regression, and
so forth, to which they are sensitive. Thinking in terms
of Eq. (1) above, these qualitative events can be
represented by changes in the variable 5, which denotes
evaluation of risk.

The annual growth in the flow of direct private
investment and in loans and financing into Brazil may be
compared to the differential between the real return on a
Brazilian bill of exchange and on a Euro-Dollar deposit
and also with the rate of growth of Brazil's GDP. (See
Table.VII-4.) The low rates of growth (proxy for invest-
ment rentability) and the highly unstable political
situation during 1963 and 1964 had a substantial negative
impact on both direct investment and loans and financing
flows. The military take-over and the government's policy
favoring foreign investment caused important "stock" and
"flow" effects on capital influx. Direct private invest-
ment, especially, increased 150 percent in 1965. The
period 1966-1968 presented moderate growth. In August
1968 the initiation of the minidevaluation policy repre-
sented an important step in diminishing the risk involved
in the fluctuations of the exchange rate. The year 1968
was also the beginning of a long period of high growth for
the Brazilian economy. As a result, 1969 presented a 72
percent increase in a direct private investment and a 90
percent increase in loans and financing funds, an indication
that substantial positive "stock" and "flow" effects

occurred in that year. Since 1969 the return differential

 

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193

between a Brazilian security and a Euro-Dollar deposit has
grown continuously, and this has resulted in a continuous
rise in loans and financing. The increasing high rates
of growth in loans and financing from 1970 to 1972 again
indicate the concomitant "stock" and "flow" effects.

Direct private investments decreased a small 7.9
percent in 1970. This can be attributed to the uncertainty
created by the following events: the incapacitation of

President Costa e Silva in August 1969; the election of

General Emilio Garrastazu Médici--until then not generally
known by the people--by the Congress after his selection
by the high command of the armed forces in October 1969;
and the appearance, heretofore very unusual in Brazil, of
a leftist terrorist movement which, in its most daring
act, kidnapped the U. S. Ambassador to Brazil in September
1969. By the end of 1970 the new government was proving
itself administratively successful, efficient in curbing
both terrorism and other forms of political dissent, and
very friendly to foreign investors. The economy was show-
ing increasing rates of growth. As a result, the flow of
direct private investment increased by 14.1 percent in
1971 and by 37 percent in 1972. Although many factors
contributed to the exceptional increase in capital influx
into Brazil after 1968, it seems clear that the minidevalua-

tion policy was a key, and probably a necessary, factor.

On the side of outflows (see Table VII-2), the

increase in the amortizations of loans and financing, which

194

have occurred with a lag in relation to the respective
inflows, is to be expected. The net inflow-outflow balance
has shown an accelerated growth since 1968. The large
surplus in the capital account has financed the balance
in the current account and also has resulted in an
unprecedented increase in foreign indebtedness and accumu-
lation of foreign exchange reserves.

In fact, this increasing net influx of capital
may have tempted the authorities to diminish the rate of
exchange depreciation. A decline in the real exchange

rate, ceteris paribus, tends to make local currency, short-

 

term debt instruments still more attractive to foreigners,
thus increasing the short-term capital influx. As noted
in Chapter II, the real exchange rate adjusted for

8 The

dollar inflation has declined a little since 1968.
following example serves to explain why rates of devalua-
tion smaller than the difference between the domestic and
external inflation rates might make local debt instruments
more attractive to foreigners.

Suppose the exchange rate at the beginning of the
year is Cr$l.00 = US$1.00. In addition, suppose that:

(l) the nominal interest rate paid on a riskless Brazilian

Treasury Bill in Brazil is 25 percent per year, whereas it

 

8This decline is based on a comparison of either
the wholesale price index for all commodities or the
consumer (cost of living) price index in both Brazil and
the United States. There is no decline when the whole-
sale industrial price index in Brazil is considered. For
capital flows, however, the price index for all goods,
not simply for industrial goods, is more relevant.

195

is 8 percent on a riskless U.S. Treasury Bill; (2) the
annual rate of inflation in Brazil is 18 percent, in the
United States, 3 percent; (3) the Brazilian authorities
devalue the cruzeiro several times during the year by a
total of 13 percent, that is, 2 points less than the
difference (15 percent) between inflation rates in the two
countries; (4) there is no fee for exchange rate transac-
tions or income tax on returns in both countries; and (5)
the U.S. authorities do not change the official par value
of the dollar. Assume now that a U.S. resident invests
US$lO0.00 in Brazilian Treasury Bills and the same in U.S.
Treasury Bills at the beginning of the year. At the end
of the year his Brazilian Treasury Bill will be worth
US$110.62 (CR$125.00 divided by CR$l.l3), whereas his U.S.
Treasury Bill will be worth US$108.00, both in nominal
dollar terms.9 Therefore, the investment in the Brazilian
security is more attractive, and conditions for a substan-
tial net capital influx into Brazil, other things being
equal, are created. Had the total annual devaluation of
the cruzeiro been 15 percent, the Brazilian Treasury Bill
would be worth US$108.70 fCR$125 divided by CR$l.lS), and
the return differential would be negligible.

The advantage given to the foreign investor in the
former case is really not so secure because he does not

know whether the government will continue to devalue the

 

91n terms of constant dollar value (considering

the 3 percent annual rate of inflation in the United States)
at the end of the year the Brazilian Treasury Bill will be
worth US$107.40 and the U.S. Treasury Bill US$104.85.

196

cruzeiro by less than the differential in inflation rates
during the next year. The expectation of foreign investors,
however, following the second year of experience with the
minidevaluations, has been that the monetary authorities
have tended to devalue the currency by little less than
the difference in inflation between the Brazilian and
U.S. general (for all commodities) price indexes. As a
result, they may have been expecting the advantage provided
by the system in loan operations, which might by an
additional reason for the increase in the net influx of
capital into Brazil since 1968.

The Effects of Minidevaluations on Foreign

Indebtedness and Accumulation of
Foreign Reserves

 

Since the initiation of the minidevaluations,
important changes have occurred in foreign indebtedness
and in the accumulation of foreign exchange reserves as
a result of trade performance and of the movements in
capital flows. As shown in Table VII-5, the external debt
of Brazil, which had oscillated between US$3.0 billion
and US$3.7 billion from 1960 to 1967, increased dramati-
cally after 1968 and attained the level of US$lO.2 billion
in December 1972. Concomitantly, the foreign exchange
reserves which were at the very low level of about US$200
million in 1967, rose by an even larger rate, to US$3,952.6,
in December 1972. The concept of net foreign indebtedness

is obtained by subtracting foreign reserves from external

197

TABLE VII-5.--Brazi1's Foreign Indebtedness and Foreign
Reserves on December 31, 1960-1972.

 

 

 

 

 

 

External Debt Reserves Indebizgness

(l) (2) (3) = (l - 2)
Year Value Index Value Index Value Index
1960 3,071.0 100.0 345.0 100.0 2,726.0 100.0
1961 3,080.0 100.3 470.0 136.2 2,610.0 95.7
1962 3,183.1 103.7 285.0 82.6 2,898.1 106.3
1963 3,185.5 103.7 219.0 63.5 2,966.5 108.8
1964 3,101.1 101.0 245.0 71.0 2,856.1 104.8
1965 3,478.4 113.3 484.0 140.3 2,994.4 109.8
1966 3,702.4 120.6 425.0 123.2 3,277.4 120.2
1967 3,372.0 109.8 199.0 57.7 3,173.0 116.4
1968 3,917.0 127.5 257.0 74.5 3,660.0 134.3
1969 4,403.3 143.4 657.0 190.4 3,746.3 137.4
1970 5,295.2 172.4 1,187.0 344.1 4,108.2 150.7
1971 6,621.6 215.6 1,642.0 476.0 4,979.6 182.7
1972 1,170.0 331.2 3,952.6 1,145.7 6,217.4 228.1
Source: Conjuntura Economica, 26 (April 1972) and

 

27 (March

1973).

 

 

198

debt. Column (3) of Table VII-6 indicates that Brazil's
net foreign indebtedness has almost doubled during the
period of minidevaluations, from US$3.2 billion at the end
of 1967 to US$6.2 billion at the end of 1972.

Increases in both foreign indebtedness and foreign
exchange reserves have been the result of deliberate
government policy aimed at two objectives:10 First there
was a desire to increase the absorption of foreign savings
to supplement the domestic saving effort. This would
permit higher rates of investment and, consequently,
economic growth. Second, the government wishes to direct
the growth in foreign indebtedness, which results from
the pursuit of the first objective toward medium- and
long-term feasibility. Whereas the net influx of capital
has financed the deficit in the balance of goods and
services, the accumulation of foreign exchange reserves
- has bolstered foreign investors' confidence in the capacity
of the Brazilian economy to meet its obligations and has
become a reserve to be used in any short-run crisis that
might eventually affect the foreign exchange earnings of
the country.

The minidevaluations have facilitated the

implementation of the foreign indebtedness policy.

 

10Stated by the Director of Exchange of Banco

Central do Brasil, Paulo H. Pereira Lira, in "Politica de
Endividamento Externo" (unpublished conference paper
delivered to the Superior War College, July 1972), and
also discussed by him in an interview with this author in
August 1972.

199

They have established the conditions for reasonable econ-
omic calculations in foreign exchange operations, with the
result that these operations have been normalized. Using
computer simulation methods, monetary authorities have
been able to forecast with reasonable accuracy Brazil's
future foreign indebtedness behavior, its payment obliga-
tions, and its capacity to pay. The authorities have been
closely following the level and term structure of foreign
indebtedness, and they have taken the necessary steps to
prevent undesirable developments. Since 1969 they have
improved the information system. All foreign exchange
operations, with specified payment terms, have been
required to be registered at the Central Bank. Indirect
type of controls, that is, controls which do not interfere
with individual contracting parties, have limited the
volume of short-term borrowing to levels considered safe
by the authorities.

Table VII-6 shows that, despite a substantial
increase, net foreign indebtedness averaged only 1.6 times
the value of merchandise exports from 1969 to 1972,11
compared to an average of 1.9 from 1965 to 1968 and 2.1 from
1960 to 1964. The term structure of foreign indebtedness
also has had a salutary change. Short-term (up to one

year) borrowing as a proportion of total debt declined

 

11This means that the level of net foreign indebt-
edness (foreign indebtedness less foreign exchange
reserves) could be paid by the foreign exchange earnings
generated by the exports of approximately one year and
seven months.

200

TABLE VII-6.--Brazil's Net Indebtedness and Exports,
1960-1972, US$ millions.

 

Net Indebtedness Exports of Merchandise
(1) (2)

 

 

 

 

Year Value Index Value Index 1/2
1960 2,726.0 100.0 1,270.0 100.0 2.1
1961 2,610.0 95.7 1,405.0 110.6 1.9
1962 2,898.1 106.3 1,215.0 95.7 2.4
1963 2,966.5 108.8 1,406.0 110.7 2.1
1964 2.856.1 104.8 1,430.0 112.6 2.0
1965 2,994.4 109.8 1,595.5 125.6 1.9
1966 3,277.4 120.2 1,741.4 137.1 1.9
1967 3,173.0 116.4 1,654.0 130.2 1.9
1968 3,660.0 134.3 1,881.3 148.1 1.9
1969 3,746.3 137.4 2,311.2 182.0 1.6
1970 4,108.2 150.7 2,738.9 215.7 1.5
1971 4,976.6 182.7 2,903.6 228.7 1.7
1972 6,217.4 228.1 3,990.0 314.2 1.6
Source: Conjuntura Economica, 26 (April 1972): and

 

77*(March

1973).

201

from 1969 to 1970, whereas medium- and long-term debt
increased. Table VII-7 indicates that this trend was
slightly reversed in 1971.

During 1972 there was a relatively large surplus
of disposable funds in the main world money markets; in
addition, Brazil's political and economic outlook was
considered excellent by foreign investors, especially in
relation to other areas in Latin America, Africa, or
Asia. This situation was reflected in the so-called

"Brazil risk rate,‘ the additional rate over the London
interbank offering rate, LIBO, which is normally charged
by foreign investors. During 1969-1971, the Brazil risk
rate was 2.5 to 3.5 percent per year over the LIBO rate
(which ranged from 5 to 6 percent per year) for three-
year loans; during 1972 it decreased to 1.5 percent over

the LIBO rate for five-year loans.12

As a result, the
foreign indebtedness of Brazil accelerated. In October 1972
the government decided to require that borrowers deposit

25 percent of the value of their foreign loans with the
Central Bank. This made foreign loans more expensive to
borrowers, but the net capital influx continued at a high
level afterward. The authorities might have used an

alternative desincentive for the foreign suppliers of

funds: devaluation of the Brazilian currency by slightly

 

12From interviews by the author with Paulo H.
Pereira Lira, Director, Banco Central do Brasil; Fernao
C. Botelho Bracher, Director, Banco da Bahia; and Roberto
C. de Barros Barreto, Director, Banco de Investimentos
do Brasil, August 1972.

 

 

 

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203

higher rates or by the full differential between internal
and external inflation. The influx of capital as well as
imports probably would have diminished, whereas exports
probably would have increased. Import tariffs could have
been reduced if the government wanted to maintain the same

level of imports that would occur at lower exchange rates.

The Behavior of Services
As shown in Figures VII-1, VII-2, and VII-3, from
1947 to 1972 the Brazilian balance on service items always

has shown a deficit. This has been due to many reasons.

First, until recently, because of the lack of an adequate
shipping industry, Brazil depended almost entirely on
foreign shippers. Second, unlike Mexico, Greece or Egypt--
which have ancient cultural heritages constituting major
tourist attraction-—Brazi1, despite its natural beauty

and surging modern civilization, has not yet been selected
as one of the world's major tourist attractions. In the
past 26 years, Brazilians have traveled abroad much more
than foreigners have traveled to Brazil. Third, as a net
borrower and as a capital-importing country, Brazil has

had a continuous deficit in its capital income account.
Fourth, interest, profits, and dividends have constituted major
service payment items. Insurance (except since 1971),
government transactions, and other services such as
management fees, technical assistance, patents and
royalties, film rentals, and underwriters, commissions,

and agents' fees complete the list of service items which

204

Figure VII-1.--Brazil's Balance of Services, 1947-1971,
Current Dollar Value.

205

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206

Figure VII-2.--Service Payments, 1947-1971, Current Dollar
Value.

 

 

207

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208

Figure VII-3.--Service Receipts, 1947-1971, Current Dollar
Value.

