VZCZCXRO3662
RR RUEHRG
DE RUEHSO #0548/01 2841611
ZNR UUUUU ZZH
R 101611Z OCT 08
FM AMCONSUL SAO PAULO
TO RUEHC/SECSTATE WASHDC 8611
INFO RUEHBR/AMEMBASSY BRASILIA 9748
RUEHRG/AMCONSUL RECIFE 4223
RUEHRI/AMCONSUL RIO DE JANEIRO 8886
RUEHBU/AMEMBASSY BUENOS AIRES 3273
RUEHAC/AMEMBASSY ASUNCION 3520
RUEHMN/AMEMBASSY MONTEVIDEO 2791
RUEHSG/AMEMBASSY SANTIAGO 2520
RUEHLP/AMEMBASSY LA PAZ 3928
RUCPDOC/USDOC WASHDC 3185
RUEATRS/DEPT OF TREASURY WASHDC
RHEHNSC/NATIONAL SECURITY COUNCIL WASHDC

UNCLAS SECTION 01 OF 02 SAO PAULO 000548 
 
SIPDIS 
SENSITIVE 
 
STATE PASS USTR FOR KDUCKWORTH 
STATE PASS NSC FOR GTOMASULO 
STATE PASS EXIMBANK 
STATE PASS OPIC FOR DMORONSE, NRIVERA, CMERVENNE 
DEPT OF TREASURY FOR JHOEK, BONEILL 
 
E.O. 12958: N/A 
TAGS: ECON EFIN EINV ETRD BR
SUBJECT: BRAZILIAN CENTRAL BANK TAKES PRECAUTIONS FOR BANKS 
 
REFS: A. Sao Paulo 0486; B. Sao Paulo 0522; C. Brasilia 1299; D. Sao 
Paulo 0086 
 
SENSITIVE BUT UNCLASSIFIED--PLEASE PROTECT ACCORDINGLY 
 
¶1.  (SBU) Summary:  Brazil's banking system is well positioned to 
weather the external financial crisis.  Brazilian bank assets are of 
good quality and the banks themselves, especially the larger 
institutions, have high levels of liquidity.  Because of capital 
adequacy requirements, Brazilian banks are not as highly leveraged 
(only six to seven times), have reserves that outpace their 
respective Basel ratios, and lack derivatives and other financial 
instruments commonly found in the U.S.  Economic interlocutors 
agreed that although the Brazilian system has enough liquidity 
without external credit lines, it is not balanced across the system. 
 Small and medium banks are less liquid because they were more 
reliant on external credit lines and have a smaller deposit base 
upon which to draw.  In response, the Central Bank (BCB) has taken 
several measures in recent weeks to redistribute liquidity across 
the system.  The BCB's conservative behavior, including the 
stockpile of more than USD 205 billion in foreign reserves and high 
reserve requirements for banks appears to be a sound strategy to 
protect Brazil's banking system.  Likewise, the Brazilian banking 
sector appears ready to defend itself.  Although the impact and 
potential for bank failures is small, both the banks and Brazilian 
authorities are unwilling to take that chance and are moving 
proactively to keep the banking system healthy.  End Summary. 
 
 
¶2.  (U) While Brazilians spent the last year of the worldwide 
financial crisis preaching the strength of the Brazilian economy, 
economists and government officials alike have slowly altered their 
rhetoric and actions given events over the last several weeks. 
Following the collapse of Lehman Brothers in September, Brazilian 
authorities from the Central Bank (BCB) and central government have 
undertaken several important precautionary measures to rebalance the 
liquidity within the Brazilian financial system to protect its 
integrity.  (Note: See Refs A, B, and C for more on Brazil and the 
U.S. financial crisis.  End Note.)  In line with its conservative 
approach to regulating Brazil's financial system, the BCB intervened 
in foreign exchange markets in October, postponed planned increases 
to reserve requirements on leasing operations (Refs C and D), 
partially lifted the reserve requirement for large banks on time 
deposits, used foreign reserves to provide foreign currency for 
exporters, and is also planning relief for agriculture finance. 
 
