My wife and I live in the US and are trying to plan for a retirement abroad. We wish to retire to my wife's native Brazil, and one of my principal concerns while we save our nest egg is accounting for the relationship between inflation and exchange rates after retirement, which I do not understand well. The BRL has had fairly high inflation since it's inception in the mid 90's, on average around 7% per year. Due to the inflation of the Real, and my familiarity with investing in the US, I am inclined to leave our assets in USD, and transfer funds into BRL as needed for the duration of our retirement. The exchange rate between BRL and USD also seems to vary wildly, from R$1.50 per USD all the way up to just under $R4.00.
So if we're looking into the future and we predict that the BRL will have an inflation rate of 7% per year, and the USD will have inflation of 3% per year, obviously the cost to live in Brazil will grow much faster than in the US. If that's true, over a period of 30-40 years, in theory, should the exchange rate become more favorable to the USD as the value of the BRL is eroded due to inflation? If so, is there a way I can replicate that effect in my retirement planning? Thank you for hearing my question. Please reach out to my email address if any clarification is needed.
First, a disclaimer. Whatever is written below is not actual investment advice; it is general economics discussion, a dinner table conversation, no more.
It is certainly a great thing to be planning your retirement to such a beautiful place as Brazil. Being Brazilian myself I can guarantee that the weather tends to be more amenable there!
Your concerns about your retirement funds are well founded in the sense that you need to take in account potential differentials in inflation rates and the impact on exchange rates when considering what to do.
Since 1999 Brazil has had a free floating exchange rate system, so that the relative price of the Real and Dollar are determined in the markets with the sporadic intervention of the Brazilian Central Bank. I see that as a positive, but it might allow some excessive fluctuation in times of uncertainty.
From a (simple) economic theory perspective in the long term exchange rates will adjust to compensate differential inflation in the two countries so that if Brazil has consistently higher inflation levels than the U.S. we would expect the Brazilian Real to lose value relatively to the greenback (it would depreciate). So economists usually focus on real exchange rates (which takes in consideration inflation on both countries) which would move depending on the capital flows into and out of Brazil due to exports or foreign investment in the country, for example.
Still from a theoretical perspective, since Brazil does not impose important capital controls, the interest rates differential between the U.S. and Brazil should compensate for both the differences in inflation, perceived risk of currency depreciation and perceived risk of default (the government or companies not paying back its debt). So over the long term it should not matter where the money is invested you should get similar expected returns adjusted by risk.
Investing in Brazil would pay a little more since it has a higher risk of default, so if the Brazilian government keeps paying its debt you could make a little more by taking that risk and investing in Brazil.
From a practical standpoint, things are a little more fuzzy. First, you as an investor might need your money NOW and not have time to wait for “the long term” so if Brazil is going through a moment in which you believe the exchange rate is too favorable to the Brazilian Real, say because of artificially low interest rates in the U.S. as it was the case till a few years ago, you might be forced to convert your money to Brazilian Reais at a “bad moment” losing purchasing power.
In general, most people prefer to have their savings and income in the currency that they “live and spend.” That way you avoid the risk that the exchange rate will be at a “bad moment” for you when you need the money as I described in the last sentence. That would be compatible with you having your retirement or at least part of it in Brazil if you are going to live there.
I will give you my personal example. I live in the U.S. for 10 years now and I plan to live here with my family for the rest of my life. We still have some investments in Brazil, but I keep the bulk of my savings in the U.S.
During the last 4 years or so having money in Brazil worked pretty well in the sense that it earned significantly higher interest rates, and when we visited we could use that money without having to send dollars from the U.S. when the Real was very “strong” (some would say overvalued).
Recently the Real depreciated a lot, which made it a lot more expensive for Brazilians to come to the U.S. visit us. So our friends started saying that we were “rich now” to which I reminded them that I live and spend in Dollars. The only thing that changed to us with the depreciation is that IF I need to send money from Brazil to the U.S. right now it would be a bad deal.
In the scenario you described in your message, you correctly pointed out that the exchange rates would favor USD over the long run as inflation in Brazil is higher. So if you left your money in the US, you would (as usual) receive the US interest rates and when you converted your money to BRL you would also gain due to the appreciation of the USD relative to BRL. As I said above, over the long run you would expect that the interest rates in Brazil would be higher enough than the ones in the U.S. to compensate for the extra inflation (and extra risk).