Oil Price Shocks

On October 1973 members of OPEC announced that they would no longer export petroleum to the United States and its western allies.

The plan was to quadruple the price of oil which resulted in Brazil reducing its terms of trade and exports. Brazil’s FX rate increased and became inflationary as imports increased and exports slid. Instead of devaluing the currency and implementing growth reducing policies Brazil began a new development plan to create new comparative advantages.

This strategy had the effect of promoting economic growth but it did increase the import requirements of the country which increased the balance of payments deficit. The deficit was however financed by foreign debt and with its new import substitution methods and exports expansions, policy makers were hoping that the debt would allow for growing trade surpluses, thereby allowing the repayment of the debt.

In 1979 a second oil shock further increased Brazil’s balance of payment problems as it also had to cope with high rates of world interest rates. The government continued to increase its borrowing whilst trying to maintain high growth strategies. In 1981 the Mexican crisis occurred and disabled Brazil’s access to world financial markets. Inflation accelerated as a result of foreign exchange devaluation and a high public deficit. By the mid 1980s domestic debt nearly replaced foreign debt as Brazil’s main economic problem. A significant proportion of the debt was incurred state enterprises and because they were legally not allowed to declare bankruptcy the burden was transferred to the government which led to further economic problems.