1. 1 Currency and Maturity Matchmaking: Redeeming Debt from Original Sin Banco Central do Brasil National Policies Panel November 2002 Ilan Goldfajn

2. 2 Original Sin: Currency Mismatch How to measure? Net External Liability versus Present Value of Net ExportsHow to measure? Net External Liability versus Present Value of Net Exports Currency Risk SharingCurrency Risk Sharing Why Do Balance Sheets Matter?Why Do Balance Sheets Matter?

3. 3 Net External Liability: Is this the size of the Mismatch? US$ billion 1995200020012002 March International investment position (A-B) -165.5-347.3-264.5-271.6 Assets (A) 59.339.9108.1108.8 Direct investment abroad......50.751.3 Portfolio investment 3.51.86.46.6 Financial derivatives......0.0-0.2 Other investment 4.35.015.114.5 Reserve assets 51.533.035.936.7 0.00.00.00.0 Liabilities (B) 224.8387.2372.6380.5 Direct investment in reporting economy 48.7122.3121.9126.0 Medium and Long Term Debt 159.3189.5182.3181.4 Others16.875.468.473.1

4. 4 Current Account Deficit * BC forecasts US$ billion 33.4 25.3 24.2 23.2 8.6 8.2 0 5 10 15 20 25 30 35 40 19981999200020012002*2003*

5. 5 Net External Liability versus Present Value of Net Exports Same intertemporal sustainability analysisSame intertemporal sustainability analysis Tradables versus non-tradablesTradables versus non-tradables What is the effect of Dollarization?What is the effect of Dollarization? FDI or contracting in non-tradables (own currency)FDI or contracting in non-tradables (own currency) –still need to generate tradables but have risk sharing

6. 6 Risk Sharing: Distribution of the Mismatch Residents versus Non-ResidentsResidents versus Non-Residents –FDI (equity in general) increases risk sharing –Borrowing in your own currency Public versus PrivatePublic versus Private –Domestic Debt indexed in Foreign Currency Government provides Hedge to private sector Government provides Hedge to private sector Intertemporal smoothing of risk: Are future generations willing to bear the risks? Intertemporal smoothing of risk: Are future generations willing to bear the risks? –How fast can the government transfer back risk to the private sector? Stock versus FlowsStock versus Flows Floating Exchange Rate versus HedgingFloating Exchange Rate versus Hedging –Corporates vs Government Corporates adjust better than governmentCorporates adjust better than government

7. 7 External Financing Requirements * BC forecasts US$ billion External financing requirements = current account deficit - net foreign direct investments (includes intercompany loans). 4.6 -3.2 -8.6 0.8 -7.4 -7.8 -10 -8 -6 -4 -2 0 2 4 6 19981999200020012002*2003*

8. 8 Gross External Debt 0 50 100 150 200 250 dec98dec99 mar00 jun sep dec mar01 jun sep dec mar02 jun US$ Billion TotalPrivatePublic 48% 52% 100%

9. 9 Domestic FX Exposure Domestic Debt Indexed to the Exchange Rate (Includes FX Swaps) 40 45 50 55 60 65 70 75 80 Dec-99 Dec-00 Nov-01 Dec-01 Jan-02 Feb-02Mar-02 Apr-02 May-02 Jun-02 Jul-02 Aug-02 Sep-02 Oct-02 65.85 US$ Billion

10. 10 Domestic Debt Maturity Mismatch: Average Tenure of the Debt vs. Debt Maturing in 12 Months Months Share of Total Debt 20 25 30 35 40 Dec-99 Dec-00 Nov-01 Dec-01 Jan-02 Feb-02Mar-02 Apr-02 May-02 Jun-02 Jul-02 Aug-02 Sep-02 Oct-02 0% 10% 20% 30% 40% 50% 60% Average Term of the Secur. Domestic Debt Securitized Debt Maturing in 12 Months 40% 33

11. 11 Net Public Sector Debt 0 10 20 30 40 50 60 70 Dec-98 Mar-99 Jun-99 Sep-99Dec-99 Mar-00 Jun-00 Sep-00Dec-00 Mar-01 Jun-01 Sep-01Dec-01 Mar-02 Jun-02 Sep-02 Total External Debt 63.9% Share of GDP

12. 12 Conversions of Credit into FDI 0 2 4 6 8 10 Dec-95 Apr-96 Aug-96 Dec-96 Apr-97 Aug-97 Dec-97 Apr-98 Aug-98 Dec-98 Apr-99 Aug-99 Dec-99 Apr-00 Aug-00 Dec-00 Apr-01 Aug-01 Dec-01 Apr-02 Aug-02 US$ billion Accumulated in 12 months

13. 13 Currency Mismatch versus Balance Sheet: Why do balance sheets matter? Distribution of Mismatch.Distribution of Mismatch. –Example: Between Tradable and Non-tradable. –But if aggregate mismatch is OK, why haven’t they reallocated risks (markets)? Published Balance SheetsPublished Balance Sheets – Does a completely hedged company in the tradable sector may get in trouble?

14. 14 Conclusions Measure of overall currency mismatch leads us to the intertemporal budget constraint of the countryMeasure of overall currency mismatch leads us to the intertemporal budget constraint of the country The interesting issue is risk reallocation between residents/non-residents and between private/public (or current versus future generation).The interesting issue is risk reallocation between residents/non-residents and between private/public (or current versus future generation). Balance Sheets problems may reflect short horizons or liquidity problems (not currency mismatch by itself).Balance Sheets problems may reflect short horizons or liquidity problems (not currency mismatch by itself).