 

209

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210

have contributed continuously to the deficits in the
Brazilian service account.

The importance of the service account to the
Brazilian balance of payments can be illustrated by the
following observation: Although the Brazilian balance
of trade (exports minus imports in fob value) had only

five deficit years between 1947 and 1972,1’3

the balance of
goods and services presented deficits in 19 out of the 26
years of the same period. Each of the service items has
been influenced by important government measures. Only

the major changes in the service accounts during the period

under which the minidevaluations were in effect will be

noted here.

Travel

Table VII~8 shows the Brazilian balance of services
for the period 1960-1971. Since 1968 travel payments have
increased sharply and much more than travel receipts. In
1971 travel expenses were 375 percent higher, in current
dollar value, than the annual average for 1964-1967,
whereas travel receipts were 89 percent higher than the
annual average for 1964-1967. This has occurred despite
strict regulation of currency sales for travel purposes.
Since January 1968 each Brazilian who travels abroad has
been allowed to purchase a maximum of US$1,000.00 in

foreign exchange. He also has been allowed to receive a

 

131952, 1960, 1962, 1971, 1972.

211

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212

maximum of US$300.00 per month while abroad.14 This high
increase in travel expenses is due to the sharp rise in
income of people in the top income brackets over the past
five years. On the other hand, the steady increase in
travel receipts since 1968 may be attributed to the
improved tourist organization encouraged by the government
and to the huge influx of foreign capital which has meant
that many businessmen travel continuously in and out of the
country. It is difficult to fathom whether or not the
exchange rate policy of the government has had an impor-
tant effect on travel. Brazil in recent years has not
been a place for tourists to find many bargains. Indeed,
the cost of living in big cities such as Rio de Janeiro,
which receives the largest number of foreign travelers,
has been quite high compared to other large cities in the

world.

Transportation

An important development has occurred with respect
to transportation. The exceptional growth of Brazilian
exports and imports since 1968 has been accompanied by
corresponding increases in expenditures for freight.
Until the mid-sixties, almost all Brazilian exports and
imports were shipped by foreign transportation. Beginning

in 1966, but mainly since 1968, the government has been

 

14A person may apply for larger sums to the Central

Bank in case of special need, such as business representa-
tion expenses, university tuition, and so forth.

.213

fostering the development of a national shipbuilding
industry and the expansion of a national commercial fleet.
Minimum target levels of participation of the national
flag in the transportation of merchandise overseas have
been established. Furthermore, the system of minidevalua-
tions of the exchange rate has eliminated the large
exchange risk to which Brazilian shippers were exposed
under the old system of sharp and unpredicted devaluations.
Since 1968 Brazilian transport companies have been able to
make more reliable revenue budgets, which, of course, has
helped them in their investment plans.

The Brazilian government's policy has caused a
substantial expansion of transportation firms, and, as a
result, freight receipts have increased much more than
freight payments.3 In 1970 and 1971 freight receipts
were, respectively, 444 percent and 450 percent higher than
the annual average of the 1964-1967 period, whereas freight

payments were, respectively, only 47 and 68 percent higher

 

15One must note that freights of imports paid to
Brazilian shippers are not computed in the balance of
payments. This is a transaction between importers and
shippers who are residents of the same country. Therefore,
only values paid to foreign shippers are registered in the
item "freight expenses." Freight receipts are payments
made by foreign importers to Brazilian shippers. In 1971
the Brazilian flag had a 62 percent participation in the
transportation of Brazilian imports, as opposed to 57
percent in 1970 and 50 percent in 1969. The participation
in the transportation of exports was 22 percent in 1970,
as opposed to 20 percent in 1969. Relatério 1971 (Rio de
Janeiro: Banco Central do Brasil).

 

214

than the corresponding annual averages of the same base
period. This has prevented the development of an even
worse deficit in the service account in the past five

years.

Capital Income

 

The service account with the greatest net expendi-
ture is income on capital, which is subdivided into
interest, profits, and dividends. Such payments abroad had
a compounded annual growth rate of 25 percent from 1968 to
1971. This exceptional growth rate has been due to the
great influx of foreign capital into Brazil in the form of
loans and direct investments since 1968.

The substantial growth in interest payments is

partly due to the financing of equipment imports and

partly to other kinds of loans, such as those financing
working capital. In 1970 and 1971 the value of interest
payments was respectively 71 percent and 107 percent
higher than the annual average of the 1964-1967 period.
Although starting from a lower base, the proportional
growth in profits and dividends was even higher. In 1970
and 1971 the value of profits and dividends paid was,
respectively, 261 percent and 267 percent higher than the

annual average of the 1964-1967 period.

On the receipts side, capital income was negligible
until 1968. Brazil receives interest on the investment

abroad of official foreign reserves and on the import

215

financing of Brazilian merchandise. Although still rela-
tively modest interest receipts have had an impressive
growth rate. In 1970 and 1971 their value was, respec-
tively, 455 and 366 percent higher than the annual average
of the 1964-1967 period. Profits and dividends were
practically null up to 1970. In 1971, for the first time,
a small amount, US$2 million, appeared as received in this

account.

Conclusion

Many factors contributed to the expansion of ser-
vices and the influx of capital and foreign indebtedness
into Brazil since 1968. The policy of minidevaluations,
however, has played a crucial role in this development.
It has eliminated most of the exchange risk involved in
foreign exchange operations, normalized the expectations
of economic units, and helped the government in forecasting
future developments with respect to the foreign indebted-

ness and reserve position of the country.

CHAPTER VIII

THE EFFECTS OF MINIDEVALUATIONS ON

INFLATION AND ECONOMIC GROWTH

Having considered the effect of minidevaluations
on the balance of payments items, this studynow turns to
their effect on the domestic economy. The gradual stabi-
lization of prices and the acceleration of economic growth
in the past decade have been the major objectives of
economic policy common to all administrations. Econometric
models that explain price behavior and growth will be
used to test the extent to which the policy of minidevalua-
tions has affected the pursuit of those goals.

The Effects of Minidevaluations
on Inflation

 

The system of minidevaluations should have done
no harm and even may have facilitated the government's
pursuit of a gradual stabilization of prices in the
Brazilian economy. Following are four arguments in

support of this position.1

 

1For the first two arguments see Donges, Brazil's
Trotting Peg, pp. 17-19.

 

216

217

First, under the conditions of chronic inflation
such as prevailed in Brazil during the sixties, sharp
devaluations in the exchange rate tended to produce infla-
tionary shocks in the economy. Substantial rises in
import prices for raw materials, intermediate products,
and capital goods would drive costs upward. The rise in
prices of oil and wheat, two of Brazil's most important
import items, and of other food items would generate
increases in cost of living and wage demands. Extre-
preneurs would try to pass on the increased costs to
consumers. Within a sufficiently elastic monetary system,
these higher prices normally would not cause a substantial
decline in sales. Under the oligopolistic situation,
which has characterized a substantial part of Brazilian
industry these price hikes would give new impetus to the
price-wage spiral.2 The system of minidevaluations has
minimized the risk of spiraling price-wage developments.
The small devaluations have permitted smoother price
adjustments and have not caused defensive reactions on a
wide front. Most firms, whether or not directly affected
by the devaluations, also have been less inclined to use
them as a pretext for price increases.

Second, as noted in the previous chapter, with

the minidevaluations the difference between the official

 

2For a theoretical exposition of the price-wage
spiral see Eduardo Matarazzo Suplicy, "Graphic Presenta-
tion of a Macroeconomic Model; The Inflationary Spiral,"
Revista Brasileira de Economia, 24 (October-December
1970).

218

and black market exchange rates has been much smaller than
under the old system of large devaluations at relatively
long intervals. In the past when that divergence was
substantial it was expected that the official rate could
not be defended for long and that an abrupt devaluation,
followed by an inflationary push, was in the offing.

This process was a major factor affecting price expecta-
tions, but under the new system it has lost much of its
significance.

Third, the greater efficiency and productivity of
the economy permitted by the minidevaluations has been an
additional factor in the fight against inflation. The
significant expansion of the foreign sector, analyzed
previously, is evidence of this efficiency and productivity.
Further evidence will be examined in the following section
on economic growth.

Finally, the system of small and frequent adjust-
ments in the exchange rate has greatly facilitated the
control of macroeconomic developments, in particular the
administration of monetary aggregates by the government.
Since 1969, therefore, almost concomitantly with the
introduction of the minidevaluations, the monetary
authorities also have made increased use of open-market
Operations. Both instruments have played a key role in
the short-run tuning of the economy. In particular, they

have enabled the authorities to prevent undesirable rates

219

of expansion in the money supply that otherwise would
occur as a result of foreign exchange operations.3

The next section presents the results of econome-
tric tests which were performed to check whether the
system of minidevaluations has had a negative or positive
effect on the Brazilian government's fight against infla-
tion.
Models Explaining Price Behavior
and the Regressién Results

One way of obtaining information regarding the
behavior of prices is to try to explain statistically
the rate of change of prices as a function of variables
that may be considered direct or indirect causes of the
inflation. Two such variables are the rate of change of
the money supply and of wage rates. This approach was
first developed by Arnold C. Harberger to study inflation
in Chile. It later was used with some variations by
Carlos F. Diaz Alejandro and Adolfo C. Diz to study the
case of Argentina and by Antonio Delfim Netto gt_§1. to

study the case of Brazil.4

 

3Before 1968 the monetary authorities were not
always able to offset at the desired time the expansion
in the means of payments that resulted from the eventual
surplus in the balance of payments. See Mario Henrique
Simonsen, Igflacao, Gradualismo X Tratamento de Choque
(Rio: APEC, 1970), chapter 2.

4Harberger, "The Dynamics of Inflation in Chile,"
in Measurement in Economics: Studies in Mathematical
Economics and Econometrics in Memory of Yehuda Grunfeld,
ed. by Carl Christ et a1. (Stanford: Stanford Univer-
sity Press, 1963; Diaz Alejandro, Exchange Rate Devaluation,

220

Harberger's basic approach consists of a slight
departure from two traditional theories: the quantity
theory of money and the liquidity-preference theory.

Based on the first theory, the price level may be expressed
as a function of the quantity of money and the level of
real income; based on the second, the cost of holding

cash also enters as an independent variable. Taking first
differences, the rate of change of prices, pt, can be
expressed as a function of the rate of change of the
quantity of money, mt, the rate of change of real income,
9t, and, in the liquidity—preference case, the rate of
change of the expected cost of holding cash. Changes in
prices are positively related to changes in money supply
and negatively related to changes in real income. A

high expected cost of holding cash does not in itself

induce prices to rise in a particular period if people
already have adjusted their cash balances to the levels
dictated by this fact. But when the expected cost of
holding cash is rising, people try to lower their real cash
balances, thereby tending to increase the upward pressure

on prices.

 

chapter 5, and "Stop-Go Cycles and Inflation during the
Postwar Period," in Essays on the Economic History of the
Argentine Republic (New Haven and London: Yale University
Press, 1970), pp. 367-89; Adolfo C. Diz, "Money and Prices
in Argentina, 1935-1962" (Ph.D. dissertation, University
of Chicago, 1966); Antonio Delfim Netto, Alfonso Celso
Pastore, Pedro Cipollari, and Eduardo Pereira de Carvalho,
Al uns Aspectos da Inflacao Brasileira (Sao Paulo: ANPES,

l9 5).

221

To represent the rate of change in the expected
cost of holding cash, Harberger used the difference
between the rate of inflation in the past year and the
rate of inflation in the year before (at = pt_1 - pt_2).
This variable was called the expected rate of acceleration
in inflation. Harberger recognized that the variable
at was bound to be a poor representation of the rate of
change in the expected cost of holding cash. One limita-
tion, not discussed by him, is that inflationary expecta-
tions are continuously being formed by people in the
economy. The difference between the rates of inflation
in the past two years might be too remote if the current
ratecfifinflation--which is immediately recognized by the
people-—is following a very different path. Therefore, a
better measure of expectations might be given by the dif-
ference between the current and the past year's rates of
inflation'(a; - pt - pt_1). A problem with this formula-
tion, however, is that the dependent variable, pt, becomes
part of the explanatory variable. Thus, one cannot be
enthusiastic about the high significance this expectation
variable, a:, probably will show in regression results.
Its adoption as an alternative, nevertheless, might be
useful, as will be seen below.

The departure from the two basic theories involves
the consideration of further "policy" variables which also
may affect the behavior of prices. Accordingly, Harberger

allowed for the effects of minimum wage changes, a on

tl

222

the rate of inflation. Autonomous wage rises could lead
to price rises even in the absence of increases in the
quantity of money.

A neo-orthodox position would hold that if the
monetary authorities failed to allow the money
supply to increase sufficiently to 'finance' a
wage rise, unemployment would grow and activity
slacken even in the face of a rising price

level. In this sort of situation, wages would

be able to add somewhat to the explanation given
by monetary factors movements in the rate of
inflation. On the other hand, if the monetary
authorities always increased the money supply by
enough (or more than enough) to assure full
employment at the new wage level, there would be
no strong reason to expect that wages would add
significantly to a monetary explanation of infla-
tion. Even though the wage rises were an autono-
mous force producing the inflation, they would

in this case have their effects on prices by way
of monetary expansion.

Diaz Alejandro, Diz, and Delfim Netto et al. also

considered exchange rate devaluation, e as an autonomous

t'
policy variable that could add explanatory power to price
behavior. If, as a result of a rapid increase in real
national income, the demand for imports increases at a
much faster pace than exports, the authorities might feel
the need for devaluations to prevent growing deficits in
the balance of payments. The devaluations will tend to

make imports and exports more expensive, therefore adding

pressure to domestic prices.

 

5Harberger, "The Dynamics of Inflation," p. 228.

6For the analysis of the effects of exchange rate
adjustments on income and prices see Kreinin, International
Economics, chapters 4 and 5.

 

 

223

All the above variables were considered in this
study. In addition, three other policy variables were
tested following the same basic approach.

One new one was the national treasury deficit,
that is, government revenues minus expenditures as a

proportion of Gross Domestic Product, d The justifi-

t'
cation for its use is based on the Keynesian argument
that fiscal policy is an important autonomous determinant
of income and prices. In fact, although new issuance of
paper money has been used to finance government deficits
in Brazil, the relationship between both has varied
greatly in the past two decades. Since 1965, in particular,
a growing proportion of the government deficit has been
financed by the sale of Treasury Bills to the public.

