International Financialization and Depreciation: The Brazilian Real in the International Financial Crisis

Abstract

Despite sound macroeconomic fundamentals, the Brazilian currency, the real, experienced one of the world's largest exchange rate depreciations during the recent international financial crisis. This depreciation resulted from Brazil's rising ‘international financialization’, i.e. the increased participation of foreign investors in short-term domestic Brazilian assets. One important manifestation of this process, in particular, was the increased internationalization of the Brazilian real, which has become one of the most widely traded emerging-market currencies. However, the rising influence of international investors on Brazil's domestic currency weakened its exchange rate management during the international financial crisis as rapid international portfolio adjustment led to the real's sharp depreciation. Such exchange rate volatility has important implications for macroeconomic policy, especially exchange rate management, since, in the presence of increased international financialization, the standard prudent macroeconomic management that has been advocated by mainstream economics will prove inadequate — and might even undermine efforts — to maintain financial stability.