Brazil Q3 GDP Contraction Shows Flaws In Economic Model Driven By Consumer Spending, Not Investment

Brazil’s economy surprised on Tuesday with a 0.5 percent contraction in its Q3 GDP, according to figures by the Instituto Brasileiro de Geografia e Estatistica (Brazilian Institute of Statistics and Geography, or IBGE). Output fell even more than expected by a Reuters poll of 40 analysts, which predicted the economy would contract 0.2 percent from the previous quarter.

However, analysts say there's no cause for alarm. The figures are not a sign of recession, they assert. In fact, the numbers go right along with Brazil’s usual economic performance.

“The Q3 GDP is actually consistent with the Brazilian economy trend, as opposed to being a downturn,” said Bill Adams, senior international economist for PNC Financial Services Group. “The third quarter gave back some of the gain of Q2, which showed growth driven by consumer spending, but it is still a gain from last year.”

Indeed, the year-on-year figure showed 2.2 percent growth, consistent with predictions. Growth was driven by consumer (+1.0 percent quarter on quarter) and government spending (1.2 percent), and sectors like household spending and income growth are still going strong -- a typical model for the Brazilian economy, as pointed out by David Rees, emerging markets economist for Capital Economics.

“Brazilian GDP growth was weaker than expected in Q3, dashing hopes that the economy is rebalancing away from consumption and toward investment,” he wrote in a report by the London-based firm.

Aurélio Bicalho, an economist for Brazil’s Itaú bank, agreed that traditional economic boosts continued to play a fundamental role in GDP performance. “Investment expenditures remained weak. Exports were also below our expectation,” he wrote.

And there will be more of the same, as analysts agree that Brazil is looking at another year of disappointing growth.

“GDP growth will remain weak for a prolonged period,” said Rees. “The Brazilian economy appears to be reaching the limits of its consumer-led growth model. Consumer spending was boosted by government-subsidized credit, but high debt levels mean that household balance sheets are becoming increasingly stretched.”

Investment is low, at just 19 percent of GDP, as opposed to the emerging-market benchmark of around 25 percent. Low domestic savings means that Brazil relies on attracting foreign capital, but with the current account in deficit, there's not much room for running up an even larger external deficit to fund investment.

Many firms have been lowering their predictions for Brazil’s 2013 GDP growth, including JPMorgan (which lowered its prediction to 2 percent from 2.5 percent), Itaú (1.5 percent from 2 percent) and the Brazilian Central Bank (2.2 percent from 2.5 percent). The Q3 performance suggests it might be even lower than that.

“It will take a while until we see Brazil at the pre-financial-crisis growth level,” said Adams. “Disappointing growth is the new Brazilian normal.”