CAPITAL MARKETS AND PORTFOLIO INVESTMENT
At the end of 2022, the Special Settlement and Custody System (Selic) baseline reference interest rate was set at 13.75 percent by Brazil’s Central Bank (BCB). Although analysts expect the interest rate to be reduced throughout 2023, Brazil’s fiscal and public debt conditions weigh against the possibility of sharp reductions. According to the BCB, in 2022 the ratio of public debt to GDP dropped to 73.5 percent, compared to a record 89.4 percent in 2020. Analysts project that the debt/GDP ratio will rise to around 77 percent by the end of 2023.
The role of the state in credit markets began to contract in 2020 due to the COVID-19 pandemic. Directed lending (to meet mandated sectoral targets) rose, and accounts for almost half of total lending. Brazil is paring back public bank lending and trying to expand the market for long-term private capital. While local private sector banks are beginning to offer longer credit terms, state-owned development bank BNDES is a traditional source of long-term credit in Brazil. BNDES also offers export financing. Approvals of new financing by BNDES increased 55 percent in 2022 over 2021, with the infrastructure sector receiving the majority of the new capital.
The sole stock market in Brazil is B3 (Brasil, Bolsa, Balcão), created through the 2008 merger of the São Paulo Stock Exchange (Bovespa) with the Brazilian Mercantile & Futures Exchange (BM&F), forming the fourth-largest exchange in the hemisphere after the NYSE, NASDAQ, and Canadian TSX Group. In 2022, there were 475 companies traded on the B3 exchange. The B3’s broadest index, the Ibovespa, increased 4.68 percent in valuation during 2022. Foreign investors, both institutional and individuals, can directly invest in equities, securities, and derivatives; however, they are limited to trading those investments only on established markets.
Wholly owned subsidiaries of multinational accounting firms, including the major U.S. firms, are present in Brazil. Auditors are personally liable for the accuracy of accounting statements for banks.
MONEY AND BANKING SYSTEM
The Brazilian financial sector is large and sophisticated. Banks lend at market rates that remain relatively high compared to other emerging economies. The reasons cited by industry observers for the higher market rates include: high taxation; repayment risk; concern over inconsistent judicial enforcement of contracts; high mandatory reserve requirements; administrative overhead; and persistently high real (net of inflation) interest rates.
The banking sector in Brazil is highly concentrated, with BCB data indicating that the five largest commercial banks (excluding brokerages) account for more than 80 percent of the commercial banking credit market. Three of the five largest banks by assets in the country, Banco do Brasil, Caixa Econômica Federal, and BNDES, are partially or completely federally owned. Large private banking institutions focus their lending on Brazil’s largest firms, while small- and medium-sized banks primarily serve small- and medium-sized companies. Citibank sold its consumer business to Itaú Bank in 2016 but maintains commercial banking interests in Brazil. It is currently the only U.S. bank operating in the country. Increasing competitiveness in the financial sector, including in the emerging fintech space, is a vital part of the Brazilian government’s strategy to improve access to and the affordability of financial services.
The Brazilian Central Bank has focused on innovation initiatives to modernize the banking system and promote inclusion. In 2020, the BCB launched its instant payment system called “PIX”, a 24/7 system that offers transfers for people to people (P2P), people to businesses (P2B), businesses to people (B2P), businesses to businesses (B2B), and government-government (G2G). Brazilian customers overwhelmingly embraced PIX, particularly for P2P transfers (which are free), replacing both cash payments and legacy bank electronic transfers which charged relatively high fees and could only take place during business hours.
In 2021, the BCB started implementing its Open Banking Initiative, an effort to open Brazil’s insulated banking system dominated by only a few players. The BCB has already implemented three phases of the initiative, including the digitalization of customers’ profiles, sharing of banking products and services, and exchanging information on customer transactions (subject to consent). The fourth phase includes investment information and is expected to be implemented in 2023. The BCB expects that increased access to customer information will allow other financial institutions, including competitor banks and fintechs, to offer better and cheaper banking services thereby reducing the concentration on only a few banks in the sector. According to a study by Open Banking Excellence (OBE), Brazil’s implementation has been faster and more comprehensive than in most other countries, placing Brazil as a global leader in this area.
