Brazil's GDP decline is a fiscal wake-up call. High interest rates and weak commodity prices are hitting growth. Though output rose 2.2 per cent year-on-year, President Dilma Rousseff's public sector largesse is not a sustainable response.
The 0.5 per cent shrinkage in GDP in the quarter to September isn't the only Brazilian economic indicator to flash red. The central bank began a series of interest rate rises in April. From a low of 7.25 per cent, six increases have now taken the Selic short-term rate to 10 per cent, relatively high in real terms with inflation running at 5.8 percent in the year to October. The result has been a slowdown in investment, which fell 2.2 per cent in the third quarter (although it was still well up on the third quarter of 2012). The high-profile bankruptcies of Eike Batista's OGX and OSX are also indicative of a tougher environment.
Brazil's household consumption rose by 1 per cent during the third quarter and 2.3 per cent year-on year but will face the headwind of higher interest rates. Rousseff meanwhile has increased public spending, with government consumption up 1.2 per cent during the quarter and 2.3 per cent from last year.
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With commodity prices lower than a year ago in dollar terms, Brazil's current account deficit in the year to October was $82 billion, or 3.7 per cent of GDP. Its currency, the real, has weakened 14 per cent against the dollar since January 1.
Brazil's reputation as a fast-growing BRIC economy is looking increasingly passe, but instead of fiscal reforms Rousseff is still trying to paper over the slowdown with government spending. The needed tough decisions will only become tougher if they're delayed. Brazil's predicament is a warning for emerging economies everywhere.
