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Brazil's GDP contracts and sends economy into a recession

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RIO DE JANEIRO - Brazil's formerly high-flying economy, once the darling of emerging markets, has fallen into recession, according to government data released Friday, as a legion of newly minted middle class citizens tightened their belts and halted a credit-driven spending spree.

The government's statistics bureau reported that gross domestic product dropped 0.6 per cent in the second quarter, in large part because of soft consumer spending. First-quarter results also were revised downward from 0.2 per cent growth to a 0.2 per cent drop, showing a two-quarter slide that most economists use to define a recession.

Analysts said the economy also suffered because investors are holding off, waiting to see how the October presidential election changes the economic winds.

Even the World Cup may have played a part because workers took many days off, contributing to limp industrial output.

But the heart of the problem may be a crisis for the government's model of consumption-led growth.

"Of course I'm spending a lot less!" said Maria Sousa, a 25-year-old doing some window shopping but no buying at a mall in Rio de Janeiro. "I'm feeling less confident about my financial situation and I'm thinking more about trying to save than spend."

London-based Capital Economics wrote in a research note Friday that "it is consumption that has been the key driver of growth since the 2009 global financial crisis. But consumers are now struggling, in part because household balance sheets have become stretched following a decade-long credit boom."

After blistering 7.5 per cent growth in 2010, Brazil's economy has just limped along. The long, slow slide means there aren't any regional shocks expected from the official drop into recession, but it still darkens the horizon for Brazil's neighbours, many of whom send a large percentage of their exports into the nation.

Argentina, whose economy is in recession and where citizens face inflation of 40 per cent, may be hurt the most. About one-fifth of Argentina's exports flow into Brazil, but the amount Brazilians buy is forecast to shrink.

"It's another headwind for Argentina, at exactly the wrong time," said Neil Shearing, chief emerging markets economist at Capital Economics.

Brazil itself has been hurt by falling demand for its cars and big-ticket household items like refrigerators and washers in Argentina, one of the reasons Brazilian industrial output fell for the fourth consecutive quarter.

Analysts said that to return to its days of fast growth, Brazil must undertake long-pending reforms to its tax system, labour laws and bureaucracy.

Brazil remains a grindingly difficult place to do business. It ranked 116th on the World Bank's most recent "Ease of Doing Business Index," despite being the world's seventh-largest economy.

Brazil's taxation regime was billed as the globe's most complicated and burdensome, according to this year's comparison of tax systems in 189 nations carried out by accounting company PwC, along with the World Bank and the International Finance Corporation.

That adds to bottlenecks at every turn when Brazil tries to capitalize on its potential, analysts say.

The economic indicators are also the last thing President Dilma Rousseff's struggling re-election campaign needed.

The slump gives more ammunition to Rousseff's rivals ahead of an Oct. 5 presidential election vote, particularly for environmentalist Marina Silva, who is now leading polls and tapping into the widespread frustrations of many Brazilians, angst that fueled last year's massive anti-government protests.

The race is certain to go into a second-round runoff on Oct. 26, as no candidate has the support win an outright majority of ballots to avoid that.

"For Rousseff, who has watched her lead in opinion polls evaporate in recent weeks, this is the worst possible news; it's the last thing she wanted," said Shearing. "There is not much that can be done for the economy ahead of the election. It's like turning around the proverbial tanker; it's going to take a long time."

Still, Rousseff, a trained economist, and her team argued that Brazil's souring economic scenario isn't their fault — and even question whether the country is in recession.

They blame the slowdown on continuing global doldrums that have dampened appetite for Brazil's exports and a severe drought that has sent energy prices soaring for industry and consumers alike, as most of the country is powered by hydroelectricity.

"The international scenario didn't help," Finance Minister Guido Mantega told reporters in Sao Paulo. "There's a lack of market (in developed economies) and that's resulted in a trend of deceleration for emerging economies."

Asked if Brazil is in a recession, Mantega said, "You can't really say that." He emphasized that unemployment remains at historic lows and inflation is within the upper limits of the government's tolerance band.

"There are not universally accepted criteria for defining a recession. You can't talk about a recession in Brazil because, for me, a recession is when you have a prolonged stall, of many, many months. And a recession is when you have unemployment."

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Associated Press writer Stan Lehman contributed to this report from Sao Paulo.

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Follow Brad Brooks on Twitter: www.twitter.com/bradleybrooks

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