The second new variable to be considered was the
average of the monthly percentage change in the level of

the real official exchange rate during each year, f It

t'
denotes the level of fluctuations in the real exchange
rate, and it is used to test whether minidevaluations
have had a positive or negative effect on the government's
fight against inflation. (Appendix E illustrates the
way the variable ft depicts the effects of minidevaluations).
Finally, a dummy variable, Ct’ was used to test
whether or not the enforcement of price controls, applied

since 1967 to the industrial sector of the economy, has

had a significant effect on curbing inflation. It takes

224

the value of zero before 1966 and of one from 1967
onward.

The annual percentage change in the general
price index, pt, is the dependent variable in all models
tested in this section. The general price index, widely
followed in Brazil, is the weighted average of the whole-
sale price index (weight 6), the cost of living (weight
3), and the construction price index (weight 1), the last
two in the State of Guanabara.7 Changes in the 12—month
average of each year were considered.

The several models were tested using ordinary
least-squares regressions on 19 annual observations made
from 1954 to 1972. Table VIII-l presents the definitions
of all variables, their sample means, and the simple
correlation coefficients between each variable and the
dependent variable. Table VIII-2 presents the values of
all variables during the period studied.

Four models were tested. The first was the
"naive" quantity theory model that links the relative rate
of change in prices during a given period to the contem-
poraneous and past rates of change in the quantity of
money. The assumption is that the latter two affect the
level of prices through a process of adjustment that
involves time. Assuming a constant velocity of money one

should obtain:

 

There are no equivalent national indexes for the
last two indexes.

2225

TABLE VIII-1.--Definitions, Sample Means, and Correlation Coefficients.
Simple Correlation
Coefficient Between

Variable Mean pt and the Variable Definition

 

by 33.64 1.000 Annual percentage change in the
L general price index (average of

12 months). The general price
index is the weighted average of
the wholesale price index (weight
6), the cost of living (weight 3),
and the construction price index
(weight 1).

mt 33.59 .775 Annual percentage change in the
average money supply (currency in
the hands of the public plus demand
deposits in commercial banks)

mt 39.39 .801 0.7 mt + 0.3 mt_l
** a o o m + 2 m
mt . 0 .8 t 0. t—l
*fit
mt .791 0.6 mt + 0.4 mt_l
9t 7.02 - .676 Annual percentage change in real
income (Gross Domestic Product)
wt 34.11 .812 Annual percentage change in mini—
mum wage (average of 12 months)
at .42 .445 Proxy for expected rate of accel-
eration in inflation, equal to
fit-l ' pt-2
*
at .14 .329 Alternative proxy for expected rate

of acceleration in inflation, equal
to 8t ' pt-l

ft 4.89 .061 Annual average of the monthly per-
centage change in the real exchange
rate for imports; it denotes the
degree of instability in the real
exchange rate

dt 1.90 .558 National Treasury deficit (government
expenditures minus government revenues)
as a proportion of Gross Domestic
Product

ét 32.66 .550 Annual percentage change in the
official import exchange rate (average
of 12 months)

ct .32 - .380 Dummy variable to indicate enforce-
ment of controls of prices of indus-
trial goods. It takes the value of
zero from 1954 to 1966 and 1 from
1967 to 1972.

 

226

.m xHocmmm< moms

 

 

 

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227
I3:: = a + Bomt + Blmt-l + Bzfi‘t-z + ° ' °'

where a represents the exogenously given long-run rate of
increase in real output.8

Adolfo C. Diz wrote some interesting comments
about this relationship. On theoretical grounds, one
should expect that, other things being equal, an upward
and sustained shift in the rate of monetary expansion
would, after a while, result in a similar increase in the
rate of price changes. It follows that the sum of the B
coefficients should add up to unity when all the relevant
lags are taken into consideration. Then, according to the
quantity theory of money, a lower level of real cash balances
should be consistent with the new and higher rate of
change in prices after the above shift has fully worked
its effects in the economy. This, in turn, could cause

some overshooting in the path of the rate of change in

prices during the adjustment period in order for real
cash balances to decline to their level. Because of this,
Diz argues that one may observe some partial sum of the

B coefficients to be greater than unity and some of

them to be negative, while the total sum approaches unity

as the whole adjustment process comes to an end.

 

8See Diaz Alejandro, "Stop-Go Cycles," p. 367.

228

Empirically, however, some difficult problems arise,
particularly with the choice of the appropriate number of
lagged changes in money. As Diz notes, "the stepwise
inclusion of lagged values of the independent variable
cannot be terminated on the basis of a sum of coefficients
equal to one, or the significance of the last estimated
coefficient, because the overshooting of prices might
produce both effects before all relevant lags are
included." In addition, multicollinearity will almost
certainly occur when many values of the same variable at
successive points in time are included in an estimation
procedure, if the adjustment is not a rapid one.9 In
spite of this limitation this model was estimated to give
some indication of the lagged response in prices to
changes in the money supply.

The estimation result is shown as Equation (1)
in Table VIII-3. The constant term appears as negative,
equal to -1.2, and this cannot be considered the exogene-
ously given long-run rate of increase in real output.

The sum of the three coefficients of the independent
variables is close to unity, as expected. The coefficient
of determination, however, is relatively low, and the coef-
ficient of the second lagged value of rates of change in
money supply, mt_2, is highly insignificant. Based on

this result the decision was made to consider only the

 

9Diz, "Money and Prices," pp. 63-64.

229

TABLE VIII-3.--Application of the Quantity Theory of Money
to Explain Price Behavior in Brazil and
Examination of the Appropriate Lag in the
Influence of Changes in Money Supply on

Changes in the General Price Index.
Least Squares Regressions with pt
Dependent Variable,

Ordinary
as the
19 Annual Observations:

 

 

1954-1972.
Eq. 1 Eq. 2 Eq. 3 Eq. 4 Eq. 5
Constant —1.194 23.013 22.684 23.608 23.298
mt .702 .529
(3.819) (3.084)
( .002) ( .008)
mt_1 .280 .172
(1.467) (1.100)’
( .163) ( .289)
m - .101
t 2 (- .5737)
( .575)
.*
mt .711
(4.008)
( .001)
**
mt .689
(4.014)
( .001)
***
mt ' .707
(3.860)
( .001)
9t -2.426 -2.426 -2.443 -2.489
(-2.210) (-2.277) (-2.300) (-2.299)
( .043) ( .037) ( .035) ( .035)
R2 .650 .731 .729 .729 .719
82 .581 .677 .695 .696 .684
P 9.306 13.557 21.539 21.590 20.472
Sig .001 0.0005 0.0005 0.0005 0.0005

 

The definition of the variables are in Table VIII-1. The
numbers in parentheses under each coefficient are the
t-values and the significance levels of the estimated
coefficients, respectively.

230

current and previous values of this variable in the models
examined below.

The second model tested was the quantity theory
model, discussed above, which can be expressed as:

8t = 80 + Blfi‘t + Bth-l + B39t'

or, alternatively,
16* °
pt g 80 + 81 t + Bzyt'

*

where Int 18 a weighted average of mt and mt-l’

(2) in Table VIII-3 shows the estimation of the first

Equation

alternative of this mode1,whereas Equations (3) t0 (5) show
the estimation of the second alternative assuming differ-
ent weights for mt and mt-l’

R ) with practically the same level of overall significance

The best results (highest

and coefficient of determination were shown by equations

(3) and (4) which use as weights,respectively,

*

mt = 0.7 mt + 0.3 mt-l

and

**
mt = 0.8 mt + 0.2 mt_1 (mt takes the place of

*
mt in the model)

231

The most significant weights might be found in the
interval between the values given by these two alternatives.

Since the difference is very small, and since the simple
*
t

**
is slightly higher than that between mt and pt, the decision

correlation coefficient between m and pt (see Table VIII-l)

*
was made to use mt 1n the models considered below.

In Equation (3) the coefficients of m

*
t

the expected signs and are significant, respectively, at

and 9t have

less than 1 percent and at 4 percent levels. The coeffi-
cient of determination, however, around .73, is not
satisfying. Better results can be obtained following
Harberger's procedure.

The third model considered, Harberger's, can be

written as:

*
pt = 80 + Blmt + B2-‘7t + B3wt + B4at'

Adding the variable f to denote the effect of minidevalua-

t

tions, the model becomes

E3t = 80 + 81m: + Bzyt + 836’): + B4at + B5ft'

During the period of minidevaluations, after 1968,
as shown in Table VIII-2, the value of ft is relatively
small, denoting small fluctuations in the real exchange
rate for imports. Before 1968 the value of ft was much
higher. Therefore, if minidevaluations have constituted

an inflationary factor, the coefficient of ft should be

positive and significant.

232

Equations (6) and (7) in Table VIII-4 are the
regression results of estimating these two models. Both
equations are highly significant and have coefficients of
determination adjusted for degrees of freedom around .84,
much higher than those shown in Table VIII-3 for the

*
quantity theory equations. The coefficients of m t'
*

9t, wt, and at show the expected signs. Those of Int and

wt are highly significant, that of 9t is significant only
at the 12 percent and 15 percent levels, respectively,

in Equations (6) and (7), and that of a is highly

t
insignificant.

The addition of ft as an explanatory variable
does not improve the coefficient of determination R2,

and it slightly decreases the value of Hz. The coeffi—

cient of ft is negative and highly insignificant, indi-
cating that minidevaluations have not constituted an

inflationary factor.

*
In Equations (8) and (9) the variable at =

pt - pt_1 took the place of at = pt-l - pt-2 to estimate

the same Harberger model with and without the minidevalua-

*
tion variable ft. Since pt is included as part of at,

this formulation is not useful for prediction; also, the

exceptionally high significance shown by the coefficients

*
of at are not very meaningful. But it is interesting to

*

note that the coefficient of at in Equations (8) and (9)

is much higher than that of a in Equations (6) and (7),

t

 

233

 

 

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234

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235

Also, the significance of all other individual coeffi-
cients is substantially increased. The coefficient of ft
in Equation (9), in particular, more than doubles (in
absolute value) with respect to its value in Equation
(7) and is significant at the 19 percent level. Its
negative sign indicates again that minidevaluations have
not been an inflationary factor.

The fourth model considered is a modified version

of Harberger's basic approach. Additional policy

variables were considered as follows:

* *
I3t = 80 + Blmt + Bzyt + B3‘1"; + B4at + B5ft
+ B6ét + B7dt + Bact
. 0* O O *
pt = 80 + B1mt + B3Y1: + B3wt + 84% + B5ft

+ B6ét + 87dt
Equations (10) and (11) in Table VIII-4 are the

regression results of estimating these models. The
coefficient of determination corrected for the number
of degrees of freedom, §2' is almost the same in both
Equations (10) and (11) as that obtained in Equation (9)
with a smaller number of variables. The coefficients of
e

the added policy variables, d and c show the

t' t' t
expected signs but are insignificant. It is interesting

to note, however, that the coefficient of the

236

minidevaluation variable, f substantially increases (in

t'
absolute value) with respect to the corresponding one in
Equation (9). It is negative, and it becomes significant
at the 8 and 7 percent levels, respectively, in Equations
(10) and (11). This result implies that minidevaluations
have helped the government in curbing inflation.

Equation (12) is similar to (11), except for the
deletion of the expectation variable a:. Here the
coefficients of the variables ét’ the percentage change
in the real exchange rate for imports, and dt’ the National
Treasury deficit as a proportion of Gross Domestic Pro-
duct, become significant, respectively, at the 6 and 2
percent levels. The coefficient of the minidevaluation

variable, ft' has about the same value as in Equation (10),

but its significance drops to the 14 percent level.

Conclusion

 

The results presented in this section indicate that
the policy of minidevaluations have not constituted an
inflationary factor, and that, on the contrary, may have

aided the government in its pursuit of gradual stabiliza-

tion of prices in Brazil.

237
The Effects of Minidevaluations
on Economic Growth

After obtaining increasingly high rates of growth
during the postwar years, averaging 6.4 percent between
1948 and 1956 and 8.3 percent during 1957-1961, the
Brazilian economy presented a poor growth performance
from 1962 to 1967. The average annual increase in real
product was only 3.7 percent in this period, quite low in
comparison with the annual population growth rate of 2.89
percent during the sixties. From 1968 through 1972,
however, the period during which the minidevaluations
were in effect, Brazil's economic growth was the highest
in the country's history. During these four years, the
real Gross Domestic Product grew at an annual average of
9.9 percent and in 1971 and 1972 it reached 11.3 and 10.4
percent, respectively, among the highest in the world.
This section presents the results of econometric tests of
the possible influence on this growth performance of
minidevaluations, which might have helped the economy in
attaining greater efficiency and higher rates of growth
for several reasons.10

First, since divergences in cost and price trends
between the domestic and foreign markets have been largely

eliminated, the pull and fall in imports and exports that

 

10See Donges, Brazil's Trotting_Peg.

238

otherwise would occur due to internal inflation have been
avoided. The miniadjustments in the exchange rate have
constituted an important instrument in making a gradual
stabilization policy feasible, as opposed to a shock
treatment policy to counteract difficulties in the balance
of payments. As a result, disturbances which cause
production losses have been avoided, and chances for a
steadier and faster growth rate have increased.

Second, the substantial decrease in the exchange
rate risk due to minidevaluations has reduced the
incentives for firms which produce, sell, or buy export-
ables and importables to speculate with their stocks of
merchandise. Under the old system of sharp changes in
the exchange rate separated by long intervals, importers
would try to buy large amounts of imported goods whenever
they felt a sharp devaluation was going to occur. Con-
comitantly, sales of goods competing with imports would
decline sharply. The reverse would occur just after the
sharp devaluations. Exporters, on the other hand, during
inflationary and pegged exchange rate periods, would
pile up goods, await a new devaluation, and then sell
merchandise for the maximum cruzeiro sales revenue. The
decrease in such speculative stock fluctuations also has
allowed for greater efficiency and steadier rates of
growth. In addition, the removal of the exchange rate

risk has facilitated investment planning for all firms

239

directly or indirectly involved with foreign exchange
Operations.

Two very simple growth models and two slightly
more sophisticated ones were applied to test the effects
of minidevaluations on growth. Unavailability of appro-
priate data, however, has all but prevented the study
from obtaining very meaningful results in the applica-

tion of the more SOphisticated growth models.

