UPDATE 5-Brazil slams rich countries over 'currency war'

Thu Mar 1, 2012 1:36pm EST

* Rousseff lashes out at rich nations' monetary policy

* Brazil extends IOF tax to 3-year foreign loans

* Mantega warns of more measures if real remains strong

* Brazil's currency gains despite new measures

By Alonso Soto and Tiago Pariz

BRASILIA, March 1 (Reuters) - Brazilian President Dilma Rousseff slammed rich nations on Thursday for unleashing a "tsunami" of cheap money that was "cannibalizing" poorer countries such as her own, forcing them to act to protect struggling local industries.

Rousseff's words amounted to some of the highest-profile criticism to date of efforts by the European Central Bank, the Bank of Japan and others to spur their economies through low interest rates and cheap loans.

Without naming specific countries, Rousseff said these measures have damaged emerging-market nations such as Brazil by unleashing a wave of capital inflows. That has made their currencies overvalued and their exports more expensive.

Her speech, to construction executives, came hours after Brazil announced the extension of a tax on foreign loans. The move was designed to weaken the real but it strengthened instead, highlighting the difficulties Rousseff faces as global investors, flush with cash from the cheap lending, race to invest in Brazil's high-yielding assets.

Brazil has been battling the effects of a strong currency for years but had enjoyed somewhat of a reprieve in recent months as the financial crisis in Europe made global investors more averse to risky assets. With Europe's problems now abating, the real has rebounded more than 8 percent this year.

"We have a currency war that is based on an expansionary monetary policy that creates unequal conditions for competition," said Rousseff, who is a career economist.

"We will continue to develop (our) country by defending its industry and ensuring that the strategy used by the developed countries to exit the crisis does not cannibalize emerging markets," she said.

Rousseff's speech, which echoed words earlier by her Finance Minister Guido Mantega, appeared to be a coordinated effort to express dismay as central banks in the developed world keep interest rates at record lows and pour cheap cash into markets.

Banks snapped up 530 billion euros in low-cost loans offered by the European Central Bank on Wednesday as authorities there try to resolve a debt crisis that threatens the survival of the euro zone.

On Feb. 14, Japan's central bank boosted its asset buying and lending scheme, under which it buys government and private debt and lends cheap funds against various types of collateral, by 10 trillion yen ($130 billion), to 65 trillion yen.

FURTHER MEASURES POSSIBLE

Some of Brazil's problems are homegrown. The country has been a sponge for global liquidity in large part because it has some of the world's highest interest rates. The struggles of factories, meanwhile, can be attributed to issues like a high tax burden and bad infrastructure.

Still, Brazil warned that further economic measures were possible if the real keeps strengthening.

"The government will not stand by as the currency war rages on," Mantega told reporters in Brasilia. "The government will continue taking measures to prevent the real from strengthening and hurting Brazilian production."

The new measure, contained in a presidential decree published on Thursday, extended a 6 percent tax known as the IOF on overseas loans with maturities of up to three years. Previously, the tax was only charged when companies in Brazil took out foreign loans maturing in up to two years.

Analysts questioned the effectiveness of the move. The real strengthened 0.47 percent to bid at 1.711 per U.S. dollar on Thursday in volatile trading.

"This will have a moderate effect on the currency because the debt issuance of Brazilian companies has mostly been above 10 years," said Newton Rosa, an economist with SulAmerica Investimentos in São Paulo. "You have plenty of liquidity in the markets and lower risk aversion."

Brazil has a long history of tweaking the IOF tax to try to limit or woo capital inflows. Mantega said the government did not plan to raise the IOF tax on foreign purchases of local stocks but stressed it has plenty of policy options at hand.

Another would be using Brazil's sovereign wealth fund to buy dollars on the spot foreign exchange market, though Treasury Secretary Arno Augustin suggested this week that such a move is unlikely soon.

More radical steps could also be on the horizon. One possibility would be charging a "toll" on capital coming into Brazil disguised as foreign direct investment but which ultimately ends up parked in financial instruments instead of the real economy, Valor Econômico reported on Thursday, citing unnamed government sources.

Mantega, however, ruled out taxing foreign direct investment, saying that foreign investors remain welcome.

Central bank chief Alexandre Tombini sounded the alarm bells this week by saying that foreign investors are returning in droves to emerging-market assets to seek higher returns as the global economic outlook improves.

He reiterated that the bank was ready to intervene in the foreign exchange and derivatives markets whenever necessary.

Thursday's presidential decree chapters also contained a bevy of other details on the mechanics of credit operations.

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