Raportul de Stabilitate Brazilia

Financial
Stability Report
September 2010
Volume 9 | Number 2
ISSN 2179-5398
CNPJ 00.038.166/0001-05
Financial Stability Report
Braslia
v. 9
n. 2
September
2010
p. 1-54

Half-year Banco Central do Brasil publication.
Reproduction permitted only if source is stated as follows: Financial Stability Report, Volume 9, n. 2.
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Statistical Conventions:
...
0 ou 0,0
*
Data not available.

nil or non-existence of the event considered.
less than half the final digit shown on the right.
preliminary data.
Hyphen (-) between years (1970-75) indicates the years covered, including the first and last year.
A bar (/) between years (1970/75) indicates the average of the years covered, including the first and last year or even crop or agreement year, when
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Summary
Presentation
Executive summary
Financial market evolution
1.1 Introduction _________________________________________________________________ 9

1.2 International financial markets __________________________________________________ 10
1.3 National financial market ______________________________________________________ 12
1.3.1 Macro-economic scenario ________________________________________________ 12
1.3.2 Assets market __________________________________________________________ 14
National Financial System supervision

2.1
2.2
2.3
2.4
2.5
2.6
Introduction ________________________________________________________________
Liquidity ___________________________________________________________________
Credit _____________________________________________________________________
Earnings ___________________________________________________________________
Solvency ___________________________________________________________________
Capital stress tests ____________________________________________________________
2.6.1 Stress tests for market risk ________________________________________________
2.6.1.1 Sensitivity analysis _______________________________________________
2.6.1.2 Scenario analysis _________________________________________________
2.6.2 Stress tests for credit risk _________________________________________________
2.6.2.1 Sensitivity analysis _______________________________________________
2.6.2.2 Ad hoc scenario analysis ___________________________________________
2.6.2.3 Scenario analysis based on stress of macroeconomic variables _____________
Brazilian Payments System
17
17
18
21
23
25
27
27
27
28
28
28
29
29
36
3.1 Introduction ________________________________________________________________ 36

3.2 Funds transfer sytems performance ______________________________________________ 36
3.3 Securities, stocks, derivatives and foreign exchange clearing
and settlement systems performance _____________________________________________ 38
Financial system organization
43
4.1 Introduction ________________________________________________________________ 43
4.2 Banking institutions __________________________________________________________ 44

4.3 Non-banking institutions ______________________________________________________ 44
4.4 National Finacial System foreign participation _____________________________________ 45
Boxes
National Finacial System Regulation _____________________________________________
Anticrisis Measures Reversion __________________________________________________
Backtesting Credit Risk Assets Clearinghouses ___________________________________
Credit Unions and Settlement Accounts ___________________________________________
New Banks and Foreign Participation Recent Evolution ____________________________
Annex
30
33
41
46
47
48
Concepts and Methodologies ___________________________________________________ 48

Concepts and Methodologies Capital Stress ______________________________________ 49
Appendix
51
Presentation
The Financial Stability Report (FSR) is a semiannual

publication of the Central Bank of Brazil (BCB) which
describes recent National Financial System (SFN) dynamics,
presenting the conclusion of the analysis of its resilience
to eventual shocks, as well as its evolution perspectives.
This edition refers to the second semester of 2010 unless
otherwise noted.1
In the first chapter Financial markets evolution the
behavior of the national financial market and of the main
international markets is analyzed, and its reflexes over the
national financial market.
The second chapter Banking system presents an overview
risk exposures, earnings, and solvency of financial institutions
and conglomerates that comprise the Brazilian banking
system. Stress tests stand out, evaluating the capacity of each
institution or conglomerate to withstand adverse situations,
especially with respect to solvency and liquidity. The main
guidelines published by the National Monetary Council
(CMN) and BCB to monitor SFN functioning, which were
explained in the fifth chapter of the previous FSR edition,
are also presented in this chapter.
Chapter three Brazilian Payments System describes
BCBs evaluation regarding the adequate functioning of
the SPB and of the performance of the settlements systems,
the main events of the period concerned, the results of
intraday liquidity, and the stress tests of clearing systems
which settle securities, derivatives and interbank foreign
exchange trading.
Chapter four National Financial System organization
analyzes changes in shareholders control over financial
institutions.
1/ Cut-off of this report is June 30, 2010. Eventual discrepancies in relation to previous edition and other BCB publications result from financial institutions
information rectification.
September 2010
| 5
This document is available in PDF format at: <www.bcb.

gov.br>.
September 2010
| 6
Executive summary
In the first half of 2010, uncertainties in the international

scenario triggered by the sovereign debt crisis of countries
within the Euro area influenced financial markets behavior.
In addition, the slow United States economic recovery and
the signs of deceleration of the Chinese economy, both from
the second quarter of the current year, added uncertainties
about the future of the world economy.
In Brazil, good macroeconomic fundamentals allowed the
continuity of economic growth, with relatively low volatility
on interest and exchange rate markets, albeit higher than in
the previous semester. The benign economic environment
contributed to the 9% growth in banking systems credit
portfolio, mainly in lower risk credit types. Regarding
credit to households, expansion was based on the growth of
customer base, with a moderate increase in debt service to
income ratio and no significant rise on portfolio risks. As for
the credit to corporations, rising risk due to the higher share
of loans to small and medium enterprises was followed by
interest rate increase.
Banking systems liquid assets are sufficient to support its
operations, even in stressful situations. Notwithstanding
credit portfolio growth and the return of reserves requirements
to pre-crisis levels, the banking system obtained funding so
as not to compromise liquidity.
Financial institutions solvency kept in a comfortable
level. Retained earnings contributed to keep Total Capital
Ratio (TCR) well above the minimum required, in spite of
both a regulatory change that narrowed the definition of
regulatory capital and higher capital requirement due to
portfolio growth. In all stress scenarios analyzed, including
those that considered extreme macroeconomic deterioration
and the consequent rise in provisions, TCR would remain
above 11%.
September 2010
| 7
Earnings kept consistent with the banking system historical

pattern, with a strong reduction of the non-operational
income contribution, which reinforces the perception of
improved quality of financial system earnings.
Prudential regulatory changes are currently being discussed
in the Basle Committee in order to define leverage and
liquidity global standards and to improve capital quality.
The eventual acceptance of these recommendations in Brazil
may result in pressure over profitability and impact financial
institutions solvency ratio. Nevertheless, implementation
would be gradual and, furthermore, sound liquidity and
capitalization levels, institutions adaptability, as well as
retained earnings during the transitional period to the new
rules should reduce possible impacts.
The Brazilian Payment System (SPB) worked properly,
considering its risk and efficiency aspects. Backtestings
periodically performed in securities, derivatives and
foreign exchange clearings showed satisfactory outcomes
throughout the semester.
September 2010
| 8
Financial market evolution
1.1 Introduction
Chart 1.1 Sovereign CDS (5 years)

b.p.
1200
960
720
480
240
0
12.26
2008
2.27
2009
5.1
7.3
9.4
Ireland
11.6
Spain
1.8
2010
3.12
5.14
Greece
7.16
Portugal
Source: Thomson
Chart 1.2 Stock exchanges

Developed economies
12.31.2003 = 100
210
180
150
120
90
60
1.5 5.15
2007
9.20
1.28
2008
6.4
10.10 2.17 6.25

2009
11.2
3.10 7.16
2010
Japan Nikkei 225
UK FTSE 100
Germany DAX
USA S&P500
Source: Thomson
Risks associated to fiscal problems in some European

countries conditioned the behavior of international financial
markets along the first half of 2010, adding doubts as to the
economic recovery and resilience of the banking system in
the Euro area, should sovereign debt market crisis deepen.
Additionally, the slowdown in US economic recovery and
signs of deceleration in Chinese economic growth, both as
of the second quarter, created uncertainties as to the future
path of the world economy.
Strengthening of economic activity in Brazil, and a more
troubled international setting, conditioned the evolution
of the main national financial market variables. Concerns
with impact of expressive fiscal deficits in the Euro area
economies prompted a risk aversion environment that
affected assets price in the domestic market, increased
country risk, and slowed down securities market.
Inflationary pressure early in the year led the Monetary
Policy Committee (Copom) to initiate a restrictive monetary
policy cycle as of April. In June, consumer prices remained
stable, and in mid-July there was an expressive decrease
in the slope of the term structure of interest rates. This
continued economic growth framework and the robust
macro-economic fundamentals prevented foreign exchange
rate from fluctuating significantly, despite increased
volatility resulting from uncertainties abroad. Even under
this unfavorable scenario, lengthening average maturity of
Domestic federal public debt (DPMFi) was carried on.
September 2010
| 9
Chart 1.3 Stock exchanges

Emerging economies
12.31.2003 = 100
1.2 International financial

market
400
330
260
190
120
50
1.5
2007
5.15
9.20
1.28
2008
Korea
6.4
10.10 2.17
2009
India
6.25
11.2
3.10
2010
Mexico
7.16
Turkey
Source: Thomson
Chart 1.4 Volatility Index VIX

b.p.
In financial markets, the deterioration that has occurred

since the worsening of the fiscal problems at the end of
2009 accelerate in the first week of May, when the sovereign
Credit default Swaps premiums of Greece, Portugal, Spain
and Ireland reached their maximum historic level (chart
1.1). This deterioration was partly controlled after the
announcement of the agreement reached between European
Union and International Monetary Fund (IMF) to aid
Greece, the establishment of the European Stabilization
Mechanism and the decision of the European Central Bank
(BCE) to initiate the purchase of sovereign bonds of Euro
area countries.
100
80
60
40
20
0
2.15 5.14
2008
8.11
11.6
2.3
2009
5.1
7.29 10.26 1.21 4.20

2010
7.16
The events on sovereign debt market ended up contaminating

stock markets (chart 1.2 and chart 1.3). Chicago Board
Options Exchange Volatility Index (VIX) which measures
implicit volatility in S&P500 short-term index on May 20
reached 45.8 points, the highest level in a fourteen-month
period, against 19.5 points at the end of February. Throughout
the year, volatility hovered over the main equities markets
both from emerging and developed economies (chart 1.4).
Source: Bloomberg
Chart 1.5 Yields on government bonds

Nominal yields on 10 year's bonds
% p.y.
6,0
4,8
3,6
Characterizing risk aversion increase in the period, longterm bond yields in mature economies US, Japan, UK
and Germany receded, indicating that market concerns
over deficit sustainability are still restricted to a determined
group of countries in the European continent (chart 1.5).
In exchange markets, Euro retracted against the US dollar,
reflecting the European economic tensions and retreated to
US$1.19 on June 7, the lowest since June 2006 (chart 1.6
and chart 1.7).
2,4
1,2
0,0
11.23 2.28
2007 2008
6.4
USA
9.9
12.15 3.20
2009
Germany
6.25
9.30
1.5
2010
4.12
UK
Source: Bloomberg
7.16
Japan
The worsening of the fiscal issues along the second quarter

also resulted in greater financing difficulty for banks in that
region. Therefore, banks increased new loans requirements2.
The exposure of financial institutions to countries with higher
sovereign default risk, when their balances still carried
the fragilities stemming from the recent financial crisis,
constituted, during the first half of the year, the main global
financial stability risk.
To counteract mistrust associated to their banking systems,
European Union authorities, under the auspices of the
Committee of European Banking Supervisors (CEBS),
2/ The Euro Area Bank Lending Survey, BCE, July 2010.
September 2010
| 10
Chart 1.6 Developed countries currencies

Dollar exchange rates
9.19.2003 = 100
120
110
100
90
conducted stress tests in a 91 banks sample group. Results

of these tests show that only seven banks would not hold
sufficient capital to withstand the most adverse scenario.
Aggregate result, under the worst scenario, showed 566
billion losses in 2010 and 2011, in which case, Tier 1 own
capital would reduce from 10.3% in 2009 to 9.2% at the
end of 2011, which is higher than the 6% minimum level
required for the fiscal year 2010/2011.
80
70
1.4 3.28 6.20 9.12 12.5 2.27 5.22 8.14 11.6 1.29 4.23 7.16
2008
2009
2010
Pound sterling/Dollar
Yen/Dollar
Euro/Dollar
Source: Bloomberg
Chart 1.7 Emerging markets currencies

Dollar exchange rates
Reflecting these developments, the CDS premiums average

of five important European banks reached 181 basis
points (b.p.) on June 8, but went down to 118 b.p. on July
16, after the results of stress tests had been published in
Europe. During this period, several banks in that region,
mainly the ones in countries with lower fiscal solvency,
were downgraded in assessments made by the main rating
agencies (chart 1.8).
9.19.2003 = 100
160
142
124
106
88
70
1.4 3.28 6.20 9.12 12.5 2.27 5.22 8.14 11.6 1.29 4.23 7.16
2008
2009
2010
South African rand/Dollar
Russian rublo/Dollar
Turkish lira/Dollar
Won/Dollar
Source: Bloomberg
Chart 1.8 5 year CDS: premiums of

selected European banks 1/
Points
210
168
126
84
42
0
2.15 5.14
2008
8.11
11.6
2.3
2009
5.1
7.29 10.26 1.21 4.20

2010
7.16
Source: Thomson
1/ European index is the aritmethic average for HSBC, UBS, Santander, BNP
Paribas and Deutsche Bank's 5-year CDS premiums. Since it's not a random
sample, it may not reflect the behavior of the financial system as a whole.
In the US, the improvement in economic performance at

the beginning of the year contributed towards banking
industrys US$18 billion net result in the first quarter of the
year, well above the US$5.6 billion net profit of the same
period in 20093. However concerns coming from Europe
hit the countrys banking system and the average of CDS
premiums of five important banks was 179 b.p. on June 8,
going down to 136 b.p. on July 16, similarly to European
banks movement (chart 1.9). More recent indicators point
towards major financial institutions showing better results
than expected by the market in the second quarter.
The approval of financial reform by US Congress was a
relevant event in the United States. The new Law creates a
Financial Stability Oversight Council (FSOC), headed by the
Treasury Secretary, with ample powers to monitor, investigate
and evaluate financial stability risks. FSOC is empowered to
identify financial institutions potentially threatening financial
stability and submit them to a closer supervision by the
Federal Reserve Bank (Fed). It also allows for bankruptcy
instead of insolvency of financial institutions (including
stockbrokers and insurance companies) considered
systemically relevant. Additionally, it permanently increased
Federal Deposit Insurance Corporations (FDIC) deposit
coverage limit to US$ 250 thousand per depositor. Under
the new law, derivatives markets are also regulated and
supervised. It also creates a consumers protection agency
under the Fed. Within this reform, rating agencies will also
be supervised to avoid conflicts of interest. Some rules will
impact financial institutions profit margin, such as constrain
3/ Amounts refer to financial institutions ensured by the Federal Deposit Insurance Corporation (FDIC).
September 2010
| 11
Chart 1.9 5 year CDS: premiums of

selected American banks 1/
Points
400
to propriety trading, and investors protection when dealing

with more complex financial instruments, such as Asset
Backed Securities (ABS).
320
240
160
80
1.3 National financial market

1.3.1 Macro-economic scenario
0
2.15
2008
5.14
8.11
11.6
2.3
2009
5.1
7.29 10.26 1.21

2010
4.20
7.16
Source: Thomson
1/ USA index is the aritmethic average for Citigroup, Bank of America, JPMorgan,
Goldman Sachs and Wells Fargo 5-year CDS premiums. Since it's not a random
sample, it may not reflect the behavior of the financial system as a whole.
Chart 1.10 Embi+ and Embi+Brazil

