Emerging - 24 January 2019
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    In emerging and developing countries, debt has become a recurrent theme that pops up whenever financial conditions tighten and/or economic activity slows. The IMF recently published a blog post on the subject with a rather alarming title. Granted, the combined impact of several factors, namely the downward revision of growth forecasts, a stronger dollar and the normalisation/tightening of monetary policies that have been rather accommodating until now, will increase the weight of the debt burden. Yet not very many countries are at high risk of debt distress, and there is little probability that debt will trigger a systemic credit crisis, even though the risk has increased for the most vulnerable countries.
    Economic growth slowed to 6.6% in 2018 from 6.8% in 2017 and should continue to decelerate in the short term. The extent of the slowdown will depend on the still highly uncertain evolution of trade tensions between China and the United States as well as on Beijing’s counter-cyclical policy measures. However, the central bank’s manoeuvring room is severely constrained by the economy’s excessive debt burden and the threat of capital outflows. Moreover, whereas Beijing has pursued efforts to improve financial regulation and the health of state-owned companies over the past two years, its new priorities increase the risk of interruption in this clean-up process. Faced with this situation, the central government will have to make greater use of fiscal stimulus measures.
    India’s economic growth slowed between July and September 2018, hard hit by the increase in the oil bill. The sharp decline in oil prices since October will ease pressures, at least temporarily, on public finances and the balance of payments, and in turn on the Indian rupee (INR), which depreciated by 9% against the dollar in 2018. In a less favourable economic environment, Narendra Modi’s BJP party lost its hold on three states during recent legislative elections.
    The election of Jair Bolsonaro at the presidency of Brazil has marked a swing to the right, the weakening of traditional political parties and a return of the military to national politics. The new administration faces the challenges of rapidly engaging its fiscal reform, gaining the trust of foreign investors while reconciling ideological differences across its ranks. How society will adjust to a new era of liberal economic policy remains the greatest unknown. Meanwhile, the economy is still recovering at a slow pace. Supply-side indicators continue to show evidence of idle capacity while labour market conditions have yet to markedly improve. Sentiment indicators have shown large upswings in recent months which should help build some momentum in economic activity over Q1 2019.
    In 2018, Russia swung back into growth and a fiscal surplus, increased its current account surplus and created a defeasance structure to clean up the banking sector. The “new” Putin government affirmed its determination to boost the potential growth rate by raising the retirement age and launching a vast public spending programme for the next six years. Yet the economy faces increasing short-term risks. Monetary tightening and the 1 January VAT increase could hamper growth. There is also the risk of tighter US sanctions, which could place more downward pressure on the rouble.    
    With the approach of municipal elections on 31 March, which will be another key test for the government, major manoeuvres have been launched on both the macroeconomic and geopolitical fronts to stimulate activity and advance a foreign policy agenda (notably in Syria) at the expense of diplomatic tensions with the US. The financial strain has soothed since the currency crisis in August 2018, but cyclical conditions have deteriorated. We seem to be heading for a recession scenario lasting several quarters, with the financial weakness of many non-financial corporates being a main concern. The rapid narrowing in the current account deficit and the disinflationary process initiated in recent months attest to the scope of the macroeconomic currently underway.
    Hungary’s macroeconomic situation provides a good illustration of how Central Europe is flourishing economically, but has jettisoned some of the principles of liberal democracy, which is the crucible of the European Union. Hungary’s real GDP growth is estimated at an average of 4.5% in 2018, the highest level since 2004 and higher than its long-term potential. Endogenous and exogenous factors announce a downturn in the economic cycle in the quarters ahead. Yet there is nothing alarming about the expected deterioration in macroeconomic fundamentals in the short to medium term.
    Economic growth in Serbia has accelerated since 2017, fuelled by consumption and investment. Inflation is still mild thanks to the appreciation of the dinar. This favourable environment has produced a fiscal surplus that gives the government some flexibility. The public debt is narrowing, even though it is still relatively high and vulnerable to exchange rate fluctuations and the appetite of international investors. Several factors continue to strain the potential growth rate of the Serbian economy, including unfavourable demographic trends, the slow pace of public sector reforms, and a tough political environment.
    The strength of internal demand remains the main engine of economic activity, which is growing at over 3% per year. This is feeding through into a resurgence of inflationary pressures, although these have been very modest so far. The budget deficit is growing but it remains within the limits set by the government. International trade is seeing some significant shifts. A loss of momentum in goods exports has reduced Israeli products’ market share; at the same time exports of hi-tech services have become the real driving force behind the country’s international trade. Changes in oil prices continue to be a key determinant of the current account balance, despite the exploitation of gas resources.
