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Since 2008, the emerging economies have been spared nothing, economically or politically.
After the subprime crisis, the emerging economies enjoyed two, maybe even three years of respite thanks to two key factors:
Asian countries that were integrated into China’s value added chain as well as net commodity exporters managed to hold up well, even if doubts as to the sustainability of the financing of Chinese growth were already in the minds of international investors, as reflected in the MSCI emerging markets index decrease in early 2011.
When Ben Bernanke announced a normalisation of US monetary policy in summer 2013, he brought in a new order. In fact, his announcement masked two key messages:
In parallel, the sovereign debt crisis in the eurozone was starting to be addressed and the growth outlook was improving.
This led to portfolio reallocations along with a flight to safety and flight to quality that favoured developed economies and more secure and better quality assets. The resulting capital outflows gave rise to a sharp discount on certain equities, bonds and emerging country currencies.
The sharp fall in commodity prices in 2014 followed by the oil counter shock and concerns surrounding the slowdown in China served to strengthen these trends.
We should not forget also that on top of these economic and financial shocks came numerous political and geopolitical shocks, such as the Ukrainian crisis, Middle Eastern conflicts, uncertain presidential elections in several countries, and political crisis in Brazil.
Naturally all countries were not impacted in the same manner. Their resilience depended on their exposure to each specific shock but also on the solidity of their fundamentals. In fact, it seems that emerging European countries, for instance, which are less exposed to China and also benefited from the sharp fall in commodity prices, recorded relatively high growth rates in 2015: Poland 3.6%, Czech Republic 4.2%, Romania 3.7%, etc. Similarly, while Chile was very sensitive to commodity prices and Chinese demand, it avoided falling into recession in 2015 thanks to a rigorous policy mix and even saw an improvement in its growth rate (2.1%) compared to 2014 (1.8%).
Despite these differences, however, capital outflows were massive. Consequently, at the end of 2015, emerging country assets were underrepresented in most international portfolios, several currencies were undervalued, and certain assets were at very low valuations.
What is the situation today for emerging countries?
After rebounding sharply in 2010, emerging country growth declined steadily overall, barely remaining above 4% in 2015. Since these countries are expected to drive global growth, this deceleration is fuelling debate and concern. It is a far cry from growth rates surpassing 10% but is much higher than the growth levels recorded in the developed economies. Although it flirted around 4% in 2010, partly thanks to technical effects, growth in the developed economies has been relatively volatile since 2009 and has stagnated at around 2% since 2013.
While variations between the emerging countries are significant, as indicated above, the same can be said between the different regions. Latin America seems by far to be the most impacted: several countries are net exporters of raw materials and highly exposed to China, such as Venezuela, not to mention the political crisis in Brazil which has helped to plunge the country deeper into recession. Emerging Europe (driven by Russia) and Africa have also been deeply affected without for all that recording the same level of global recession as Latin America. The only region that seems to have been relatively spared is Asia which is underpinned by India, which saw growth of over 7% and China, which, despite the slowdown in its economy, continues to register official annual growth above 6% (see chart n°1).
Today, the adjustment process is at least well underway in most countries and economic uncertainties have diminished. Indeed, the Fed tightening should not be as great as expected, the commodity prices certainly will not renew with past levels but should not record additional leg down and the probability of a short-term Chinese hard landing is becoming weaker.
The most recent data (Q4 2015 and Q1 2016) show a recovery (or at least a bottoming out) of global emerging country growth with the various regions, as mentioned before, reflecting a more favourable economic environment for these countries. If there are no further shocks, emerging country growth should continue to improve although it is unlikely to return to the highs seen in 2010. Indeed, several factors continue to weigh on the recovery of emerging economies: i) While we do not expect a hard landing of the Chinese economy, it should continue to decelerate in the coming years however, ii) in most emerging countries, growth was largely funded by the explosion of credit to the private sector which today has reached levels deemed "critical", iii) there is overcapacity in China production but also in net exporting countries raw materials that need to be absorbed, iv) potential growth held back by a lack of infrastructure and v) uncertainties (geo) political and institutional always present. All in all, we are far from growth rate of 10% but compared to growth in advanced economies, we remain on broadly higher levels.
Turning to inflation, countries that are net exporters of raw materials (Latin America, Africa and Russia) have been significantly impacted because of high pass-through effects linked to the depreciation of their currencies. It should also be noted that Russia and Brazil account for a significant share of their respective regional aggregates and, because of the Ukrainian crisis for the former and political turmoil for the latter, their currencies have been much more negatively impacted than if they had suffered only from economic shocks. By contrast, countries that are net importers of commodities, such as Asia and Eastern Europe, benefited from lower prices as well as from deflationary pressure from China and the euro zone, such that global inflation in emerging countries rose only very slightly in the end and has already fallen back to its 2013 level (4%) thanks to restrictive monetary policies implemented by most of the countries that suffered from high inflationary pressure (see chart n°2).
In terms of external accounts, after suffering a downward trend since 2008 and reaching a low point in early 2014 (0% of GDP), the global current account surplus of emerging countries has improved to around 2% of GDP today. This reversal of trend since 2014 can be explained by the fall in commodity prices which had a positive impact for countries that are net importers (lower energy bill). It took Latin America another year before it could reverse its downward trend. Nevertheless, after reaching a record deficit of more than 4% of GDP, Latin America is once again back at levels that are considered “sustainable”1 (see chart n°3).
We are clearly a long way from the halcyon days of surpluses well above 5% of GDP. Nevertheless, in relation to the developed countries, which continue to show deficits - even if these have steadily adjusted since 2008 and are now close to 0% - the emerging countries still record surplus savings (see chart n°4).
And the central banks of the main developed economies (ECB, FED, BoE, BoJ) continue to apply (if not accentuate) quantitative easing policies, creating an abundance of liquidity that, amid low (to negative) interest rates, makes emerging countries look attractive again due to the decline in economic uncertainty around them.
Furthermore, while political uncertainty and instability have until now been synonymous with emerging countries, developed economies are facing similar problems today. Between Brexit, the rise in populism, impending European and US elections, not to mention terrorist attacks, the (geo)political situation is becoming extremely challenging.
Taken together, all of these factors point to a return to favour of emerging countries. That said, the situation continues to vary significantly between countries, notably because of idiosyncratic (geo)political shocks such that a gradual and granular reallocation - in terms of country, asset type (local debt, debt denominated in other currencies, equities) and sector - is preferable.
1 Generally speaking, analysts believe that a current account deficit is sustainable when it does not exceed 3% of GDP.
After 2008, the emerging
2013 marked the start
At the end of 2015, emerging
The economic environment
While the current account
Strategy and Economic Research at Amundi
Will the final act of the “Great Divide” between the Fed and the ECB result in a liquidity tantrum? The current bond environment is wholly extraordinary. Neither the recovery in rates nor the bond volatility inherent in a low-rate environment can quite account for it.
Marc-Ali BEN ABDALLAH, Karine HERVE, Julien MOUSSAVI
Strategy and Economic Research at Amundi