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Special Focus: Brazil and Argentina April 2003 Prepared for presentation at the XVIII Meeting of the Latin American Network of Central Banks and Finance Ministries OUTLINE i. Brazil Recent Developments Debt Dynamics Liquidity Analysis ii. Argentina Recent Developments Debt Restructuring, Debt Dynamics and Bank Solvency Lula’s Policy Iniciatives Macroeconomic policies Primary surplus target increased from 3.75% of GDP to 4.25% for 2003 Benchmark interest rate hiked from 25% to 26.5% by the COPOM since the beggining of Lula’s administration Revenue raising iniciatives such as the renewal of the CPMF Structural Reforms Social Security reform in order to reduce the deficit of Public Sector Social Security System (currently at 4.1% of GDP ) Foster Central Bank autonomy Social Policies “Zero Hunger” (“Fome Zero”) social plan, cost limited to BRL 2 billion (0.15% of GDP) in 2003 budget Employment plans mainly aimed at young people OUTLINE i. Brazil Recent Developments Debt Dynamics Liquidity Analysis ii. Argentina Recent Developments Debt Restructuring, Debt Dynamics and Bank Solvency Debt Dynamics: Benchmark Scenario Assumptions Domestic real interest rate: 13% Interest rate on external debt: 11.3% Average real interest rate on public debt: 10.3% (includes monetary base) Growth rate: 2.5% Target surplus: 4.25% of GDP Initial debt ratio in Jan-03: 55.9% Public Debt Dynamics: Benchmark Scenario Primary Balance 4.30 4.25 4.20 % GDP 4.15 4.10 4.26% 4.25% 4.05 4.00 4.08% 3.95 Required *Last 12 months ending in January 2003 Target Observed* Public Debt Structure January 2003 Fixed Rate 1% Others 18% External or FX indexed Public Debt Indexed to the Interest Rate 42% 39% Public Debt Stock: US$ 252.1 billion (55.9% of GDP) 10-Mar-03 1.7 9-Ene-03 2.2 11-Nov-02 16-Sep-02 22-Jul-02 23-May-02 25-Mar-02 23-Ene-02 26-Nov-01 21-Sep-01 20-Jul-01 15-May-01 09-Mar-01 02-Ene-01 R$ per dollar 4.2 3000 3.7 2500 3.2 2000 exchange rate 2.7 1500 EMBI+ 1000 Brazil 500 basis points External Financial Conditions and the Exchange Rate External Financial Conditions and Domestic Interest Rates (C-Bond Spread in b.p. and 360-day Interest Rate Swap in %) 35 2300 25 1300 20 800 15 C-Bond spread 2-Mar-03 2-Ene-03 2-Nov-02 2-Sep-02 2-Jul-02 2-May-02 2-Mar-02 2-Ene-02 2-Nov-01 2-Sep-01 2-Jul-01 2-May-01 10 2-Mar-01 300 Interest Rate interest rate 1800 2-Ene-01 C-Bond Spread 30 Debt Dynamics: Sensitivity Analysis Public Debt (% of GDP) Interest Rate Growth Rate 10% real depreciation 57.3% 10.3% 2.5% +0.1% 1% increase in the domestic interest rate 55.9% 10.8% 2.5% +0.3% 1% reduction in the growth rate 55.9% 10.3% 1.5% Incremental Fiscal Effort Fiscal Impact of: +0.6% Public Debt Composition (in % of total, January 2003) External 26% Domestic 74% Domestic Public Debt by Holder (31st January 2003, % of total) Other 4% Banks 34% Non-financial private sector 8% Investment Funds 34% Reserve Requirements 20 % Banks’ Exposure to the Public Sector Public Bond Holdings, March 2002 350% 300% 250% 200% 150% 100% 50% 0% In % of Banks’ Assets Source: JP Morgan In % of Banks’ Net Worth OUTLINE i. Brazil Recent Developments Debt Dynamics Liquidity Analysis