Itaú BBA - Consumption Remains Strong, Risk Aversion Restrains Investment

OrangeBook

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Consumption Remains Strong, Risk Aversion Restrains Investment

enero 30, 2013

The recovery of the Brazilian economy is moderate and heterogeneous. Consumer spending continues to expand.

With information through January 28, 2013

This report, published six times per year, summarizes anecdotal information on current economic conditions received from key business contacts, economists, market experts, and other sources outside Itaú. Apart from the “our view” section, it is not a commentary on the views of Itaú’s Macroeconomic Research team.

Contents

Consumption and Production of Goods and Services
Consumption remained robust in late 2012 and early 2013. Signs of acceleration appeared in some segments, while others reported a slowdown.

Investment
Greater risk aversion still affects investment decisions.

Real Estate
Sales of residential and commercial real estate have been improving. Since late 2012, the sector has felt some acceleration, partly as a reaction to the drop in real interest rates.

Commodities
Agribusiness maintains its positive trend. For industrial commodities (i.e., steel, mining), the situation is better than in recent quarters, but remains challenging.

Labor Market, Wages and Prices
Labor market conditions remained strong. The recent slowdown and higher uncertainty have led some segments to delay hiring.

Our View
The recovery of the Brazilian economy is moderate and heterogeneous. Consumer spending continues to expand. The challenge is to create a more favorable environment for investment.


Summary

Consumer spending remained robust in the last two months of 2012 and in the first weeks of 2013. Slowdown signs are felt in some segments.

Car sales picked up in the second half of last year. However, there are uncertainties in the sector regarding the sustainability of this trend, partially due to the withdrawn of the IPI tax break.

Some services segments are apparently feeling the economic slowdown. Services related to production bottlenecks (logistics, education, personnel training) continue to report strong activity.

Greater risk aversion still affects investment decisions. Overall, investment is still focused on improving existing capacity. There are, however, short-term expansion plans in some sectors.

The heavy-vehicle sector accelerated in the second half of 2012, a trend that continued this year. Some uncertainty endures.

Sales of residential and commercial real estate have been improving. Since late 2012, the sector has felt some acceleration, partly as a reaction to the drop in real interest rates. The sector expects a pickup in launches in 2013.

Within commodities, agribusiness maintains its positive trend. Overall, prices remain at favorable levels and the outlook for the crop in Brazil is optimistic.

For industrial commodities (i.e., steel, mining), the situation is better than in recent quarters, but remains challenging.

Labor market conditions remained strong, with most sectors reporting difficulty finding workers. The recent slowdown and higher uncertainty have led some segments to delay hiring.

Higher production costs driven by foreign-exchange depreciation have not been entirely passed through. On the other hand, some service sectors cited difficulty increasing prices at the magnitude of recent years.

Our view:The recovery of the Brazilian economy is moderate and heterogeneous. Consumer spending continues to expand, albeit with more volatility. Investment seems subdued. The main challenge is still to create a more favorable environment for investment.

Consumption and Production of Goods and Services

Demand for goods and services remained robust in the last two months of 2012 and in the first weeks of 2013. Some segments, however, noticed signs of accommodation. Holiday sales were good overall, though slightly below expectations for some contacts. Consequently, some retail chains and their suppliers report a slight level of undesired inventories.

Durable-goods sales, such as household appliances and electronics, were strong in late 2012, and accelerated in early January. Producers report difficulties in meeting demand for summer-related items, such as refrigerators and air conditioners. In some durable-goods segments, such as information technology, there is still an expectation of stronger government demand in 2013. According to these sectors, government purchases are usually larger in the second half of gubernatorial and presidential terms.

Producers and retailers of non-durable consumer goods, such as cosmetics, pharmaceuticals and housekeeping supplies, also indicate robust demand.

However, some sectors feel deceleration from the faster pace of 3Q12, including furniture, educational and office supplies, household furnishing and food. A slowdown was also experienced by suppliers to these sectors, such as packaging producers.

In the auto segment, sales accelerated in the second half of last year, but there are doubts in the sector regarding the sustainability of this trend. The high volatility in sales performance suggests that it still relies on the IPI tax break, which will be gradually withdrawn this year. The perceived level of consumer indebtedness is also a reason for concern. Overall, the sector does not expect significant growth in output and sales in 2013.

For the first time in the current cycle, some service sectors are apparently feeling the economic slowdown more clearly; particularly services tied to industrial activity, such as maintenance of plants and machinery and third-party services (cleaning, security). Lodging, entertainment and personal security, which had been reporting very strong activity until 3Q12, also indicated some deceleration, and difficulty increasing prices at the same pace as in recent years (10% to 15%).

Still, services related to production bottlenecks (logistics, education, personnel training) and those related to the Soccer World Cup (advertising, events) continue to grow briskly.

In the past Orange Book report, published in November, the perception was that the pickup in consumer spending was spreading across sectors. Information now suggests a more mixed picture. Some segments continue to accelerate, but others lost steam, including some service providers. Many still mention consumer indebtedness as a cause for concern. However, most consumer-oriented sectors plan new investments in 2013, given the outlook for continuing expansion of the middle class.

Investment

Business confidence remains subdued. Our business-confidence indicator, based on a survey of a broad range of clients, fell slightly in 4Q12 compared with the average of the first three quarters. The current level is about 10% above the level registered at the end of 2011, but is still some 20% below the average level of 2010.

