The classical economics theory says that when the overall income decreases, people tend to eliminate the most unnecessary expenses from their monthly expenses. That is certainly intuitive, and works in the majority of cases. But in some it does not; and that is what is currently happening in Brazil’s luxury market.
As it is well known to a good geopolitical observer, Brazil is going through a rough economic crisis – indeed, its biggest one in 25 years. To illustrate that, the year of 2015 experienced a decrease of 3.8% on the country’s GDP, and this negative pattern is still persisting today. Along with the GDP drop, there is a dramatic increase in unemployment rates, and, until October 2016, the inflation rates followed the same uptrend. During the last few years, as a consequence, the average Brazilian worker watched helplessly his purchasing power gradually decaying. However, despite the drop in the consumer’s purchasing power, the Brazilian luxury market is at its fastest pace of increase. In fact, as the GDP dropped 3.8%, the luxury products consumption increased from 11% to 13%, according to the National Association of Luxury Companies (Abrael). This type of phenomenon is what the behaviourist Richard Thaler, from the University of Chicago, would call a market misbehaviour. For every economic misbehaviour, Thaler continues, there should be a supposedly irrelevant factor (SIF) that was taken out of the equation, so that the predicted results were not able to be achieved. In the Brazilian case, the misbehaviour is an ever-growing luxury market in the midst of a national crisis. The question now is: what are the SIFs that make Brazilians give priority to luxury goods on their tight monthly consumption basket, and what are the possible implications?
Supposedly Irrelevant Factors
When the economy is under recession, the inflation rates increase and, thus, the Brazilian currency suffers a devaluation. Therefore, it becomes more expensive for a consumer to buy luxury goods abroad, for example in the United States, since the US dollar becomes significantly more expensive for Brazilians who perceive their income in Brazilian Reals. The outcome? More buyers choose the national luxury market. This explanation, however, is partially wrong. Indeed, even though goods cost less on the Brazilian domestic market, due to the fact that Brazilians don’t need to convert their money to a foreign currency, the supplies cost significantly more to the Brazilian retail market. Remember: most of luxurious items are produced outside of Brazil. Therefore, either the goods produced in Brazil become suddenly perceived as being cheaper, either companies that have a substantial stock from some years before do not have to increase the prices due to foreign exchange rate increase. However, unusually luxurious brands have a seasonal line of production which prevents them from having old inventories from previous years at the Brazilian level.
Another explanation, perhaps more persuasive, could depend on a cultural aspect. According to Marcos Ferreirinha, president of the Latin-American MCF Consultants, Brazilians have an extraordinary consumer profile because they « allow themselves ». By saying this, Ferreirinha might be affirming that Brazilians do not share a good financial education, or even that their concept of happiness is not conventional. Indeed, they rather give up on some basic necessities than giving up on luxury goods that concede them a higher utility. The later case, in particular, has already been noticed by some academicians of the behavioural economics field. Basically, this concept says that it is hard for the consumer to change their consumption habits over the periods of crisis. Since their utility level would decrease by consuming less luxury, they prefer to believe that general recessions are mere temporary bumps along the road. That partially explains why the demand for luxurious goods did not stop growing during the crisis and in some cases, the growth of the demand even accelerates.
Laura Goretti, a Brazilian brand manager who works with luxury brands such as Fossil, gives another explanation. In her words, Brazilian continues to be very influenced by the power of brands, especially in the fashion segment, and this has a very large weight in our luxury market. Being influenced points out to at least two consumer vulnerabilities. An advertisement vulnerability, in the sense that Brazilians are more prone to be persuaded by advertising incentives; and a social vulnerability, meaning that social pressures over individuals when it comes to the valorisation of certain brands are more incisive and long-lasting. The reason for such valorisation is important to note. It can be explained by a sum of the Bandwagon effect with the Veblen effect. I’ll explain: the Bandwagon effect postulates that « the more people use a certain brand or product, the higher are their incentives to buy ». In other words, it produces an incentive based on the quantity purchased – even if there are rarer goods for lower prices. The Veblen Effect, in turn, explains a misbehaviour in which people buy more expensive goods, even though there are cheaper ones with the same quality – mainly due to a desire for conspicuous consumption. Therefore, it produces another incentive, this time based on the price. These two effects together, both presenting an individual misbehaviour based on social factors, must well explain how the process of decision-making of some Brazilian consumers works.
These behavioural effects (or maybe, in Thaler’s tribute, we must say Supposedly Irrelevant Factors) pointed out above can say a lot about the consumer profile of the average Brazilian, and must surely be taken into account if one is analysing Brazil’s market for any other reason.
The implications for this phenomenon are somewhat intuitive. When a market does not show traces of a slowdown, even if the circumstances around it are discouraging, one may correctly affirm that the demand is not sensitive to drops on people’s income or on their expectations to buy. Economically speaking, we call this an inelastic demand. The surprising factor is that, normally, a luxury good is held as an elastic good, since it is easily put aside from the monthly expenses, as a matter of priorities. When, for whatever reason, the contrary happens in a recession scenario, some distinguished outcomes follow – being they positive or not.
If one thinks from the perspective of the consumer, this inelastic demand, motivated by complex social pressures, appears to be harmful to his purchasing power. In fact, he might be wasting precious money on the luxury market, instead of saving it in a crisis setting.
On the other hand, if one gets the big picture, the misbehaviour explained produces very positive consequences to the society as a whole. The job creation is surely an example of a good outcome. After all, luxury brands employ a great number of professionals, since their products are more complex to make and their consumer treatment is more individualised. In a period of shrinking economy, that is gold. The other positive effect concerns the spillovers in terms of the country’s tax revenue, which greatly increases. I must say, by the way, that Brazilian taxation over imported goods is one of the heaviest in the world. Finally, there should be a last good outcome: an increase on the value of money. A higher number of transactions means the money involved can be applied into other posterior transactions, and hence producing more profit. Money, after all, accumulate certain amounts of interest rates. The sooner it is spent, the more valuable it becomes.
Weighting such outcomes – both the negatives and positives – it becomes reasonable to say that the misbehaviour presented over the Brazilian luxury market is welcome to the national economy as a whole. Yet, it still is a luxury for the few.