Points
450
375
300
National financial market main variables evolution reflected

both the changes in international background and the
continuing domestic favorable economic activity process.
While 2009 was characterized by persistent uncertainties
reduction Emergent Markets Bond Index Plus (Embi+) and
Emergent Markets Bond Index Plus Brazil (Embi+Brazil)
returned levels prevailing before the worsening of the global
financial crisis triggered by Lehman Brothers bankruptcy ,
2010 first semester did not carry such a defined pattern. Risk
aversion was still high, which contributed to great Embi+
and Embi+Brazil volatility. On July 16, these risk indicators
were at 314 and 225 points, respectively4 (chart 1.10).
225
150
Jul Aug Sep Oct Nov Dec Jan Feb Mar Apr May Jun
2009
2010
Embi+Brazil
Jul
Embi+
Source: Bloomberg
Chart 1.11 Interest rates

One-day Selic rate and swap of 3 and 6 months,
1 year, 2 and 3 years
Yield % p.y.
13
International economic scenario was determinant to

commodities markets behavior, particularly oil. Initially,
as global economic growth perspectives improved, notably
after February 8, Brent type barrel showed ascending path
and went over US$88.00 in early May, corresponding to
a 27% price increase. In terms of the Brazilian currency,
although similar behavior occurred, oil price fluctuations
were absorbed by the Real appreciation, which registered
a 17% increase in the same comparison base. In mid-July,
price quotes moderately varied around the R$133.00 level,
the same as the beginning of the year.
12
11
10
9
8
Jul
2009
Sep
Nov
Jan
2010
One-day Selic
1 year
Sources: BM&FBovespa and BCB
Mar
3 months
2 years
May
Jul
6 months
3 years
Internally, monetary policy implemented actions, with a 5.0

p.p. reduction in Special Settlement and Clearing System
(Selic) target rate between January and July 2009, along with
fiscal incentive initiatives, had already contributed towards a
vigorous recovery of economic activity, particularly as of the
last quarter of that year. As installed capacity use increased,
and inflation expectations drew closer to the 4.5% target5
center, bets that the Central Bank of Brazil (BCB) would
anticipate to March 2010 the beginning of the monetary
tightening cycle grew higher. Thus, short-term interest rates
4/ In a semester characterized by the lowering of several sovereign debt ratings, Fitch rating agency revised Brazils foreign currency rating trend as stable
to positive, as a result of the Brazilian economy greater resilience to the financial crisis.
5/ CMN Resolutions n. 3,584 of July 1, 2008; n. 3,748 of June 30, 2009; and n. 3,880 of June 22, 2010, respectively established 2010, 2011 and 2012 inflation
target rate at 4.5% and tolerance intervals at 2.0 p.p. below and above target.
September 2010
| 12
Table 1.1 Selected interest rates

% p.y.
1 day 3 months 6 months
Date
1 year
2 years
3 years
9.11.2009
8,65
8,64
8,71
9,12
10,67
12.30.2009
8,65
8,74
9,21
10,46
11,84
11,49
12,42
3.16.2010
8,65
9,23
9,92
10,90
11,75
11,97
3.18.2010
8,65
9,01
9,68
10,68
11,67
11,97
5.3.2010
9,40
9,98
10,86
11,79
12,60
12,68
6.7.2010
9,40
10,43
10,89
11,48
11,96
11,99
6.15.2010
10,15
10,61
11,16
11,88
12,45
12,49
7.16.2010
10,16
10,89
11,09
11,47
11,84
11,94
went up, reducing the slope of the term structure of interest

rates, since, at the same time, other rate maturities were also
lowered and the duration of fixed rate securities portfolio
was increased by foreign investors (chart 1.11 and chart 1.1).
However, decision to maintain 8.75% interest rate target at
the March Monetary Policy Committee (Copom) ensued
timely adjustments in shorter-term rates, which, soon after,
returned to an ascending path. In April, longer-term interest
rates also went up, owing to positive revision in world
economic growth projections, and to publication of data
corroborating robust internal economic activity6 increase
in employment, in salary, in credit7 and in retail sales. Thus,
at the end of that month, following the 0.75 p.p. Selic target
rate increase, interest curve also went up (chart 1.12).
Chart 1.12 Domestic yield curve

Rate % p.y.
13
12
11
10
9
8
1 day
1 year
12.30.2009
2 years
3.16.2010
3 years
5.3.2010
7.16.2010
Source:s BM&FBovespa and BCB
Chart 1.13 Interest rates volatility

p.y. (%)
2,5
As of May, European fiscal crisis deepening contributed

towards longer-term interest rates decrease, while shorterterm ones kept an ascending path, influenced by data
publication indicating the continued robust growth path of
the Brazilian economy, and the maintenance of inflation
expectations above target goals. However, since the June8
Copom meeting, persistent uncertainties as to economic
framework abroad, with the slowdown of inflationary
pressures in some relevant economies, and the decreasing
risk perception, consolidating a benign inflationary scenario
supported by updated economic activity indicators pointing
towards a slowdown in economic growth in the second
quarter9 and moderate evolution in prices justified a low
slant in the term structure of interest rates. Although oneyear interest rate has not recovered its descending trend as
promptly as the longer-term ones, to the slope of the term
structure declined once again until mid-July.
2,0
1,5
1,0
0,5
0,0
2009
2010
Short
6/
Medium
Long
Jul
In the first half of 2010, interest rates volatility entered a

slightly ascending and erratic pattern, following the 2009
accentuated fall. Volatility in the term structure of interest
rates longer leg was a consequence of uncertainties hovering
over world economic recovery at that time. Its intensity
was reduced by the Brazilian economic resilience and its
growth dynamics, anchored in internal factors. Shorterterm interest rates, however, became more sensitive to the
approaching of the monetary policy restraint and showed
increased volatility up to early May, as international scenario
Brazilian Central Bank Economic Activity Index (IBC-Br) rose 2.9% in the de-seasoned series, in the semester, keeping relatively stable in the second quarter.
7/ Credit stock went up 8.1% in the semester, and 19.7% in the twelve-month accumulated. In June it already represented 45.7% of the Gross Domestic
Product (GDP).
8/ Copom additionally increased Selic target rate by 0.75 p.p. totaling a 1.5 p.p. increase in the semester.
9/ National Industry Confederation (CNI) Installed Capacity Use Level (Nuci) went up from 80.82% in January to 82.92% in April, falling back to 82.68%
in de-seasoned June series.
September 2010
| 13
Chart 1.14 IPCA

Rate % p.y.
5,3
uncertainties soared. Since then, increased anticipation of

subsequent BCB moves, allowed for a downward change
in such volatility (chart 1.13).
5,0
4,8
4,5
4,3
4,0
Jul Aug
2009
Sep
Oct
Nov
Dec
Jan Feb
2010
Mar
Apr
May
Jun
Acum. Core IPCA 12 m
IPCA last 12 months
Inflation Target
Exp. IPCA 12 m - smooth.
Sources: IBGE and BCB
General Price Index Domestic Supply (IGP-DI) carried

monthly increases throughout the first half of 2010,
influenced by Wholesale Price Index Domestic Supply
(IPA-DI) acceleration, which went up to 6.17% in that
period. Inflation measured by twelve-month Broad National
Consumer Price Index (IPCA), ascending since November
2009, reached 5.26% in April 2010, reversing to 4.84% in
June, but still exceeding the 4.5% target core this drop was
influenced by that months null inflation rate. First half of
2010 inflation rate expectations were high, hitting 4.85% in
June 2010 (chart 1.14).
Chart 1.15 Exchange rates

R$/US$
EUR/US$
2,55
0,85
2,35
0,81
2,15
0,77
1,95
0,73
1,75
0,69
0,65
1,55
Jul
2009
Sep
Nov
Jan
2010
R$/US$
Mar
May
Jul
EUR/US$
Source: Bloomberg
Chart 1.16 Bovespa Index

Points (thousands)
73
68
63
58
53
48
2009
2010
Source: BM&FBovespa
Jul
Along the first half of 2010, Real/US dollar exchange rate

moved within a relatively narrow interval, coming to 1.78R$/
US$ on July 16, which corresponds to a 2.1% devaluation in
that period. Against the Euro, however, the Real appreciated
7.8%, as a result of its depreciation against the US dollar
(chart 1.15). Volatility observed in the period can be
attributed to fiscal deterioration in some mature economies,
as well as the reversion of the 2009 emerging markets strong
liquidity expansion. Under these conditions, demand for
risk assets was moderate. As of the second week of June, as
uncertainties increased in relation to US economic recovery,
and the perspective of strong funds inflow, US dollar/Real
rate again began to diminish, while the Euro reverted part
of its accumulated devaluation against the US dollar along
the semester.
Despite the expressive trade balance10 reduction, the balance
of foreign exchange operations went up from US$0.7 billion
to US$3.4 billion, with a US$12.3 billion inflow of funds to
the financial segment. From January to May 2010, net direct
foreign investment (IED) increased 1.6% in relation to the
same period of the previous year. On its turn, BCB kept
accumulating international reserves, which in international
liquidity concept totaled US$253 billion in June 2010,
representing a 5.9% increase in six months.
1.3.2 Assets market

Brazilian economic growth turned upward once again as
of the second half of 2009, acquired greater vigor during
the second semester of the year, and projected into the first
10/ Brazilian exports expanded 12.3% while imports expanded 35.3%, resulting in a U$11.6 billion decrease in trade balance.
September 2010
| 14
quarter of 201011, ensuing successive increases in growth

forecasts for this year12. Despite fiscal incentives still
prevailing in the first quarter of 2010, gradual tax collection
recovery13 and the May announcement of additional R$10
billion cut in 2010 Budget overhead, ensured improved
accumulated fiscal results in the semester, as compared to
the same period in 2009. In the first half of 2010, public
sector consolidated primary surplus totaled R$40.1 billion,
equivalent to 2.36% of GNP, while nominal deficit went up
0.1 p.p. reaching 3.02% of GNP14.
National economic growth recovery contributed to
consolidate public securities market return to normalcy,
notwithstanding the bleak international economic scenario
in the second quarter of 2010. Highlights of the semester
were 8.4% DPMFi raise and fluctuations15 in the balance of
repurchase agreements operations (repos).
Influenced by National Economic and Social Development
Bank (BNDES) direct securities issues in April and May,
totaling R$80,0 billion, DPMFi reached R$1.5 trillion in
June, period in which its composition little differed from
the one at the close of 2009. Even so, after dropping 4 p.p.
in January, the share of fixed rate securities in total debt
increased 6 p.p. up to June, reaching 35%, the highest level
in the past two years. During this period, the average stock
and issues maturities were lengthened, closing the semester
at 40.8 and 43.1 months16, respectively.
Balance of repos, after surpassing R$500 billion in January17,
receded to R$351 billion at the end of the semester. This
fluctuation resulted in great part from changes in reserve
requirements18. BCB daily performed very short-term repos
and weekly longer-term ones, with six months maturities.
In the first half of 2010, financial volume of long-term
11/ In the third and fourth quarters of 2009, seasonally adjusted GNP growth rate went up 2.2% and 2.3%, respectively, in relation to the previous quarter. In
the first quarter of 2010 it grew 2.7% in relation to the previous quarter and 9.0% in inter-annual terms.
12/ In June, BCB quarterly inflation forecast related to 2010 GNP growth were revised from 5.8% to7.2%, even after 2009 fiscal incentives being
withdrawn.
13/ In the first semester of 2010 Brazilian Internal Revenue Service collected R$379.5 billion, a 12.48%increase compared to the first half of 2009.
14/ Twelve-month accumulated primary surplus reached R$69.4 billion (2.07% of GNP) in June 2010, while nominal deficit totaled R$112.2 billion (3.35%
of GDP).
15/ Including open market balance, debt goes up 2.2% in the semester.
16/ Average stock term went up 0.4 month in the semester, and 0.6 month in the year, while issues grew 5.9 and 7.6 month respectively.
17/ On January 6, 2010, volume reached R$547.3 billion the highest since December 1999, when the Press Release on open market operations began to
be published.
18/ R$89 billion were retained as of March 22, owing to additional requirement, out of which 5.6% came from currency deposits. As of April 9, reserve
requirement went back to pre-crisis levels, and currency deposits responded for 42.3% of the additional R$57.4 billion. For further information of recent
changes in reserve requirement rates, see box Anti-crisis Measures Reversion, in chapter 2 of this report.
September 2010
| 15
operations totaled R$87.1 billion, representing a 4.6% raise

in relation to the previous semester. At the end of June, 26.8%
of repos balance comprised six months maturities.
In So Paulo Futures and Commodities Exchange Chamber
(BM&FBovespa), future interest rate market showed an
average daily increase in all contracts maturities medium,
long and mostly short-term, reaching 201.6% when
comparing the first half of 2010 with the previous semester.
Perspective of tighter monetary policy and uncertainties
as to its magnitude and length drove the market towards
shorter-term contracts. Contracts with maturities less than
six months went up from 4.8 p.p.19 to 42.4% of the average
daily turnover. In US dollar futures market, average daily
trading volume has been showing consistent recovery as
of December 2008. In the first half of 2010, average daily
volumes per month went up from 28.8% to 372 thousand
contracts, compared to the second half of 200920.
Brazilian securities market evolution was rather erratic by
contrast with the continued real increased value along 2009.
Despite the high activity level and robust Brazilian GNP
growth, Bovespa Index (Ibovespa) performance remained
attached to international scenario evolution. An abrupt 18.9%
fall in April and May resulted in a crisis stemming from
uncertainties as to the solvency capacity of some European
countries. This year, up to July 16, Ibovespa accumulated
9.1% losses in nominal terms and 11.0% in US dollars, while
Morgan Stanley Capital International Emerging Markets
Index (MSCI EM)21 receded 4.1%. Foreign investments net
flow accumulated a R$2.9 billion negative balance in the
first semester (chart 1.16).
19/ Futures contract maturing January 2011 was the longest negotiated and concentrated 30.6% of the average daily number of contracts negotiated.
20/ Non-resident investors (INR) kept US$2 billion daily average bought position during the first half of 2010. However in April INR took an average sold
position that reached US$3.9 billion.
21/ MSCI EM index represents emerging countries securities exchange behavior measured by Morgan Stanley.
September 2010
| 16
National Financial System supervision
2.1 Introduction
Chart 2.1 Liquidity ratio

(5 days moving average)
LR by bank size
Un.
4
0
Jul Aug Oct Dec Feb Apr
2008
2009
Large
Jun Aug Oct Dec Feb Apr

2010
Medium
Small
Jun
Micro
Chart 2.2 Reserve requirements of financial

institutions
Total balance
R$ billions
300
250
200
In June 2010, Brazilian banking institutions22 held R$3.09

trillion in assets23 and a domestic credit portfolio of R$1.33
trillion, respectively representing 85% and 86% share in
National Financial Systems (SFN)24 assets. Assets grew
12% and credit portfolio had a 9% increase when compared
to the previous semester.
Credit portfolio growth and credit write offs enhanced
quality portfolio indicators. Provisions have been sufficient
to face expected losses, as well as credit write offs within
twelve months of provisions set up. However, portfolio
lengthening is raising provision needs as time passes.
Household lending expansion in lower risk facilities and
higher average duration reflected in a moderate increase
in principal and interest expenses over income of such
borrowers, without significant risk to banks portfolio.
Risk increase in corporate credit stemmed from additional
participation of small and medium-size companies, which
was followed by interest rates increase.
150
100
Jun
2008
Sep
Dec
Mar
2009
Jun
Sep
Dec
Mar
2010
Jun
Liquid assets were sufficient to uphold operations, including

under stress situations. Despite credit growth and greater
funding needs to fulfill reserve requirement, banking system
was capable of raising funds without compromising its
liquidity.
22/ For the purpose of this chapter, banking system is defined as the group of institutions such as commercial banks, multiple banks, savings banks, investment
banks, and financial conglomerates comprising at least one such institution. Development banks are not included in the analysis.
23/ Total assets less brokerage. Concept used in reports of the fifty largest banks and the consolidated SFN report, available at BCB site. Along this chapter,
adjustment such as elimination, reclassification and balancing, were implemented on variables, aiming at adequating variables for analysis purposes.
These procedures are described at the annex Concepts & Methodologies.
24/ Aside from banking system, SFN comprehends the following institutions: development banks, credit unions, development agencies, savings and loans
associations, mortgage companies, leasing companies, exchange brokers, securities brokers, credit, financing and investment companies, real estate
financing companies, micro-financing institutions, and securities dealers.
September 2010
| 17
Chart 2.3 Funding