A Simple Growth Model

 

The equilibrium condition of a simple macroeconomic
model which assumes fixed prices and no government requires
that the total income (output), Y, equal the total
expenditure, E, where

Y = C + S,

E

C + I + X - M, and
C = consumption,

S = saving,

I = investment,

X

exports of goods and services, and

M = imports of goods and services.
Both X and M do not include payments of services for the
use of foreign capital received in previous periods in

the form of interest, profits, and dividends.

240
In equilibrium,
Y = C + I + X - M,
or
I=(Y-C)+(M-X),

where
Y - C = Sd = domestic saving, and
M - X = Se = foreign saving,

Rewriting the equilibrium condition,
I=S+S (I)

At any time t, the conditions for long-run equili-
brium on the product market also require that the capital

stock K be utilized at full capacity. This may be

11
expressed as

K = vY for all t,
or

Y=CXKI

where a i = output-capital ratio.

 

llSee R. G. D. Allen, Macro-Economic Theory, A

Mathematical Treatment (New York: MacMillan and st. Martin's
Press, 1968), chapter 10.

241

The relation between the change in output and

change in capital stock may be written as
dY = adK (II)

but, by definition, I = dK. Then, from expressions
(I) and (II),

dY = c.(Sd + Se).

Dividing by Y,

 

This expression indicates that the rate of growth
in real output is a function of the output-capital ratio
and of the sum of the domestic saving rate and the foreign
saving rate. In an alternative notation, it may be

written

yt = a (st + bt), (III)

where

annual rate of growth in Gross Domestic

‘<
rt.
ll

Product (GDP),

t domestic saving as a proportion of GDP, and

bt = deficit in the balance of goods and non-'

monetary services as a proportion of GDP

(M - X).

242

Growth Model (III) has been used by officials to
rationalize the foreign indebtedness and growth policies
pursued by the government.12 Thus, the increases obtained
in both the domestic saving rate and foreign saving rate
in the years 1968-1971, which have resulted in very high
growth rates, constituted the accomplishment of a con-
scious policy.l3

Taking a as a parameter to be estimated, Model
(III) can be tested. But since the objective of the study
was to test the effects of the minidevaluations, the
variable ft’ the annual average rate of change in the

real official exchange rate (the same that was used in

the inflation models), was added to the model to obtain14

yt = 8 (st + bt) + 8ft. (IV)
In Model (IV) ft enters as a qualitative
variable. Because of the reasons discussed above, the

smaller the fluctuations in the real exchange rate, the

 

2 . . . . .
1 See Lira, "Politica de End1v1damento," Appendix.

13The domestic and foreign saving rates for 1970
and 1971 used in this chapter are unpublished preliminary
estimates cited in Carlos Von Doellinger, "Capitais
Externos, Balanco de Pagamentos e Crescimento Econ6mico,“
Internal Document, IPEA, Ministry of Planning.

14A similar model using a dummy variable, D, to
represent the minidevaluations in the place of f , where
D took the value of zero before 1968, 0.34 in 1968, and
1 from 1969 to 1971 was tested and yielded results some-
what less significant than those obtained in estimating
Model (IV).

243

greater the rate of economic growth should be (see

Appendix E).

The Increase in the Labor Force
as a Variable

 

 

An alternative simple growth model starts from a

general aggregate production function in which output is

15
a function of capital and labor:

9 = F(K,L),

d)z=§-I’:-d.1<+8F

8K SE'dL°

Dividing by Y, and multiplying the second term in the right

hand side by %
£=£s.£5&
y a a 8L Y L

or, in terms of coefficients to be estimated,

1 Y 2
where the investment rate 9%»= st + bt’ in equilibrium
conditions,16 and it = annual percentage change in the

labor force.

Adding a constant term and the variable ft to

denote the effects of minidevaluations, the following

model is obtained:

 

15See Sherman Robinson, "Sources of Growth in
Less Developed Countries," Quarterly Journal of Economics
85, no. 3 (August 19711 391-408. "

16In terms of ex-post data, the investment rate
(gross investment over GDP) is also equal to the sum of
domestic and foreign savings (with negligible differences)
in the Brazilian national accounts.

244

it = 80 + 81 (st + bt) + 82 1t + 83 ft (V)

Allowing for improvement in the quality of the

labor force, an additional term may be added:17

yt = 80 + 81 (st + bt) + 82 1 + 8 (VI)

t ét + 83 f

3 t

where ét is a proxy for the annual percentage increase
in the number of students that complete their education
at a certain level and join the labor force. (See the
discussion of this variable in estimation problems below.)
Following Sherman Robinson's procedure, the growth
model also can take into account the rate of factor
transfers from the "backward" or agricultural sector to
the "advanced" or urban sector of the economy. The rate
of transfer of labor can be estimated by pt, the average
annual absolute change in the percentage share of the
population living in the cities. The rate of transfer of
capital is measured indirectly. Assuming that the capital-
output ratios are the same in the two sectors, the change
in the share of the advanced sector in total output

measures the rate of capital transfer. The variable at

 

ZExcept for the inclusion of ft and the exclu-
sion of interaction terms, a similar model is developed
by Carlos Geraldo Langoni, "As Fontes de Crescimento
Economico Brasileiro," Estudos Economicos, 2, no. 4
(1972), 3-34. The intefaction terms also are excluded
by Langoni in empirical applications. See also Marcelo
Selowski, "On the Measurement of Education's Contribution
to Growth," Quarterly Journal of Economics, 83 (August
1969), 449-63.

 

245

is the average annual absolute change in the share of the
agricultural sector in Gross Domestic Product. (A negative

change in a means a positive transfer of capital from

8

t

agriculture to the advanced sector of the economy.)1

The growth model then may be written as

Yt = 80 + 81 (St + bt) + 82 1t + 83 8t

+ 84 at + 85 pt + 86 ft’ (VII)

where the growth rate of real product is positively

related to (st + bt), lt' ét' and pt and is negatively

related to at and ft'

Estimation Problems and Regression Results

 

The use of the above growth models in time series
regression analysis is confronted with some data limita-
tions. First, the only available information on the size
of the labor force derives from the censuses taken each
ten years. Therefore, it is only known that the labor
force grew at 2.9 percent per year during the fifties and
at 2.7 percent during the sixties. As a result, meaning-

ful results cannot be obtained for the coefficient

 

18See Robinson, "Sources of Growth." In his cross-
section study, Robinson uses (st + bt) and ('bt) as two
separate variables, the first as the ratio of gross invest-
ment to GNP and the second as the ratio of net foreign
balances (balance on current account) to GNP. The regres-
sion results of Robinson's model applied to 12 annual
observations from 1960 to 1971 yielded very insignificant
results, which may be due partly to data limitations.

246

of 1 Second, it is difficult to have a good measure for

t'
the improvement in the quality of the labor force. An
accurate indicator should take into account the number of
persons of different degrees of education (such as, primary,
secondary, secondary technical, university) that join the
labor force each year. On-the-job training also should

be considered. But complete time series information for

a long period was not available for these items. As a
proxy for the rate of change in the number of students

that complete secondary education and also as an indicator
of the change in the capacity of society to absorb tech-

nological progress, the variable e the annual percentage

t!
increase in the number of students enrolled in higher
education,was used. Third, estimates of the annual absolute
change in the share of population living in urban areas

were available only from 1960 to 1971 and were based on the

censuses of two years, 1960 and 1970. The coefficient

r. 1 -.1.‘.-_ .-.1

of the year-to-year variations, pt, therefore, is not'
very meaningful. There were no difficulties in finding

data on s b

t’ t’ at, and ft'
Table VIII-5 presents the definitions of all
variables, their sample means, and their simple correla-
tion coefficient with the dependent variable 9t, Table
VIII-6 offers the data used in the estimation, and Table
VIII-7 indicates the regression results for twelve annual

observations from 1960 to 1971.

247

TABLE VIII-5.--Variables Used in Growth Models, Definitions,
Sample Means, and Simple Correlation Coeffi-

 

 

cients: 12 Annual Observations: 1960-1971.
Simple
Correlation
Coefficient
Between the
Variable Sample
Variable and 9t Mean Definition
9t 1.00 6.78 Annual percentage change
in real Gross Domestic
Product.
st - .20 16.89 Ratio of domestic savings
to Gross Domestic Product.
bt .64 ’l.14 Ratio of foreign savings
to Gross Domestic Product.
st + bt .27 18.03 Ratio of total savings
(equal to gross investment
in the national accounts)
to Gross Domestic Product.
it .27 2.72 Annual percentage increase
in the labor force.
ét .23 15.68 Annual percentage change
in the number of students
enrolled in higher educa-
tion (serve as proxy both
for the percentage
increase in number of
students who have finished
intermediate education and
for the increase in the
capacity of the economy to
absorb technological
change).
at - .19 - .78 Annual absolute change in
the share of agricultural
sector in GDP.
pt - .27 1.08 Annual absolute change in
share of population living
in the cities.
ft - .53 3.31 Annual average of the

monthly percentage change
in the monthly real offi-
cial exchange rate. It
denotes the level of fluc-
tuations in the real
exchange rate.

 

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249

TABLE VIII-7.-—Test of the Effect of the Minidevaluations

on the Brazilian Economic Growth.

Ordinary

Least Squares Regressions with yt as the
Dependent Variable; 12 Annual Observations:

 

 

1960-1971.

Equation 1 Equation 2 Equation 3 Equation
Constant —- -44.47 -78.55 -77.49
st + bt .57 .62 .80 .97
( 5.80) ( 1.30) ( 1.62) ( 1.95)
(<0.0005) ( .23) ( .15) ( .11)
it 16.09 26.15 13.85
( 1.06) ( 1.53) ( .69)
( .32) ( .17) ( .52)
ét .17 .44
( 1.17) ( 1.83)
( .28) ( .13)
a 1.21
t ( 1.36)
( .23)
Pt 27.58
( 1.21)
( .28)
ft - 1.07 - 1.09 ~ .82 - 2.05
(- 2.25) (- 2.29) (- 1.58) (- 2.03)
( .04) ( .05) ( .16) ( .09)
R2 .40 .48 .56 .69
82 .34 .28 .31 .33
F -- 2.44 2.26 1.92
Sig. -- .14 .16 .24

D.W. 1.44 1.93 1.90 --

 

The definitions of the variables are given in Table VIII-5.
The numbers in parentheses under each coefficient are the
t-values and the significance levels of the estimated

coefficients, respectively.

The Durbin-WatsOn statistic

values do not indicate the presence of autoregression.

250

Equation (1) in Table VIII-7 corresponds to the

model (IV), the simplest. It shows a low coefficient of

determination, R2 = .40. The coefficient of determination

corrected for degrees of freedom, although low, R2 = .34,
is the highest of the four tested models. The coefficient
of (st + bt) shows the expected sign and is highly signi-
ficant. The negative sign on the coefficient of ft and
its significance at the 4 percent level indicate that mini-
devaluations had a positive impact on the growth rate of
the economy.

In Equation (2), which corresponds to model (V),

the coefficients of (s have the correct signs

t t

but are not significant. That of ft’ however, shows the

+ bt) and 1

same sign and about the same value as in Equation (1) and
is significant at the 5 percent value. The positive
effect of minidevaluations is then confirmed.

In Equation (3) the inclusion of et as an explana-

2 to increase with

tory variable causes the value of R
respect to that of Equation (2), although not with that
of Equation (1). All coefficients have the expected

signs, but none is significant at the 5 percent level.

Equation (4) corresponds to model (IV). It has the

highest coefficient of determination, R2 = .69, but when
corrected for degrees of freedom (H2 = .33) it becomes
2

slightly lower than that obtained by Equation (1) (R =

.34). The coefficient of at unexpectedly shows

251

a positive sign, but it is insignificant. The coefficients
of the other explanatory variables show the expected signs,
but only that of ft is significant at less than the 10

percent level. The positive effect of the minidevaluations

is again confirmed, although the result must be qualified

in view of the low overall significance of this equation.

Evidence of Greater Efficiency
After Minidevaluations

An examination of the residual factor in economic
growth can indicate the higher efficiency of the Brazilian
economy after the minidevaluations. The productivity
residual is the growth of output that cannot be accounted
for by the growth of labor and capital. It is shown in
Appendix H that the average residual for the years 1962 to
1967 was only 0.80 percent as compared to about 5.0 percent
for the years 1968 to 1972, a dramatic change. Therefore,
it may be asserted that the economy became substantially more

efficient after the introduction of minidevaluations.

Conclusion

Measurement problems have limited the application
of time series regression analysis. However, the results
have shown that the system of minidevaluations of the
exchange rate has had a positive impact on the growth
performance of the economy. Examination of the residual
factor in the growth of the economy have indicated that
much greater efficiency was obtained after the initiation

of minidevaluations.

CHAPTER IX

CONCLUSION

The main findings of this study were the following:
The system of minidevaluations of the exchange rate at
short intervals proved to have several advantages over the
system of sharp devaluations at long intervals for the
Brazilian economy. The main advantage was the greater
stability in the relation between internal and external
prices for those involved in the foreign sector of the
economy. Thus, the exchange rate risk involved in export,
import, direct foreign investments, and international loan
operations was practically eliminated.

It was shown that Brazilian exports were posi-
tively affected by the policy of minidevaluations. The
regression analysis showed that this policy made exports
of manufactures more responsive to changes in the level
of real income and significantly more responsive to
changes in the level of real remuneration to exporters.
This latter occurred both through changes in the real
exchange rate and changes in the level of fiscal incen-

tives. Exports of primary products also were shown to be

252

253

positively affected by the smaller fluctuations in the
real exchange rate under the minidevaluations.

The econometric analysis of imports indicated that
a significant shift in the parameters of the import func-
tion took place as a result of two causes: the lowering
of import tariffs and the policy of minidevaluations.
Imports became more responsive to income changes and
especially responsive to changes in the real exchange
rate adjusted for dollar inflation, tariffs, auction fees,
and other trade barriers.

Minidevaluations have had two major impacts on
capital movements. First, they substantially diminished
destabilizing short-term capital movements which previously
had been harmful to the value of the cruzeiro. Second,
along with other measures, they constituted a necessary
condition for the exceptional influx of foreign capital
into Brazil that has occurred since 1968. The regression
analysis of direct foreign investments indicated that
they were responsive to profit opportunities--which were
represented by the rate of growth of the economy--and to
the decrease in the exchange rate risk caused by the
minidevaluations. It was seen that the differential
between domestic and foreign levels of real interest rates
played an important role in attracting foreign loans and
financing into Brazil. The portfolio approach to analyz-

ing capital flows showed that interest differentials and

254

the evaluation of risk, as determined by the exchange rate
policy, political factors, and other events, were all
important in determining the influx of foreign capital.
By normalizing the expectations of economic units and by
establishing the conditions for reasonable economic
calculations in foreign exchange Operations, minidevalua-
tions have helped the government in forecasting and
managing future developments with respect to the foreign
indebtedness and reserve position of the country. Under
minidevaluations, the exceptional growth in exports,
imports, and capital flows was accompanied by a similar
increase in service payments and receipts. Among service
payments the items which registered larger increases were
capital income (interest, profits, and dividends), trans-
portation, and travel. Among service receipts, transpor-
tation and capital income increased most.