In recent years the BCB has strengthened bank audits, implemented more stringent internal control requirements, and tightened capital adequacy rules to reflect risk more accurately. It also established loan classification and provisioning requirements. These measures apply to both private- and publicly-owned banks. Since early 2017, Moody’s has rated the Brazilian banks at Ba2 (two levels below investment grade), and since 2021 the outlook has remained stable. Moody’s rating is higher than S&P Global’s Fitch rating, which classified Brazil three levels below investment grade. The Brazilian Securities Commission (CVM) independently regulates the stock exchanges, brokers, distributors, pension funds, mutual funds, and leasing companies, and assesses penalties in instances of insider trading.
To open an account with a Brazilian bank, foreign account holders must present a permanent or temporary resident visa, a national tax identification number (CPF) issued by the Brazilian government, either a valid passport or identity card for foreigners (CIE), proof of domicile, and proof of income. On average, the process from initially submitting the application to opening the account can take more than three months.
FOREIGN EXCHANGE AND REMITTANCES
Brazil’s foreign exchange market remains small. The latest Triennial Survey by the Bank for International Settlements (2022) showed that the net daily turnover on Brazil’s market for OTC foreign exchange transactions (spot transactions, outright forwards, foreign-exchange swaps, currency swaps, and currency options) was $21 billion, up 11.8 percent from 2019 ($18.8 billion). This was equivalent to around 0.27 percent of the global market, up from 0.22 percent in 2019.
In 2021 Brazil approved a new Foreign Exchange Regulatory framework, replacing over 40 separate regulations and facilitating investments flows. The new law modernized the forex market, streamlined currency exchange operations, and expanded authorizations to include fintechs and small businesses, increasing sectorial competitiveness. The law also expanded the list of qualifying activities transacted in foreign-currency denominated accounts (previously restricted to import/export firms and for loans with debtor or creditor based outside Brazil). The law went into effect in December 2022.
Brazil’s banking system has adequate capitalization and has traditionally been highly profitable, reflecting high interest rate spreads and fees. According to BCB’s November 2022 Financial Stability Report, the banking system remains solid, with capitalization indices well above minimum requirements. 98.5 percent of the banking institutions are able to meet the minimum prudential requirements, and solvency does not pose a risk to Brazil’s financial stability. Stress testing demonstrated that the banking system has adequate loss-absorption capacity in all simulated scenarios.
There are few restrictions on converting or transferring funds associated with a foreign investment in Brazil. Foreign investors may freely convert Brazilian currency in the unified foreign exchange market, with the exchange rates determined by market forces. All foreign exchange transactions, including identifying data, must be reported to the BCB. Foreign exchange transactions on the current account are fully liberalized.
The BCB must approve all incoming foreign loans. In most cases, loans are automatically approved unless loan costs are determined to be “incompatible with normal market conditions.” In these cases, the BCB may request additional information. Loans obtained abroad do not require advance approval unless the recipient is a government entity, in which case the loan would require prior approval from the Brazilian senate and the Finance Ministry’s National Treasury Secretariat, and must be registered with the BCB.
Interest and amortization payments specified in a loan contract can be made without the BCB’s additional approval. Early payments can also be made without additional approvals if this provision is included in the contract. If the provision is not included, the entity would need to notify the BCB of the early payments, so that the BCB can maintain accurate records of Brazil’s stock of debt.
The Brazilian Federal Revenue Service regulates withholding taxes (IRRF) applicable to earnings and capital gains realized by individuals and legal entities residing in or domiciled outside Brazil. Upon registering investments with the BCB, foreign investors can remit dividends, capital (including capital gains), and, if applicable, royalties. Investors must register remittances with the BCB, with the exception of royalties due to the implementation of Law 14.268/2021. Dividends cannot exceed corporate profits. Investors may carry out remittance transactions at any bank by documenting the transaction source (evidence of profit or sale of assets) and showing payment of any applicable taxes.
Under Law 13.259 from 2016, capital gains remittances are subject to a 15 to 22.5 percent income withholding tax except for capital gains and interest payments on tax-exempt domestically issued Brazilian bonds. The capital gains marginal tax rates are 15 percent for up to $1,000,000 in gains; 17.5 percent for $1,000,000 to $10,000,000 in gains; 20 percent for $10,000,000 to $60,000,000 in gains; and 22.5 percent for more than $60,000,000 in gains.
The repatriation of a foreign investor’s initial investment is exempt from income tax under Law 4131/1962. Lease payments are assessed a 15 percent withholding tax. Remittances related to technology transfers are not subject to the tax on credit, foreign exchange, and insurance although they are subject to a 15 percent withholding tax and fines of up to 135% of the owned tax.
SOVEREIGN WEALTH FUNDS
Brazil had a sovereign fund from 2008 – 2018; when it was abolished, and the money was used to repay foreign debt.