R$ billions
2.000
1.600
1.200
800
400
0
Jun
2008
Dec
Jun
2009
Dec
Jun
2010
Time deposits
Savings
Liabilities on loans
Repo with corporate bonds
On demand deposits
Others
Institutions solvency remained at comfortable level. Profit

accumulation allowed for Total Capital Ratio (TCR) to be
kept well above minimum required, regardless of regulatory
changes on capital base and additional capital requirement
owing to greater credit risk exposure.
Under all stress scenarios analyzed, including those
considering extreme macro-economic deterioration with
consequent increase in provisions, TCR remained above 11%.
On its turn, earnings remained compatible with banking
system historical level, with strong reduction in nonoperational profit, which reinforces the perception that there
was a quality improvement on banking systems earnings.
Chart 2.4 Growth of time deposits volume

Jun/2009 = 100
145
130
115
100
Eventual prudential regulation changes, resulting from

adoption of international standards under discussion in
several world forums, aiming at reducing leverage and
improving capital quality, can increase pressure over
earnings and impact banking institutions solvency. However,
good capital and liquidity position, institutions adjustment
capacity, as well as profit retention along the transition period
into new rules, should minimize such impacts.
85
Jun
2009
Aug
Oct
Dec
Feb
2010
Apr
Large banks
Jun
2.2 Liquidity
Others
Chart 2.5 Growth of mutual funds* and time

deposits
Large banks
NAV
(R$ billions)
Net funding
(R$ billions)
1.100
18
1.050
1.000
950
-9
900
-18
Jul
2009
Sep
Funds net funding
Nov
Jan
2010
Mar
Time deposits changes
May
NAV
* Excludes funds of funds

Sources: BCB and CVM
Banking institutions held adequate liquidity level along the

semester. Systems liquidity index measured by liquid assets
(Total Liquidity LT) to estimated liquidity need (NEL) ratio
in crisis situations25, was kept at high level, demonstrating
institutions capacity to withstand market stress situations
(chart 2.1)26.
Between March and April 2010, part of the measures easing
reserves requirement were suspended, returning institutions
liquidity to 2008 pre-crisis levels, mainly the largest ones
(see box Anti-Crisis Measures Reversion in this report).
Reduction in excess liquidity was already expected,
considering that due to such measures reversion and, to a
lesser extent, to growth in deposits, there was some R$85
billion increase in reserve requirements when compared to
February (chart 2.2).
25/ See Concepts & Methodologies on liquidity index calculation.

26/ This metric is similar to the Liquidity Coverage Ratio presently under discussion by the Bank for International Settlements (BIS).
September 2010
| 18
Chart 2.6 Time deposits' rates

Monthly average rate of CDs
% CDI
103
102
101
100
99
98
Jun
2009
Aug
Oct
Dec
Feb
2010
Apr
Large banks
Jun
Others
Total funding balance grew R$137.7 billion 7.9% mainly

due to the following increases: R$50 billion in refinancing
and loan obligations, R$36.5 billion in private securities
repurchase agreements and R$22.4 billion in savings
deposits (chart 2.3). Savings accounts remained an attractive
investment option in a low interest rates scenario. Most
private-issued securities repos done by financial institutions
were collateralized by debentures issued by leasing
companies who integrate the same conglomerate. Growth in
loan and refinance obligations can be explained by increase
in foreign funds inflow due to greater international liquidity,
and by on-lending operations granted by the Economic and
Social Development Bank (BNDES).
On its turn, time deposits grew R$6.5 billion, on one side as
a result of small banks R$24.4 billion raise and on the other
side of larger banks R$18 billion reduction (chart 2.4).
Chart 2.7 DPGE and time deposits volume

Banks that issued DPGE
R$ billions
40
32
24
16
8
0
Jan
2009
Mar
May
Jul
Sep
Nov
Jan
2010
Mar
Standard time deposits
Jun
DPGE
Chart 2.8 Credit growth sustainability

100%
88%
76%
64%
52%
40%
Dec
2002
Dec
2004
Dec
2006
Dec
2008
Dec
2010
Dec
2012
Loans/Funding
Dec
2014
Dec
2016
Time deposits decrease in large-size institutions was

mostly driven by their option for lower cost funding,
such as debenture-backed repos. Additionally, investment
funds managed by such institutions held net borrowings
of R$32.1 billion in the semester (chart 2.5). Should it be
needed, banks could have raised these funds by offering
more attractive rates. On the other hand, small-size banks
are more dependent on time deposits, thus paying higher
rates (chart 2.6).
It is worth to note that small-size institutions are reducing
fund raising through Time Deposits with Special Guarantee
(DPGE) insured by the Guarantor Credit Fund (FGC),
which was created at a time of high uncertainty level
already surpassed, as can be shown by the recovery of fund
raising through traditional time deposit by institutions who
previously resorted to DPGE (chart 2.7). However, a group
of institutions representing 0.9% of banking systems total
assets is still highly dependent on such borrowings.
Increased fund raising in the semester demonstrates
banking systems capacity to adjust financing sources to
credit portfolio and reserve requirement increase, without
compromising liquidity. This corroborates the perception that
in the medium run, there is a low probability of restriction
to credit growth due to funding shortage (chart 2.8). In the
long run, other funding sources may gain importance, such
as asset-backed securities collateralized by credit operations,
whose stock is increasing, but still are not significant.
In spite of deposits increase, it becomes clear that financial
institutions are highly dependent on short-term liabilities.
September 2010
| 19
Chart 2.9 Maturity structure of funding

%
R$ billions
3.000
100
2.400
80
1.800
60
1.200
40
600
20
0
0
Jun
2005
Jun
2006
Jun
2007
Jun
2008
Jun
2009
Jun
2010
<3 monts
3-12 months
1-3 years
3-5 years
5-15 years
>15 years
Undated
Total
Chart 2.10 Total liquidity and Excess

liquidity to total assets ratio
%
28
21
14
0
Jul
2007
Oct
Feb May
2008
Sep
Dec
Apr
2009
Total Liquidity
Aug
Nov
Mar
2010
Jun
Excess Liquidity
Chart 2.11 International liabilities of banking

system1/
As a percentage of total liabilities
%
12
10
4
Mar
2008
Jun
Sep
Dec
Mar
2009
Jun
Sep
Dec
1/Operations in which the counterparty or currency are foreign.
Mar
2010
Jun
In June 2010, for instance, 59% of such deposits were

raised with maturities up to twelve months27 (chart 2.9),
which pressures these institutions to search for alternatives
to lengthen their deposits so as to avoid maturity mismatch
with longer-term credit operations.
For this purpose, in February 2010, the National Monetary
Council (CMN) approved the Financial Bill (LF) regulation,
creating a new financial instrument with a two-year minimum
maturity, without anticipated redemption (see box Financial
System Regulation in this report). Up to June 2010, there
were some R$6 billion in LF outstanding amount, and,
although it represents a small share of total deposits, one
can expect an increased use of this instrument inasmuch as
a secondary market develops.
Growth in credit granting is also impacting the financial
institutions liquid assets to total assets ratio. Although it
showed momentary increase as a consequence of reserve
requirement reduction measures taken during the financial
crisis, reduction along the coming years is a visible trend.
However, liquidity surplus, represented by the difference
between institutions liquid assets (LT) and estimated
liquidity need (NEL), stood at a high level when compared
to total assets (chart 2.10).
Another worth noticing issue is that liquid assets are
comprised mostly of public debt securities, which are fully
accepted by BCB in its open market operations. Additionally,
banking system dependence on foreign funds is low, thus
reducing susceptibility to international market volatility
(chart 2.11), and evidencing its reduced vulnerability to
liquidity risk.
Summarizing, an adequate level of liquid assets is found
in the banking system. Withdrawal of some measures on
reserve requirement reduction brought liquidity back to
pre-crisis level. Credit granting growth at increasingly
longer maturities reflected in lower liquid assets to total
assets ratio, as well as in greater maturity mismatch between
assets and liabilities. However, increased banking system
borrowing demonstrates its capacity to finance credit
portfolio expansion.
27/ Considering deposits, repo obligations, domestic and foreign loans and on-lending operations. Demand and savings deposits maturities were estimated
between three and twelve months.
September 2010
| 20
2.3 Credit
Chart 2.12 Growth of main credit types

Corporate loans
Jun/2009 = 100
130
120
Credit portfolio reached R$1.33 trillion, growing 8.7%

against 7.9% in the previous semester, which can be
explained by stronger economic activity, which is driving
investments and consumption.
110
100
90
Jun
2009
Aug
Oct
Dec
Total
Feb
2010
Apr
Jun
Working capital
Investment
Table 2.1 Monthly average growth of clients

in the corporate credit portfolio1/
Jun/10Dec/09
Size of debt
Jun/10Jun/08
Number of clients
(Jun/10)
> 100 millions
0,7%
1,2%
958
10 millions < x <100 millions
1,5%
1,5%
7.551
1 million < x <10 millions
1,6%
2,4%
51.740
100 thousands < x <1 million
1,6%
2,3%
455.280
< 100 thousands
1,0%
1,7%
1.771.317
Total
1,1%
1,8%
2.286.846
1/ Loans higher than R$5 thousand.
Table 2.2 Monthly average growth of corporate loans
Size of debt
(R$ millions)
Jun/10Dec/09
Jun/10Jun/08
Outstanding
debt
(Jun/2010)
(R$billions)
% of total
loans
> 100
1,0%
1,8%
263
10 < x 100
1,8%
1,5%
160
39%
24%
1 < x 10
1,4%
2,2%
111
17%
0,1 < x 1
1,6%
2,5%
98
15%
0,1
0,8%
1,1%
35
5%
Total
1,3%
1,8%
668
100%
In the first half of 2010, credit portfolio held by public-owned

institutions grew 12%, while those held by private-owned
and foreign-owned institutions raised, respectively, 8.3%
and 3.7%. As a result, public-owned banks increased their
share in financial systems credit portfolio by 1.1 percentage
points (p.p.), while domestic private-owned loose 0.1 p.p.
and foreign-owned, 1 p.p.28
Corporate loans went up 80%, reaching R$668.1 billion29,
mainly driven by a 14.6% increase in investment financing
partly reflecting BNDES on-lending and a 5.2% expansion
in working capital financing (chart 2.12).
Together, these credit types represent 81% of corporate
credit portfolio. However their characteristics differ, as credit
driven to working capital bears higher delinquency rates and
lower maturities than to investment.
Segmenting corporate credit according to the amount owed
by companies, during the semester there was greater increase
in number of clients (table 2.1) and in outstanding amounts
in the range between R$100 thousand and R$100 million
debts (table 2.2), a riskier range when compared to credit
granted to large companies (table 2.3). This increased risk
is, however, being followed by interest rates hikes charged
on corporate operations.
Considering corporate borrowers whose debt with financial
institutions amounts over R$100 million, disposable funds
offered by development banks as well as their capability
to raise funds in capital markets, expansion rhythm was
slower. Credit to those borrowers whose total individual
liability were up to R$100 thousand also showed a growth
below the overall increase. Debts within this range, although
comprising only 5% of financial system credit balance,
showed higher delinquency rates and write-offs when
compared to the remaining ranges.
28/ Comprising SFN credit portfolio, foreign banks carry 17.6%, national private banks, 38.7%, and public-owned banks, 43.7%. Its worth mentioning the
strong increase in development banks credit portfolio.
29/ Comprising SFN credit portfolio, corporate loans increased 8.1%.
September 2010
| 21
Table 2.3 Write-offs and provisions of

corporate loans (June/2010)
Write-offs Write-offs to
in 12
total loans
months
ratio
Size of debt
Provisions
(R$billions)
> 100 millions
0,9
0,4%
4,4
10 millions < x <100 millions
2,9
1,8%
4,8
1 million < x <10 millions
4,9
4,4%
6,0
100 thousands < x <1 million
8,1
8,2%
8,3
< 100 thousands
3,2
9,1%
3,5
20,0
3,0%
27,1
Total
Chart 2.13 Growth of main credit types

Loans to individuals
Jun/2009 = 100
160
145
130
115
100
Jun
2009
Aug
Oct
Dec
Feb
2010
Apr
Total
Automobile
Payroll garanteed credit
Housing
Jun
2009
portfolio share
in total credit
2010
2010
Jun
Jun
Jun
Dec
7,4
7,9
9,0
44,0
Vehicles (+ Leasing)
4,9
5,1
5,6
11,1
Housing
1,0
0,9
0,9
6,9
Payroll deducted loans
2,7
3,3
3,2
7,9
Personal loans
13,3
15,1
13,3
3,9
Overdraft accounts
15,4
20,6
24,2
1,3
Credit card
47,0
45,6
58,3
1,5
Others
8,4
8,8
12,0
11,5
Corporate
Households
2,0
2,7
6,1
55,9
Working capital
3,4
4,5
6,1
22,4
Investments
1,0
1,3
1,4
25,0
Driven to specific activities
0,3
0,5
0,9
7,9
11,4
11,8
11,4
0,7
Others
In relation to overall portfolio quality, credit write-offs

in last twelve months came to R$61.6 billion, i.e., 4.6%
of total portfolio, the highest values recorded in the past
eight years, reflecting the crisis which hit the economy as
of September 2008, and the lower portfolio growth in the
period (chart 2.14).
Added effects of substantial defaulted credit write-offs and
overall credit growth explain the reductions in loans rated as
E, F, G and H, from 6.9% to 6.1%, and in delinquency rates,
from 5.1% to 4.3% (chart 2.15), contributing to improve
the coverage index provisions to non-performing loans
ratio from 1.48 to 1.58.
As far as coverage index is concerned, it is worth noting that
only nine institutions, holding 0.1% of the overall Brazilian
banking system credit portfolio, carry accounted provisions
below nonperforming loans amount, demonstrating sound
systems provision coverage (chart 2.16).
Table 2.4 Write-offs (%)
write-offs by portfolio
Household credit portfolio grew 9.3% in the semester, to

