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* Payroll tax exemption extended to construction
* Government seeks to boost investment and growth
* Private sector welcomes tax break, wants more
By Alonso Soto and Anthony Boadle
BRASILIA, Dec 4 (Reuters) - Brazil's government on Tuesday extended tax breaks to the country's construction industry in a new effort to encourage investment and boost flagging growth in the world's sixth-largest economy.
The Brazilian economy grew much less than expected in the third quarter, surprising economists and policymakers alike and putting pressure on the government to widen a barrage of stimulus measures it launched this year.
Private - sector economists said cutting the heavy tax burden on Brazil's businesses was the right way to go, but urged a wholesale overhaul of the tax system instead of sector-by-sector measures that create uncertainty and ultimately slow investment.
Finance Minister Guido Mantega said the new stimulus, which includes an extension of a payroll tax exemption for homebuilders and the construction industry, will help boost investment and reduce home prices. He added that the government planned to announce more measures this week.
With the exemptions, the government will forego 2.85 billion reais ($1.36 billion) in tax revenue a year, money that could be redirected to investments and construction projects, Mantega said.
The government will also lower the tax rate charged on total revenue to 4 percent from 6 percent, freeing up an additional 410 million reais in foregone tax revenue for investments.
"This payroll tax exemption reduces the cost of labor and makes it easier to hire workers. It makes the building industry more competitive," President Dilma Rousseff said at an event marking the completion of one million low-cost houses since 2009 financed by the government.
Once-booming Brazil reported weaker-than-expected third quarter e conomic g rowth of 0.6 percent c ompared to the previous quarter, raising concerns that the government's strategy of low interest rates and selective tax breaks for businesses has so far failed to kick start Lati n America's larg est economy.
Fitch Ratings cut its growth forecast for Brazil to 1 percent from 1.5 percent for 2012 and to 3.7 percent from 4.2 p ercent f or 2013. A fragile external backdrop and competitiveness issues fac ed by Brazil hav e hampered its rec overy this year and investment continues to contract, the ratin gs agenc y said on Tuesday.
The Rousseff government extended tax breaks earlier this year to a dozen industries, including Brazil's large car industry, textiles, shoes and home appliance manufacturers. It has also rai sed import tariffs on 100 products to shield domestic producers from foreign competition.
The private sector welcomed the tax break as another step to reduce the heavy tax burden that companies face in Brazil, which is just above 35 percent of gross domestic product, making it one of the most costly places in the world to run a business.
"They have good intentions: they want to stimulate investments, which is the right approach," said Ilan Goldfajn, chief economist at Itau Unibanco, Brazil's largest private-sector bank.
But he said a more horizontal policy would help the investment climate more than steps to benefit specific sectors, which backfires by creating regulatory uncertainty. "I would prefer to have a payroll tax cut for everybody," he said.
Brazil's biggest publicly listed homebuilders, including PDG Realty SA, Cyrela Brazil Realty SA and Gafisa SA, have struggled over the past year as demand cooled and projects overran budgets and timetables.
Shares of homebuilders initially rallied after the announcement, but later reverted gains to end lower on the day.