BRAZIL: EXTERNAL DEBT NOTES

UNCLAS SECTION 01 OF 02 BRASILIA 000531

SIPDIS

NSC FOR SHANNON, DEMPSEY, CRUZ
TREASURY FOR OASIA/SEGAL
EXIMBANK FOR DIRECTOR FOLEY
FED BOARD OF GOVERNORS FOR ROBATAILLE
USDA FOR U/S PENN, FAS/FAA/TERPSTRA
USDOC FOR 4322/ITA/IEP/WH/OLAC-SC
SOUTHCOM FOR POLAD
BUENOS AIRES ALSO FOR TREASURY ATTACHE

SENSITIVE

E.O. 12958: N/A
TAGS: EFIN ECON EINV ETRD PREL PGOV SOCI BR
SUBJECT: BRAZIL: EXTERNAL DEBT NOTES

REF: BRASILIA 0450

This cable is Sensitive but Unclassified, please protect
accordingly.


1. (SBU) Summary: The GoB hopes to use current relatively
positive market sentiment and stronger foreign exchange
rates to quietly rebuild reserves. In contrast to very
active reshaping of its domestic debt profile, the GoB has
been fairly passive on external debt management. While the
recent unprecedented rise in value of Brazil's C-bond has
created the opportunity for the GoB to repurchase these
instruments, this seems unlikely at a point where the GoB is
trying to rebuild reserves. Meeting total public and
private foreign amortizations of $43.9 billion in 2004 is
not expected to be a problem. End Summary.

C-bonds
--------------


2. (U) Lula's success in reassuring international financial
markets of the prudence of his macroeconomic policies has
given Brazil new openings to tap international markets, as
illustrated by its January 2004 30-year Eurobond issued at
377 basis points above U.S. Treasuries. This issuance was
all the more remarkable since Brazilian bonds traded at
spreads of 24% above U.S. Treasuries little over a year
earlier. Despite this, the GoB does not plan significant
net new foreign debt issuance, using new issues primarily to
roll over maturing foreign debt to avoid drawing down
reserves. The GoB has also been engaging in significant FX
purchases to build reserves and smooth the exchange-rate
effect of an April 2004 spike in foreign debt amortization.


3. (SBU) A Central Bank Director told Econoff February 19
that investment banks were pitching him on an almost daily
basis with various schemes to buy back Brazil's benchmark C-
bonds, the most liquid of Brazil's Brady bonds. The C-
bonds, the product of an early 1990s' foreign-debt
restructuring, reached 100% of their face value in February.
This opened up the practical possibility of repurchasing all
or part of the USD 6.5 billion in outstanding C-bonds. The
CB Director explained that the GoB has the option of
repurchasing these bonds at the time of their biannual
coupon payments (April and October),but must announce its
intention to do so during a thirty-day window beginning
sixty days before the coupon payment date.


4. (SBU) The C-bonds have since dropped below 100% of face
value, complicating any repurchase deal. The Central Bank
Director noted in our February meeting, however, that it
would not make much sense to attempt a repurchase on the
scale required to redeem the C-bonds at a time when Brazil
is trying to rebuild reserves. If the right deal to swap
the C-bonds for new, cheaper debt presented itself, however,
the GoB might well take it, our interlocutor said.

Amortizations for the Year
--------------


5. (U) Managing Brazil's foreign public debt in 2004 should
not pose a challenge. The GoB has been working to manage
the impact of this year's total $43.9 billion in public and
private foreign debt amortizations on the exchange rate.
The Finance Ministry is making use of a new rule that
doubles to 180 days the horizon during which the Treasury
may purchase foreign exchange for upcoming debt repayments.
This allowed it to use stronger November and December
exchange rates and lower seasonal foreign exchange demand to
purchase dollars well in advance for the spike of public-
debt amortizations of $4.3 billion in April.

Scheduled Foreign-Debt Amortization, 2004
(Billions of USD)

Private Public/1 Total
Jan 1.378 0.395 3.822
Feb 1.001 0.598 4.77
March 1.695 2.002 3.697
April 2.417 4.282 8.092
May 2.324 0.214 3.735
June 2.909 3.034 5.943
July 2.449 0.547 4.792
August 2.571 0.453 2.118
Sept 1.950 1.147 3.097
Oct 1.730 1.185 3.912
Nov 2.883 0.668 1.55
Dec 3.668 1.96 5.628
--- -------------- -------------- --------------
Total 26.975 16.959 43.935

1/Includes IMF amortizations
Source: Central Bank and Ministry of Finance


6. (U) Combined with market expectations as of January 2004
of a current-account deficit of 0.5% of GDP ($2.55 bn) and
total private and public debt amortization of $43.9 bn,
Brazil's total external financing requirements this year are
forecast at$46.49 bn. Officially, this financing need is to
be met through expected foreign investment inflows of $11
bn, leaving $35.3 billion to be met through a combination of
debt rollovers, potential net new issuances of external
debt, use of reserves and purchases of dollars. Better than
expected dollar inflows should reduce the financing need:
net dollar inflows of $1.3 billion in February brought year
to date inflows to $4.7 billion. To smooth its debt
repayment in the longer term, the GoB agreed with the IMF at
the time of the extension of its IMF agreement in November
2003 to delay by one year each of two repurchases of SDR 4
billion (about US$5.5 billion) arising in 2005 and 2006.

COMMENT
--------------

7. (SBU) While Brazil's overall debt profile is a continuing
concern, its public foreign debt is in better shape, being
of both longer term and lower interest rates than Real-
denominated debt. Strong foreign-exchange inflows,
primarily due to the continued surprisingly strong trade
surplus, should continue to cushion foreign debt
amortizations for both public and private debt.
VIRDEN