R$657.7 billion, mainly owing to a 25.6% expansion in real
estate financing and a 13.5% growth in payroll-deducted
loans (chart 2.13). In the semester, these two credit types,
characterized by low losses (table 2.4), increased their
share in household credit portfolio to 2.1 p.p. and 0.8 p.p.
respectively, as one can see in the last years. On the other
hand, vehicles financing (including financial lease) grew
only 4.2%30.
Annual losses atributed to portfolios originally rated from AA to C. Calculation

based on the ratio between 12-month loss and portfolio average balance within
Provisions have been enough to face both expected losses

and write-offs in the following twelve-months after provision
constitution. (chart 2.14). However, over time, institutions
adapt their provision level to their portfolio risk, i.e., they
set up minimum enough provision in order to face expected
losses and periodically reevaluate its sufficiency.
On average, this method results in worse ratings and greater
provision needs as the portfolio matures. Considering the
continued lengthening on credit maturities in the last years,
this issue has an increasing relevance from the prudential
from a prudential standpoint.
Customer base continued to grow through the incorporation
of new borrowers. There was a 26.3% annual increase, going
from 21.1 million in June 2009, to 26.7 million in June 2010.
last 13-24 months.
30/ One should note that portfolio increase analysis under this section refers to evolution of outstanding amounts, which is increased by grantings and reduced
by amortizations, settlements and write-offs.
September 2010
| 22
When comparing this amount to the 85 million active current

accounts universe, one sees that there is a great number of
non-borrowers banking clients within the system.
Chart 2.14 Evolution of write-offs

Household and corporate loans
R$ billions
100
Average maturity continued to rise both for households

(from twenty four to twenty five months) and corporate
clients (from nineteen to twenty-one months). These maturity
lengthening was driven by real estate financing and payrolldeducted loans in the case of households, and investments
goods acquisition financing, concerning corporate credit
(table 2.5).
80
60
40
20
0
Jan
2008
Apr
Jul
Oct
Jan
2009
Apr
Jul
Provisions
Oct
Jan
2010
Apr
E to H rated loans
12 months ahead write-offs
Chart 2.15 Quality of the loan portfolio

%
Owing to portfolio maturity increase, to incorporation of new

debtors, to interest rates downward trend on credit operations
(chart 2.17) and increased disposable income, household
debt service to income ratio31 is growing at a slower pace
than credit to individuals.
8
7
6
5
4
3
Dec
2008
Feb
2009
Apr
Jun
Aug
Oct
Dec
E to H rated loans
Feb
2010
Apr
Jun
Nonperforming loans rate
Chart 2.16 Frequency distribution of the

provision to NPL ratio (June/2010)
Weighted by loan portfolio relevance
%
30
24
18
4
14
0
12
73
2
7
Thus, as far as credit is concerned, one can notice that

financial institutions kept their strategy of prioritizing credit
expansion, aiming at a historical 20% growth rate, so as to
preserve earnings.
Credit growth occurred mainly in lesser risk credit types,
helped by customer base expansion, and with moderate
growth in average indebtedness, and in borrowers income
commitment with debt service. Although risk increased due
to higher share of small-size companies, theres no need
for higher concern as to credit to corporations, under the
current scenario.
Finally, it is worth mentioning that at the same time that
incorporation of new customers and maturity lengthening
are factors that improve the debt service to income ratio, they
also represent additional challenges to granting pattern and
to credit risk management process within the institutions,
owing to credit history incipiency, new customers lower
financial knowledge and lack of models capable to capture
longer-term risks.
3
0
<0,5 0,5 0,6 0,7 0,8 0,9
1,1 1,2 1,3 1,4 1,5 1,6 1,7 1,8 1,9 >2,0
Provision to NPL ratio
2.4 Earnings
Figures on bars refer to the number of financial instituitions with a provision to

NPL ratio within that range.
Brazilian economic dynamism allowed for a favorable

environment to banking system performance. Reduced
provisioning expenses, high and stable net interest income,
and recovery of services revenues were the main highlights
of the semester (table 2.6).
31/ Box Evolution of Household Indebtedness after the crisis, in BCB Inflation Report, March 2010.
September 2010
| 23
Table 2.5 Average duration In months

2008
Jun
2009
Dec
Jun
2010
Dec
Jun
Households
21
22
23
24
25
Vehicles (+ Leasing)
18
18
18
18
18
Housing
54
56
57
58
62
Payroll deducted loans
23
23
25
25
26
Personal loans
13
14
14
16
16
Others
15
14
15
15
15
Corporate
18
18
18
19
21
Working Capital
14
13
12
13
12
Investments
27
28
30
32
35
Others
16
16
15
17
21
Table 2.6 Profit reconciliation

R$ billions
2nd sem/09
1st sem/10
Change
94,4
96,0
1,6
Net Provision Expenses
-33,3
-29,6
3,6
Adm. Exp. - Rev. Serv.
-31,2
-29,9
1,4
Other Operating Results
-2,8
-6,2
-3,4
4,0
1,4
-2,6
Intermediation Result
Non-Operating Result
Income Taxes and Contributions
-7,4
-6,5
0,9
Net Profit
23,7
25,2
1,5
Chart 2.17 Monthly average interest rates

Loans operations with nonearmarked resources
%
60
50
40
30
20
Jan
2006
Jan
2007
Jan
2008
Individuals
Jan
2009
Corporates
Jan
2010
Banking systems return on equity was slightly lower

than the average of the past years, but still remained at
a satisfactory level (chart 2.18), resulting from a R$25.2
billion net income, R$1.5 billion above the previous period
(chart 2.19).
Furthermore, this performance was accompanied by an
improvement on earnings quality, considering higher net
interest income (chart 2.20), improved efficiency indices,
and reduced non-operational income.
The growth in volume of transactions, reflected in leverage
ratio increase from 8.8 to 9.3, compensated lower interest
rates charged, avoiding decrease on earnings which would
be a natural consequence of spread reduction process.
Reduction in provisions for loan losses, which amounted
to R$29.6 billion, also contributed towards maintaining net
interest income (chart 2.21). Such reduction occurred for the
second consecutive semester, even under a robust portfolio
growth background.
Provision took up 19.7% of interest income in the semester,
or 6 p.p. below 2009 average, when the system was coping
with severe adjustments in its loss estimates as a consequence
of more pessimistic scenarios.
Its worth noting the growth in non-interest income, such
as services that reached R$33 billion as opposed to R$31.8
billion in the previous semester. There were contributions
from several sources, especially credit cards, mutual funds
management, and fees (table 2.7).
Administrative expenses kept stable, despite continued costs
to provide additional points of service, increase in customers
and assets base (chart 2.22 and table 2.8). This is partly due
to seasonal effects and to synergy gains resulting from recent
mergers and acquisitions. This fact, associated with increase
in fees and commission income caused a 2 p.p. improvement
in efficiency index32, which can also be seen in the reduction
in administrative expenses to assets ratio, to 2.2% from 2.3%
in the first half of 2009.
Contribution of non-operational net income to profits,
deriving mainly from divestitures, went down to only 5.5%
of net income (chart 2.23), reinforcing the perception in
improved quality outcomes.
32/ Service revenue over administrative expenses.
September 2010
| 24
Chart 2.18 Return on equity (annualized)

%
30
24
In short, banking system has been capable of being profitable

regardless of non-recurring income. However, in mediumterm, downward trend in spreads, recent capitalization, and
eventual prudential regulatory changes aiming at reducing
leverage may increase pressure on earnings.
18
12
6
0
Jun Dec Jun Dec Jun Dec Jun Dec Jun Dec Jun Dec Jun Dec Jun
2003
2004
2005
2006
2007
2008
2009
2010
Chart 2.19 Profit and return on equity

R$ billions
%
15
30
12
24
18
12
0
Jun
2008
Dec
Semestral profit
Jun
2009
Dec
Semestral selic
Jun
2010
Semestral ROE
Chart 2.20 Result and return of financial

intermediation
6,0
Result
(R$ billions)
70
4,8
56
3,6
42
2,4
28
1,2
14
Return (%)
0,0
0
Jun
2008
Dec
Jun
2009
Dec
Capital structure dynamics did not show a significant

change during the period, despite the TCR decrease from
18.5% to 17.3% (chart 2.24). Actually, 0.6 p.p. of this
setback was just a reflex of permission to add additional
provision33 to Tier 1 revocation. The remaining difference
came mainly from additional capital requirement due to
credit operations increase.
Regulatory capital increased from R$374.5 billion in
December 2009 to R$385.3 billion in June 2010. Tier 1
was responsible for only R$3.8 billion of the R$10.7 billion
growth, once, regardless of the profit retention in the period,
capital basis expansion was inhibited by the R$14.1 billion
reduction caused by the exclusion of additional provision
from its total. On the other hand, there was a R$6.9 billion
increase in Tier 2, supported by issuances ofR$3.9 billion
of capital/debt hybrid instruments, and of R$4 billion of
subordinate debt (chart 2.25).
MRC went from R$221 billion up to R$244 billion (chart
2.26), of which R$219.3 billion refer to minimum required
capital for credit risk (MRC_Cr). Influenced by increased
share of operations with greater weighted risk, MRC_Cr
rose 9.2%, which is a percentage slightly higher than the
8.9% growth in classified loan portfolio. The 9.6% growth
in out of balance sheet credit risk exposure, such as credit
commitments and risk retained in credit cession, also
contributed to MRC_Cr rise.
Jun
2010
Semestral result of financial intermediation

Semestral net return of financial intermediation
Semestral return of financial intermediation
2.5 Solvency
Also worth mentioning is the rise of MRC portion

corresponding to operational risk (MRC_Op), which
went from R$12.2 billion up to R$16.3 billion. The main
reasons for this growth were the change from 0.8 to 1 in
the multiplying factor34 used in its computation, and to
a smaller extent, the calculation basis increase. As the
multiplier reached its highest level in January 2010, when the
implementation period for the portion of capital requirement
33/ CMN Resolution n. 3,825 of December 16, 2009, revoked this permission as of April 1, 2010.
34/ BCB Circular n. 3,383 of March 12, 2009 defined values and calendar of changes in Z multiplier for inclusion of the portion relating to operational risk
in MRC.
September 2010
| 25
Chart 2.21 Provisions expenses to interest income

%
R$ billions
35
45
28
36
21
27
14
18
0
Jun
2008
Dec
Jun
2009
Dec
Jun
2010
Provisions expenses
Provisions expenses/Interest income
Table 2.7 Main services revenue: top-five banks
related to operational risk ended, it is expected that, should

there be no significant change in calculation basis, MRC_Op
will present smaller variations in the coming semesters.
Other portions relating to market risk did not significantly
impact capital requirement value.
As far as capital quality is concerned, there was a decrease
from 127.2% to 124.4% in the indicator of equity
commitment to non-usual assets and low liquidity assets35,
once these assets increased 3.5%, while equity increased
5.9%. The group of deferred assets and intangibles showed
a slight reduction, due to amortizations that are taking
place. On the other hand, share in associate and controlled
companies in the country grew 10% and pushed forward a
4.8% increase in permanent assets and 0.8 p.p. in fixed assets
to capital ratio36 that went up to 28.5%.
R$ millions
Change
1H 2010
2H 2009
Tariff revenues
6.402,2
5.661,3
13,1
Credit and guarantees provided
2.610,1
2.942,6
(11,3)
Credit card revenues
7.422,4
6.877,3
7,9
714,8
641,0
11,5
4.406,1
3.975,8
10,8
Capital markets revenues1/

Mutual fund management
Collection service
2.208,7
2.052,7
7,6
Tax collection and agreements
1.019,3
1.043,3
(2,3)
Fixed assets to capital ratio are strongly influenced by

large-size institutions, which have ratios above 30%. These
conglomerates have in common significant investments in
insurance, capitalization, pension funds, and credit cards
companies, which elevate fixed assets to capital ratio, but
significantly contribute towards results, while smaller-size
institutions ratio stood at the 10% range.
Deferred tax assets grew 5%, but their use is still viable in
the coming years. Considering a ten-year horizon37, it would
be necessary annual profits of at least R$30.1 billion, which
is lower than the average R$47.8 billion reported in the past
five years.
Source: notes to the financial statements from Banco do Brasil, Ita,

Bradesco, Caixa Econmica Federal and Santander.
1/ Includes brokerage, underwritting and securities issues.
Chart 2.22 Administrative expenses versus

revenues from services
R$ billions
65
60
52
57
39
54
26
51
13
48
45
Jun
2008
Dec
Jun
2009
Dec
Jun
2010
Therefore, considering the regulatory framework in force at

the end of June 201038, institutions solvency capacity remains
solid. Increase in credit risk exposure was accompanied by
profits retention that kept TCR at a satisfactory level. In
addition, capital basis growth was proportionally higher than
that of non-usual and low liquidity assets, which contributed
to avoid capital quality deterioration.
Administrative expenses
Revenues from services
Coverage of administrative expenses with revenues from services
35/ See Concepts & Methodologies in this report, for definition of non-usual and low liquidity assets.
36/ See Concepts & Methodologies, in this report, for definition of fixed assets to capital ratio.
37/ Resolution n. 3,355, 2006 establishes that financial institutions can register deferred tax assets as long as there are grounds, through technical studies, to
condone the performance of such assets within ten years maximum.
38/ Basle Committee is negotiating the review of current prudential rules applicable to the international financial system, known as Basle 3. In general,
new capital rules for required capital will call for expressive adjustments from Banks around the world, in amounts that the Basle Committee is seeking
to estimate. In Brazil, impacts should be less intense. Based on simulations performed, additional capital needs in the national banking system should not
be significant and, it is expected that they can be, in great part, will be met just with retained profits along the transition period.
September 2010
| 26
2.6 Capital stress tests
Table 2.8 Main administrative expenses

Sample of five largest banks
R$ millions
Change
1H 2010
Data processing and
telecommunications
2H 2009
5.197,6
4.945,5
5,1
Depreciation and amortization
5.350,1
5.076,4
5,4
Installations
3.457,9
3.236,8
6,8
Third-party services
5.211,7
4.962,9
5,0
Advertising, promotion and

publication
1.496,7
1.827,4
(18,1)
Transportation and travel
1.318,4
1.234,8
6,8
Security
1.057,4
1.021,5
3,5
Source: notes to the financial statements from Banco do Brasil,

Ita, Bradesco, CEF and Santander.
Chart 2.23 Contribution from non-operating

result to annual profit
R$ billions
%
100
20
80
16
60
12
40
20
0
Jun
2008
Dec
Jun
2009
Dec
Non operating result
Jun
2010
Non operating result / Profit
R$ billions
400
20
320
16
240
12
160
80
Tier 2
Jun
2008
Dec
Tier 1
Jun
2009
MRC
Dec
These tests aim at estimating the impact on financial

institutions equity and capital requirement of abrupt
variations in foreign exchange and interest rates. In Central
Bank of Brazils (BCBs) supervision process two distinctive
analyses are conducted: sensibility and scenario. Sensitivity
analysis seeks to evaluate the isolated effect of incremental
variations in interest and in foreign exchange rates over
TCR. Scenario analysis applies a specific scenario to each
risk factor. Results show that either an increase or a reduction
in interest rates has limited impact over TCR of the banking
segment. Moreover, even in a stress scenario, improbable
to occur, such TCR would still be over the minimum 11%
required. This situation demonstrates the resilience of the
capital system. Direct impact of foreign exchange rate is
insignificant in TCR. Its indirect effect is more significant
and is measured by capital stress tests for credit risk.
2.6.1.1 Sensitivity analysis

The effect of interest rates variation has limited impact on
TCR. This impact can be assessed through a sensitivity
analysis to variations in fixed interest rates and interest rates,
currency and price index coupons (chart 2.27).
Chart 2.24 Regulatory Capital (RC),