The econometric analysis of price behavior indi-
cated that minidevaluations have not constituted an
inflationary factor. On the contrary, they may have
aided the government in its pursuit of gradual stabilization
of prices in Brazil.

Finally, evidence was presented that minidevalua-
tions had a positive impact on the growth performance of
the economy. The growth of the Brazilian economy, how-
ever, must be qualified. Although this dissertation has

not dealt with the subjects of income distribution and

255

the political and economic regime, these dimensions must
be considered in the larger context of general development
strategy.

According to a number of indications, during the
last decade economic growth has not resulted in a general-
ized improvement in welfare for a large segment of the
Brazilian population. In fact, a comparative examination
of Brazil's census reports for 1960 and 1970 reveals that
the prevailing economic system yielded excellent results
during the decade for the wealthiest 20 percent of the
population, extraordinary benefits for the top 5 percent,
and only some improvement for the bottom 40 percent.
Whereas the richest 10 percent increased their participa-
tion in total income from 39 percent in 1960 to 48 percent
in 1970, the poorest 40 percent decreased their share from
11.5 percent to 10 percent.1

At the same time, Brazilian economic growth has
not been accompanied by advances in political democracy.
Since 1964 the Brazilian political regime has been charac—
terized by repression of students, intellectuals, and

labor activities; by press censorship; by no direct

 

lSee Carlos Geraldo Langoni, "Distribuicao da
Renda e Desenvolvimento EconOmico do Brasil," Estudos
EconOmicos, 2 (October 1972), Table 4, p. 14; Rodolfo
Hoffman and Joao Carlos Duarte, "A Distribuicao de Renda
no Brasil," Revista de Administracao de Empresas, 12
(April/June 1972); and Albert Fishlow, "Brazilian Size
Distribution of Income," American Economic Review, 62
(May 1972).

256

elections for major executive officials; and by prisons
and torture of prisoners suspected of insurrectionist
activities. These also seem to be the characteristics
of other less developed countries which are experiencing
high rates of growth of gross domestic product under a
mixed capitalist system, and which are very receptive to
multinational corporations. Greece, Iran, Turkey, and
Thailand are examples.

Perhaps in a few years or decades, Brazilians may
decide, hopefully through the democratic process, to
follow a new type of economic system which does not lead
to increasing social inequities. Major decisions will
have to be made with respect to both the domestic and
the foreign sector of the economy. This author hopes
that this study will contribute to the understanding of
the role of the foreign exchange adjustment mechanism
in an economy which then will be subject not only to
inflationary but also to many other kinds of pressures.

Some suggestions for further research new will be
made. It would be interesting to estimate a "domestic

resource cost" of Brazilian exports.2 If the export price

 

2See Hollis B. Chenery, "Comparative Advantage
and Development Policy," American Economic Review, 51
(March 1961), 18-51; Edmar Bacha and Lance Taylor,
"Foreign Exchange Shadow Prices: A Critical Review of
Current Theories," QuarterlyJournal of Economics, 85
(May 1971), 197-224; and Michael Bruno,uWDomestIc
Resource Costs and Effective Protection," Journal of
Political Econom , 80 (January/February 1972), 16-33.

 

 

257

(for manufactures) can be as much as two-thirds of the
domestic price owing to tax relief, credit subsidies, and
the like, the domestic resource cost ratio of eXports may
be considerably in excess of one. Thus one important
question to examine is whether or not the "equilibrium"
exchange rate which the official rate is approximating
through minidevaluations is not a distorted one (or at
least one which is dependent upon a highly distorted
internal price structure).

Another interesting point to be empirically
examined is that raised by Ruben D. Almonacid about the
possible negative effects of devaluation on the output of
the economy through its effects on the aggregate supply
of the economy. Almonacid shows that the effects of a
devaluation on the aggregate supply is such that it might
more than offset the expansionary effects of the devalua-
tion on the aggregate demand of the economy. He argues
that the slight overvaluation of the cruzeiro with respect
to the dollar (taking consumer price indexes as the
basis for comparison) from 1968 to 1971 has been a positive
factor in stimulating the Brazilian economy.3 If this is
true, it would be interesting to search for the optimum

degree of overvaluation.

 

3Ruben Dario Almonacid, "O Efeito da Taxa Cambial

Sabre o Produto," Estudos Econdmicos, 2 (October 1972),
155-70.

APPENDIX A

THE BATTERY OF INCENTIVES FOR EXPORTATION

258

THE BATTERY OF INCENTIVES FOR EXPORTATION

Current incentives for exportation apply in general
to manufactured products, but some also apply to primary
goods. Table A-1 summarizes the array of incentives which
constitute the prevailing international policy matrix of

Brazil.1

The Fiscal Incentives

 

Fiscal incentives in Brazil include exemptions from
tarrifs, sales taxes, and income taxes on inputs, export
products, and export profits.2 There also are subsidies

in the form of tax credits.

IPI Incentives

 

The IPI (see footnote 5, Chapter III) or tax on
industrial products, is a federal tax on the total value
of production, but it effectively constitutes a tax on
value added. It grew out of the old consumption tax (Imposto
de Consumo) and was introduced in late 1964. Administration
of the value-added aspect of the tax permits producers of

final and/or exported products to deduct amounts equal to

 

1See Antonio Nilson Quezado Calvacanti and Ettiene
Cracco, "Os incentives as exportacOes de manufaturados;
analise e sugestao," Revista de Administracao de Empresas,
12, No. l (Jan./Mar. 1972), 63-69.

2The ensuing section is based on the work of William

G. Tyler, Helmut Hesse, Carlos Von Doellinger, et al., and
Bergsman, Brazil.

259

260

TABLE A-l.-—The International Trade Policies of Brazil.

The main tools involved in planning the foreign trade sector
with a view to achieving better integration of Brazil's
economy in the expanding world economy.

(A) Adoption of an exchange rate system involving adjust-
ments at short intervals: the minidevaluations

(B) Systematic effort to expand exports through

(1) Fiscal Incentives:

(a)

(b)

(C)
(d)
(e)

(f)
(g)

(h)

(i)
(j)

IPI (tax on industrial products) exemption

and tax credit

ICM (tax on circulation of goods) exemption

income tax exemption

deduction of export-promoting expenses

reduction of tax on financial transfer to other
countries

exemption of tax on financial Operations

exemption of tax on combustibles, lubricants
and electric energy

exemption of taxes, fees and governmental
charges on goods going through Brazilian
port facilities

drawback

tax-free import of capital goods

(2) Financial Incentives:

(a)

(b)
(C)

(d)

pre-export financing at low interest rates
through Bank of Brazil, National Economic
DevelOpment Bank, BNDE, and private commer-
cial banks

post-export financing at low interest rates
through the same agencies listed above

other credit incentives such as financing of

export on consignment, of marketing operations

abroad, and of economic and engineering studies

of potential exports

credit insurance to exporters

(3) Creation of institutions to coordinate policies
and promote trade

261

TABLE A-l.--Continued.

 

(C)

(d)

(E)

(F)

(G)

(4) Other Measures

 

(a) simplification of bureaucratic procedures
(b) promotional activities by Bank of Brazil,
CACEX, Ministry of Foreign Relations, and
other governmental and private agencies
(c) remittance of samples with no formalities
(d) no formalities for exports in frontier zones
(e) development of export corridors
(f) law regulating creation of trading companies
(g) expositions

Rationalization of Brazil's import policy, in part
through unilateral and across-the-board tarrif reduc-
tions

Encouragement to foreign capital inflow and cooperation
with foreign aid

Introduction of a foreign indebtedness policy to provide
adequate financing with which to cover the real
resources gap and amortization of the existing foreign
debt

Policy to orient and stimulate the absorption of
foreign technology

Since 1964, a tough military political regime
enthusiastically supported by the multinational--
mainly U.S., Western European, Japanese, Canadian,
and Brazilian--business community. This regime has
ensured political stability, has curbed all signs
of social unrest and of potential challenges to
itself, has practically forbidden labor strikes,
has maintained a strict control on wages and a
somewhat milder one on prices, and has multiplied
the incentives for entrepreneurs to invest, make
profits, and accumulate capital.

 

262

the sum of IPI taxes paid on input (calculated by applying
the tax rate to product value) from their total tax
liability. The IPI, which applies only to manufactured
goods, varies from product to product. Excluding tobacco
products, the average tax rate has been calculated to be
12.34 percent.

There are three IPI related tax incentives for
industrial exports. First, the eXporter is exempted from
IPI payments which he otherwise would have to make on
export products (Law No. 4,502, 30 November 1964, imple-
mented in late August 1965).

Second, the exporter receives a credit equal to
the value of IPI taxes paid on inputs used in manufacturing
the export product which may be applied against other tax

liabilities.3

 

3Although the incidence of the IPI is on the total
value of production, a provision of credits and debits
eliminates its cumulative aspects, which characterized the
previous consumption tax. Assume, for the sake of simpli-
city, a uniform tax rate of 10 percent on the value of
production instead of a 12.34 percent average. Then,
assume three different firms producing goods in a chain of
production. Firm A produces goods purchased and transformed
by Firm B; Firm B sells the transformed goods to Firm C,
which sells to Firm D after some transformation. Firm D
produces the finished goods. The fiscal aspects of the
entire production and sales process are shown below:

 

 

 

Value Tax Account
Value of Sales Added
Production Incl. Incl. Credits Debits Balance
Firm Purchases Before Tax Tax Tax
A --- 100 110 110 --- ~-- - 10
B 110 300 330 220 10 30 - 20
C 330 700 770 440 30 7O - 40

D 770 1000 1100 330 70 100 - 30

 

263

Third, the exporter receives an additional tax
credit, the value of which is related to the IPI rate
applicable to the respective export product. Whereas the
first two incentives are tax rebates, this credit con-
stitutes a genuine subsidy. Initially, under Law No. 5.444,
30 May 1968, implemented in July 1968, the credit was
conceded at a percentage equal to half the applicable IPI
percentage up to a maximum of 10 percent; more recently
(under Decree Law No. 491, 5 March 1969, implemented July
1969) the size of the credit was raised to 100 percent of
the applicable IPI rate up to a maximum of 15 percent.
These credits are redeemable against other tax liabilities

due on domestic sales. For example, if a firm exports

 

Each firm receives tax credits for all of the IPI
paid in preceding stages of production. Firm B, for
example, buys the product of Firm A and in this operation
it receives a tax credit of 10 which was paid by Firm A.
When Firm B sells its product to Firm C, a 10 percent tax
on its value of production is debited to Firm B's account.
Thirty is the tax debited to Firm B, so that it must pay
a negative balance of 20 to the government. In effect, the
tax balance is a value-added tax of 9.0909 percent of total
value added, including tax, in the example. Excluding tax,
the tax rate is 10 percent of net value added.

Assume now that Firm D exports its finished product.
Since its eXports are exempt from the IPI, it does not
debit the 100 to its tax account which it would pay if the
product were sold in the domestic market. But the firm
still has a tax credit of 70 correspondent to taxes paid
on previous stages of production. Therefore, in the above
example, although the nominal tax rate on value of produc-
tion is 10 percent, the effective tax rate reduction due to
export is 17 percent of the value of production. Firm D
benefits from the exemption of taxes paid on all previous
stages of production. The supplying firms do not get this
windfall, although their sales are augmented by the increased
demand due to the tax exemption.

264

100 units of a certain manufactured good, it not only is
exempt from the IPI that it would pay if the product were
marketed domestically (plus the IPI on prior stages of
production) but also is given an exemption from the IPI
that it would pay on another 100 units sold in the domestic
market. If the firm exports more than 50 percent of its
production, the additional tax credit, or rebate, is to be
deducted from other federal taxes payable.4

The IPI tax credits are applied against a fob
cruzeiro value except when goods are transported and/or
insured by a Brazilian company. In this case the IPI

credit is based on cif value.

ICM Incentives

 

The ICM (see footnote 5, Chapter III), or goods
circulation tax, is a value-added tax administered by state
governments. It grew out of the old sales tax, or IVC

(see footnote 5, Chapter III), which was a tax on total

 

4Some firms which produce mostly for the foreign

market have some problems in getting their tax credit
benefits because they do not have a corresponding amount
of domestic sales. The Director of Duratex, Mr. Laerte
Setubal Filho, reported in an interview with this author
that they were building a new factory to produce wood-
fiber sheets to be sold exclusively to the external sector.
At the same time, Duratex had accumulated a huge amount of
tax credits due to exports which had not yet been redeemed
due to the lack of a corresponding volume of domestic
sales. In 1972, to solve this problem, Duratex decided

to incorporate a new firm, Deca, which produces construc-
tion materials for the domestic market. In this case,
therefore, the export fiscal incentives created unintended
stimuli for the formation of conglomerates.

265

value of product. The ICM tax rates differ from state to
state, but the rate is a uniform 17 percent of value added
for industrial south central Brazil. It is subject to some
upward variation in the case of poorer states and to some
downward variation in the case of interstate--but not
international--trade. ICM related export incentives have
three characteristics. First, Article 24 of the Federal
Constitution of 1967 exempts exports of manufacturers from
final-stage ICM taxation. Some states also have reduced
the ICM for exports of some nontraditional agricultural
commodity exports. In early 1970 the States of Parana

and Sao Paulo had decreased the ICM for beef exports by

60 percent and that for exported corn, rice, and soybeans
by 40 percent.

Second, in contrast to the IPI incentives, initially
no exemption from taxation imposed at previous stages of
production was offered in 1970, however, the industrial
states of south central Brazil began to grant rebates from
ICM taxation of raw materials used in production of manufac-
tured exports on the condition that the raw materials be
produced in the same state in which the export is produced.
Moreover, these rebates are made in the form of credits
redeemable only against other ICM liabilities of the same
state.

