Why Did Brazil Create a Fake Currency in 1994?
In the late 1980s and early 1990s, Brazil suffered from severe economic instability, with inflation reaching as high as 2,500%. Prices rose daily, making it incredibly difficult for people to save or invest. The Brazilian government tried multiple economic plans to alleviate this economic disaster, but they all failed. Something had to be done. The Minister of Finance, Fernando Henrique Cardoso made a plan. He was going to create a fake currency, the “Unidade Real de Valor” (Unit of Real Value) to try and save the Brazilian economy. How did this seemingly crazy plan change the course of Brazil’s economy? Find out below:
Why the Currency Was Made
To understand why Cardoso would propose such a bold plan, it is important to understand what caused the mind-boggling inflation in Brazil. The Brazilian government had incurred a staggering $120 billion of debt in today’s money by 1987. What did they do to fix this? Instead of trying to address the underlying fiscal problems with its balance sheet, the country decided to print more money to cover its expenses. Coupled with the political instability the country faced as it transitioned to a democracy, this fiscal strategy led to high inflation.
Not only did a huge debt and political change lead to economic uncertainty, but the expectation for future inflation boosted prices in the economy. The inflation had created a self-fulfilling cycle. As people and corporations expected prices to rise rapidly, they increased prices, wages, contracts, etc. to keep up. While this did protect people’s purchasing power, it essentially institutionalized inflation in the Brazilian economy.
The Implementation of the Unit of Real Value
Cardoso recognized that inflation wasn’t just the result of economic conditions, but was now etched into the thoughts and behaviors of the economy’s actors. He introduced the URV in March 1994, with its value being set at approximately one U.S. dollar. It was used to express prices, wages, contracts, etc. at a stable value, decoupling them from the inflationary previous currency. The URV wasn’t a currency itself but was designed to set prices and remove the inflationary expectations etched into members of the economy.
By July, the country essentially operated with a dual-price system for three months. The government had introduced the real (R$) as the official currency, replacing the previous currency, the cruzeiro real. The conversion rate of the real was that one URV would be equivalent to one real.
Long-Term Impact of the Unit of Real Value
So, did this plan end up saving the Brazilian economy? Yes. Because actors in the economy had become used to the stability of the URV, they no longer anticipated the high inflation that came with the Cruzeiro real. Along with greater fiscal discipline from the government, the inflation in the Brazilian economy had finally begun to stabilize. By 2000, Brazil’s inflation rate had come down to a comparatively lower 7%.
What Does This Mean for the Future:
Looking to the future, this incredible story shows that desperate times can call for desperate measures. Innovative solutions to systemic economic problems are needed to solve them. Future economists can look at Cardoso’s plan and consider new ways to improve their country’s economy.
