Brazilian move sparks fears on capital flows

Brazil’s latest attempt to curb foreign inflows into its soaring currency fanned fears on Thursday more Asian nations may slap controls on capital flows.

Taiwan’s central bank governor seized the opportunity to fan doubt among speculators further doubt about betting on gains in the local currency, while India played down the need for immediate action, but both said they were closely watching “hot money” flows.

With Western economies still crawling out of recession and interest rates at or near historic lows, funds have been flooding into faster-growing emerging markets. Concerns that inflows were driving currencies to levels that undercut exporters and financial markets to dizzying heights prompted some, including Brazil and Taiwan, to impose controls.

Brazil took another step on Wednesday aimed at containing the appreciation of its currency, unveiling a 1.5% tax on certain trades involving American Depositary Receipts issued by Brazilian companies.

The tax will be charged when foreign investors convert ADRs for Brazilian companies into receipts for shares issued locally. It aims to close a loophole that allowed investment to flow into local stocks tax-free.

Finance Minister Guido Mantega said foreign investors have been buying Brazilian ADRs and converting them into receipts for locally issued shares to gain exposure to Brazil’s red-hot stock market. In doing so, they avoided paying a 2% tax on capital inflows, known as the IOF, initiated in October.

Brazil, the world’s eighth biggest economy and a member of the BRIC quartet of emerging powers that also includes Russia, India and China, wants to put the brakes on its real, which has gained about 36% this year against the U.S. dollar.

Officials across emerging markets also worry that a sharp reversal of inflows could wreak havoc in local financial markets and economies.

Indonesia, Southeast Asia’s largest economy high up on global investors’ hot picks list, mooted curbs on foreign ownership of short-term central bank debt earlier this week only to later play down the likelihood of such a step after the mention of controls spooked markets.

Asked whether Bank Indonesia was considering curbing foreign ownership of such debt, senior deputy governor Darmin Nasution said: “We are not considering it, but studying it. Those are different things.”

A source with knowledge of Bank Indonesia’s study told Reuters the authority was looking into limiting foreign ownership of the shortist one-month central bank paper, a move designed to encourage foreigners to invest in longer maturities.

However, the currency was on the back foot again on Thursday after Brazil’s moves.

The rupiah fell just over 1% to 9,510 to the dollar, even as the central bank was seen selling dollars to support the local unit. In offshore non-deliverable forwards (NDFs), the rupiah also fell.

In India, the news of Brazil’s latest effort and a report, later denied by the authorities, that the government may restrict foreign borrowing by its companies also put the rupee currency on the defensive.

“After Brazil last night, there are fears that others in Asia might follow suit,” a senior dealer with a foreign bank in Mumbai said.

The partially convertible rupee fell half a percent at 46.41/42 per dollar while one-month also moved to reflect a weaker currency.

Finance Secretary Ashok Chawla denied a newspaper report that the government planned to set quotas on corporate foreign borrowing and played down any immediate threat from capital inflows.

“As of now it is not a cause of concern. As the situation evolves we will see what needs to be done,” Chawla said when asked if the government planned to tax capital inflows.

Foreign investors have bought more than US$15 billion of Indian equities in 2009, after selling US$13-billion in 2008, helping send Indian stocks more than 75% higher.

Taiwan, which keeps its dollar on a tight leash via frequent central bank intervention and earlier this month banned foreigners from putting money into time deposits, noted that some of the speculative money has already left the country.

Central bank governor Perng Fai-nan told the parliament that out of some T$400-billion ($12.44 billion) parked by foreign investors last month, T$50-billion had been pulled out and that the authority would watch the rest closely.

“We hope the level of (hot) money will fall further,” Perng told legislators on Thursday.