By Mary Stokes.
State-owned banks are stepping in to sustain Brazil’s strong pace of credit growth. Given weak economic activity and global uncertainty, Brazil’s private banks have slowed their pace of lending and state-owned banks have picked up the slack. They helped cushion Brazil’s economy during the 2008-2009 global financial crisis, and the government has encouraged them to play a similar counter-cyclical role this year.
The divergence between lending growth at private and state-owned banks is notable. While lending by public financial institutions grew by 26% in May compared with the same month of 2011, private banks registered an increase of only 11%. Outstanding credit at state-owned banks now amounts to 22% of GDP, higher than the 19% at private banks (Chart 1).
The finance minister, Guido Mantega has signalled his approval of state-owned banks’ growing role in the economy, saying, “If the financing of the economy today depended on the private sector, then the scenario would be one of recession.” According to recent statements, he still expects GDP growth this year to surpass last year’s 2.7% expansion. In contrast, Timetric forecasts growth of only 2.0% in 2012.
We do not expect the increase in lending by state-owned banks to prove as effective at bolstering GDP growth as it did during the global financial crisis. Households are more indebted than they were in 2009 and consumers are showing signs of fatigue. Household indebtedness, based on the ratio of outstanding debt to disposable income, reached a record 43.3% in April 2012, well above the 32.6% registered at the end of 2008. Meanwhile, retail sales unexpectedly fell on a monthly basis in May, suggesting the consumption-led growth engine may be losing steam.
Even with state-owned banks stepping in to maintain the supply of credit to households and businesses, there are doubts about the ongoing strength of demand for credit. Ultimately, Brazil’s economy cannot expand sustainably over the long-term with a growth model based on debt-fuelled spending.
A more immediate worry about state-owned banks’ growing role in the economy is that rapid credit growth will result in a rise in bad loans. This is a legitimate concern. A recent IMF paper by Reinout De Bock and Alexander Demyanets, titled “”Bank Asset Quality in Emerging Markets: Determinants and Spillovers,” highlights the strong association between credit growth and asset quality.
We expect a modest increase in loan defaults at state-owned banks, but do not believe their health is in danger, at least in the near-term. First, default rates at state-owned banks are currently at historically low levels (Chart 2). Second, a significant portion of the lending portfolios of these banks (59.6% at end-2011) is composed of government-directed credit (such as housing and agricultural financing), which offers better financing terms and tends to be of longer duration than non-directed credit. In contrast, only 26.3% of private banks’ loan portfolio is composed of government-directed credit, according to the central bank’s latest Financial Stability Report. Finally, state-owned banks are well capitalised, above the 11% minimum regulatory requirement imposed by the central bank, enabling them to absorb a significant increase in bad loans in an extreme scenario (Table 1).
Table 1: Brazil’s top ten banks are well-capitalized
In sum, state-owned banks are expected to remain in good health. Nevertheless, we are sceptical that increased lending by these financial institutions will lead to a significant revival in Brazil’s economic activity. Ultimately, a consumption-led growth model fuelled by debt is neither desirable nor sustainable over the long-term.