Brazil’s middle-class economic miracle at risk

They were the big
winners in Brazil’s economic boom: nearly 40 million people who joined
the middle class since 2003 and went on a shopping spree, many of them
buying televisions, cars or air conditioners for the first time.

Yet there are signs that some
of these Brazilians — known here as the “new C Class” — are in danger
of sliding back into poverty.

The consequences are potentially dire for President Dilma Rousseff, some of Brazil’s major companies, and an economy that has in recent years been one of the world’s few powerful engines of growth.

There
are several causes behind the incipient reversal of fortune, including
an economy slowing in tandem with the rest of the world, rising
inflation and high household debt.

While
it inherited the problems, Rousseff’s government has struggled to limit
the fallout — and has arguably made some of them worse.

“If
we don’t watch out, a worsening of the international scenario can cause
a setback,” said Strategic Affairs Minister Wellington Moreira Franco,
who is charged with coordinating long-term planning. “What we want is a
type of brake to prevent these Brazilians from falling back into
poverty.”

That “brake” could take
several forms, and Rousseff and senior economic officials have
repeatedly said they have policy tools available to protect the gains of
recent years.

During the last crisis in 2009, Brazil responded to a fall in consumer demand with a massive fiscal stimulus program.

Yet
its options are much more limited this time, since it is still
suffering side effects from that budget splurge — including inflation
that now sits at about 7.3 percent on an annual basis, well
above-target.

Any erosion of the
gains in Brazil’s fight against poverty would weaken Rousseff’s
political base, and her response may determine her chances for
re-election in 2014.

It would also hit Brazilian and multinational companies. For example, car manufacturers such as Hyundai (005380.KS) and Fiat (FIA.MI)
came to depend on Brazil — now the world’s No. 5 auto market — in
recent years to help fuel sales growth. At the first signs of a
weakening market in Brazil, Fiat shares slumped in August
[ID:nLDE77H09N].

Economic growth is expected to slow to at least half last year’s 7.5 percent rate amid a menacing global scenario.

MAKING ENDS MEET

Consumer
debt defaults jumped 3 percent in August and are now up 29.2 percent
from a year ago [ID:nS1E78B0KR]. Credit demand is slowing from last
year, in part because the central bank hiked interest rates 175 basis
points through August.

At the
lower end of the “C” income category, which ranges from 1,200 to 5,174
reais ($656-$2,827) per month, credit growth is half the national
average.

Experts say most at risk are those who for the first time have disposable income to consume beyond basic needs.

“People
have been dazzled by the consumption craze; they need financial
education,” says Alessandra Ninis, who runs the “new middle class”
project at the strategic affairs ministry.

So
far, neither tighter monetary nor fiscal policy have been able to tame
above-target inflation of 7.3 percent per year, which hits particularly
lower-income households. The lack of structural reforms to tackle
price-indexed salaries and utility prices have compounded the problem.

“There
are signs the emerging middle class is stagnating – that’s bad news for
Brazil. If it contracts, it would be a disaster,” says Professor
Marcelo Neri, an expert on social mobility at the FGV business school’s
Center for Social Policies in Rio de Janeiro.

People say they are feeling the effects.

“The
budget is getting tight. Food and clothing is going up and I’ve got
those car payments,” said Edinaldo dos Santos, who works at a catering
company in Brasilia. “Many of my neighbors are struggling with debt.”

If,
as some economists forecast, economic growth slows more sharply in the
short term and unemployment begins to rise, the government may have to
take aggressive measures to protect the lower middle class.

“Right
now they’re looking more at trampolines into the middle class but soon
they may have to look at parachutes for those falling out,” said Neri.

Rousseff
has already launched a micro-credit program designed to lower capital
costs for small entrepreneurs and a job training program designed to
form future professionals who will continue to fuel consumer demand.

Another
measure the government is eyeing is a monthly stipend for employees
receiving on-the-job training and earning up to 1,100 reais, the
strategic affairs ministry said.

Rousseff
also moved to liberalize the cable TV market, expand low-cost Internet
coverage, and improve private health care — all concerns to Brazil’s
new upwardly mobile.

ELECTION INTERESTS

Roughly
55 percent of Brazil’s population now belongs to the middle class,
nearly the same amount that was classified as poor when former President
Luiz Inacio Lula da Silva took office in 2003.

Rousseff
was Lula’s hand-picked successor and it was his government’s
achievements in attacking poverty that carried her to power in last
year’s election.

But Lula’s high
spending has forced Rousseff into austerity measures and they have hit
her popularity. Her disapproval ratings doubled in August, partly
because of frustration over slow progress in improving public services
[ID:nN1E7791S8].

“Demands on
policy-makers have shifted; people care about more than just jobs and
income,” said Christopher Garman, Latin America analyst with Eurasia
Group consultancy in New York.

“The new public agenda is the quality of public services and that’s what’s going to drive the next elections.”

Rousseff
has recently shifted from poverty-eradication talk to a focus on
middle-class issues. “When people surge into the middle class, they
demand quality public services: education, health, security,” she said
at a recent ceremony.

But with
economic and political constraints, such as a tight budget and volatile
support for her policies in Congress, it will be difficult in the short
term for Rousseff to significantly improve long-neglected public
services or boost the living standards of the new middle class.

“It’s hard to see Rousseff’s approval ratings not falling more in coming months,” said Garman.