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Analysis: Brazil commodity exporters under friendly fire in "currency war"
March 30, 2012 / 9:11 AM / 5 years ago

Analysis: Brazil commodity exporters under friendly fire in "currency war"

Brazil's President Dilma Rousseff inspects a guard of honour during her ceremonial reception at the presidential palace in New Delhi March 30, 2012. REUTERS/B Mathur

SAO PAULO (Reuters) - In its latest bid to slow dollar inflows in a “global currency war,” Brazil has dealt an unexpected blow to its own commodity exporters, choking off medium-term trade financing at a vulnerable time for the sector.

Brazil - a source of much of the world’s sugar, coffee, soy, beef and iron ore - has imposed a series of taxes on foreign capital over the past year to slow what President Dilma Rousseff called a “tsunami” of cheap money flowing from the rich world.

But exporters say the central bank went a step too far on March 1, when it quietly implemented a 6 percent financial transactions tax on medium-term loans offered to exporters by banks, a critical tool used by major commodity producers across the globe to finance their operations.

That 6 percent tax has shifted demand to one-year credit lines in dollars, known as ACCs, driving up the costs as trading houses and raw materials exporters rush to shift financing needs.

“Of the two types of export credit in Brazil, the government just killed one by taxing it to death and the cost of the other is going up,” said a local executive at a multinational trader who asked not to be named.

Brazil’s largest commodities exporters are now lobbying the government to roll back the so-called IOF tax, which is applied to foreign credit and exchange operations. They say the loss of such dollar-linked loans beyond one year has crimped their access to cash and will eventually limit investments.

“We are going to have to find some solution,” said Luiz Carlos Carvalho, president of Brazil’s Agribusiness Association, which is pressing the government to remove or alter the tax.

Prior to this month, big producers like Bunge (BG.N), Louis Dreyfus, ADM (ADM.N) were free to bring in the dollars when they needed to pay for seed, fertilizer, equipment, fuel or labor. Importers eventually paid off the foreign bank loans through intermediary collection agents after the goods were delivered.

The so-called IOF tax ended this for terms beyond one year.

“Even exporters in minerals and technology had been putting up future foreign delivery contracts to secure financing in dollars with three to five years to pay back,” said Renato Buranello, an attorney in trade finance at Brazilian law firm Demarest & Almeida.

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BAD TIMING

The squeeze comes at a delicate time for both exporters and major trade-finance banks like France’s BNP Paribas (BNPP.PA), Credit Lyonnais (CRLPp.PA) and Societe Generale.

In late 2011, European banks, a leading source of financing for raw materials trade across the globe, were paring back loans to assure they would meet capital requirements in the face of increasing writedowns in asset values.

Meanwhile the Brazilian sugar industry, which accounts for half of global trade in the sweetener, is still recovering after the 2008 financial crisis tipped many mills into bankruptcy.

“We used to use this financing -- but no more,” said Luiz de Mendonça, chief executive of ETH - one of Brazil’s biggest cane ethanol producers. He said the value of this type of export financing meant $200 million-$300 million for his company alone.

“The loss of it will weaken an already fragile sector and could unleash more consolidation.”

Brazil’s soybean and corn producers are in the worst drought in half of decade. Some will not meet delivery contracts.

Exports in general have been declining here due to weak demand in China, Europe and the United States - and Brazil is struggling with a dwindling trade surplus.

The incoming dollars have strengthened the Brazilian real, punishing local manufacturers by making imports cheaper and Brazilian exports more expensive.

ABUSES

Brazil’s central bank declined to comment on the extension of the IOF tax to export finance. A government source, however, said some companies were not using the credit lines to finance production and exports. Rather, they were using them to make bets in Brazil’s currency and debt markets without paying taxes aimed at slowing speculative dollar inflows.

In recent years foreign investors have flooded Brazil with capital hoping to take advantage of zero-bound interest rates in the U.S., Europe and Japan to bet on Brazilian bonds that paid near low double-digit returns and get the added boost of a strengthening currency. In 2011, the real firmed to its strongest in 11 years, due in part by exports of raw materials.

The strong currency undermined Brazilian manufacturers, though, who had to fight a flood of cheap imports. To help them the central bank laid a tax on speculative dollar inflows.

Some companies seeking to skirt these taxes began using export credit to chase high returns on the financial markets, rather than pay for land, shipping or grow more foodstuffs, said Ademiro Vian, assistant director of financing at the Brazilian Federation of Banks, or Febraban.

“There’s speculation going on. You don’t need five years’ worth of export financing in all ag-export sectors,” Vian said.

SUGAR

But the big trading houses, particularly in the sugar and ethanol industry, are scrambling to shore up new financing.

“I have big exporters as clients that are at a loss over what to do,” said Lucio Feijo Lopes, a local attorney in trade finance. “This marks a big change in how trade finance is structured. There will be an impact on exports.”

Grain producers and exporters say they will manage more easily with the lack of longer-term export financing, as the annual nature of their business allows them to rely more on the 360-day ACC export-exchange contracts for financing.

But this short-term debt is not well suited to longer-term investment needs. Large sugar groups, of which Brazil has plenty, make investments that only pay off in exports over several years.

Long forgotten medium-term export financing contracts that were created in the 1970s under the military dictatorship are being dusted off by the local banks to try to fill the void, but the so-called Export Credit Notes, or NCEs, are based on the real, which exposes the exporter to swings in the currency.

Raw material producers, who are dependent on exports, hold longer-term debt in dollars as a natural hedge against currency risks. If the dollar, which is the currency in which the exports are paid, weakens against the real, so does the firm’s debt.

The government recently exempted exporters from a separate tax on currency futures that hampered hedging against exchange rate risks inherent in the export business.

Exporters said it is a step in the right direction but will not offset the loss of medium-term dollar financing.

“If I hold real-linked debt and the dollar falls to 1-to-1 with the real, then my debt balloons against my revenue stream,” the local executive at a multinational trader said. “Companies don’t last long if they have debts in one currency and revenue in another. As a Brazilian exporter, I have to be in dollars.”

($1=1.83 reais)

Reporting by Reese Ewing; Editing by Todd Benson, Jeb Blount, and Bob Burgdorfer

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