Minimum Required Capital (MRC) and Basel
Capital Ratio
Dec
2007
2.6.1 Stress tests for market risk
Jun
2010
Basel capital ratio
As shocks over interest rates term structure substantially

affect volatility, which is a key variable in capital requirement
calculation, both increases and reductions in such rates would
increase capital requirement, and, consequently, reduce TCR
on fixed interest rates exposure39. Besides, as the system
on average holds a bought position in interest rate trading
portfolio, an increase in such rates would carry a negative
impact on net worth of the institutions concerned.
Some institutions, representing less than 9% of the assets
of the universe under analysis, would present a TCR lower
than the minimum required under an extreme scenario with
interest rates close to 2% per annum (p.a.).
As for foreign exchange rates, even if they varied from -90%
to 100%, the net worth of financial institutions would be
little affected. Impact on TCR would be very small, and the
number of institutions that would not meet the requirement
would be insignificant.
39/ For further details in methodology adopted, see Concepts & Methodologies in this report.
September 2010
| 27
2.6.1.2 Scenario analysis
Chart 2.25 Decomposition of Regulatory

Capital (RC) in the 1st semester 2010
R$ billions
30
24
-7,7
18
0,3
25,0
-14,1
8,0
12
-0,7
10,8
6
0
A = Net Profit
B = Distributed Interest on Capital and Dividends
C = Change on regulation concerning additional provisions for loans
Solvency of institutions is also assessed using specific stress

scenarios for the various risk factors40 (table 2.9). This
section presents only the most severe scenario, consisting
of interest rates reduction41. The analysis demonstrates that
the TCR of the set of institutions would remain over 11%,
going from 17.3% to 15.5%, indicating a good performance
of the system as far as capital is concerned. Additionally,
the individual analysis shows that some institutions (holding
2.7% of the assets of the analyzed universe) would present
a TCR below the minimum required (7.2% on average) and
none of them would become insolvent.
D = Subordinated debt and hybrid instruments issued

E = Gain (loss) on financial assets measured at fair value
F = Others
2.6.2 Stress tests for credit risk
G = RC variation (tier I + tier II)
These tests aim at estimating capital required from financial

institutions under adverse scenarios. Two distinctive analyses
are conducted: sensibility and scenario.
Table 2.9 Risk factor variations

June 2010
Fixed interest rate (p.p)
Scenarios
1 month
6 months
2 years
3,4
5,7
5,9
-3,1
-4,1
-4,3
-3,1
-4,1
-4,3
Interest rate
Increase
Decrease
Worst
Chart 2.26 Mininum Required Capital (MRC)

variation breakdown for the 1nd semester of
2010
0,5
-0,5
0,4
R$ billions
25
-0,1
4,1
Given the importance of credit portfolio, increase in

financial delinquency levels have significant impact on
the consolidated net worth of the system. Sensitivity
analysis assesses the isolated effect on TCR of incremental
variations in financial delinquency levels. Scenario analysis
is divided in two parts: ad hoc scenario analysis (performed
by lowering two levels in credit ranking of all clients of a
financial institution), and scenario analysis based on stress
of macro-economic variables42.
20
15
22,9
18,4
10
5
Both in scenario and sensitivity analysis, considering all

extreme scenarios assessed, TCR of the system remain
above the 11% minimum, indicating a good situation of
capitalization of the financial system.
0
A
A = Required capital for credit risk
2.6.2.1 Sensitivity analysis
B = Required capital for operational risk

C = Required capital for foreign exchange rate risk
D = Required capital for fixed interest rate risk
E = Required capital for interest rate risk
F = Others
G = MRC variation
Only if average financial delinquency exceeded the maximum

11.4% historically reported, which represents three times
the current financial delinquency level of each institution,
relevant institutions would present TCR below the minimum
required. Under all analyzed scenarios, only institutions
40/ Evaluated scenarios consist of: 1) interest rates increase/reduction; 2) foreign exchange rate depreciation/appreciation; 3) interest rate increase and foreign
exchange depreciation.
41/ Sharp changes in interest rates cause increases in capital requirement. When interest rates rise, there is also a negative impact in capital adequacy index,
due to reduction in banking system net worth, once institutions are usually long in interest rates. Nevertheless, a decrease in interest rates still has a more
severe impact in capital requirement than an increase.
42/ For further information, see Concepts & Methodologies in this report.
September 2010
| 28
representing 0.14% of the total assets of the universe under

analysis would become insolvent (chart 2.28).
Chart 2.27 Sensitivity analysis

Interest rate risk
Basel capital ratio (%)
Assets (%)
20
12
15
10
21 days max change since jan/1999

Negative
2.6.2.2 Ad hoc scenario analysis

Ad hoc analysis demonstrates that, should there be a two
levels decrease in credit ranking of all clients, TCR of the
bulk of institutions would remain above 11%, going from
17.3% to14.7%, indicating the good standing of the systems
capitalization. Some institutions would present inadequacy
(36% of total analyzed assets), and none of them would
become insolvent.
Positive
0
2%
4%
6%
8%
10%
12%
14%
16%
18%
20%
6 month interest rate curve (%)

Basel capital ratio
Significance of noncompliant banks
Significance of banks in insolvency
Chart 2.28 Sensitivity analysis

NPL
Basel capital
ratio (%)
2.6.2.3 Scenario analysis based on stress of

macroeconomic variables
Assets (%)
20
75
16
Macro-economic stress analysis seeks to relate the effects on

financial delinquency, and, as a consequence, on provisions
and on TCR, of adverse variation in GDP, in interest
rates, and in foreign exchange rates. As the ripple effect
of macroeconomic shocks over credit quality is delayed,
shock simulations take place up to June 2011 and financial
delinquency is measured up to December 2011.
60
Macro Stress Test
(Dec/2011)
Provisions
12
45
30
15
0
4
10
12
14
16
18
Non Performing Loans NPL (%)

Basel capital ratio
Significance of noncompliant banks
Significance of banks in insolvency
Chart 2.29 Macroeconomic stress testing

Estimated NPL
Estimated nonperforming
Loans (%)
16
12
0
Jun
2010
Sep
Dec
Mar
2011
Jun
Sep
In the market consensus on macroeconomic variables,

obtained by researching market expectations, published in
the Focus Report, financial delinquency level in December
2011 would remain close to the June 2010 accounted
provision (chart 2.29).
In a stress scenario considering macro-economic variables
deterioration and its effects over the financial delinquency
rate, June 2010 provision stock would only be lower than
March 2011 projected financial delinquency. In December
2011, the provision increase required to offset delinquency
would be 12.6%. The impact on TCR would be a decrease
from 17.3% in June 2010, to 12.7% in December 2011.
Dec
VAR model (Stressed)
Market consensus (Focus)
Provisions (Jun/2010)
Ad Hoc Provisions (Jun/2010)
Results indicate that the above-mentioned stress scenario

does not substantially affect the Brazilian banking system
until December 2011. TCR would remain above 11%
minimum required.
September 2010
| 29
National Financial System Regulation
Capital requirement to cover market risk

Recent world financial crisis evidenced the need for
greater austerity in prudential regulation. Specifically
with respect to market risk, the Basel Committee on
Banking Supervision recognized the need to increase
capital requirement, proposing new measures that
require additional capital to face losses occurred in
stress circumstances (VaR) (methodology stressed
Value at Risk), according to its document Revisions
to the Basel II market risk framework, as of July
2009, modified in June 2010. These measures will
be mandatory as of December 2011 for financial
institutions using internal models for market risk
capital requirement.
According to regulation presently in force in Brazil,
all items of capital requirement comprising Minimum
Required Capital (PRE) are calculated according to
standardized models. Financial institutions willing
to adopt market risk internal models must submit a
request to obtain BCB authorization to do so, after
evaluation under minimum criteria defined in BCB
Circular n. 3,478, of December 24, 2009.
BCB Circular n. 3,498, published on June 26,
2010, incorporates adjustments made by the Basel
Committee on market risk capital requirement
methodology, aiming at strengthening financial
institutions capitalization level. Adjustments
imposed in Brazil apply both to internal models and
standardized models, so as to keep the coherence
between the different calculation methods. In essence,
dead line for implementation in the Country is in line
with the internationally agreed, i.e., as of 2012.
Methodology for capital requirement calculation,

pursuant to standardized models, were not
significantly changed adjustments consider
additional capital equivalent to stressed VaR, which
will be required in the same proportion, following
the same gradual implementation schedule as of
2012. There are different adjustments for each market
risk item, according to the risk factor and respective
methodology in force:
I.
operations with fixed interest rates (BCB

Circular n. 3,361 of September 12, 2007): uses
VaR model. Additional stressed capital will be
calculated in the same manner but using stress
parameters provided by BCB;
II. foreign currency coupon, interest rates price

index (BCB Circular n. 3,362, n. 3,363,
and n. 3,364, of September 12, 2007): uses
maturity ladder model, based on evaluation
of mismatches between term and position,
pursuant to operations maturities. It is not
necessary that financial institutions calculate
an extra parcel, since additional stressed is
contemplated within the weighted exposure and
the modifying factors, both provided by BCB;
III. securities (BCB Circular n. 3,366, of September
12, 2007): uses a weighted exposure model,
eliminating diversified portfolio weighted
exposure model that as of 2012 will carry the
same weighting as non-diversified portfolios
through the use of an 8% uniform factor,
following the July 2009 Basel Committee
recommendation;
September 2010
| 30
IV. commodities (BCB Circular n. 3,368, of

September 12, 2007): as it is not relevant, there
were no changes in this item;
V. foreign exchange (BCB Circular n. 3,389, of
June 25, 2008): uses exposure valuation model.
New regulation extinguished capital requirement
exemption on foreign exchange exposure below
5% of the Regulatory Capital (PR).
The new rules are expected to lead to a 6% increment
in capital requirement.
Derivatives registration
Regulation on financial derivative instruments
registration has been under constant improvement
in the past years so as to allow BCB to monitor
operations closed in the country or abroad by financial
institutions and other economic agents located in
Brazilian jurisdiction.
Operations carried by financial institutions and others
authorized by BCB to operate are already subject
to registration rules on deals closed in the country.
CMN Resolution n. 2,873, as of July 26, 2001, sets
forth that over the counter derivatives operations
carried by these institutions, proprietary or third party
operations, must be registered within the systems
managed by securities exchange, by commodities
and futures exchange, or by other entities duly
authorized to operate by BCB or Securities and
Exchange Commission (CVM). Such registration
requirement was widened by CMN Resolution
n. 3,505, as of October 26, 2007, which conditioned
any over the counter OTC) derivatives market
operation, proprietary or third party operation, to
be carried through as long as it is duly registered
within an authorized system. More recently, CMN
Resolution n. 3,824, of December 16, 2009, extended
this registration obligation to financial institutions on
derivatives deals closed abroad.
Regulation is seeking to follow up derivatives
contracts made abroad by other economic agents,
upon intermediation by a national financial institution.
Thus, BCB Circular n. 3,474, of November 11, 2009
imposed registration requirements on derivatives

linked to foreign financing contracts, based on rules
proposed in CMN Resolution n. 2,770, as of August
30, 2000, after detecting foreign financings bearing
derivative clauses, exposing these institutions to risks
inherent to such instruments.
There was still a kind of derivative contracted abroad
not subject to any registration obligation: hedge
operations contracted by individuals or legal entities
resident, domiciled or headquartered in Brazil with
financial institutions or securities exchanges abroad.
Aiming at an adequate monitoring of such operations,
CMN Resolution n. 3,833, of January 28, 2010,
conditioned transfer of funds to and from abroad,
related to these operations, to previous registration
in Brazil of corresponding hedge operations.
Financial Letter
As a result of international liquidity shock at the end
of 2008, foreign financing access was closed, and
several measures were taken to avoid internal market
contagion and sustain credit flow.
The main financial institutions funding source,
Banking Deposit Certificate (CDB) was not a viable
solution for medium and long-term financing, due to
the contractual domestic financial market tradition
of the issuing party guaranteeing repurchase of its
papers at any given time.
By means of Provisional Measure n. 472, of December
15, 2009, afterwards turned into Law n. 12,249, of
June 11, 2010, the Financial Letter was created to
counteract this scenario. This credit instrument must
be repaid in cash and it is nominal, transferable and
freely negotiable. Issuance is exclusive of financial
institutions. Financial letters were regulated by CMN
Resolution n. 3,836, of February 25, 2010.
This title was created to provide financial institutions
with a legally sound instrument to assess medium and
long-term financing and propitiate an adequate liquidity
management. Minimum maturity was set at twenty four
months, and total or partial early redemption, before
contractual maturity, is not permitted.
September 2010
| 31
Regulation establishes that Financial Letter cannot

be issued in less than R$300 thousand individual
nominal value. Its remuneration can be referenced
in pre-set interest rate, combined or not with floating
rate or price index, observing legal and regulatory
dispositions applicable to each case, and not allowing
issue pegged to foreign exchange variation. Periodical
yield payments must keep minimum one hundred and
eighty days interval. Additionally, these bills can only
be used as a subordinate debt instrument, as long as
not the object of public offering, and complying with
all regulatory conditions.
assuring the implementation of remuneration policies

in tune with risks incurred and linked to financial
institutions long-term performance.
Suggestions received during the public hearing period
are currently under examination by a BCB technical
team.
Remuneration of executives and staff of

financial system institutions
From February 1 to May 2 there was a public hearing
on a regulation proposal to establish criteria for
remuneration of managers and employees of financial
institutions and other institutions authorized by BCB
to operate, following G-20 leaders commitment in
April (London Summit) and in September 2009
(Pittsburgh Summit), towards financial system
strengthening and coordinated implementation of risk
management prudential regulatory standards.
In London, G-20 leaders considered that financial
sector inadequate remuneration policies could
lead towards excessive risk assumption under
certain circumstances. Thus they undertook the
commitment to implement good practices related to
remuneration policy. Such commitment was restated
in Pittsburgh, when they stressed the need to adopt
robust international standards on remuneration policy,
in order to discourage practices leading towards
excessive risk taking, as means to strengthen systems
stability and align remuneration practice with longterm value creation.
Therefore, the proposal under public hearing was
based on recommendations contained in both
documents published by the Financial Stability
Board (FSB) in 2009: FSB Principles for Sound
Compensation Practices and FSB Implementation
Standards on Compensation. The purpose is promote
adherence of national regulatory framework to
internationally recognized good banking practices,
September 2010
| 32
Anticrisis Measures Reversion
During the 2007 international financial crisis, which more strongly hit Brazil in the second half of 2008, the Banco
Central do Brasil (BCB) and the Conselho Monetrio Nacional (CMN) took several steps towards maintaining
the National Financial System (SFN) stability.
These measures can be summed up in five large groups. The first group aimed at increasing banking reserves and
federal public securities liquidity. The means to do so was through financial institutions reserves requirement
reductions (table 1).
Table 1
Item
Demand deposits
Jun 08
Jun 09
Time deposits
Jun 08
Dec 08
Savings deposits
(Rural)
Jun 08
Additional Requirements
Jun 08
Jun 09
Time
Sav.
Interbanking Deposits
of Leasing
Companies
Jun 09
Dem.
Time
Sav.
Jun 08
Jun 09
N/A
Dem.
Deductions
before ratio
(BRL millions)
Deduction after
ratio (BRL
millions)
N/A
N/A
300
2.000
N/A
N/A
N/A
N/A
Ratio
45%
42%
15%
13,5%
20%
15%
8%
10%
8%
4%
10%
5%
5%
N/A
Currency
accomplishme
nt, no yield
yes
yes
N.A.
yes (60%)1/
N.A.
N.A.
N.A.
N.A.
N.A.
N.A.
N.A.
N.A.
N.A.
N.A.
Currency
accomplishme
nt, with yield
N.A.
N.A.
N.A.
N.A.
yes
yes
yes
yes
yes
N.A.
N.A.
N.A.
N.A.
N.A.
Federal Public
Securities
accomplishme
nt
N.A.
N.A.
yes
yes (40%)
N.A.
N.A.
N.A.
N.A.
N.A.
yes
yes
yes
yes
N.A.
44
44
30
30
N/A
N/A
N/A
N/A
100
1000
1/ According to Circular n. 3,427 from 12/19/2008, large size banks could reduce time deposits currency requirements without yield by acquisition of small
size banks as well as they could reduce up to 20% of the no yield currency requirement by foreign currency acquisitions with Banco Central do Brasil.
The second group, which may be viewed as a subgroup of the first one, drew an incentive mechanism, so that
large size financial institutions would apport liquidity to smaller size institutions, through reserve requirement
conditional reductions (table 1).
The third group bears relation to the role performed by the Brazilian deposit insurance corporation the Fundo
Garantidor de Crdito (FGC). The scope of FGCs insured deposits was widened through the inception of a
September 2010
| 33
new time deposit mode: the Special Guaranteed Time Deposit (DPGE). Furthermore, FGCs assets profile was
adjusted and extended through increased limits for several investments and anticipation of receivables combined
with institutions reserve requirements reductions, should these institutions chose to do so.
The fourth and fifth groups used the financial system to instill liquidity into certain sectors of the economy. The
fourth group increased institutions obligation to invest in rural credit, with a reduction in reserve requirements
as counterpart (table 1). Lastly, the fifth group focused on foreign trade, providing US dollars liquidity to banks,
conditioned upon extension of credit to companies.
Group one measures were partially revoked. CMN Resolution n. 3,705 of March 26, 2009, BCB Circular
n. 3,485 and Circular n. 3,486 of February 24, 2010, and Circular n. 3,497 of June 24, 2010, returned reserve
requirement rates to their initial levels, but amounts related to the deductions were not totally reversed, since
for smaller size institutions some liquidity relief was maintained (table 2).
Table 2
Item
Demand deposits
Jun 08
Jun 10
Time deposits
Jun 08
Jun 10
Savings deposits
Jun 08
Additional Requirements
Jun 10
Time
Deductions before ratio

