Housing boom raises fears of Brazil bubble

The mood in Santa Marta in Rio de Janeiro is festive on a Saturday night.

Cleared three years ago of the drug gangs that run many of the city’s favelas or slums, music is playing everywhere as people sit out drinking beer and police patrol the main road.

But
it is not only the lower levels of crime that are cheering the
residents of Santa Marta, which climbs a ridge near Rio’s Christ the
Redeemer statue. Since pacification by the police, the area’s property
market, like the rest of Brazil’s economy, has been red-hot.

“A
home near me cost about R$20,000 three years ago and now you couldn’t
get it for less than R$50,000 [$30,600],” said Juan Sousa Silva, the
director of Grupo Eco, a youth group in Santa Marta.

Across Latin
America’s largest economy, record prices for the country’s commodities
and surging foreign fund inflows – what the International Monetary Fund
calls “favourable tailwinds” – are driving a historic boom.

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Property prices are soaring, consumer credit is booming and bank profits swelling. But there are growing concerns over whether Brazil is becoming addicted to this windfall of easy money. Increasingly, there are fears that Brazil is heading for a bubble.

“Experience tells us that whenever there is a lot of credit available for emerging markets economies, especially in South America, and if that’s coupled with very high commodity prices, the tendency of our economies is to spend too much,” said IMF western hemisphere director, Nico­lás Eyzaguirre, a former Chilean finance minister.

Everywhere, there are signs of an economy running at full capacity. Brazilian unemployment has fallen to a historic low, exacerbating shortages of skilled labour: headhunted executives now demand minimum pay increases of 20-30 per cent to switch jobs.

“This is a hot market,” said Riccardo Barberis, Brazil country manager for Manpower.

Infrastructure is creaking. Port turnround times can be as long as a month and most airports are overcrowded – Garulhos International Airport in São Paulo is operating at 130 per cent of capacity.

Then there are house prices. Anecdotes abound of beachfront apartments in Rio’s fashionable Ipanema district selling for a third more than levels of late last year. In São Paulo, house prices have nearly doubled since 2008.

One of the causes of this is credit growth. Real credit to the private sector has risen by nearly 200 per cent since 2007, according to the IMF, and the country’s big banks forecast loan growth of 20 per cent this year.

Much of this is believed to be to first-time borrowers from low-income groups, who have little or no credit history but want the appurtenances of modern middle-class life, such as cars, motorcycles and household goods.

“It’s a little bit like what happened in the United States, when credit is a form of adrenalin that you just can’t give up,” said Luis Miguel Santacreu, an analyst at Austin Asis, a banking sector consultancy in São Paulo.

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“Bubble” remains a dirty word in Brazil. Yet some signs of excess are already emerging. In the past month, two small banks have had to be bailed out and analysts expect more will run into difficulty this year.

Still, the larger banks such as Itau and Bradesco remain well capitalised by any standard and the overall financial leverage of the Brazilian economy is low. Private sector credit is about 40-50 per cent of gross domestic product – a fraction of the pre-credit bust levels of, say, the US or Spain. Mortgages, while growing fast, remain a novel product and mortgage debt still only comprises about 4 per cent of GDP. Nor does Brazil have any of the complicated “subprime” derivatives that derailed the US economy.

Finally, the central bank, alert to the dangers, is introducing curbs on consumer credit and foreign loans, while steadily increasing benchmark interest rates, which at 12 per cent are among the highest in the world.

“Everyone seems to have their feet on the ground,” says one US institutional investor in Brazil.

The IMF’s Mr Eyzaguirre agrees the economy is not overheating – yet. Brazil’s current account deficit is still a manageable 2.3 per cent of GDP.

However, if commodity prices were to drop to 2005 levels, the deficit would explode to about 5 per cent of GDP – leaving the country vulnerable.

Similarly, if interest rates were to rise in the US, external funding for the deficit would slow.

Mr Eyzaguirre likens Brazil’s situation to a car that is approaching a red light a bit too fast. The driver needs to start braking now or risk skidding later.

He said the government was aware of this and was taking action. “But we wonder whether they should be monitoring the situation even more closely,”

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