Brazil Rocks the Boat

The decision by Brazilian President Jose Sarney to suspend payment on his nation’s massive foreign debt poses a severe challenge for major American banks. But if they show the patience and flexibility in dealing with Brazil that they have shown in dealing with Mexico, the latest turbulence in the Latin American debt crisis can be ridden out.

Sarney’s announcement has caused tremors on the U.S. stock market, with stock prices for banks heavily exposed in Latin America dropping immediately. A stock-market panic and other disruptions in the world economy are the most feared side effects of a default by a major Latin debtor like Brazil (which owes more than $108 billion). But the Brazilians say that they have no intention of defaulting, and most economic indicators support that claim.

Despite Brazil’s large foreign debt, the economy has been booming in recent years. In fact, Sarney made his announcement at least partly in the hope of cooling off an economy that has become dangerously overheated, with inflation running at 700% to 800% and consumer demand so high that imported products have drained Brazil’s foreign-currency reserves from $11 billion to $4 billion in just a year. Sarney and his economic ministers have realized that it is time to put the brakes on.

In exchange for slowing down the economy and imposing some austerity on its people, the Brazilian government wants easier repayment terms like those that the banks gave Mexico last year--especially a ceiling on interest rates. Latin Americans argue that they are not solely to blame for their debt problems, so they should not be the only ones to suffer now that the money is coming due. The major banks were too willing to lend money in the 1970s, and now they will have to bear some of the pain, too. They have done so with Mexico, albeit grudgingly. It looks like the time has come to do the same thing with Brazil.