(BRL millions)
Deduction after ratio
(BRL millions)
Ratio
Currency
accomplishment, no
yield
Currency
accomplishment, with
yield
Federal Public
Securities
accomplishment
44
44
30
30
N/A
N/A
Jun 08
Sav. Dem. Time
Interbanking Deposits
of Leasing Companies
Jun 10
Sav. Dem.
N/A
N/A
100
[0,2000]
Jun 08
Jun 10
N/A
N/A
N/A
300
[0,2000]
N/A
N/A
N/A
N/A
45%
43%
15%
15%
20%
16%
8%
10%
8%
8%
10%
8%
5%
N/A
yes
yes
No
No
No
No
No
No
No
No
No
No
No
N/A
No
No
No
yes
yes
yes
yes
yes
yes
yes
yes
yes
No
N/A
No
No
yes
No
No
No
No
No
No
No
No
No
yes
N/A
Group two measures are still in force. Actually, they were extended by BCB norm Circular n. 3,499 of June 29,
2010, which set December 31, 2010 as the deadline for portfolio purchase and interfinance deposits.
Group three measures were partly reversed. The increase in scope and investment limit are still in force, while
contributions anticipation and corresponding reserve requirement releases are following a final schedule to end
their effects that are being complied with.
Table 3 Phasing out schedule liberations including rural credit
Requirement
jul
2008
45%
jul
2009
42%
jul
2010
43%
jul
2011
43%
jul
2012
44%
jul
2013
44%
jul
2014
45%
Application
25%
30%
29%
28%
27%
26%
25%
Requirement
20%
15%
16%
17%
18%
19%
20%
Application
65%
70%
69%
68%
67%
66%
65%
Types
Demand
Deposits
Rural Savings
Group four measures, although not completely reversed, already have a phasing out schedule that is being
complied with. Table 3 shows the whole schedule.
September 2010
| 34
Group five measures were completely reversed. There is no longer an open BCB credit line, and all of them
were settled early or upon maturity.
So, to sum up the quantitative impact of these measures reversion, it suffices to compare the total amount of
reserve requirements with how much it would have been in case rules had not been changed, owing to such
anticrisis measures (groups 1 and 2) (figure 1).
Chart 1 Reserve requirement
Simulation from January 2008 to June 2010
R$ billions
334,1
52,3
340
300
260
281,8
220
180
140
Jan
2008
Apr
Jul
Oct
Jan
2009
Previous rules
Apr
Jul
Oct
Jan
2010
Apr
Jun
Current rules
September 2010
| 35
Brazilian Payments System
3.1 Introduction
Chart 3.1 STR

Turnover: intraday profile
1st semester 2010
Accumulated %
100
%
15
12
80
60
40
20
0
6:30
8:00
9:30 11:00 12:30 14:00 15:30 17:00 18:30 20:00
Range: Average - Standard deviation; Average + Standard deviation

Average percentage accumulated
Average percentage
Chart 3.2 STR

Volume: intraday profile
1st semester 2010
%
18
Accumulated %
100
15
80
12
60
9
40
6
20
3
0
0
6:30
8:00
9:30 11:00 12:30 14:00 15:30 17:00 18:30 20:00
Range: average - standard deviation; average + standard deviation

Average percentage accumulated
Considering risk and efficiency aspects, the Brazilian

Payment System (SPB), comprising the Interbank Funds
Transfer Systems and the Securities, Derivatives and Foreign
Exchange Settlement Systems, adequately functioned in the
first half of 2010.
Available aggregate intraday liquidity continued above the
needs of financial institutions participating in fund transfer
systems, mainly with respect to the Reserves Transfer
System (STR), BCB large amounts transfer system. In
fact, the bulk of settlements occurred almost immediately
after receipt of the corresponding order, evidencing the
small risk of payment flow interruption due to liquidity
problems. In the Funds Transfer System (Sitraf), the great
majority of transfers were also almost immediately settled
upon receipt.
Backtestings periodically performed in the clearing and
settlement systems showed satisfactory results along the
semester. As far as guarantees required by these systems are
concerned, there was no participants lack of risk coverage,
even on May 6, 2010, when a problem stemming from US
exchanges caused a selling rush that globally affected the
markets and reflected in Brazil. Scenarios used for margin
calculation were satisfactory when compared to risk factors
effectively occurring in the market.
Average percentage
3.2 Funds transfer systems

performance
During the first half of 2010, STR performed normally, with
a 99,97 % daily availability index; therefore, in excess of the
regulatory established target of 99.8% minimum availability
for this system.
September 2010
| 36
Chart 3.3 Liquidity effective need

R$ billion
700
560
420
280
In terms of value, the bulk of fund transfers (89.4%)

carried through STR corresponded to settlement operations
involving public securities within the Special System for
Settlement and Custody (Selic), specially the repo return and
intraday rediscount operations. Noteworthy of mention is the
fact that the morning period up to 10:30 a.m. concentrated
50% of the daily turnover (chart 3.1).
140
0
Jul Aug
2009
Sep
Oct
Nov
Dec
Jan Feb
2010
Mar
Apr
May
Jun
Federal public securities requeriments in the Central Bank and others

Federal public securities
Reserve requirements
Reserves in the beginning of day
Liquidity effective need
Table 3.1 STR

Liquidity effective need
Percentage of the liquidity
2009
2010
effective need in relation to the 2nd sem.

total liquidity avaiable
1st sem.
Nbr of FI
1/
Nbr of FI
1/
0% to 10%
11
74,6
85
95,7
10% to 20%
17
2,5
10
2,3
20% to 30%
8,2
1,0
30% to 40%
13
2,0
0,5
40% to 50%
20
9,3
0,3
50% to 60%
15
1,4
0,1
60% to 70%
13
0,2
0,1
70% to 80%
0,5
0,0
0,0
1,2
0,0
80% to 90%
90% to 100%
Total
107 100,0
in this category in relation to the total turnover.
Chart 3.4 BM&FBovespa: Equity and

Corporate Bond Clearinghouse
Net financial risk
FR (R$ millions)
NFR (R$ millions)

100
4 000
80
3 200
60
2 400
40
1 600
20
800
0
1.27
2.22
3.16
Net financial risk
4.8
5.3
Public securities remained the systems main liquidity source

(chart 3.3)43. However, as of March 2010, there has been
an increased participation in currency reserve requirement
participation and a reduction in securities linked to reserve
requirements fulfillment and others, as a consequence of
changes in time deposits reserve requirements regulatory
changes (BCB norm Circular n. 3,485, of February 24, 2010)
and of additional deposit requirements (BCB norm Circular
n. 3,486, of February 24, 2010). In average, the aggregate
liquidity need was 1.6% of the available intraday liquidity,
which was enough to ensure settlement of funds transfer
orders. No gridlock occurred in the period.
107 100,0
1/ Percentual participation of the payments made by the institutions
1.4
2010
In number of transactions, the main concentration period was

between 4:00 p.m. and 5:30 p.m., when a 34.7% of the funds
transfer orders daily average is carried out (chart 3.2). During
this period, Available Electronic Transfers (TED) by clients
accounts, which finishes at 5:30 p.m., stood out. Payment
orders concentration at the end of the day can increase the
systems operational risk notwithstanding the fact that the
low value of such orders minimizes its effects.
5.25
6.17
Financial risk
In the intraday liquidity distribution (table 3.1), there was

a migration from conglomerates within an intermediary
percentage liquidity need tier (20% to 80% of the potential)
to a low percentage liquidity need tier (under 20%). The
Number of conglomerates within this latter tier went
from 28 to 95. Considering the relative participation of
conglomerates financial turnover, this migration represented
around 20%, rendering the liquidity distribution scenario
even more comfortable to ensure the flow of payments.
Continuing the systems modernization process, on April
BCB began to offer STR access via internet, using a tool
called STR-Web, as an alternative to information access
through private nets National Financial System Net
(RSFN). This new tool reduces the access cost in cases
Sources: CBLC and BCB
43/ Along the last quarter of 2008, BCB put forward a series of measures to reduce liquidity concentration and ease credit flow, both within the financial
system and the non-financial segment. Among them it is worth mentioning liberation of earmarked reserve requirement funds. However, over intraday
liquidity, reserve requirement reductions meant a decrease in funds availability for within STR payments. In the first half of 2010, BCB began to recompose
reserve requirements level, which is reflecting in this source of intraday liquidity.
September 2010
| 37
Chart 3.5 BM&FBovespa: Derivatives

Clearinghouse
Financial risk and net financial risk
FR (R$ millions)
200
NFR (R$ millions)

50
40
160
30
120
20
80
10
40
0
1.4
2010
1.26
2.18
3.11
4.1
4.26
Net financial risk
5.17
6.8
6.29
Financial risk
Sources: BM&FBovespa-Derivatives Clearinghouse and BCB
Chart 3.6 BM&FBovespa: FX Clearinghouse

Net financial risk
FR (R$ millions)
NFR (R$ millions)

15
20
12
16
12
Sitraf, which is considered systemically relevant, performed

normally in all business days in the first half of 2010, with a
100% availability index. In the transfers intraday distribution
of funds, the greatest concentration occurred between 3:00
p.m. and 4:30 p.m., representing 33.2% of the daily total in
terms of value and 23.6% in terms of quantity.
Sitraf contractual processing capacity was boosted to meet
an increased demand in terms of the number of transactions.
This increase reduces the gridlock risk and consequently
decreases the system operational risk of the system receiving
margin quantities over its capacity, thus minimizing workinghours extensions and the non-settlement of inputs within the
established schedule or even the systems unavailability.
The Result of this innovation was the reduction in installed
hourly use capacity from 115% to 83%.
0
1.4
2010
1.22
2.10
3.3
3.22
4.9
4.29
Net financial risk
5.18
6.8
6.25
3.3 Securities, stocks, derivatives

and foreign exchange
clearing and settlement
systems performance
Financial risk
Sources: BM&FBovespa-FX Clearinghouse and BCB
Table 3.2 BM&FBovespa: Equity

Funds by securities1/
%
Discrimination
2010
Jan
Feb
Mar
Apr
May
Jun
Stocks
45,3
45,0
37,8
46,2
43,9
45,7
Government bonds
41,3
41,2
42,7
44,1
46,2
46,2
International bonds
9,0
9,8
5,7
5,9
6,2
4,4
2/
0,7
0,7
0,6
0,6
0,6
0,6
3/
2,4
2,0
2,1
2,0
1,8
1,9
Cash
1,0
0,9
1,4
0,8
1,0
0,9
Others
0,2
0,4
9,8
0,4
0,3
0,3
LG
CD
where scale and scope render inviable RSFN access, while

preserving required safety characteristics. By directly
making the settlement of economically viable operations at
BCB, STR-Web contributed to liquidity and settlement risk
reduction. It also aggregates safety in terms of information
integrity and reliability on contingency STR operations, thus
reducing operation risk within SPB.
Source: CBLC Clearinghouse

1/ Only linked funds are considered.
2/ Letters guarantee.
3/ Certificate of deposit.
Taking into account repo and outright operations, in the

first half of 2010, in average, Selic settled 12.6 thousand
operations per day, a daily average amount of R$996.9 billion.
The Organized Over-the-Counter Market for Securities and
Derivatives (Cetip), under multilateral settlement recorded
a daily average of R$11.6 billion, while gross or bilateral
settlements recorded a daily average of R$14.9 billion.
In backtesting carried out by BM&FBovespa Equity
and Corporate Bond Clearinghouse (BM&FBovespa
Equitiy) and BM&FBovespa Derivatives Clearinghouse
(BM&FBovespa Derivatives), the maximum Net
Financial Risk (RFL)44 value for most critical participants
corresponded to 2.4% and 1.5% of available additional
44/ RFL represents the cost the clearinghouse would face to close the portfolio of a defaulting participant, less its total guarantees, based on real assets price
variations. Therefore it represents the portion of risk exposure not covered by individual participants guarantees. Each day, two participants to which the
clearinghouse is more exposed are considered, i.e., two participants with higher RFL value.
September 2010
| 38
Table 3.3 BM&FBovespa: Derivatives Clearinghouse

Funds by securities
%
Discrimination
2010
Jan
Feb
Mar
Apr
May
Jun
Government bonds
88,4
88,8
88,9
89,5
89,7
90,1
Letters guarantee
2,8
3,0
3,2
3,1
3,3
2,9
CD
2,6
2,1
1,9
2,0
2,0
1,9
Stocks
4,9
5,2
4,9
4,2
3,9
4,1
Gold
0,1
0,1
0,1
0,1
0,1
0,1
Cash
1,0
0,8
0,9
1,0
0,8
0,7
Others
0,2
0,1
0,1
0,1
0,2
0,2
Source: BM&FBovespa-Derivatives Clearinghouse
Table 3.4 BM&Fbovespa: Derivatives Clearinghouse

Primitive Risk Factors (PRF)
Min1/
Discrimination
Max1/
N2/
Confidence
of VAR3/
Ibovespa spot
-47%
38%
0%
99%
USD spot
-27%
27%
0%
99%
Fixed rate 42
-4%
4%
0%
99%
Fixed rate 126
-5%
6%
0%
99%
Fixed rate 252
-7%
10%
0%
99%
Fxed rate 756
-7%
12%
0%
99%
DDI 180
4/
-20%
14%
0%
99%
DDI 360
-10%
10%
0%
99%
DDI 1080
-13%
10%
0%
99%
safeguards. BM&FBovespa Foreign Exchange Clearinghouse