    Calm has returned to Argentina’s financial markets since the end of September 2018. The peso has levelled off after depreciating 50% against the dollar in the first 9 months of the year. The central bank finally managed to loosen its grip after raising its key policy rate by 70%. Restored calm can largely be attributed to IMF support, but it comes at a high cost: a strictly quantitative monetary policy and the balancing of the primary deficit as of 2019. The economy slid into recession in Q2 2018 and is likely to remain there through mid-2019. So far, the recession has not eroded the country’s fiscal performance, the trade balance has swung back into positive territory and inflation has peaked. Yet will that be enough to restore confidence before October’s elections?
    The elections promised by the military regime ever since it took power in 2014 are finally slated to be held in 2019. Yet this does not mean that the political and social crisis has been resolved: the ruling junta intends to remain in power without providing a veritable solution for “national reconciliation”. From an economic perspective, short-term prospects are still upbeat. The Thai economy will be hit by the slowdown in China, but thanks to dynamic domestic demand, growth should approach its long-term potential this year. In the long term, in contrast, the outlook continues to deteriorate as the political environment holds back the economy’s growth potential.
    Export and real GDP growth have started to suffer from US-China trade tensions and from the mounting difficulties of China’s external trade sector. Taiwan is highly exposed to this type of external shocks due to its heavy reliance on exports of tech products to the Chinese and US markets. However, Taiwan is also well-armed to absorb shocks. External accounts and public finances are strong, and the authorities have a good margin of leeway to act. They are expected to maintain accommodative monetary and fiscal policies in order to stimulate domestic demand in the short term, and should continue some structural reform measures aimed at improving Taiwan’s longer-term economic prospects.
    In late 2017, the authorities decided to resort to direct financing of the Treasury by the central bank to stabilise a dangerously deteriorating macroeconomic situation. The injection of funds helped rebuild bank liquidity via the reimbursement of the debt of state-owned companies. In the absence of a real fiscal impulse, and thanks to prudent monetary policy, inflation remains under control. Without structural adjustments, however, the situation could become very risky.
    Emerging - 19 October 2018
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    In the October 2018 World Economic Outlook, the IMF lowered its economic growth forecasts for the majority of the emerging and developing countries. Over the past six months, the downside risks to their short-term prospects have worsened, and some have even materialised. The IMF sees higher tariff barriers and trade tensions as one of the main threats to economic growth. International financing conditions are also expected to deteriorate further. Investors proved to be selective during the recent bout of emerging market turmoil. However, the sources of vulnerability are likely to continue to rise and the risks of contagion in case of a shock could spread gradually.
    The Chinese authorities have responded to the economic slowdown and US trade barriers by loosening monetary policy and letting the yuan depreciate in recent months, while considering fiscal stimulus measures. With policies to boost demand, the economic growth slowdown is likely to continue at a moderate pace in the short term. Any rebound in investment, however, is likely to be limited, restricted by the deterioration of export prospects, corporates’ excessive debt, industrial restructuring measures and Beijing’s determination to promote healthier development in the real estate market. As to private consumption, it may not be strong enough to pick up the slack.
    Pressures have been on the rise since April 2018. Narendra Modi’s power has eroded. His party lost its majority position in the lower house of parliament. Growing difficulties in the financial sector have sparked higher refinancing costs. Despite solid growth in the first quarter of fiscal 2018/2019, the rupee has fallen to the lowest level on record after depreciating by more than 13% against the USD. India is vulnerable to higher oil prices (23% of imports) and capital outflows. Although its external position has weakened, India is nonetheless in a much more comfortable position than it was five years ago. At the end of September, foreign exchange reserves still covered 1.4 times its short-term external financing needs (less than 1 year), compared with 0.9 times in 2013.
    The economic, political and moral crisis that has held Brazil in its thrall for several years has crystallised in general elections that have seen a section of the electorate swing to the right. The Roussef and Temer presidencies – marred by corruption scandals and two years of deep recession in 2015 and 2016 – have provided a fertile ground for a further fragmentation of Brazil’s political landscape. The swinging of the political pendulum risks increasing social tensions at a time when the macroeconomic environment deteriorates as growth loses steam, investment contracts, government debt builds up and the external environment looks increasingly uncertain.
    Despite the improvement in economic fundamentals (strong rise in the current account surplus, accelerating GDP growth and a fiscal surplus), the rouble depreciated by 13% against the dollar between April and September 2018. Tighter US sanctions in April and again in August 2018, combined with the threat of new sanctions this fall, triggered massive capital outflows. Despite a highly volatile rouble, bond and money market pressures have been mild. To counter the downside pressure on the currency, the Russian central bank raised its key rates in September, for the first time since 2014, and halted its foreign currency purchases on behalf of the finance ministry.
