External financial fragility ant the limits of the exchange rate policy in Real

ABSTRACT

This article assesses the impacts of Brazil’s exchange-based stabilization plan (Plano Real) on the country’s external financial fragility and discusses alternative exchange policy to overcome the Brazil’s external vulnerability. In order to do so, we have developed an index for this external financial fragility, which is applied to a time series of foreign sector variables from 1992 to 1997. The evidence shows that Brazilian external financial fragility has grown during the first three years and half after the Real Plan, particularly in 1996 and 1997. Using this evidence, the paper questions the effectiveness of the government’s adjustment strategy for the industrial sector, based on four pillars: price stabilization, trade and capital liberalization and exchange appreciation. Finally, we conclude that the scope for changes in currently exchange policy is too small: the government is prisoner of a self-inflicted “exchange trap”.

KEYWORDS:
External financial fragility; exchange rate policy; Plano Real; currency crisis