Third, since January 1970, the central and southern
states have given additional credits on subsidies to exports

of manufacturers at rates equal to IPI rates on respective

266

products up to a maximum of 15 percent. Imported inputs
are excluded from the product value against which the ICM
credit is applied (so that it relates only to value added
in Brazil). These ICM credits are redeemable only in
connection with other ICM liabilities. Exporters have
been asking state and federal authorities to redeem
accumulated ICM credits against federal tax liabilities,
but it is not certain that this will be permitted.

Quantification of the ICM tax benefits for exports
of industrial goods can be made on the basis of the 17
percent rate applicable in the major industrial areas. The
IPI (at the average rate of 12.34 percent) should be
included because the ICM is calculated in addition to the
IPI. Based on a ratio of value added to total value of
output for all industry at around 51.2 percent, Tyler has
estimated the value of the ICM exemption to average about
9.30 percent, calculated from the domestic price base.

Had the ICM tax exemptions been effectively applied at all
stages of production rather than only at the export stage,
the incentive would have a quantitative magnitude of 17
percent of the value of the product, which includes the
IPI charge.

In August 1964, by implementing State Law No. 8,234
of 17 July 1964, the State of Sao Paulo already had
exempted industrial exports from the payment of the ICM's
predecessor, the IVC, a sales tax. The IVC in Sao Paulo

at that time, and until 1967, was 6 percent of the value of

267

the product. Since Sao Paulo accounts for about one-half
of Brazil's industrial exports, the national average of
the IVC tax benefit for that period can be considered to
be equal to one-half of the Sao Paulo IVC tax incentive of

6 percent.

Income Tax Incentives

 

Another significant tax incentive for exporters of
manufactures is exemption from the income tax. There are
three categories. The first exempts the firm's income
earned on exports from the business income tax. The
deduction is based on the exported proportion of the firm's
output (Law No. 4.862, 29 November 1965, implemented in
February 1967). Tyler has estimated the value of this
benefit to be 4.2 percent of the domestic market price.
The second allows exporters to deduct from their taxable
income the following expenses in connection with export
sales: commissions and interests paid abroad, exchange
Operations costs, and expenditures incurred abroad for the
promotion and advertising of products (Law 4.862 of 11
November 1965). The third has particular relevance for
multinational companies. It either grants a reduction of
the income tax levied on funds remitted abroad (such as
royalties, technical assistance, and interest on loans
that are duly registered with the Bank of Brazil) to a
taxpayer who can prove that he has exported manufactured
products or provides him with a tax refund (Decree Law

No. 491, Article 8).

268

Other Indirect Tax Incentives

Three other indirect tax incentives should be
mentioned. First, the exporter is exempted from paying the
financial operations tax on export credit, transport
insurance, and export exchange operations. This incentive
can be estimated to be equal to 1 percent of product value.
Second, the exporter pays no sales tax on combustibles,
lubricants, and electric energy related to exports of both
manufactured and "extractive" products if the tax exceeds
2 percent of the price of the product. Finally, the
exporter also is exempt from all governmental taxes, fees,
and charges on goods going through Brazilian port facilities.
The quantitative value of this incentive is small, but it
indicates governmental good will toward exporters and

simplifies administrative procedures.

The Drawback.--The drawback allows an exporter to
import raw materials and intermediary products without
paying import duties if the final manufactured good is
exported. The exporter is able to buy inputs at world
instead of domestic prices, which may be higher because
of inefficiency or the protection of infant home industry.
The drawback, first decreed in 1934, remained dormant.

Until it was enacted as part of the general tariff reform
of 1957, (Article 34 of Law No. 3244, 14 August 1957),
implemented in 1961, and modified in 1964 (Decree No. 53,967,

16 June 1964). It has three main provisions: (1) Exporters

269

need not pay duty on raw materials, semimanufactured pro-
ducts, intermediary goods, and packaging materials if its
plan for export production and inputs needed has been
approved by the Bank of Brazil; (2) A tax credit equal to
the import duties paid on goods subsequently exported in a
more finished form is available in cases where exportation
was not planned at the time of importation of inputs; (3)
The CPA (Conselho de Politica Aduaneira) supervises
refunding of import taxes paid by the exporter.

Capital goods cannot be imported under the provi-
sions of the drawback. A firm may submit a production
plan to the government, however, and ask permission to
import capital goods without the payment of duties.

Complex administrative procedures coupled with the
problem of having to adapt the production of goods to the
imported inputs, which may differ from domestic ones,
seem to have limited the use of the drawback provision at
first. From 1961 to 1964 only 66 small transactions
involved the drawback, but modifications in 1964 increased
its use considerably. For example, in 1970 there were
627 drawback related operations, representing a total of
US$43 million (fob) duty-free imports and corresponding
to a sum of US$198 million (fob) in exports. This was
an increase from 1969 to 1970 of approximately 335 percent.5
The number of such transactions again rose sharply in 1971,

76 percent more than in 1970.

 

5Banco do Brasil, Boletim, 6, No. 2 (1971). p. 13;
and Banco do Brasil, Annual Report, 1971.

 

270

Financial Incentives

 

Credit facilities have become a powerful instru-
ment for the Brazilian government's promotion of exports
of manufactured and nonmanufactured nontraditional
products.6

There are provisions for a special line of short-
term financing of production for export through the private
banking sector at special interest rates.7 A firm does not
have to be an industrial producer to borrow.

Marginal increments for financial contracts are not
to exceed US$200,000, a measure designed to protect small
firms. To reduce risk and administrative costs, commercial
banks have shown a preference for lending the tight funds
available to large firms.

In addition to pre-export credit facilities, post-
export direct financing for export sales is provided by
the Banco do Brasil and those commercial banks which are

authorized to deal in exchange transactions.

 

6See Hesse, "Promoting of Manufactured Exports,"

pp. 248-50; Doellinger, et al., ExportacOes, pp. 129-56;
and Tyler, "Export DiverSIfication,W_pp. 141-48.

 

7An exporting firm may apply to CACEX (Department
of Foreign Trade of Bank of Brazil) for a certificate to
utilize credit made available by Resolution 71. The firm
can then go to its commercial bank and borrow funds for
120 days at an annual interest rate of 8 percent. Assuming
a 10 percent real opportunity cost for capital in Brazil
and 20 percent inflation (which was the approximate rate
from 1969 to 1971), the 8 percent rate requests a subsidy
equal to about 24 percent of the value of the financing.
Resources are made available from the Central Bank to the
commercial banks at an annual rediscount rate of only 4
percent and then to the exporting firm.

271

CACEX and FINAME (A BNDE subsidiary) made available
long-term financing of manufactured export sales. The
CACEX credit line finances up to 85 percent of cif export
values on a one-year term for durable consumer goods and on
terms of up to 8 years for producers' goods. The interest
rate ranges between 7 and 9 percent per annum depending on
the export product and the country of destination. Adding
the exchange risk, the total interest cost to the borrower
has been about 23 percent, similar to the case of the short-
term export sales financing with commercial banks. FINAME
finances all sales, either internal or external, of domes-
tically produced goods. Its terms were up to three years
with one year's grace. This was not sufficient, however,
for export financing of capital goods. More recently,
FINAME established a new line of credit from eight-year
term (including two years' grace) and with nominal interest

of about 28 percent.

Other Credit Incentives

 

Other credit incentives have been made available,
primarily to exporters of manufactured products. First,
CACEX may finance for up to 360 days 85 percent of the cif
value of durable consumer and capital goods exported on
consignment (Resolution 43 of CONCEX of 22 January 1969).
Interest rates are: 12 percent annually plus the exchange
risk. Second, CACEX may finance expenses associated with

marketing operations abroad--such as marketing studies,

272

sales expenses, and advertising-~also at a 12 percent
annual interest rate. (Resolution 49 of CONCEX of 11

July 1969). US$300,000 to US$500,000 is available annually
for this purpose. Finally, CACEX also finances engineer-
ing, economic, and other feasibility studies designed to

promote exports.

Institutions

Many existing institutions have substantially
expanded their activities related to foreign trade in the
second-half of the 1960's and in the early 1970's. Most
important among them are the CACEX (the foreign trade
department of the Bank of Brazil, or the Carteira de
Comercio Exterior), the Finance Ministry, the Ministry of
Foreign Relations (Itamarati), the Central Bank, the Cus-
toms Union, the Ministry of Industry and Commerce, the
Ministry of Agriculture, the Association of Industries and
of Trade, and especially the newly created National Associa-
tion of Exporters and the National Council of Foreign Trade
or CONCEX (Conselho Nacional de Comercio Exterior). CONCEX,
created in October 1966, is an interministerial council
which formulates, coordinates, and regulates Brazil's
policies dealing with international commerce. At the end
of 1972, the government also created an important national

trading company.

273

Other Measures to Promote Exports:
Procedure Simplification

 

During the import substitution phase of Brazil's
economic growth, the government ignored exports and even
made export shipments rather difficult. Constant infla-
tion, generally coupled with an overvalued exchange rate,
was accompanied by incentives for investing Brazilian
capital abroad. The government regarded exporters with
suspicion and required licensing and copious paper work
for all export operations. In 1964 the government announced
that to promote exports it was simplifying export procedures,
and bureaucratic requirements have been reduced substantially.
Licensing has been abolished, and the export price control
which sometimes is applied now is made only after shipment.
Since 1965 a single form with several functions has been
substituted for the numerous forms previously utilized.

More important was the change in attitude toward exporters,
whom the government now regarded as the key promoters of

economic growth.

Promotional Activities

 

During the import substitution phase, Brazilian
industries were selling only in the domestic market and
were not prepared, after 1964, to promote their products
and to compete in international markets. To assist
exporters in these difficulties, the government extended

some services through the Bank of Brazil, particularly

274

CACEX, and the Ministry of Foreign Relations (Itamaraty).
CACEX is charged with promotional activities in Brazil,
and Itamaraty develops foreign activities. Assisted by
newly established branches of the Bank of Brazil in
several major cities abroad. The offices of the regional
development agency for the Northeast (SUDENE) in Salvador,
Recife, and Fortaleza also are engaged in promoting export.
In September 1972, in commemoration of Brazil's
150th year of independence, a private organization with
strong government support organized a huge modern EXPO in
Sao Paulo featuring all Brazilian export products. More
than 2,000 important foreign businessmen were officially

invited.

"Export Corridors"

 

In order to facilitate bulk transport for domestic,
and particularly foreign, trade, the Brazilian government
has undertaken a program to develop "export corridors."
With an investment of US$900 million, from 1972 to 1974,
five or six of the principal Brazilian ports are to be
provided with highly specialized, integrated road-rail-
portship systems to enable them to attain internationally
acceptable levels of operation.

Other measures include the mailing of samples to
prospective buyers with no formalities required, the
abolition of export formalities in the frontier zones, the

National DevelOpment Bank (BNDE) guarantee to participants

275

in international competition, and, finally, the establish-
ment by law of incentives for the formation of trading

companies.

APPENDIX B

EXPORTS OF INDUSTRIAL GOODS: THE
VARIABLES, SOURCES, AND

DATA PROBLEMS

276

EXPORTS OF INDUSTRIAL GOODS: THE
VARIABLES, SOURCES, AND

DATA PROBLEMS

Several data problems imposed significant con-
straints on this research. The first is related to the
measurement of the dependent variable, the exports of
Brazilian industrial products. Since the early sixties,
when Brazilian governments started to pay attention to the
value of manufactured exports, the Department of Foreign
Trade of the Banco do Brasil, CACEX, has changed the
classification of exported products at least two times.
Because of this, a series of quarterly data for exports
of manufactures (used by W. G. Tyler and by C. V. Doellinger)
from 1961 to 1970 can be found, but it has no corresponding
continuation after 1970. Since 1971, CACEX/NUCEX has been
publishing monthly figures of exports of semimanufactures
and of manufactures under a different classification.

From 1964 to 1971, only annual data were available under
this classification. Accordingly, the following procedure
was adopted:

1. For annual data: the values of exports of
manufactured products (excluding the semiprocessed ones,
such as carnauba wax, iron and steel for rerolling, pig
iron, sawn wood, cocoa butter, vegetable oils, etc.) under
the new CACEX/NUCEX definition were used for the period

of 1964-1971. Data for the years before 1964 were not
277

278

available. Therefore, the regressions for annual data
were limited to only eight observations.

2. For quarterly data: the same annual amounts
as in 1 above were used. These totals were then divided
into four quarters according to the percentage values of
quarterly exports of manufactures under the old classifi-
cation (used by W. G. Tyler) for the period of the lst
quarter of 1964 to the 4th quarter ofl970. The actual
values of quarterly exports of manufactures under the new
CACEX/NUCEX classificationvnne then used for the period of
the lst quarter of 1964 to the 2nd quarter of 1972.

Annual exports of manufactures in the first classification
constituted 65 percent to 85 percent of the total annual
values under the new CACEX/NUCEX classification. With
this procedure, which, of course, contains important
limitations, a total of 33 observations was available.
Unfortunately, no better alternative could be found.1

To express the value of exports in constant dollar
value, the United States wholesale-price index for all
commodities was used as a deflator. The values of X for

1
both annual and quarterly data are shown in Table B-1.

 

lIn correspondence with this author, the Chief of
the Nucleo de Estatistica, NUCEX/CACEX, of the Banco do
Brasil, Mr. Paulo Monteiro de Araujo, wrote that it was
not possible to reconstitute the whole monthly or quar-
terly series of data for the period before 1970 because
of several changes in the classification of products.

279

 

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281

The calculation of X the index of the real-

2t’
exchange rate adjusted for dollar inflation,is shown in
Table B-2 for all months from January of 1963 to July of
1972. The official export (or purchase) exchange rate
index was deflated by the Brazilian wholesale price index
for industrial goods to obtain the index of the real
exchange rate. This index was then multiplied by the
United States wholesale price index for all commodities

to obtain the index of real-exchange rate adjusted to dollar
inflation. Figure II-l on page 67 illustrates the fluctua-
tions in this index, quite wide before August 1968 and only
mild since then. August l968'was chosen as a base.

It may be noted that by using the Brazilian
wholesale price index for industrial goods, which is more
relevant for measuring the competitive position of exports
of manufactures, the index of real exchange rate adjusted
to dollar inflation does not decrease in value after
August 1968 (as Tyler had found when using the Brazilian
wholesale price index for all goods as a deflator). Tyler's
calculations are shown in Table B-3 for purposes of com-
parison. The reason for this difference, as already noted
above (page 65), is that industrial prices increased
relatively less than nonindustrial prices during 1968-1972.

