In the late 1990s, when he was moving millions of dollars for mega-investor George Soros, Arminio Fraga Neto might have savored such a tableau. Back then, every emergency in the world economy meant an opportunity, perhaps even a new fortune. Rising before dawn, he would drive the 40 minutes from his home in Short Hills, New Jersey, to Soros’s aerie on New York City’s West Side, do battle with the markets till 6 p.m. and beat it back to the suburbs. But one day in early 1999, Fraga made his boldest play of all. He walked away. Leaving Soros and ditching what has been described as one of the most radiant careers on Wall Street, the 41-year-old Princeton-trained economist went home to take the top job at Brazil’s Central Bank, a graveyard of many financial reputations.
Maybe it was a spasm of saudades, the storied Brazilian homesickness. After all, Fraga had enjoyed his stint as a senior Central Bank economist in the early ’90s. But this time things could have easily blown up in his face, for Brazil was in the maw of its worst economic crisis in a decade, bleeding reserves and flirting with default. “We were in danger of spinning out of control,” recalls Mailson da Nobrega, a former Finance minister. It just might have been a gambler’s instinct that drew Fraga back into the fray. (He also knew Finance Minister Pedro Malan from his earlier job at the Central Bank, and the two had remained friends.) But against all odds, Fraga halted the expensive practice of artificially propping up the real, Brazil’s currency, and allowed the markets to set its value. The move calmed investors and currency traders and ultimately slowed the real’s fall. Prices fell, and the economy was back in the black again. Along the way, Fraga and his team of sharp young economists practically had to reinvent monetary policy in Brazil, which had long served basically to appease bottomless political appetites. Though not yet legally independent, the Brazilian Central Bank, under Fraga’s leadership, is no longer a milk cow for those in power. It is also far better tooled to become what it was always meant to be: a guardian of the national currency. And salvaging the real means no less than salvaging Brazil’s economic stability.
Brazil is hardly out of harm’s way. Troubles in Turkey and Argentina have sent investors fleeing risk the world over, including in Brazil. Foreign direct investment is expected to fall by half, from $32 billion in 2000 to $20 billion this year. The nationwide energy crisis has stunned the economy–GDP fell last quarter–and fueled doubt, causing the real to slide 26 percent this year alone. But thanks largely to Fraga’s reforms, the country is arguably better equipped to absorb these shocks than it has been for decades. Fraga, now 44, spends his days, and many nights, on the other side of the money counter, parrying with speculators, scoping out the markets and trying to steady the course in Latin America’s biggest, and often most volatile, economy. He keeps close counsel with Malan and with President Fernando Henrique Cardoso and has become a driving force behind a handful of policy initiatives, such as strengthening long-term-capital markets, tax reform and a bill to create an independent Central Bank. “We have invested heavily in the fundamentals,” Fraga told NEWSWEEK in a recent interview. “I’m not saying it’s easy. There’s a lot of pressure here. But we feel confident the scenario will turn in our favor.”
Latin American economic officials have never been short on chutzpah, but Fraga speaks with a simple, menthol clarity. He has brought an unprecedented level of candor and transparency to the Central Bank, once Brazil’s biggest “black box,” says Celso Pinto, editor of the financial daily Valor Economico. Industry may grumble over Brazil’s interest rates–among the world’s highest–and the leftist opposition still sees him as Scrooge. But even his critics admit that Fraga has helped turn Brazil around. Fraga “is a national savior,” declared Ciro Gomes, a presidential candidate for the Popular Social Party and blood enemy of President Cardoso. “He saved the government from a tragedy.”
Hyperbole? Probably not. One after another, Brazil’s central bankers have tried their hand at controlling inflation, only to leave behind nearly worthless currencies. As a result, Brazilians have learned not to expect too much from their Central Bank, an institution that dates only to 1965 and has never been independent. “The basic role of the Central Bank during inflationary times was to bail out the government by financing public debt,” said University of So Paulo economist Celso Martone.
Brazil’s “Plano Real” in 1994 was to have ended all that. The idea was to introduce a new, strong currency (the real) and peg it closely to the U.S. dollar. For a while the plan worked. Inflation fell nearly to zero, industry boomed and investment soared. But then came financial contagion. One by one, from Mexico to Thailand, debtor countries with artificially fixed currencies came under attack by speculators. In the first few months of 1999 Brazil’s Central Bank spent tens of billions of dollars in an effort to bolster the real. Brazil was learning a painful lesson of the global economy: a strong currency is not the same thing as a strong economy. With debts and fiscal deficits ballooning, Brazil looked like the next candidate for a crash. The world was still reeling from the collapse of the Russian ruble and financial debacles like the bankruptcy of Long Term Capital Management, a once heralded hedge fund. “We saw the beginning of a run on banks. Rumors abounded that the government was going to seize assets,” says Nobrega. Then the high-flying real began to fall. Three Central Bank presidents came and went in two months, and still the real was falling. Fraga was the fourth, and Brazilians weren’t exactly holding their breaths.
In the end, Brazil’s Central Bank spent $35 billion, only to abandon the fixed real and float the currency. It was less a decision of policy than of desperation, and a move fraught with risk. Set free, the real slid. But how far would it go? Too far, and prices would come roaring back, triggering inflation. And with Brazil’s public debt indexed to interest rates and the dollar, every twitch in the economy threatened to raise the government’s debt burden. But trying to peg the currency again could mean another costly battle with the speculators. Fraga took a stand: the real would stay afloat; the Central Bank would no longer spend good money after bad to keep the real pegged to the dollar. Cardoso backed him. The move changed much more than Brazilian monetary policy. In many ways it changed Brazil itself.
