Abstract

This paper offers an interpretation of the Brazilian inflation and comments briefly
on the Cruzado Plan. It emphasizes two points. First, there are the problems of fiscal consolidation
in the presence of a large public debt. What is missed in many analyses of stabilization
programs is precisely the particular debt situation, and the role of foreign exchange
availability in successful versus non-successful programs. Secondly, we discuss the role of
budget deficits in the inflationary process in Brazil. Seignorage models as an explanation for inflation in Brazil are dismissed on the grounds that seignorage as a share of GDP shows absolutely
no correlation with inflation. The money-goods model of monetarism is inappropriate
for the Brazilian economy because it predicts that seignorage drives the system. But the
Brazilian experience on the contrary has to be interpreted in the light of changing sources
of financing the budget. The inflation acceleration between 1979 and 1985 is linked to the
switch from external to domestic finance, and the large trade surpluses that pushed up interest
rates and inflation. The paper develops a model that shows a pattern of adjustment for
increasing inflation induced by increasing equilibrium real interest rates, that matches the
Brazilian data. The Cruzado Plan failed to pay attention to the debt problem and the need
for budget consolidation (probably through debt relief and a capital levy). In the absence of
an integrated approach, it pushed the economy into a classic inflationary finance situation.

JEL Classification: E31; E52.