The index denoting the level of fiscal incentives,

X is the one calculated by Tyler.2

3t'

 

2Tyler, "Export Diversification."

2532

 

 

 

 

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286

 

 

 

 

 

 

 

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287

 

 

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288

The proxy for world income, is the total

X4t’
world imports deflated by the world trade price index.

The way in which this variable was employed here differs
in several respects from Tyler's use of it. First, Tyler
had utilized current instead of real values; second, he
used them in the form of index instead of dollars; and
third, he used them in nonlog form, although the dependent
variable was in log form. In this study, the log value of
exports (in the order of millions of dollars) is regressed
against the log value of world imports (in the order of
billions of dollars)--proxy for world income--so as to
obtain income elasticity values.

The estimation of XSt' the proxy for capacity
utilization, involved some difficulties. Following
Doellinger and Tyler, the residual from the time-trend
regression of Brazilian industrial production was used as
a proxy. For annual data, the real value of Brazilian
industrial production was available. Table C-4 shows the
time-trend regression calculation. For quarterly data,
however, an imperfect proxy for industrial production, the
index of consumption of electric energy by industry in
the 850 Paulo-Rio region, was used. In 1971, the 850
Paulo-Rio region accounted for only about 53 percent of
exports of industrialized products from all regions of

Brazil.3 Table B-5 shows the time-trend regression

 

3See CACEX, Banco do Brasil, Relatério 1971,
Exportacao Brasileira, Regioes e Estados, p. 190.

289

TABLE B-4.--Residuals from Linear Time Trend Regression of
Brazil's Industrial Product in Real Terms--
Annual Data: 1959-1971 (Base l949=100).

 

 

Real
Industrial
(time) Year Product Estimated Residual
x Y a? Y-s?
( l) 1959 238.5 219.8 +18.7
( 2) 1960 261.4 243.7 +17.7
( 3) 1961 289.2 267.6 +21.6
( 4) 1962 311.8 291.5 +20.3
( 5) 1963 312.4 315.4 - 3.0
( 6) 1964 328.5 339.3 -lO.8
( 7) 1965 313.0 363.2 -50.2
( 8) 1966 349.6 387.1 -37.5
( 9) 1967 360.0 411.0 -51.0
(10) 1968 415.8 434.9 -l9.1
(11) 1969 460.5 458.8 + 1.7
(12) 1970 511.8 482.7 +29.1
(13) 1971 569.1 506.6 +62.5

 

Regression equation: Q = 195.9 + 23.9 X

 

Calculations:
E = 7 E x = 91 2 (xi - 2) (Y1 - Y) = 4349.1
7 = 363.2 f Y = 4721.6 2 (Xi - x)2 = 182
A 2(X- - Y) (Y- - I)
B = 1 _ 21 = 321211 = 23.896
2 (X1 - X) 182

a = I - 6 2 = 363.2 - 23.896 x 7 = 363.2 - 167.3 = 195.9

Source for data on Real Industrial Product: Conjuntura
Econémica, Vol. 26 (November 1972).

 

 

290

TABLE B-5.-—Residuals from Linear Time Trend Regression of

Brazilian Industrial Production (Proxy)--
Quarterly Data 1961-1972.

 

 

 

 

 

I II III IV
Quarterly Moving Averages of Industrial

Production (Proxy) Index (Y)
1961 86.1 97.4 96.9 96.8
1962 104.6 99.2 98.8 100.1
1963 100.0 102.4 104.4 98.4
1964 101.3 103.9 104.9 107.4
1965 97.5 85.9 101.9 112.7
1966 102.4 111.4 118.4 114.2
1967 97.1 108.3 125.2 126.7
1968 118.2 125.5 137.6 144.8
1969 138.1 148.3 154.6 141.8
1970 143.9 159.9 170.7 173.0
1971 175.0 183.0 194.0 195.0
1972 191.0 205.0

Residuals from Time Trend RegressionAof Industrial
Production Index (Y - Y)

1961 11.9 20.9 18.1 15.7
1962 21.2 13.5 10.8 9.8
1963 7.4 7.5 7.2 - 1.1
1964 - 0.5 - 0.2 - 1.5 - 1.3
1965 -13.5 -27.4 -13.7 - 5.2
1966 -l7.8 -11.1 - 6.2 -12.9
1967 ~32.3 -23.4 -32.2 - 9.6
1968 -20.4 -15.4 - 5.6 - 0.7
1969 - 9.7 - 1 8 2.2 -12.9
1970 -13.1 - 0.6 9.1 9.1
1971 17.9 14 5 23.2 21.9
1972 15.6 27.3

 

Regression equation: Y = 74.2 + 2.3 X

where X = 0 for first quarter of 1961, X = 1 for second

quarter 1961, etc.

Source: The Industrial Production Index is based on

electric power industrial consumption in the
Rio-850 Paula region. Indexes are quarterly
moving averages of the monthly indexes pub-
lished in the Boletim do Banco Central,
several issues.

291

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29S

calculation for quarterly moving averages of the indus-
trial consumption of electric power.

The variable X the index of remuneration to

6t’
exporters of industrial goods, is the product of the
indexes of dollar inflation adjusted real exchange rate
(X2) and the level of fiscal incentives (X3).

The variable X used only in regressions with

7t’
annual data (Appendix c) denotes the frequency of
changes in the exchange rate. It is the annual average

of the monthly percentage variation (without signs) in

the index of real exchange rate. Quarterly averages of
monthly variations would not account for the effects of
sharp devaluations during quarters in which no devaluation
occurred. This might be why Tyler obtained no signifi-
cance and the theoretically incorrect sign for the coeffi-
cient relating exports of manufactures and quarterly
fluctuations in the real exchange rate. Table B-6 shows

the calculated values of X As expected, the values

7t'
for the period of minidevaluations (1969-1971) are much
smaller than for the period of sharp devaluations (1964-
1968).

The values used in the regressions with quarterly

data are shown in Table B-7, and those used with annual

data are shown in Table B-8.

APPENDIX C

EFFECTS OF MINIDEVALUATIONS ON EXPORTS OF
MANUFACTURES: THE REGRESSION RESULTS

WITH ANNUAL DATA

296

EFFECTS OF MINIDEVALUATIONS ON EXPORTS OF
MANUFACTURES: THE REGRESSION RESULTS

WITH ANNUAL DATA

Working with annual data to analyze exports of
manufacturers offers two advantages: (1) the quality of
annual data available is better than that of quarterly
data; (2) lagged effects which extend for not much longer
than four quarters present estimation problems of a
smaller degree of difficulty. On the other hand, there is
one big disadvantage: a consistent series of data is avail-
able for only eight years, 1964 to 1971.

As a first step, the computer was programmed to run
the regression model I on the annual data from 1964 to 1971
and instructed to drOp the variables which had insignifi-
cant coefficients at the 20 percent level. Equation la
was obtained. All regression results in this appendix

are shown in Table C-l.

log X = +

1t 81 109 x

log X +

3t 84 log X

B2 2t + 83 4t

+ 85 x + 87 X + St. (I)

The variables are defined in Table IV—l, Chapter IV, with
the exception of X7t, which is the annual average of the

monthly percentage variation (without signs) in the real

297

298

exchange rate. Measurement procedures are shown in Appen-
dix B.

The independent variables log X and X

4t' X5t' 7t
were deleted from equation la for being insignificant
(their significance, if included next in the final regres-
sion, is shown in parentheses under the word deleted in
Table C-l).

This same model was then run for the period of only
five years, from 1964 to 1968, which was Characterized by
sharp adjustments in the exchange rate. Equation lb was

obtained.

The proxy for world income, X which is highly

4t'
significant for the quarterly regressions, became insigni-
ficant in the case of annual regressions. This is probably
due to the smaller number of observations, and possibly,
because of the greater relevance of price elasticities to
explain the annual variations in Xlt' As expected, because
of the longer period, the price elasticity coefficients of
log X2t teal exchange rate adjusted to dollar inflation)
and of log X3t (fiscal incentives for exports) are greater
than in the case of quarterly regressions. The comparison
between la and lb is rather precarious in view of the very
small number of observations. Nevertheless, they reveal
some interesting support for the main hypothesis of this

work. The elasticity coefficients of both log X and

2t

log X increase substantially when the three annual

3t

299

observations composing the period of mini-adjustments in
the exchange rate are added to the first five years (one-
third of 1968, which should be part of the additional
observations, is included as part of the first period).
The application of the Chow or Fisher test, however, does
not confirm the hypothesis of a structural shift in the

equation between the two periods:

SSEa - SSEb/m

 

 

F = = .0110 - .002943 = .9081 x 2 =
SSEb/n - k .0029 - 3 .0029 3
F = 1.86 ‘ F3,2,.05 = 19.2.
The computer was then programmed to test model II:
log Xlt = 81 + 82 log xgt + 84 log X4t + 85 X5t
+ 87 X7t + 6t, (11)

*
where X6t is a weighted average of X6t and X6(t-l)' With

1
6t 6(t-l)°

Insignificant variables at the 20 percent level were instructed

weights of 70 percent for X and 30 percent for X

to be dropped. The result is Equation 2a.

 

1.7

than X6t and X6(t-1) separated and also than the alterna-

tive .5X6t + .5X

x6t x '3X6(t-l) gave more Significant results

6(t-1)‘

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301

Variables log X4t' X Iand X were deleted from

5t 7t
the final regression. Their significance if individually
added next is shown in parentheses under the word deleted.
The same model was then run for the first five
years 1964-1968 to yield Equation 2b. Although less
substantial than in the case of Equations 1a and lb, the
comparison of Equations 2a and 2b shows an increase in
the elasticity of exports with respect to the index of
real remuneration to exporters (X6t) when the period of
minidevaluations is included. The application of the
Fisher or Chow test again does not confirm a structural
shift in the equation between the two periods of 1964-1968
and 1969-1971.
An explanation must now be given for the insigni-
ficance of the deleted variables. The very small number
of observations might be partly responsible. Equation 3
regressed on annual observations from 1964 to 1971,
without deletion of variables, yields some interesting
results, particularly with respect to the signs of the
coefficients. The over-all regression is significant at the
1 percent level and presents a high R2 (although lower than
that of la or 2a),resu1ts which are relatively good for
only eight observations. The signs of the coefficients
of log X log X

4t,and of X are the expected ones

6t' 7t

theoretically. That of x5t indicates an interesting

phenomenon, already observed. Tyler and Doellinger, as

302

shown in Chapter III, had found an inverse and significant
relation between exports of manufacturers and the level of
utilization of industrial capacity during the periods of
1961-1970 (Tyler) or 1963-1968 (Doellinger). Since the
beginning of the mini-adjustments in the exchange rate,
however, industries began to regard exports as a regular
activity and not only as alternative for slackening domestic
market such as happened in 1965-1967. The result of this
change in attitude was that the export eXpansion contributed
to the full utilization of industrial capacity during the
years of great activity of the Brazilian economy after 1968.
This interpretation is supported by the following: the
simple correlation coefficient between log X1 and X5 is
negative, equal to -.35, for the period of 1964-1968, and
positive, equal to .88, for the period of 1964-1971, a
dramatic change already noted with the quarterly observa-
tions. In View of this, XSt should be dropped as an
explanatory variable from the export function.

Equation 4 is then obtained with the deletion of

X The over-all significance is high as well as the

2

5t“
value of R (although still lower than that of Equation 2a).
A11 coefficients, although being relatively insignificant--
perhaps due to the small size of the sample--show the
expected signs. The coefficient of X4t’ the proxy for

world income, shows again the lowest level of significance.

An explanation for this is that the level of real remuneration

303

to exporters appears to be the overwhelming factor in
determining the supply of exports, so that the level of
world income does not make much difference. Given that

the percentage value of Brazilian exports of manufactures is
so small in relation to that of world imports, only 0.17
percent in 1971, a high significance should not be expected

for the coefficient of log X4 in a very small sample size.

t

Finally, the coefficient of X7 shows a negative

t

sign, indicating that a lower degree of fluctuations in

the real exchange rate had a positive effect on exports of

manufactures. The low significance of the coefficient,

however, does not permit a strong conclusion in this case.
The best fit with quarterly observations was

obtained with a model which had log X as

6t and log X4t
independent variables. The same model is also significant
when tested with annual data, and more so when the weighted
form th = .7X6t + '3X6(t-l) is used instead of X6t'
Equations 5a and 5b are the estimated regressions for two
periods, 1964-1968 and 1968-1971. Contrary to what was
found with quarterly regressions, changes in the level of
world trade, log X4t, again do not show significance

in these annual regressions. Its coefficient decreases in
value and loses significance when the years 1969-1971 are
added. The coefficient of log X6t’ which denotes the elas-

ticity of exports of manufactures with respect to changes

in the level of real remuneration to exporters, on the other

 

 

304

hand, increases in value and significance when the period
of 1969-1971 is added to the regression. This indicates
that the policy of mini-adjustments in the exchange rate

made exporters more responsive to changes in X The

6t'
application of the Chow or Fisher test, however, does not
permit a strong conclusion as to the existence of a struc—
tural shift in the equation after 1968. This result is

rather precarious in view of the very small sample size

available.

Conclusion

 

The regression analysis with annual data fell short
of supporting the positive effect of minidevaluations on
exports of manufactures with strong conclusive evidence.
Nevertheless, it gave indications that exports of manufac-
tures became more responsive to changes in the level of
remuneration to exporters, both via changes in the real
exchange rate and changes in the level of fiscal incentives

during the period of minidevaluations.

APPENDIX D

EXPORTS OF BASIC PRODUCTS: THE VARIABLES, THE DATA,

AND MEASUREMENT PROBLEMS

305

EXPORTS OF BASIC PRODUCTS: THE VARIABLES, THE DATA,

AND MEAS UREMENT P ROBLEMS

Table D-l shows the deflated values of exports of
basic products other than coffee. The price index for
total world imports was considered to be an appropriate
deflator, as good as other alternatives such as the U.S.
wholesale price index for agricultural products. There
was not much difference between these two during the
period covered by the study. Table D-2 shows the eXport
exchange rate for basic products other than coffee deflated
by the Brazilian general wholesale price index.

Tables D-3 through D-5 show the construction of a
weighted average price index for 28 basic products
exported by Brazil. The average price index of each good
in each year was weighted according to its respective
participation in total basic exports.

Table D-6 shows the percentage change in the real
exchange rate (X7t) for exports from one month to another
and the average monthly variation for each year. The
greater this variation, the greater the exchange risk to
the exporter. Therefore, a negative relation between X7t
and log X1t should be expected. (See Appendix E.)

