Brazil braces for sharper slowdown, eyes easing steps

RIO DE JANEIRO Thu Nov 17, 2011 3:30pm EST

New cars are parked at a stock area of the Volkswagen German automaker plant in Sao Bernardo do Campo March 2, 2011. REUTERS/Paulo Whitaker

New cars are parked at a stock area of the Volkswagen German automaker plant in Sao Bernardo do Campo March 2, 2011.

Credit: Reuters/Paulo Whitaker

RIO DE JANEIRO (Reuters) - Brazil braced for a sharper-than-expected slowdown as a key indicator of economic activity fell on Thursday and the government reportedly considered easing curbs on credit and investment.

Latin America's largest economy has been a rare global bright spot since last year. But it now appears to be braking more quickly than policymakers had anticipated as it feels the impact of Europe's debt crisis and slack growth in the United States.

The economy may have shrunk in the third quarter of the year, according to an economic indicator that is seen as a guide to official gross domestic product figures due for release in early December.

The central bank's IBC-Br economic activity index fell 0.32 percent in the three-month period, suggesting that Brazil's economy may struggle to beat even the gloomier forecasts of a 3 percent rise in GDP this year.

The government of President Dilma Rousseff got a vote of confidence on Thursday when ratings agency Standard & Poor's upgraded its sovereign debt by one notch to BBB, citing Brazil's commitment to meeting fiscal targets.

But Rousseff's administration is showing clear signs of concern at the growing momentum of the downturn, which the central bank has attributed to a "rapid and substantial" deterioration in the global outlook.

Among recent signs of a slowdown: a 10 percent fall in car sales in October from September and a 2 percent slump in industrial output in September from August.

The country's major newspapers reported on Thursday that Rousseff had asked her economic team to unwind so-called macroprudential measures imposed over the past two years to cool signs of overheating in the economy.

The mix of tighter banking regulations and capital controls has included measures such as a tax hike on some types of loans to individuals and a rise in the so-called IOF tax on certain financial transactions -- one of a barrage of steps aimed at containing a surge in the Brazilian currency's value.

The Estado de Sao Paulo newspaper reported that the government was considering removing the 2 percent IOF tax on the purchase of Brazilian stocks by foreigners.

Concern about the overvalued real has eased somewhat in recent weeks as the European crisis has scared investors away from emerging market assets, leading to drop of about 11 percent in the currency's value in the past three months.

FIRST RESPONSE

Unwinding macroprudential steps is likely to be the government's initial response to the sharpening slowdown as it seeks to avoid loosening fiscal spending that Rousseff has pledged to keep in check, said Tony Volpon, head of emerging market research for the Americas for Nomura.

"They (the government) may panic and hit the fiscal button ... but immediately it is more on the macro, credit front where we will see action," he said.

The central bank, which has already cut interest rates by 1 percentage point since August, could lower banks' reserve requirements and unwind other taxes on consumer credit to boost lending, he said.

Central bank policymakers fired an initial volley last Friday when they allowed banks to set aside less capital for some consumers loans, which have grown rapidly and helped drive robust GDP growth of 7.5 percent last year. The decision marked a reversal in policy and underscored worries that the escalation of the sovereign debt crisis in Europe could reduce liquidity and freeze Brazil's credit market.

But the bank faces a delicate task to stimulate the economy while keeping up its fight against stubbornly high inflation. which has raised doubts over the government's commitment to its own inflation target.

The central bank sees the main IPCA inflation index up 6.4 percent this year, but acknowledges that it could exceed the target ceiling of 6.5 percent for the first time since 2003.

Central Bank President Alexandre Tombini has said that "moderate" interest rate cuts are consistent with inflation returning to target next year. Markets interpret that as signaling another 50-basis-point cut in the benchmark Selic rate at the next policy-setting meeting on November 30, taking the rate to 11 percent.

Economists who attended a meeting with a central bank director in Sao Paulo on Thursday said the view at the gathering was that Brazil's growth should still be healthy next year, helped by the rate cuts and other measures.

(Additional reporting by Alonso Soto in Brasilia, Jeb Blount in Rio de Janeiro and Jose de Castro, Silvio Cascione, Patricia Duarte and Luciana Lopez in Sao Paulo; Editing by Dan Grebler)

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