It certainly changed Fraga’s life. An intensely private man, he soon found himself facing a daily forest of microphones. News photographers huffed after him during his morning jogs in Brasilia. Fraga’s former connection to Soros, the predator of high finance, earned him a six-hour grilling before the Senate. He became the delight of the cartoonists, who drew him as the vampire in charge of the blood bank, or the fox guarding the chickens. One of the lowest blows came, surprisingly, from celebrity economist Paul Krugman, who suggested that Fraga had passed along inside information on Brazilian finances by tipping off Soros to his job offer. Fraga vehemently denied the charge, and Krugman ended up issuing a lavish mea culpa (calling it “one of the worst errors of my career”). But the intrigue delighted the politicians in Brasilia, where conspiracy theories run hot.
During nomination hearings, one senator had called Fraga the “evil genie” while Itamar Franco, the governor of Minas Gerais state, quipped that Brazilians “would have to practice their English” now that “Mr. Soros” was running the Central Bank. “Handing over the Central Bank to Fraga,” growled the leftist leader Luiz Inacio Lula da Silva, of the Workers Party, “was like naming a drug trafficker to head the Federal Police.” Fraga, laconic, said only: “Everyone has a right to an opinion.”
Quiet and bookish, with a small smile, Fraga makes a disappointing villain. In his dun chinos and open collar, he looks more class nerd than class enemy. He and his wife, Lucyna, have dedicated much of their time to Renascer, a voluntary health-care organization in Rio that distributes medicine and food to poor patients. Fraga’s idea of a good time is retreating with a book to the Irish-leather recliner in his study (his recent favorite is a book about Sir Ernest Shackleton’s grueling voyage to the Antarctic), or playing 18 holes with his son Silvinho at Rio’s Gavea Golf Club. “My handicap is up to 12,” he says with a slight scowl. “It’s the job.” Don’t get him wrong. “I enjoy the work,” Fraga hastens to add. “But it’s not relaxed around here. I can assure you.”
The stinging criticism against Fraga and his intimacy with the markets belies some ancient Brazilian taboos and some bad old habits. For years, the country tried containing inflation by fixing the currency by decree, but in practice it was never so simple. “It usually blew up on us,” says Jose Alexandre Scheinkman, professor of finance at Princeton University and a native Brazilian. Instead of risking another explosion, Fraga followed a different strategy: he declared clear yearly inflation targets and uses the classic central-bank tool–interest rates–to steer the economy toward them. This year the target was 4 percent, but with the bearish economy, 6 percent now looks more likely.
What is remarkable about applying this system in Brazil is the complete transparency it requires. Every month, sometimes daily, the Central Bank publishes bulletins with vital economic statistics, including inflation, the public deficit and even the level of reserves. A simple measure, but it was a cultural sea change. “Before, when the bank was run by a bunch of technocrats behind closed doors, these were like state secrets,” says Pinto of Valor. The open-book policy helps investors, merchants and bankers gauge the market and make plans.
Some financial players wonder whether Fraga has been too open; he publicly showed his hand by announcing that he had some $6 billion in his quiver to use against the currency speculators. Fraga disagrees. “We are not just watching,” he says. “We reserve the right to intervene in the foreign-exchange market on occasion.” In June, when nervous Brazilians started buying dollars, Fraga quickly responded, dousing the market with some $300 million to boost the local currency. And when the real continued to fall, threatening monetary targets, instead of squandering more precious reserves, he and Finance Minister Malan got on a plane to Washington and negotiated a $15 billion standby loan with the International Monetary Fund, which included a further $6 billion to defend the real. “The Central Bank doesn’t panic when the market doesn’t respond right away,” says Diniz Pignatari, a senior foreign-currency trader at ING Barings. “This is the most professional team I’ve seen in 20 years of trading.”
In the end, Fraga has won praise for precisely the quality that once caused him grief: being a savvy “operator” who honed his skills at some of the world’s toughest money mills. “A speculator is someone who tries to see what the market doesn’t see,” says an independent Brazilian fund manager. “It’s not a sin. It’s a game. Maybe the most difficult game in the world.” And woe to the amateurs. “In today’s predatory markets, the game has to be among equals,” says economist Eduardo Giannetti. “If you put the bureaucrats against the sharks, the sharks will swallow the bureaucrats every time.”
But more than sharks await Fraga. With the weaker real, prices are rising again. To keep the economy from overheating, the bank’s Monetary Policy Council has boosted interest rates five times this year. The benchmark Selic prime rate now stands at 19 percent, the third highest in the world. The economy is already showing signs of recession. Has Brasilia turned the tourniquet too tightly? Some think so. “The government is more concerned with listening to the markets than with heeding the needs of industry,” griped Horacio Lafer Piva, head of the powerful So Paulo Federation of Industries.
Whomever he listens to, Fraga’s choices are perilous. “Fraga has a huge dilemma,” says sociologist Amaury de Souza. “There’s a huge cry now for a speedier recovery of the economy. But if inflation goes up, he will be blamed, too.” Last week the Central Bank hedged its bets, leaving interest rates exactly where they were. The future interest target? Fraga isn’t saying, for now. And what about the rumors that he might stay on next year and serve the next government? “That’s not in my plans right now,” he says, poker faced. If Congress grants the Central Bank more independence, who knows? It may cost Fraga a few more sleepless nights and another stroke or two on the golf green. But the rest of Brazil might sleep better.