Finally, Table D-7 shows the values of all

variables used in the regression analysis.

306

 

307

TABLElrd.--Brazi1ian Exports of Basic Products Other than

 

Coffee.
Exports of Basic Exports of Basic
Products Other Products Other Than
Than Coffee in Price Index Coffee in Constant
Current for total Dollar Value

U.S.$1,000 (fob) World Imports (1)/(2) x 100

(l) (2) (3)

 

 

1964 460,897 100 460,897

1965 594,396 101 588,511

1966 680,507 102 667,164 “a
1967 597,732 102 586,012

1968 717,258 101 710,156

1969 983,226 104 945,410

1970 1,109,943 109 1,018,296

1971 1,215,910 115 1,057,313

1972 1,215,910 115 1,057,313

Source: For exports of basic products, Relatério,

 

Exercicio de 1971, Banco do Brasil S.A., p. 174, and
for world imports price index, International
Financial Statistics, IMF, several iESues.

 

 

308

TABLEI%2.--Export Exchange Rate for Basic Products Other
Than Coffee.

 

Wholesale General
Official Purchase Price Index for Real Purchase
Exchange Rate Brazil Base: Exchange Rate
Cr$ per U.S.$1.00 l968=100 (1)/(2) x 100

(1) (2) (3)

 

 

1964 1.224 31.15 3.929
1965 1.888 47.12 4.007
1966 2.200 64.74 3.398
1967 2.658 80.77 3.290
1968 3.411 100.00 3.411
1969 4.068 120.51 3.376
1970 4.584 146.79 3.123
1971 5.271 176.92 2.979
Source: Conjuntura Econémica, Vol. 26 (November 1972).

 

1

309

 

 

 

 

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TABLEEP4.-Participation of Basic Products in the Total Value of Brazilian Exports (To be
Used in Table D-5).

 

1965 1966 1967 1968 1969 1970 1971

1964

 

100 100 100 100 100 100 100

100

Total Exports

32.7 34.4 31.9 34.5 38.1 36.8 38.8

28.3

Basic Products (28) Except
Coffee and Other Minor Items

4.9

4.6

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1.

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314

TABLE D-6.--Monthly Variation in the Real Exchange Rate for

Exports (Percentage change, without signs).

 

 

 

1964 1965 1966 1967 1968 1969 1970 1971

Jan 5.86 4.44 7.47 5.26 10.47 2.72 2.36 0.80
Feb 8.82 2.98 3.16 20.60 2.74 1.54 0.31 0.40
Mar 80.80 6.30 2.28 1.69 3.95 1.23 0.04 0.41
Apr 6.09 3.64 2.59 3.28 2.52 1.60 0.47 1.94
May 4.85 2.10 2.53 2.40 1.89 0.77 1.15 0.74
Jun 4.66 0.51 1.01 0.79 3.05 3.04 1.76 0.15
Jul 6.61 0.67 1.58 1.59 1.23 1.24 0.24 1.49
Aug 3.02 0.13 0.98 0.78 10.78 0.30 0.92 1.77
Sept 23.81 1.03 0.98 0.77 0.51 0.98 0.01 0.41
Oct 5.25 1.89 2.82 0.77 1.15 0.94 1.37 0.03
Nov 8.38 19.50 0.94 0.76 0.18 0.91 1.62 1.66
Dec 10.54 2.33 0.93 0.76 1.04 0.92 1.25 0.35
Annual

Avg. 14.1 3.79 2.27 3.29 3.29 1.35 0.96 0.85
Source: Percentage change in the real exchange rate for

exports (Column (4) of Table B-2.

315

 

 

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APPENDIX E

THE ANNUAL AVERAGE OF THE MONTHLY PERCENTAGE VARIATION

(WITH NO SIGNS) IN THE REAL EXCHANGE RATE

316

THE ANNUAL AVERAGE OF THE MONTHLY PERCENTAGE VARIATION

(WITH NO SIGNS) IN THE REAL EXCHANGE RATE

The following situations illustrate how the variable
X7t (in Chapter V and Appendix B), which is similar to
variable ft (in Chapters VII and VIII) denotes the level of
fluctuations in the real exchange rate and, therefore, the
minidevaluations.

X7t is the annual average of the monthly percen-
tage change (with no signs) in the real export (purchase)
exchange rate and ft is the same but for variations in the
real import (sale) exchange rate.

Table E-l illustrates the case of rapid inflation
and one sharp devaluation. The domestic price index
rises from 100 in December to 220 in December of the next
year. In each month there is a ten point increase in the
price index. Concomitantly, the nominal exchange rate
remains pegged at the level of 100 (say, cruzeiros per
dollar) from December to the next November. In December,
the government decides to devalue the domestic currency
sharply, and the new exchange rate becomes 220. The third
and fourth columns show the real exchange rate and the
monthly percentage variation (with no signs) in the real

exchange rate, respectively. In this example, as expected,

317

 

318

the annual average of this last variable has a high value,
equal to 15.14 percent.

Table E-Z illustrates the case of rapid inflation,
but with monthly devaluations. The nominal exchange rate
is changed every month by the same rate as the domestic
price index. As a result the real exchange rate remains
constant and the annual average of the monthly percentage
change (with no signs) in the real exchange rate is zero.

Table E-3 shows the official import exchange rate
deflated by the Brazilian wholesale price index and then
adjusted to the U.S. dollar inflation from 1955 to 1972.
Variable ft' as shown in Tables VIII-2, VIII-6, and G-l,
was calculated from the data in column (3) of Table E-3.

The calculation of ft is shown in Table E-4.

319

 

 

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mmma

 

APPENDIX F

DATA USED IN THE ANALYSIS OF BRAZILIAN IMPORTS

 

333

334

 

TABLE F-1.--Brazi1's Import Coefficient Calculated in
Current Prices. 1947-1972.

 

 

 

Gross Domestic Import
Product Imports Coefficient

Year (Million CR$) (Million CR$) Imports/GDP
1947 164.9 22.8 13.8
1948 194.6 21.0 10.8
1949 229.9 20.6 9.0
1950 272.1 20.3 7.5
1951 322.7 37.2 11.5
1952 397.3 37.2 9.4
1953 469.5 25.1 5.3
1954 627.4 55.2 8.8
1955 783.4 60.2 7.7
1956 995.9 71.6 7.2
1957 1,218.0 86.5 7.1
1958 1,457.5 103.3 7.1
1959 1,989.6 161.3 8.1
1960 2,755.7 201.2 7.3
1961 4,052.1 299.4 7.4
1962 6,601.4 511.7 7.8
1963 11,928.6 782.2 6.6
1964 23,055.9 1,242.9 5.4
1965 38,817.6 1,929.6 5.0
1966 53,724.1 3,264.8 6.1
1967 71,486.3 4,291.9 6.0
1968 99,879.3 6,826.2 6.8
1969 133,116.9 8,982.0 6.7
1970 174,624.1 12,903.6 7.4
1971 234,005.3 19,216.1 8.2
1972

 

Source: Current imports from CACEX, Banco do Brasil, Brasil,
Comércio Exterior--Foreign Trade 1971, and current GDP from
Conjuntura Economica, 26 (November 1972).

335

TABLE F-2.--Brazil's Import Coefficient Calculated in
Constant Prices of 1949, 1947-1971.

 

Import
GDP Imports Coefficient
Year (1949 prices) (1949 Prices) Imports/GDP
%
1947 200.7 27.1 13.5
1948 215.6 22.9 10.6
1949 229.9 20.6 9.0
1950 244.8 18.0 7.4
1951 259.3 27.4 10.6
1952 281.9 24.8 8.8
1953 289.0 14.5 5.0
1954 318.2 24.5 7.7
1955 340.0 23.7 7.0
1956 350.8 23.6 6.3
1957 379.1 25.4 6.7
1958 408.3 27.0 6.6
1959 431.1 30.7 7.1
1960 472.9 29.2 6.2
1961 521.6 31.4 6.0
1962 549.0 35.0 6.4
1963 557.5 30.8 5.6
1964 573.8 25.6 4.5
1965 589.5 26.3 4.5
1966 619.6 32.3 5.2
1967 649.2 34.1 5.3
1968 709.7 43.8 6.2
1969 773.6 47.8 6.2
1970 847.2 56.3 6.6
1971 942.9 69.6 7.4

 

 

Sources: CACEX, Banco do Brasil, Brasil, Comercio Exterior--
Foreign Trade 1971, and Conjuntura Econémica, 26
(November 1972). GDP values were deflated by the
national income implicit deflator and imports by
the global supply wholesale price index for all
commodities (Index 16 0f Conjuntura Econ6mica).

336

TABLE F-3.*—Brazil's Import Coefficient in Several Periods.

 

Import Coefficient

 

 

Current Constant Real GDP

Cruzeiros Cruzeiros Annual Average
Period of 1949 Growth Rate

% %

1947-52 10.3 10.0 7.04*
1953-57 7.2 6.5 5.68
1958-61 7.5 6.5 8.33
1962-67 6.1 5.2 3.72
1968—71 7.3 6.6 9.78

 

 

Source: See Tables F-l and F-2.

*Excludes 1947.

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APPENDIX G

DATA USED IN ESTIMATING THE BEHAVIOR OF

DIRECT FOREIGN INVESTMENTS

343

 

344

 

 

 

 

 

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APPENDIX H

EVIDENCE OF GREATER EFFICIENCY AFTER

MINIDEVALUATIONS

345

.d'

 

EVIDENCE OF GREATER EFFICIENCY AFTER

MINIDEVALUATIONS

An examination of the residual factor in economic
growth can give an indication as to whether or not the
economy was more efficient in the use of productive
factors after 1968, following the introduction of mini-
devaluations. The residual factor in economic growth is
the growth of output that cannot be accounted for by
the growth of labor and capital. Assuming that the
economy can be represented by a constant return to scale
production function and also assuming competitive factor

pricing, the residual (R) can be written as

where 9 is the rate of growth of real GDP, nk is the

capital share in national income, n is the labor share,

L
R is the rate of growth in the capital stock, and t is

the rate of growth of the labor force. It also may be

written as

R=y-Ck-CL,

where Ck is the contribution of capital growth and CL is

that of labor growth. Using the data for Ck and CL

346

 

 

347

estimated by Carlos G. Langoni,l it is clearly seen in
Table H-l that the residuals for the period after 1968 are
much greater than those for the period 1962-1967.2
The average residual was about 5.0 percent from 1968 to
1972 as compared to only 0.795 percent during the previous
five years. Therefore, it may be asserted that the

economy became substantially more efficient after the

introduction of minidevaluations.

 

 

Carlos G. Langoni, "As Fontes do Crescimento
Economico Brasileiro," Tables 1 and 10.

2The high residuals in the years 1960-1961 reflect

the last stage of easy import substituting industrializa-
tion.

348

TABLE H-l.--The Productivity Residual in Brazilian Economic

 

 

Growth.
Productivity

Years R = y - Ck - CL Residual
1960 R = 9.7 - 1.833 = 1.7 = 6.167
1961 R = 10 3 - 1.677 - 1.6 = 7.023
1962 R = 5.3 - 1.714 - 1.6 = 1.986
1963 R = 1 5 - 1.570 - 1.6 = -1.670
1964 R = 2.9 - 1.611 - 1.6 = - .311
1965 R = 2.7 - 1.432 - 1.6 = - .332
1966 R = 5.1 - 1.902 - 1.6 = 2.698
1967 R = 4.8 - 1.830 - 1.6 = 1.390
1968 R = 8.4 - 2.286 - 1.6 = 4.514
1969 R = 9.0 - 2.665 - 1.6 = 6.335
1970 R = 9.5 - N.A. - 1.6 R 4.2*
1971 R = 11.3 - N.A. - 1.6 5 6.0*
1972 R = 10.4 - N.A. - 1.6 b 5.1*

 

Source: For Ck and CL, Carlos Geraldo Langoni, "As Fontes
do Crescimento Economico no Brasil," Estudos
Economicos, 2, No. 4 (1972), 13 and 23. For 9 ,
Cofiifintura Economica, 26 (November 1972) and 25
(February 1973).

 

 

*

Assuming Ck = 3.7.

BIBLIOGRAPHY

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Alejandro, Carlos Diaz. "Stop-Go Cycles and Inflation
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Allen, R. G. D. Macro-Economic Theory, A Mathematical
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Almonacid, Ruben Dario. "O Exeito da Taxa Cambial Sabre
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Bacha, Edmar and Taylor, Lance. "Foreign Exchange Shadow
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Balassa, Bela and Schydlowsky, Daniel M. "Effective
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Banco Central do Brasil. Relatério 1967-1971.

 

Banco do Brasil S.A. Relatério, Exercicio de 1971.

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Banco do Brasil, Brasil-Comércio Exterior—-Foreign Trade
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Bergsman, Joel. Brazil Industrialization and Trade
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349

 

350

Bergsman, Joel and Candal, Arthur. "Industrialization:
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Boletim do Comércio Exterior.

 

Boletim, Banco Central do Brasil.

Bracher, Fernao C. B. "Sistema Cambial de Taxa Flexivel."
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Branson, T. H. and Willet, T. D. "Policy Toward Short-Term
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Bruno, Michael. "Domestic Resource Costs and Effective
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Cavalcanti, Antonio Nilson Quezado and Cracco, Ettiene.
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Chenery, Hollis B. "Comparative Advantage and Development

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Chow, G. C. "Tests of Equality Between Sets of Coefficients
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Christoffersen, Leif. "Taxas de juros e a Estrutura de
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Diz, Adolfo C. "Money and Prices in Argentina, 1935-1962."
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Doellinger, Carlos Von. "Exportacoes brasileiras:
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Doellinger, Carlos Von; Faria, H. B. B.; Pereira, J. E. C.;
and Horta, M. H. T. T. Exportacoes denamicas
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Donges, Juergen B. Brazil's Trotting Peg, A New Approach
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Fajnzylber, Fernando. Sistema Industrial e Exportagao de
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Fishlow, Albert. "Brazilian Size Distribution of Income."
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Friedman, M. "The Case for Flexible Exchange;Rates."
In Essays in Positive Economics. Edited by
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Furtado, Celso. Obstacles to Development in Latin America.
Translated by Charles Ekker. Garden City, New
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Gudin, E. "The Chief Characteristics of the Postwar
Economic Development of Brazil." In The Economy
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3S2

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