ii. Argentina Recent Developments Debt Restructuring, Debt Dynamics and Bank Solvency Liquidity Requirements of the Public Sector (Billions of US dollars) 2003 I. FISCAL DEFICIT (est.) II. PUBLIC DEBT AMORTIZATIONS* Domestic Debt External Debt III. POTENTIAL LIQUIDITY REQUIREMENTS (I +II): Total Available Liquid Funds of the public sector in % of Potential Liquidity Requirements 17.8 86.8 64.7 22.1 104.6 60% Note: Total Available Liquid Funds are International Reserves plus expected disbursements under the IMF agreement *Amortizations were converted to dollars at an XR of 3.6 Reales per dollar Liquid International Resources of the Public Sector (billions of US dollars) 2003 I. International Reserves (January 2003) 38.8 II. IMF Disbursements under the new agreement (during 2003) 24.0 III. Total Available Liquid Funds ( I+II) 62.8 In % of Liquidity Requirements 60% Note: Under the new IMF agreement there is an agreed floor for reserves of US$ 5 billion Liquidity Requirements of the Private Sector (billions of US dollars) 2003 EXTERNAL DEBT AMORTIZATIONS 17.0 Medium and Long Term 12.4 Short Term 4.6 Total Liquidity Requirements (billions of US dollars) 2003 I. PUBLIC SECTOR BORROWING REQUIREMENTS 104.6 Fiscal Deficit (est.) 17.8 Public Debt Amortizations 86.8 II. PRIVATE SECTOR EXTERNAL DEBT AMORTIZATIONS 17.0 III. TOTAL POTENTIAL LIQUIDITY REQUIREMENTS (I +II) 121.6 Total Available Liquid Funds of the public sector in % of Potential Liquidity Requirements 52% OUTLINE i. Brazil Recent Developments Debt Dynamics Liquidity Analysis ii. Argentina Recent Developments Debt Restructuring, Debt Dynamics and Bank Solvency 18-Mar-03 24-Feb-03 31-Ene-03 09-Ene-03 16-Dic-02 22-Nov-02 29-Oct-02 04-Oct-02 12-Sep-02 21-Ago-02 29-Jul-02 04-Jul-02 11-Jun-02 20-May-02 25-Abr-02 03-Abr-02 07-Mar-02 13-Feb-02 15-Ene-02 Nominal Exchange Rate Pesos per Dollar, Free Exchange Rate Market 4 3.5 3 2.5 2 1.5 02-Mar-03 02-Ene-03 02-Nov-02 02-Sep-02 02-Jul-02 02-May-02 02-Mar-02 02-Ene-02 02-Nov-01 02-Sep-01 02-Jul-01 02-May-01 180% 160% 140% 120% 100% 80% 60% 40% 20% 0% 02-Mar-01 02-Ene-01 Currency Forward Premium 1 year NDF Financial Crisis 6,000 02-Ene-01 06-Feb-01 13-Mar-01 17-Abr-01 22-May-01 26-Jun-01 31-Jul-01 04-Sep-01 09-Oct-01 13-Nov-01 18-Dic-01 22-Ene-02 26-Feb-02 02-Abr-02 07-May-02 11-Jun-02 16-Jul-02 20-Ago-02 24-Sep-02 29-Oct-02 03-Dic-02 07-Ene-03 11-Feb-03 18-Mar-03 US$ millions Liquid International Reserves of the C.B 27,000 24,000 21,000 18,000 15,000 IMF disbursement of U$S 4 bn. Implementation of the “Corralito” Cavallo and De La Rúa resign Repayment to IMF of US$ 1 bn. 12,000 9,000 US$ 10,515 million 2% Ene-01 Ene-01 Mar-01 Abr-01 May-01 May-01 Jun-01 Jul-01 Ago-01 Sep-01 Oct-01 Nov-01 Dic-01 Ene-02 Feb-02 Mar-02 Abr-02 May-02 Jun-02 Jul-02 Ago-02 Sep-02 Oct-02 Nov-02 Dic-02 Ene-03 Feb-03 Interest Rate Time deposits, 30 days 62% 52% 42% 32% 22% 12% 62500 28-Mar-03 16-Feb-03 8-Mar-03 27-Ene-03 18-Dic-02 7-Ene-03 8-Nov-02 28-Nov-02 80500 29-Sep-02 19-Oct-02 20-Ago-02 9-Sep-02 11-Jul-02 31-Jul-02 21-Jun-02 12-May-02 1-Jun-02 2-Abr-02 22-Abr-02 21-Feb-02 13-Mar-02 12-Ene-02 1-Feb-02 68500 23-Dic-01 3-Dic-01 A$ millions Total Deposits: Evolution since Implementation