(BM&FBovespa Foreign Exchange) maximum RFL value
was null the entire period, since individual guarantees were
enough to offset participants exposure (chart 3.4, chart 3.5,
and chart 3.6).
Guarantees deposited at BM&FBovespa Equitiy (table 3.2)
mostly comprise federal securities and stocks. Guarantees
deposited at BM&FBovespa Derivatives (table 3.3)
comprise mostly federal securities. Total guarantees
deposited at BM&FBovespa Foreign Exchange comprise
federal securities and currency, both national and foreign.
In the first half of 2010, as along 2009, main Primitive Risk
Factors (FPR) two-days accumulated variations used by
BM&FBovespa Derivatives to calculate guarantees kept
within limits set in their stress scenarios (table 3.4).
Accuracy45 of BM&FBovespa Derivatives risk model used
to determine individual participants guaranty level remained
above 99%, what is considered an international benchmark
in relevant recommendations for central counterparts46
(chart 3.7).
Sources: BM&FBOVESPA and BCB

1/ First semester of 2010.
2/ N is the number of exceptions observed in the sample of size T.
3/ Kupiec test, T = 255 days.
4/ Foreign exchange coupon.
Chart 3.7 BM&FBovespa: Derivatives Clearinghouse

Credit risk Accuracy estimates of the model for
individual margin evaluation*
100,0%
99,8%
99,6%
99,4%
99,2%
99,0%
1.4
1.26
2.17
3.11
4.2
4.24
5.16
6.7
6.29
* Estimates made with a rolling window of the last three months (63 days).
45/ Accuracy level is defined as correctness ratio of a risk management model within a given period of time. For central counterpart clearinghouse (CPC),
accuracy level results from number of times that guarantees required from participants was higher than CPC effectively incurred risk, divided by total
participants whose risk exposure was verified in a set period of time.
46/ Committee on Payment and Settlement Systems (2004), Recommendations for Central Counterparties Bank for International Settlements (BIS), March.
September 2010
| 39
Table 3.5 Overview of the Brazilian Payments System 1st semester 2010
Payment system
Main settled
Ownership
operations
Turnover
Volume
Daily
Type of
Daily
3/
average
Netting Liquidity
settlement
Central
3/
rate
counterparty
saving
4/
Daily average
average
Payment clearing
and settlement
systems
STR
Selic, clearing houses, TED
0,8
3,4
0,9
4,0
RTGS
68,8
DNS
0,6
0,6
Yes
4,5
0,2
DNS
0,7
3,0
Yes
0,8
0,0
DNS
0,5
0,5
Yes
0,2
0,0
RTGS /
No
7,1
483,4
DNS
0,9
6,5
Yes
14,9
3,6
RTGS /
No
11,6
22,9
DNS
0,3
3,2
No
public
509,2
48,1
RTGS
private
private
23,7
311,1
Hybrid
4,1
7601,4
DNS
public
4,3
4783,9
DNS
mixed
446,2
5,1
private
1,1
private
private
1/
and other payments

2/
CIP-Sitraf
TED
CIP-Siloc
DOC and "Bloqueto de

cobrana" with individual
value under R$5 thousand
Compe
Cheques with individual

value under R$250
thousand
Securities clearing
and settlement
systems
Selic
Federal government
securities
BM&FBovespaDerivatives
Clearing house
BM&FBovespaForeign Exchange
Clearing house
BM&FBovespaSecurities
Clearing house
CBLC
Commodities, Futures,
Options and Swaps
Interbank foreign
exchange
Federal government
securities
Stocks and corporate
private
bonds
Cetip
Swaps, Corporate
bonds, state and
private
municipal treasure
bills
1/ Including bilateral settlement of cheques with individual value of at least R$250 thousand and "bloquetos de cobrana" with individual
value of at least R$5 thousand.
2/ TED Electronic Funds Transfers on behalf of customers as well as by its own.
3/ R$ billion.
4/ Thousand operations.
September 2010
| 40
Backtesting Credit Risk Assets Clearinghouses
Clearinghouses operating assets clearing and

settlement systems, considered systemically relevant
and that performs different settlement procedures,
have regulatory obligation 1 to ensure that all
operations are settled, i.e., being central counterparts.
To fulfill such commitment, they demand participants
guaranties, according to premises within their risk
management models.
Participants deposited guaranties generally comprise
assets such as federal securities, stocks, private
securities and collaterals, ensuring payment, should
default occur. They play an important role not only
in liquidity risk, but also in the coverage of eventual
financial losses resulting from market risks taken by
clearinghouses along the closing of positions.
Among several safeguards available, individual
participants deposited guarantees are the main ones
against default, both in terms of financial volume
and enforcement. Recognizing the importance of
such protection, international regulatory agents
such as the Bank for International Settlements (BIS)
and the European Central Bank (ECB), set forth in
their central counterpart recommendations a 99%
confidence level as the minimum desirable in risk
management models in individual participants
guaranty call. In situations in which the clearing
incurs in greater financial loss than covered by
individual guaranties (1% of the cases), additional
safeguards, mostly comprising preexistent funds,
must be sufficient to cover such losses at all times.
Most frequently used backtesting procedures,
especially Kupiec and BIS methods, testing risk
management models reach a 99% confidence level,
generating binary yes or no for approval or

disapproval of tested model. Thus it is impossible to
follow up the evolution accuracy of the model to verify
possible slackening in clearinghouses risk management
policy, a crucial aspect in supervision activity.
To fill this gap and hold more accurate supervision
tools, BCB formulated a backtesting methodology to
verify the accuracy level of a calculation model of
individual margin requirement in assets settlement
which reaches expected confidence levels, using
estimated risk (RE) and verified risk (RV) concepts
in which:
a) RE represents estimated cost of closing a
participants portfolio, should default occur.
RE is calculated daily by clearinghouses risk
management model and takes into account
positions held by the participant, as well as
determined risk factors variations which directly
impact such positions. This value is used to
define participants total guaranties required;
b) RV represents real cost of closing a participants
portfolio should default occur, determined only
after the holding period. Therefore, it takes
into account primitive risk factors effectively
occurring in the market.
The methodology consists in identifying daily the
number of models failures in margin calls, where
failures mean RV greater than RE. These values are
compared to different numbers of expected failures
for various theoretical accuracy levels, identifying
the ones with highest probability of being the model
accuracy level. Thus two important products are
September 2010
| 41
generated: (i) a good precision criterion to accept/

reject the models statistics as to the 99% expected
accuracy level; and (ii) a punctual estimate of model
accuracy level. Both allows BCB to follow up an
accurate time series and, when needed, to take action
to restore it, thus contributing to maintain the National
Financial System (SFN) solidity.
Chart 1 shows an example of this methodology
applied to risk management of BM&FBovespa
derivatives clearinghouse, based on April 2008 to
June 2010 data.
Chart 1 evidences that during the 2008 international
financial crisis, the model accuracy level suffered
a substantial fall, demonstrating its sensitivity to
volatility occurring in several financial market
variables during that period. However, even under
such a high volatility, the model accuracy level
of derivatives clearinghouse remained above the
considered 99% benchmark. Notwithstanding this
fact, the clearing adjusted its scenario for guaranties
calculation to adequate them to the greater turbulence
at hand, which ensued the return of accuracy to precrisis level. Should this measure had not been taken,
BCB, using this supervision tool, could induce the
changes deemed necessary to ensure the Brazilian
Payment System (SPB) stability.
Chart 1 BM&FBovespa: Derivatives Clearinghouse

Credit risk Accuracy estimates of the model for individual
margin evaluation*
100,0%
99,8%
99,6%
99,4%
99,2%
99,0%
4.4.08
8.15.08
12.26.08
5.8.09
9.18.09
1.29.10
6.11.10
* Estimates made with a rolling window of the last three months (63 days).
1/ Art. 11, BCB Circular n. 3,057, of August 31, 2001.
September 2010
| 42
Financial system organization
4.1 Introduction
Table 4.1 Evolution of total amount of

authorized financial institutions
Type of Institution
2007
2008
2009
2010
Dec
Dec
Dec
Jun
Banks
Multiples
135
140
139
139
without foreing participation
77
78
86
86
with foreing participation
10
Domestic
1/
Foreing
1/
under foreing control

Commercial
48
55
53
53
20
18
18
19
Domestic
without foreing participation
with foreing participation
12
11
11
12
Foreing
under foreing control
Foreing banks full branches
Development
Investment
17
17
16
16
Exchange
Saving banks
Leasing
38
36
33
32
Consumer finance companies
52
55
59
61
18
16
16
15
107
107
105
101
46
45
45
45
135
135
125
125
12
12
14
15
591
592
581
580
1 465
1 453
1 405
1 388
52
47
45
45
2 108
2 092
2 031
2 013
329
317
308
302
2 437
2 409
2 339
2 315
Associations
Saving and loan companies and

2/
saving and loan associations

Securities brokers
Exchange brokerage companies

Securities dealers
Development agencies
Mortgage companies
Subtotal
Credit unions
Microentrepreneur credit institutions
Subtotal
Consortium managers
Total
The first half of 2010 did not bring events causing impact
over the structure of the National Financial System (SFN),
mainly because there were no mergers and acquisitions
taking place. Institutions strategies were focused in their
organic growth, despite the fact that the number of branches
reduced between December 2009 and June 2010 from
20.046 to 19.830 still as a result of large banks mergers in
the past semesters.
In non-banking segment BCB directives related to suppliers
of tourism services (those which were authorized to purchase
and sell foreign currency in cash, checks and travelers checks)
were the highlights. Travel agencies operating under the old
regulation are striving to adjust to the new rules, and seeking
to act as correspondents to institutions already dealing in
this segment or by becoming an authorized institution. It
is also worth mentioning the permission of credit unions to
access Settlement Accounts that favors this group of nonbanking institutions with greater competitiveness against
the banking sector.
Along the same line, there still the persistent interest of
foreign capitals towards the SFN. This foreign investments
are made under directives drawn by BCB, which are focused
on stimulating competition either as alternative sources
of credit to economic agents, or as innovative instruments
to introduce new technologies and improved international
financial systems practices and, additionally, on facilitating
placement of securities and access to credit lines abroad.
1/ Amount of July/2007 had been rectified, in reason of improper classification.

2/ Institutions that do not catch resources of the public.
September 2010
| 43
4.2 Banking institutions
Table 4.2 Organic movement on NFS

January to June 2010
Processes approved and published in the Official Daily
Organic changes were punctual (table 4.1 and table 4.2) and
circumscribed to the following:
Government Newspaper (except paralisations)

1/
BM BC BI CFI DTVM CTVM CC SAM SCM Coop
Events
Authorizations
Cancelations
Transfers
of control
Acquisitions
17
Splits
Changes of
business
objective
- input
- ouput
1
-
Change of type
21
Paralisations
Source: Official Daily Government Newspaper

1/ There are eventos not showed in this table: autorizations of
a bank (Banco Confidence de Cmbio) and
a development agency (Piau Fomento).
Table 4.3 Banking participation in the main financial

aggregates of the Mandatory Chart of Accounts of the
Brazilian Financial System June, 2010
%
Itemization
Amount Equity
Total
Deposits
4/
Credit
1/
Banking
Government
2/
Private
10
12,9
28,9
33,7
42,1
149
87,5
71,1
66,3
57,9
89
65,6
52,6
50,2
39,4
54
21,1
18,4
16,1
18,5
0,3
0,1
0,0
0,0
159
100,0
100,0
100,0
100,0
Domestic
investiment banks
on April 16th, 2010 Standard Chartered Bank (Brasil)
S.A. Banco de Investimento was authorized to operate;
on October 5 th , 2009 Banco Safra BSI S.A. was
transformed from an investment bank to a multiple bank.
foreign exchange banks
on January 29th, 2010 Banco Confidence de Cambio S.A.
was authorized to operate.
In fact, there was only one new institution comprising the
segment of national private commercial banks, while all
other segments remained unaltered.
4.3 Non-banking institutions
Domestic with
foreign
3/
ownership
Foreign banks
full branches
Total
commercial banks
on January 29th, 2010 Banco Petra S.A. was authorized
to operate.
operation
assets
owned
multiple banks
on February 12 th, 2010 Banco Gerdau S.A had its
authorization to operate cancelled;
on November 5 th, 2010 Banco Safra BSI S.A. was
transformed from an investment bank to a multiple bank.
1/ It consider institutions individualy, without group total sum of values, and
Concerning those institutions allowed to purchase and sell

foreign currency in cash, checks and travelers checks it
remains under way at BCB a Project related to restructuring
such market niche, particularly in respect to travel agencies
and touristic lodging.
it includes multiple, commercial bank and the Caixa Econmica Federal.

2/ It includes the Caixa Econmica Federal.
3/ Multiple and commercial banks with foreing control.
4/ It is not diminished by the brokerage.
Table 4.4 National financial institutions under

foreign control or with foreign participation1/
2/
Itemization
Foreign control
Minority foreign capital
Total
2006
2007
2008
2009
2010
Dec
Dec
Dec
Dec
Jun
130
122
134
130
133
57
61
72
83
80
187
183
206
213
213
Source: RCFJ011 report

1/ Banking institutions and other types financial institutions.
As in the previous semester, there were no changes in SFN

strata integrated by non-banking segment impacting systems
structure.
CMN Resolution n. 3,568, of May 29th, 2008 started a

redefinition process of institutions operating in the Brazilian
over the counter foreign exchange. Initial guideline was
towards travel agencies having their foreign exchange
operations through an accreditation agreement with a
financial institution already authorized to deal in foreign
exchange, so that BCB supervision would directly focus on
2/ Participation in voting capital.
September 2010
| 44
Table 4.5 National banks with foreign ownership
such financial institution, and would indirectly focus on the

whole set of companies under its accreditation agreement.
or foreign banks (by origin of continent/country)

June, 2010
Amount
Itemization
Banks
1/
Foreign
Domestic private
Multi- Comples
Sub
mercial total
16
Argentina
Bermuda
Mexico
Uruguay
Full
Total
branches
2/
16
29,6
21
35,0
0,0
3,3
1,9
1,7
1,9
1,7
3,7
5,0
12
12
22,2
14
23,3
14,8
13,3
China
1,9
1,7
Japan
9,3
8,3
South Korea
3,7
3,3
30
30
55,6
31
51,7
Sweden
3,7
3,3
Switzerland
3,7
3,3
America
USA
Asia
3/
Europe
5,6
5,0
Euro area
23
23
42,6
24
40,0
France
14,8
13,3
Germany
7,4
6,7
Italy
1,9
1,7
Netherlands
13,0
13,3
Portugal
5,6
5,0
53
54 100,0
60
100,0
U. Kingdom
Total
Additionally to a considerable number of accreditation

agreements (approximately four hundred agents), there
was further demand for new foreign exchange dealers from
authorized travel agencies. Pari passu BCB began to explore
more adequate paths for the Brazilian foreign exchange
market within the context of significant operational volume
expansion associated to 2014 Soccer World Cup, and 2016
Olympic Games. BCB studies search for mechanisms to
provide safety in those services.
4.4 National Financial System

foreign participation
SFN remains as the core of international financial institutions
attention as a strategic alternative to open institutions, aiming
inclusive at spreading its operations throughout the country
(table 4.4 and table 4.5). This core interest bears relation to
government authorities directives to the sector, as detailed
in Box New banks and foreign participation Recent
Evolution.
Source: Defin/Dinfo RCFJ011 report.