¶3.  (SBU) The BCB's actions represent an attempt to rebalance 
liquidity between small and large banks.  The Brazilian banking 
system is solvent and has plenty of liquidity within the system. 
However, banking interlocutors told Econoff that large banks 
generally hold most of the available liquidity while small banks 
rely heavily on external financing.  On October 2, the BCB eased 
reserve requirements on time deposits, essentially allowing large 
Brazilian banks to use up to 40 percent of their reserve requirement 
for time deposits (invested in GOB bonds) to purchase assets from 
smaller banks (defined as banks with capital up to R$ 2.5 billion). 
(Note:  this is approximately 11 percent of the banking system based 
on net worth.  End Note.)  Joaquim Eloi Cirne de Toledo, a director 
at Nossa Caixa, told Econoff that this measure of allowing large 
banks to purchase assets from small banks was a welcome solution to 
redistributing up to R$ 22 billion (approximately USD $10 billion as 
of publication of this cable) within the Brazilian banking system. 
Similarly, the BCB has used dollar auctions to help alleviate the 
shortage of export credit lines.  Chief Economist at the Federation 
of Banks Rubens Sardenberg defined all of these measures as a means 
for the BCB and GOB by extension, to gain time until the external 
scenario improved (or at least stabilized).  He did not believe that 
the BCB would intervene and purchase small bank assets at this 
point, but instead would wait to evaluate whether the large banks' 
actions were sufficient. 
 
¶4.  (SBU) The GOB has strongly supported the BCB's moves to limit 
Brazil's exposure to the external financial crisis.  The GOB has 
urged quick approval of the provisional measures that will authorize 
these regulations, as well as one that permits the BCB to directly 
 
SAO PAULO 00000548  002 OF 002 
 
 
intervene to purchase bank assets as the lender of last resort, if 
necessary.  President Lula has openly supported the BCB's actions 
and has pushed the Brazilian legislature to approve the measures. 
Thalis Murrieta, advisor to Senator Jose Tenario (PSDB - opposition 
party member and alternate on the Senate Economic Affairs Committee) 
told Brasilia Econoff that the measures proposed by the GOB enjoy 
broad support in Congress, though the opposition parties were sure 
to use the crisis to their political advantage.  Murrieta also noted 
that the BCB needed the power to intervene not because of problems 
with the small banks themselves, but due to potential for crises of 
confidence.  He asserted that in fact, the books of the small banks 
were quite healthy, but that giving the Central Bank this power 
would have a stabilizing influence. 
 
¶5.  (SBU) On October 9, the GOB granted the BCB the permission to 
intervene in banks in need of assistance.  The BCB will have the 
authority to demand the sale of assets, block new business 
initiatives, and freeze the salaries of executives.  Several 
contacts have told Econoff that large banks were already 
uncomfortable with small banks going under and the BCB's measures 
have created financial incentives for large banks to intervene. 
According to Alexandre Schwartsman, Chief Economist at Santander, 
large banks typically hold reserves above their requirement, so they 
are more likely to take the opportunity to use these reserves to 
purchase smaller bank assets.  Similarly, Gilberto Meiches, Vice 
President of small Brazilian bank Banco Sofisa, told Econoff that 
his bank was open to the opportunity to sell some of its credit 
portfolio and that many other small banks would agree. 
 
COMMENT 
------- 
 
¶6.  (SBU) Comment: Brazil's position in withstanding external 
financial instability is a result of prudence and good luck.  The 
BCB has consistently faced criticism that its conservative policies 
have restricted economic growth; however, those policies have 
resulted in a strong and very cash heavy banking system.  Brazil is 
fortunate because the global credit crunch has hit at a time when 
Brazil's credit cycle is just beginning to grow.  Given the external 
scenario, the BCB is less likely to continue raising the benchmark 
interest rate, with some interlocutors suggesting the BCB would 
begin halting further increases as early as the end of October.  The 
GOB's support has been a key to the BCB's ability to get the job 
done, but it has been the BCB's conservative stance on regulatory 
and monetary policies that has paid dividends.  True to its nature, 
the BCB probably will wait for its measures to take effect before 
jumping in as the lender of last resort.  End Comment. 
 
¶7.  (U) This cable was coordinated/cleared by Embassy Brasilia. 
 
WHITE