of the Corralito - AR$ 23,396 million 86500 + AR$ 8,443 million 74500 Implementation of the Corralito Consumer Price Inflation (Yearly and annualized monthly rates) yearly rate annualized monthly rate 45% 250% 200% 30% 150% 25% 20% 100% 15% 50% 10% 5% 0% 0% Mar-03 Ene-03 Nov-02 Sep-02 Jul-02 May-02 Mar-02 Ene-02 Nov-01 Sep-01 Jul-01 May-01 -50% Mar-01 -5% Ene-01 yearly rate 35% annualized monthly rate 40% Industrial Production (s.a. index, 3-month moving average, June 1998=100) 102 Financial Crisis 98 94 90 86 Russian Crisis 82 78 74 Feb-03 Oct-02 Jun-02 Feb-02 Oct-01 Jun-01 Feb-01 Oct-00 Jun-00 Feb-00 Oct-99 Jun-99 Feb-99 Oct-98 Jun-98 70 Source: Universidad Torcuatto Di Tella Mar-03 Feb-03 Ene-03 Dic-02 Nov-02 Oct-02 Sep-02 Ago-02 Jul-02 Jun-02 May-02 Abr-02 Mar-02 Feb-02 Ene-02 Dic-01 Nov-01 Oct-01 Sep-01 Ago-01 Jul-01 Jun-01 May-01 53 Abr-01 Mar-01 Feb-01 Consumer Confidence Index (Capital Federal) Financial Crisis 48 43 38 33 28 Argentina’s Letter of Intent with the IMF Macroeconomic Assumptions Real GDP growth rate of 2% to 3% in 2003 (compared with an expected decline of 11% in 2002). Consumer Price inflation at 35% yoy in 2003 (implied average inflation rate of 26%). Fiscal Targets Federal Government: Primary surplus of 2.1% of GDP for 2003. Provinces: Primary surplus of 0.5% of GDP for 2003. Monetary Targets Net International Reserves (floor): US$ -3,900 million (gross reserves of US$ 10 bn.) Net Domestic Assets of CB (upper limit): AR$ 51,415 at end June. The XR will continue to float but the BCRA will intervene to avoid excessive volatility. *Quasimonies are estimated at AR$ 7,450 Argentina’s Letter of Intent with the IMF Other Conditions Gradual elimination of exchange rate controls. Debt restructuring with the technical assistance of the IMF and the aid of an external advisor. Financial System Reform (including measures designed to deal with problem banks). A new specialized unit will be created for bank restructuring. Tax System Reform (including elimination of tax excemptions and preferences, suspension of the remaining competitivity plans, substantial reduction in the regional promotion regimes and other measures) Reform of intergovernmental relationships. During the program period no new laws nor judicial instruments that amount to involuntary suspensions of creditor rights will be passed (the Government will implement a program to backup extrajudicial agreements between creditors and debtors). Independence of BCRA Amortization Schedule with Multilaterals (in millions of US$, previous to IMF agreement) Jan-03 Feb-03 Mar-03 II-03 III-03 IV-03 2003 Multilaterals 1093 83 3232 2336 4606 2479 13829 o/w IMF 1056 0 3081 640 4303 752 9831 World Bank 26 81 118 832 228 843 2128 IADB 11 1 33 773 74 793 1684 OUTLINE i. Brazil Recent Developments Debt Dynamics Liquidity Analysis ii. Argentina Recent Developments Debt Restructuring, Debt Dynamics and Bank Solvency Federal Public Debt plus Contingent Liabilities (in billions of US$, September 2002) Sept 02 Federal Government Debt 129.8 Contingent Liabilities 4.9 Compensation to Banks Asymetric indexation* Amparos* Bond for restitution of 13% salary & pension cut* Federal Government Debt including