1/ Foreign ownership (excludes subsidiaries).
2/ Foreign banks full branches.
3/ It includes euro area countries.
September 2010
| 45
Credit Unions and Settlement Accounts
By means of BCB Circular n. 3,438 of March 2,

2009, and BCB Circular n. 3,457 of July 2, 2009,
among other institutions, single and central credit
unions were given permission to access to Settlement
Accounts1. Additionally BCB Circular n. 3,440 of
March 2, 2009, widened the scope of institutions
directly participating in the Check and Other Titles
Central Clearinghouse (Compe), to allow access to
holders of Settlement Accounts. As a result, three
unions already created and operate their Settlement
Accounts, while six are undergoing implementation
procedures for that purpose.
Additionally to Compe, this mechanism allows
credit unions direct access to several systems such as
Special Settlement and Clearing System (Selic); Cetip
S.A. Financial and Papers Custody and Settlement
Clearinghouse (Cetip); BM&FBovespa and others2,
which enables them to operate in private and public
securities markets, derivatives and foreign exchange.
and SFN clients, increasing competition in SCC

performance areas with expected reduction in fees
and/or increase in efficiency.
Owing to the need of information technology
investment and specialized human resources among
others, Settlement Accounts viability tends to require
a certain scale level only achieved by central unions
and a few singular unions. For this reason, most
of the unions that access Settlement Accounts are
central unions, which provide services to affiliated
single ones.
Finally, future operational changes within do SCC,
resulting from Settlement Accounts, probably will
not be homogenous given the heterogeny of such
systems participants.
Previously access was carried through a banking

institution, which meant additional costs to such
unions. Therefore, Settlement Accounts creation
means direct gains to union members both by service
charges reduction, now directly performed by such
unions, and incremental excess to be apportioned at
the end of the fiscal year.
Furthermore, direct access allows relevant business
information privacy both in clients and market terms.
In addition, gains are not restricted to members of
the Credit Union System (SCC). Although SCC
represents only 2% of the National Financial System
(SFN), Settlement Accounts means an increment in
intermediaries between the above mentioned markets
1/ See Financial Stability Report, v. 8, n. 2, Oct/2009, p. 91-97.

2/ Access is contingent on each systems regulation requirement.
September 2010
| 46
New Banks and Foreign Participation Recent Evolution
Out of 22 total new banking institutions constitution

approval, including investment banks, along the 20062010 period, eight were foreign controlled banks.
Investments in the Brazilian banking system remained
stable along the past years, and were little affected by
recent international financial crisis turbulences. There
was one foreign capital bank approved in 2006, and
two per year between 2007 and 2009. Up to the end of
the first half of 2010, there was one foreign exchange
bank already formalized by Presidential Decree.
As far as original capital source is concerned, there
was greater concentration in European sources of
funds in a total of five. There were two from Asia:
one Japanese and one Chinese; and there was one
Mexican participation These numbers show not
only the relevance awarded to the Brazilian banking
system but also the distinguished effects of the crisis
over the main world financial institutions and Asian
institutions increased interest in Brazil.
There are five requests under evaluation: three
US banks and two European banks, all relating to
foreign participation in bank constitution. There is a
similar additional number of recent audiences with
perspective of soon becoming a formal process.
These numbers indicate an increase in relative interest
towards the Brazilian market.
Italy, France and UK. This presence stems from

representative offices encompassing additionally to
the US, UK and Japan, where there are branches of
Brazilian Banks, eight other countries China, United
Arab Emirates, Panama, Peru, Venezuela, South
Korea, Angola and Portugal further to more than
one office in Hong Kong. Although presence abroad is
increasing, it still is well below the number of foreign
institutions from twenty three countries in Brazil.
Admittance of foreign banks in Brazil and Brazilian
bank investments abroad stress the already emphasized
Basle Committee 25 Cooperation principles on an
Efficient Banking Supervision, specially Principle
1.6, which deals with cooperation among supervisory
authorities and recommends integrated supervision
efforts among competent areas of different countries,
so as to avoid and/or mitigate international scale
systemic risks. Towards that purpose it was vital
the signature of the so called Memorandums of
Understanding (MoU). MoUs are bilateral agreements
between central banks or supervision agencies,
mainly focused on permanent information exchange
as well as the consent to perform the so called direct
supervision. Such agreements signed by BCB were
increasingly relevant during the financial crisis, as an
important aspect to be taken into account in analyzing
requests for access to the Brazilian financial system.
With respect to Brazilian banking institutions

abroad, there are already four with branches in more
than one place. There are branches of Brazilian
banking institutions in fourteen countries: Japan,
USA, Uruguay, Argentina, Bolivia, Chile, Paraguay,
Bahamas, Cayman Islands, Spain, Germany,
September 2010
| 47
Annex
Concepts and Methodologies

a)
Leverage: total assets to equity ratio;
b) Adjusted Total Assets: comprises total assets after netting and reclassification of balance sheet items or
group of items. Netting involves repurchase agreements, interbank relations and relations within branches,
foreign exchange portfolio and debtors due to litigation. Reclassifications are within foreign exchange and
lease portfolios;
c)
Low-liquidity Assets: assets not related to the institutions main activities. For analysis purposes, the
following assets were considered: deferred tax assets, fiscal credits, debtors due to litigation, unusual
onlending, various unusual assets and permanent assets;
d) Financial Intermediation Assets: assets that provide income on financial operations, such as gold, foreign
currency cash, interbank operations, stocks and securities, derivatives assets, credit operations net of
provisions, foreign exchange portfolio, usual and unusual onlending;
e)
Onerous Liabilities Cost: expenses on financial operations to onerous liabilities ratio. Onerous liabilities
are those that generate expenses to the financial institution, such as: time deposits, repurchase agreements,
foreign exchange acceptances, mortgage-linked bonds, debentures, foreign bonds, BCB open market
and others;
f)
Delinquency: non-performing loans, comprised by credit operations with payments past due over ninety days;
g) Total Capital Ratio: International concept as defined by the Basle Committee, which recommends 8%
minimum required capital to risk-weighted assets ratio. In Brazil, minimum capital requirement (MRC) is
11%, according to National Monetary Council Resolution n. 3,490, of August 29, 2007, and Central Bank
of Brazil Communiqu n. 3,360, of September 12, 2007. A 11% MRC shall be observed for all financial
institutions; and other entities supervised by BCB, except credit unions not affiliated to central credit unions;
h) Coverage Index: provisions to non performing loans ratio;
i)
Fixed Asset to Regulatory Capital Ratio: according to Resolution n. 2,669, of November 25, 1999, ratio
shall not be higher than 50%;
j)
Total Liquidity (LT): disposable liquid assets kept by institutions in order to meet obligations;
September 2010
| 48
k) Estimated Liquidity Needs (NEL): represents the liquidity level that each institution needs to keep so as to
withstand funding volatility and losses under market stress;
l)
Segmentation by size: financial institution size is determined taking into account adjusted total assets,
calculated on a consolidated basis. Financial institutions whose share in total financial system assets exceed
15% are considered large. Remaining institutions are classified according to their share in the remaining
assets in a descending order, and classified as follows:
i. institutions that comprise together the 70th percentile of total remaining assets, in an accumulated basis,
are considered large;
ii. institutions between the 70th and the 95th percentile are considered medium;
iii. institutions between the 95th and the 99th percentile are considered small; and
iv. remaining institutions are considered micro;
m) Financial Operations Gross Earnings: gross income on financial operations to financial assets ratio;
n) Financial Operations Earnings: income on financial operations net of provisions to financial assets ratio;
o) Semiannual Return on Equity: semiannual net profit to average equity ratio in the semester;
p) Reclassification: rearrangement in balance sheet items or groups of items for analysis purposes.
Concepts and Methodologies Capital Stress

Capital stress tests are used to estimate losses and new capital requirement of financial institutions, caused
by great short-term changes in interest rates and in exchange rates and by credit risk increase. For each stress
scenario, a new Total Capital Ratio (TCR) and the relevance of institutions that would be non-compliant or
technically insolvent are computed. Relevance is calculated based on the Adjusted Total Asset (ATA) of the
institution compared to the financial systems ATA. Non-compliance takes place when Regulatory Capital (RC)
is smaller than Minimum Required Capital (MRC). Technical insolvency occurs when the estimated losses are
higher than the adjusted equity.
Market risk stress

The scenarios used for interest and foreign exchange risks are calculated based on a series of logarithmic returns
in a ten-day horizon. Percentile Pa (99.87%) for upward scenario and Percentile Pb (0,13%) for downward
scenario are selected and then variations on risk factors are calculated.
All positions subject to interest rates fluctuations classified in the trading portfolio are stressed out. Forward
positions (maturities from 21 to 2.520 business days) are recalculated after considering the shocks and so the
impact over equity is evaluated. Besides the impact study over equity, trading portfolio stressed positions originate
new capital requirements for interest rates risks (PJUR1, PJUR2, PJUR3, PJUR4). Considering fixed interest rate
September 2010
| 49
risk (PJUR1), for each generated yield curve, new regulatory parameters on capital requirements are calculated.
For capital requirements related to other types of interest rates risks, the multiplying factors Mext published
by BCB on January 4, 2010 were used.
Currency risk is calculated by applying stressed exchange rates over the effective exposure1. The new capital
requirement for currency risk (PCAM) is calculated by applying stressed exchange rates over regulatory exposure.
It is assumed that all foreign exchange-linked positions follow the percentage changes estimated for the US
dollar stress scenario.
Credit risk stress
Ad hoc scenario, used for credit risk increase, consists in estimating, for each financial institution, a two-level
downgrade on its portfolio credit rating. Provisions need is estimated through the difference between new
required provisions and current provisions. Then, the impact of the provision need on RC and MRC and, thus,
on Total Capital Ratio is provided. The possible constitution of deferred tax assets owing to the non-deductibility
of provision expenses is considered in the calculation.
A macroeconomic scenario is obtained through a vector autoregressive model (VAR), which considers Gross
Domestic Product (GDP), exchange rate, domestic interest rate (CDI) and US interest rate. For the stress scenarios,
there were considered a one-sided test with a 5% significance level.
VAR model results are applied to two dynamic panel models. The first one estimates balance of credit with
payments past due over 90 days; the other estimates financial systems credit portfolio. Then, the same ad hoc
methodology is used, i.e., one estimates the increase in provisions to compensate higher delinquency, the RC
and MRC adjustments, including those due to credit portfolio growth, followed by the recalculation of TCR,
considering the constitution of deferred tax assets.
1/ Net outcome of all long and short foreign exchange positions.
September 2010
| 50
Appendix
Banco Central do Brasil Management

Acronyms
September 2010
| 51
Banco Central do Brasil Management
Board
Henrique de Campos Meirelles
Governor
Aldo Luiz Mendes
Deputy Governor
Alexandre Antonio Tombini
Deputy Governor
Alvir Alberto Hoffmann
Deputy Governor
Anthero de Moraes Meirelles
Deputy Governor
Antonio Gustavo Matos do Vale
Deputy Governor
Carlos Hamilton Vasconcelos Arajo
Deputy Governor
Luiz Awazu Pereira da Silva
Deputy Governor
September 2010
| 52
Abridgment
ABS
ATA
BCB
BCE
BIS
BM&FBovespa
BNDES
b.p.
CDS
CEBS
Cetip
CMN
CNI
Compe
Copom
DPGE
DPMFi
Embi+
Embi+ Brazil
FDIC
Fed
FGC
FPR
FSB
FSOC
GDP
GNP
IB
IBC-Br
Ibovespa
IED
IGP-DI
IMF
INR
IPA-DI
IPCA
LF
LT
Asset Backed Securities

Adjusted Total Assets
Central Bank of Brazil
European Central Bank
Bank for International Settlements
Futures and Commodities Exchange
National Economic and Social Development Bank
Basis point
Credit Default Swap
Committee of European Banking Supervisors
Financial and Papers Custody and Settlement Clearinghouse
National Monetary Council
National Industry Confederation
Checks and other Titles Central Clearing House
Monetary Policy Committee
Time Deposit with Special Guarantee
Internal Federal Securities Debt
Emerging Market Bond Index Plus
Emerging Market Bond Index Plus Brazil
Federal Deposit Insurance Corporation
Federal Reserve
Guarantor Credit Fund
Primitive Risk Factor
Financial Stability Board
Financial Stability Oversight Council
Gross Domestic Product
Gross National Product
Basle Index
Brazilian Central Bank Economic Activity Index
Sao Paulo Exchange Index
Direct Foreign Investment
General Price Index Domestic Supply
International Monetary Fund
Non-Resident Investors
Wholesale Price Index Domestic Supply
National Consumer Price Index
Financial Bill
Total Liquidity
September 2010
| 53
MSCI EM
MRC
MRC_Cr
MRC_Op
NEL
Nuci
p.a.
p.p.
PR
PRE
REF
RFL
RSFN
SCC
Selic
SFN
Siloc
Sitraf
SPB
STR
TCR
TED
USA
VaR
VIX
Morgan Stanley Capital International Emerging Markets Index

Minimum Required Capital
Minimum Required Capital for Credit Risk
Minimum Required Capital for Operational Risk
Estimated Liquidity Need under Stress
Installed Capacity Use Level
Per annum
Percentage point
Regulatory Capital
Minimum Required Capital
Net Financial Risk
National Financial System Net
Credit Union System
Special Settlement and Clearing System
National Financial System
Deferred Interbank Settlement System
Fund Transfer System
Brazilian Payment System
Reserves Transfer System
Total Capital Requirement Basle Index
Available Electronic Transfer
United States of America
Value at Risk
Chicago Board Options Exchange Volatility Index
September 2010
| 54

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Financial

Financial Stability Report

Financial Stability Report

Data not available.

Financial market evolution

1.1 Introduction _________________________________________________________________ 9

National Financial System supervision

Brazilian Payments System

3.1 Introduction ________________________________________________________________ 36

Financial system organization

4.1 Introduction ________________________________________________________________ 43

4.2 Banking institutions __________________________________________________________ 44

Concepts and Methodologies ___________________________________________________ 48

The Financial Stability Report (FSR) is a semiannual

Financial Stability Report

This document is available in PDF format at: <www.bcb.

Financial Stability Report

In the first half of 2010, uncertainties in the international

Financial Stability Report

Earnings kept consistent with the banking system historical

Financial Stability Report

Financial market evolution

Chart 1.1 Sovereign CDS (5 years)

Chart 1.2 Stock exchanges

10.10 2.17 6.25

Japan Nikkei 225

Risks associated to fiscal problems in some European

Financial Stability Report

Chart 1.3 Stock exchanges

1.2 International financial

Chart 1.4 Volatility Index VIX

In financial markets, the deterioration that has occurred

7.29 10.26 1.21 4.20

The events on sovereign debt market ended up contaminating

Chart 1.5 Yields on government bonds

The worsening of the fiscal issues along the second quarter

2/ The Euro Area Bank Lending Survey, BCE, July 2010.

Financial Stability Report

Chart 1.6 Developed countries currencies

conducted stress tests in a 91 banks sample group. Results

Chart 1.7 Emerging markets currencies

Reflecting these developments, the CDS premiums average

Chart 1.8 5 year CDS: premiums of

7.29 10.26 1.21 4.20

In the US, the improvement in economic performance at

Financial Stability Report

Chart 1.9 5 year CDS: premiums of

to propriety trading, and investors protection when dealing

1.3 National financial market

7.29 10.26 1.21

Chart 1.10 Embi+ and Embi+Brazil

National financial market main variables evolution reflected

Chart 1.11 Interest rates

International economic scenario was determinant to

Internally, monetary policy implemented actions, with a 5.0

Financial Stability Report

Table 1.1 Selected interest rates

Sources: BM&FBovespa and BCB

went up, reducing the slope of the term structure of interest

Chart 1.12 Domestic yield curve

Source:s BM&FBovespa and BCB

Chart 1.13 Interest rates volatility

As of May, European fiscal crisis deepening contributed

In the first half of 2010, interest rates volatility entered a