Risk Analysis (Essay Sample)

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Risk Analysis
Abstract
Brazil gained its independence in 1822 after a long struggle with the Portuguese rule. The country’s coffee exporters politically dominated the administration until 1930. For about fifty years, a military government ruled Brazil until 1985 after which the power was handed over to civilian rulers. The system of government today is a republic with a multiparty political system and periodical democratic elections. The country’s official language is Portuguese. Brazil is the largest country in Latin America with over 80% of the population being urban. The official currency is the Real that divides into 100 Centavos. Moreover, the country pursues industrial and agricultural growth and development of its interior. This entails exploiting the extensive natural resources in the country and utilizing the large labor pool. Today, Brazil enjoys the top position as the leading economic power and a regional leader in South America. In addition, the country led in the economic recovery efforts in the region. However, a wide gap in income distribution and crimes remain greatest problems in Brazil.
The Wall Street Journal reported on Brazil’s economic growth on for the second quarter of the year 2012. According to the article, Brazil’s Listless Growth Continues, there is a continued slump in the country’s economy despite efforts by the government to salvage it. Government statistics show that there was slowed growth in the second quarter registered at 1.6%, much lower than the projected value. Brazilian government implemented tax cuts, record interest rate cuts and campaigned to weaken its currency in order to ignite more economic activities. However, these efforts did not increase the pace and the economy was still sluggish (Fick, Magalhães and Lyons).
The report further indicates that the country registered the fastest growth rate in the world during the global financial crisis in the recent years. As a result, numerous investors considered investing in Brazil due to the developmental leap. It's also geared the hosting of two main global events namely the soccer World Cup in 2014 and 2016 Olympic Games. However, the optimism on the economy is slowly turning into apprehension. As a result, the current climate for multinational investment is marred with uneasiness. The investors appear unsure of the governments’ measures to stimulate the recovery of the domestic markets. Moreover, Brazil’s economy has downshifted to slower growth with the debt crisis and unpredictable recovery efforts. The government predicted an economic growth of 4.5% that gave the investors’ confidence in the markets. This was due to the increase in spending on key infrastructure projects such as ports and river dams. However, the target growth was never achieved; instead, the country recorded a growth of half the forecast rate (Fick, Magalhães and Lyons).
In a bid to stimulate further recovery and growth, the government through the central bank of Brazil has lowered the interest rates by 5% to 7.5%. In addition, there are other announced programs meant to build projects to improve transport and communication to boost growth. Officials in the country blame the world’s slow economic growth for the country’s performance. Furthermore, the administration cites the investor attitude towards emerging market countries as a cause for slow growth in their economy. However, several present and projected macroeconomic variables affect the recovery and growth of Brazil’s economy (Fick, Magalhães and Lyons). The country improved its macroeconomic stability through the creation of foreign reserves, and the reduction of debt profile through a shift in debt burden towards the denominated and domestically held instruments. After the 2008 recession period, Brazil was the first emerging market to recover. The GDP growth reached 7.5% in the year 2010. This was registered as the highest growth rate for the past 25 years of the economy. However, the increase in inflation led to a slowed growth in 2011 and 2012 to 2.7%. The country projected a similar level of economic growth for the initial quarter of the 2013 financial year. In spite of the slowed growth rate, Brazil’s economy overtook the UK economy in terms of GDP. The GDP composition by sector shows that the service industry contributes more to the country’s GDP by 67% in 2011. This is followed by the industries on 27.5% and finally agriculture by 5.5%. The country’s GDP, per capita, has increased from $10,800 in 2009 to $11,600 in 2011. This shows increased economically beneficial activities in the three main sectors of the economy namely the industries, agriculture, and services. The IMF forecasts that Brazil will be the fifth largest economy in the world by 2015 if they maintain this rate of growth.


Inflation in Brazil has maintained at manageable levels since 2003. According to the government reports, the inflation was 5.45% in October 2012. The inflation rate is considered as the general rise in prices of goods and services in the economy with respect to the standard purchasing power. The level of inflation in Brazil shows that the economy is safe for investors. In addition, the low levels of inflation enable the central bank to continue lowering their lending rates. Consequently, there are increase property market operations and reduced costs of borrowing. This enhances business and other economically viable activities due to affordable finances to the citizens. The central bank predicts that the rate of inflation is likely to decrease to 5.21% by the year 2013. The government’s inflation rate target in the next economic year is 4.5%, plus or minus two percentage points. Similar to the majority of the economies in the world, Brazil operates a mixed economy. Therefore, the country includes characteristics of both capitalistic and socialistic planning of the economy. This economy is characterized by large, mining, agricultural, and manufacturing sectors owned by the government. In addition, some of the sectors such as railroads and other utilities and industries are privatized (International Monetary Fund).


The unemployment rate in Brazil has decreased over the last three years. According to the statistics, the lowest level of the unemployment rate recorded in Brazil is 4.7% in the year 2011. The general trend of the unemployment rate indicates a decrease. However, the year 2009 indicated a rate that rose higher than the previous year. The rate averaged at 7.9% in 2008, 8.1% 2009 and 6.7% in 2010. In 2012, the rate of unemployment is 5.30%. This rate is projected to decrease further in the second quarter of 2013 to about 5.0%. These statistics show a latent decrease in the levels of unemployment in Brazil. This indicates the expansion of economic activities that lead to the growth of the economy. Moreover, the increased number of employments helps in alienating poverty that has been a long-term problem in Brazil.
The Brazil’s overall markets are crucial to the economy due to their economic functions. The derivative markets play two main roles in risk shifting and price discovery. Risk shifting otherwise known as hedging entails transferring of risks to a willing entity to bear it. In Brazil, firms borrowing in international markets hedge their foreign exchange exposure to minimize the volatility of their local currency value (Allayannis and Ofek 273). The Brazil’s stock exchange, Bovespa is the 7th largest futures and options exchange market in the world. It trades options, under the current law in Brazil, trade forwards, call and put options on single stocks and stock indices. The future contracts are similar to forwards in that they are highly standardized in Brazil, publicly traded, and cleared through a clearinghouse. However, the forwards are usually traded over the counter (Allayannis and Ofek 280).
Brazil’s economy experienced two decades of large capital inflows on record levels especially in the 1970s. However, the system collapsed in early 1980 because of the Mexican debt crisis. Therefore, Brazil had to deal with the effects of the collapse for the next ten years until recovery in early 1990s. The implementation of the Real Plan enabled the country to resume the capital flow. Several policies made by the government encouraged the large capital inflow into the Brazil’s economy. There is a recent increase in flows to and from the country’s economy, which indicates the trend towards the participation of direct investors. This has been supported by the cycle of abundant international liquidity. The consent to allow non-resident direct investment to Brazil led to an increase in the country’s GDP. This indicated a growth in the economy because of capital flows in the country. In addition, privatization and deregulation programs in Brazil encouraged inflows that resulted in foreign participation in numerous sectors of the economy. Consequently, there is stimulation of FDI in other sectors because of the favorable environment created. The positive changes towards the foreign capital flows have resulted in the growth and development of Brazil’s economy over the years.
The exchange rate has distinct, well-defined regimes chosen by governments and maintained by the central banks. Brazil adopted an exchange rate-based regime in the year 1994 after a long period of hyperinflation. In an effort to reduce inflation, then the finance minister introduced the pegged exchange rate regime under a Real Plan strategy (International economics). The plan entailed the introduction of a new currency. The implementation of the Real Plan was successful in terms of boosting the domestic consumption and growth. Moreover, there were registered an increase in real-income and the r...