I am reading about the Brazilian real devaluation crisis in 2013 around the QE3 taper announcement.
As far as I understand, capital flows went back from emerging economies like Brazil to developed economies, as a result currencies from emerging economies like the Brazilian real weakened against the dollar.
In order to counteract the real devaluation Brazil's central bank issued USD indexed domestic debt.
- how does this indexing work? - does this mean that if a bank buys a bond with par value of 1000 BRL with and exchange rate of 1:10 (USD/BRL) for example, so that the principal in USD would be 100, if at the time of maturity the exchange rate is say, 1:15, the bank will receive 1500 BRL which would be equal to 100 USD?
I also read that the effect of issuing this indexed bonds is that it lowers the USD futures in comparison to the spot price.
- How do the indexed bonds achieve this effect on the USD futures?
If I am not mistaken the USD futures are reduced because as the BRL is devalued the interest rate of the indexed bonds grows in proportion, and since the price of the future depends on the ratio between the interests on the base currency (BRL) and the interests on the term currency (USD) as the interest of the base currency grow the spot price ratio to future price also grow resulting in a positive carry.
This encourages local and foreign banks to get loans in USD exchange them for BRL and hence offsetting the BRL devaluation. Meaning that instead of the central bank engaging in currency swaps private banks do.
If this is correct the banks would benefit of the cupom cambial which is the interest rate on the bond minus the difference between the exchange rate at the time of the bond issuance and the exchange rate at the time of maturity (rate of devaluation)
But since the bonds are USD indexed, the rate of devaluation would be neutralized by the increase in the interest rate and the coupon cambial would be exactly the same as the interest rate of the bond at the time of issuance.
Am I understanding this correctly?