High risk aversion among several industrial sectors is affecting investment decisions. The slowdown in GDP growth in 2012, not very sensitive to economic stimulus already in place, is worrying. The still-complex global scenario also has an impact. Overall, current investment is focused on improving existing capacity. In most sectors, actions to increase capacity have been postponed and, in most cases, cut back.

There are, however, short-term expansion plans in some sectors, including retail, agriculture, logistics and infrastructure – the latter, in part due to the Soccer World Cup.

Producers of capital goods still report weak orders. Sales of agricultural machinery and machinery for basic industrial sectors, such as oil and gas, have improved. Since late 2012, demand related to infrastructure projects rebounded. Weaker currency induced a recovery in exports late last year. Notwithstanding signs of improvement, the sector still has undesired inventories.

The heavy-vehicle sector experienced fast growth in the second half of 2012, prompted by the normalization in sales following the introduction of the Euro 5 production technology and particularly favorable financing conditions offered by BNDES, the government development bank. Manufacturers and dealers report that activity remained generally positive in the beginning of this year. There is, however, concern that indebtedness among buyers may lead to some deceleration throughout the year. Change in labor legislation for truckers is another cause for concern in the sector.

Real Estate

New- and existing-home sales were described as “moderate or good”. Since late 2012, the sector has seen some acceleration, partly reflecting the drop in real interest rates. Launches in "strategic" regions are once again selling in a matter of days.

The number of residential-development launches declined in 2012. With better-adjusted inventories and stronger sales, the number of launches is back on the rise. The rebound tends to be moderate, as the sector is adjusting expenses. The focus is still on cash generation to reduce debt. But overall, the beginning of 2013 is suggesting a better year than 2012.

In commercial real estate, sales of small and medium units are somewhat slower, though demand has also been reacting to lower real interest rates. The spotlight is on shopping malls, with 27 developments opened in 2012 and 48 expected to be opened in 2013. For the first time, the number of shopping malls located in the countryside (230) is higher than those located in state capitals (227). The move is compatible with the stronger investment outlook in some retail segments.

Commodities

Agricultural activity is still experiencing a positive trend. Overall, price levels remain favorable, even after the recent drop. The crop outlook is generally optimistic, particularly for soybeans. So far, the summer crop has confirmed this expectation.

Rainfall levels are reasonable, though a bit irregular. There has been excessive precipitation in some areas, such as the Center-West and Paraná state; while it has been insufficient in others, such as the Northeast and Rio Grande do Sul state. This irregularity presents a risk for some crops such as corn, but does not affect the overall positive landscape for Brazilian agriculture.

In the sugar and ethanol segment, there is more conviction that the 2013/2014 crop will post good year-over-year growth. A large part of the segment has already recovered from the 2008/2009 financial crisis. However, the rebound in investments is still weak, given the uncertainty surrounding ethanol prices (which depend on government policy for gasoline prices). Anyhow, the sector reports that current production of the fuel should be sufficient to accommodate the increase in the ethanol content of gasoline.

Optimism in the agricultural sector continues to boost its suppliers, such as producers of crop-protection chemicals, farm machinery and fertilizers. As most sectors depend on imported input, however, part of the positive result was lost with the depreciation of the Brazilian currency.

Among producers of industrial commodities (steel, mining), optimism brought by depreciation of the real and by incentives to products with national content was reinforced by the stabilization of the China’s economic growth. External demand is recovering slowly; however, domestic demand remains subdued. Thus, current favorable factors are not sufficient to bring stronger growth prospects. Spare capacity is still high in some segments, such as steel (which is also affected by the rebound in iron ore prices), hence investment plans remain on hold.

Labor Market, Wages and Prices

Labor-market conditions remained strong. As in the previous Orange Book reports, most sectors cited difficulty finding workers – both skilled and, to a lesser extent, unskilled as well.

Still, the recent slowdown and higher uncertainty have led some segments to delay hiring, even those experiencing heated activity. For now, however, few report layoff plans, except those restructuring their businesses or planning to do so.

Lower payroll taxes help to explain the resilience of high employment levels. Gains from the tax break have been put to different uses across sectors. Some recovered their margins, others increased wages and invested in employee training, and others cut prices (not necessarily meaning lower prices for consumers, since in many cases the reduction is not passed through the entire production chain).

Wage increases enacted in the past two months were mostly around 7%-8% in nominal terms. Despite recent training efforts, few sectors report improvement in labor productivity.

Higher production costs created by currency depreciation were not entirely passed through. Considering that the exchange-rate movement was fast and intense, and competition is fierce, some sectors chose not to immediately pass through the increase in costs — but they intend to do so gradually, as the economy recovers.

On the other hand, some service sectors cited difficulty increasing prices at the magnitude of recent years.

Our View

The recovery of the Brazilian economy is moderate and heterogeneous.

Consumer spending continues to expand, albeit in a more volatile fashion. Expansion in real income, which should continue in 2013, sustains a favorable outlook for retail sales. However, with a smaller increase in the monthly minimum wage than in 2012, the pace of expansion in disposable income should be more moderate.

Investment remains restrained, even with different types of economic stimulus already in place. The main challenge is still to create a more favorable and predictable environment for investments, reducing risk aversion among entrepreneurs.



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