contingencies (1) 4.1 2.6 1.5 0.8 134.7 * = in the process of recognition (1) does not include federalization of Provincial Debt estimated at US$ 13.6 billion 13.6 Argentina’s Public Debt and the Equilibrium Real Exchange Rate (% of GDP) 180 167 160 148 Debt (%GDP) 140 127 120 100 80 60 40 20 0 2.5 2.0 Equilibrium Real Exchange Rate 1.5 Federal Government Debt Structure September 2002 BODEN 12% Bonds 41% Guaranteed loans 17% Multilaterals 29% Other 1% In default: US$ 52.1 billion* * LMW estimate Implied Expected Loss (EL) in Bond Prices Definition: VM VF • (1-EL) where: VM is the market value of a risky bond VF is the discounted present value of the risky bond assuming both coupon and principal are fully paid Example: Bond which pays constant coupon payments c until its maturity at time T: EL = 1 - VM VF VM =1 T c s=1 where i is the risk free interest rate. (1+i)s + 1 (1+i)T Yield Curve of EL on External Bonds February 2003 90% Weighted average Expected Loss 85% 80% 75% 70% 65% 2008 2010 Global Bond 2027 Argentina’s Public Debt After a Hypothetical 70% Haircut on Defaulted Debt (% of GDP) 140 124 Debt (%GDP) 120 111 98 100 80 60 40 20 0 2.5 2 Equilibrium Real Exchange Rate 1.5 Interest Payments on Public Debt After a Hypothetical 70% Haircut on Defaulted Debt Debt (%GDP) (% of GDP) 130 125 120 115 110 105 100 95 90 85 80 7.1% 6.3% 5.4% 2.5 2 Equilibrium Real Exchange Rate Note: Imputed interest rate of 5.6% 1.5 Debt Sustainability (required primary surplus in % of GDP, with 70% Haircut on Defaulted Debt) Growth Rate Real Exchange Rate 1.5 2 2.5 0% 5.4% 6.3% 7.1% 2% 3.3% 4.0% 4.6% 4% 1.4% 1.8% 2.1% Redollarization Costs: Alternative Scenarios "Corralón" 11.5 Contingent Liability in % of GDP (c) 16.6 24.6 8.0 2.6% 37.0 54.9 17.9 6% 87.3 129.6 42.3 13% Intermediate Case (in billions of AR$) "Corralón" Worst Case Best Case Elegible for Elegible for Contingent redollarization redollarization Liability in (at 1.4 plus CER) (at current XR)* AR Pesos (a) (b-a) (b) Dollar deposits 11.5 (in billions of AR$) Transactional "Corralito” 14.3 (in billions of AR$) (as of Jan 02 before pesific., in billions of US$) 46.7 Accumulated "Amparos” (in billions of US$) -3.3 * The XR prevailing in April 1 st (2.98 Pesos per Dollar) was used in these calculations. Debt Sustainability (required primary surplus in % of GDP, with 70% Haircut on Defaulted Debt, includes redollarization costs under worst case scenario) Growth Rate Real Exchange Rate 1.5 2 2.5 0% 5.8% 6.8% 7.8% 2% 3.6% 4.3% 4.9% 4% 1.5% 1.9% 2.2% Fiscal Revenues under Alternative Recovery Scenarios (in real terms, Feb 01=100) 110 105 total revenues with full recovery 100 95 90 85 primary expenditures 80 Oct-03 Feb-03 Oct-02 Jun-02 Feb-02 Oct-01 Jun-01 Feb-01 Oct-00 Jun-00 Feb-00 Oct-99 Jun-99 Feb-99 Oct-98 Jun-98 70 Jun-03 total revenues with no recovery 75 Primary Surplus under Alternative Recovery Scenarios* (% of GDP) 6.0% 5.0% 4.0% 3.0% 2.0% 1.0% 0.0% No recovery of revenues * Primary expenditures at current levels Full recovery of revenues to Feb 2001 levels Assets of Argentina’s Financial System August 2002 Total assets: ARG$155.800 millions Other net assets 5% Claims on to the public sector 57% Reserves 6% Loans 32%