    A currency crisis broke out in August. Beyond (geo)politics, the main reasons behind the collapse of the TRY are the worsening in Turkey’s macro fundamentals and erosion of the credibility of its policy mix. The authorities have limited room for manoeuvre and announced a tightening of economic policy, which has led to some respite in the financial markets. Reconciling with the West is also required to regain investors’ trust. Turkey’s economy is heading toward a text-book “boom and bust” cycle and stagflation. The macro adjustment is going to favour a narrowing of the current account deficit, but the country’s external financing needs will remain huge. Banks are the main channel for the transmission of balance of payments troubles to the real economy.
    Ukraine’s economy has stabilised somewhat after the crisis in 2014-2015. The economic recovery is still on track. Thanks to tight monetary policy, inflation has been moderating and the Hryvnia has been broadly stable despite emerging market tensions. The government has met its fiscal targets and reformed the gas and banking sectors. But the economy is not yet out of the woods. Ahead of the presidential elections (March 2019), (geo)political risks are high. Structural reforms need to be completed to strengthen investors’ confidence. Given large FX debt repayments in the coming year, Ukraine needs to unlock new financing from the IMF and other official lenders as well as global markets in order to avoid liquidity shortages.
    The USA, Mexico and Canada have completed negotiations on a new trade deal to replace NAFTA, which has been in force since 1994. The signature of an agreement in principle is good news for Mexico, as it will calm uncertainties about future trade links with the USA. On the domestic front, the new government is preparing to take power on 1 December. The reforms proposed are already some distance from the statements made during the campaign. Most notably, the incoming President has committed to maintaining the independence of the central bank, fiscal discipline and the country’s trade agreements.
    Despite the turmoil that has swept the emerging markets in recent months, we are still confident in the solidity of Egypt’s external accounts in the short term. Last year, the current account deficit narrowed significantly, thanks to remittances, tourism and an improved energy account. In the short term, higher oil prices should have only a small impact on the current account. For the moment the central bank’s cautious policy is containing the risk of a sudden outflow of portfolio investment. In the medium term, however, several sources of vulnerability persist, including commodity prices, the political environment and the rising cost of debt in foreign currency. The “détente strategy” adopted by President Moon since taking office in May 2017 would seem to be bearing fruit: in September, the leaders of the two Koreas held their third meeting, and a new trade deal was signed with the USA. On the economic front, the outlook remains good, despite the trade war between China and the USA. On the one side, South Korea’s positioning on value chains is shifting, which should allow it gradually to reduce its exposure to the Chinese economy. On the other, macroeconomic fundamentals are solid and the country’s external vulnerability is very low, allowing it to stimulate the economy if needed.
    Despite the turmoil that has swept the emerging markets in recent months, we are still confident in the solidity of Egypt’s external accounts in the short term. Last year, the current account deficit narrowed significantly, thanks to remittances, tourism and an improved energy account. In the short term, higher oil prices should have only a small impact on the current account. For the moment the central bank’s cautious policy is containing the risk of a sudden outflow of portfolio investment. In the medium term, however, several sources of vulnerability persist, including commodity prices, the political environment and the rising cost of debt in foreign currency.
    Thanks to increased oil production and higher public spending, Saudi Arabia’s economic growth should be able to be positive again in 2018. Yet the private sector is showing only timid signs of recovery, despite fiscal stimulus measures, and we are not expecting a significant turnaround in activity in the short term. Job market reforms and their negative impact on domestic demand have sharply curtailed economic activity. The total number of employed workers has declined while the unemployment rate remains high, especially among youth. Saudi Arabia’s low attractiveness for foreign investors does not facilitate the essential reform process.
    A review of Joao Lourenço’s first year in office reveals a rather positive shift in government policies, given the determination to clean up politics and the scope of the economic reforms engaged. After a two-year freeze, Angola is cooperating with the IMF again and a new financing agreement is being prepared in the short term. Yet despite the new government’s positive drive and the upturn in oil prices, the country faces several challenges: a deteriorated oil sector, a foreign currency liquidity squeeze, the erosion of household purchasing power and a severely troubled banking system. Mired in a severe economic crisis, the recovery is bound to be very gradual at best.
    Morocco’s performance was mixed during the first half of 2018. The economic growth recovery is still mild despite good performances in the tourism and manufacturing sectors. Social unrest is rising against a backdrop of endemic unemployment, while the economy is hit again by a swelling energy bill. After several years of consolidation, the twin deficits are expected to widen slightly this year. Although Morocco’s macroeconomic fundamentals are still solid, structural reforms are needed to raise the growth potential.

On the Same Theme

The shadow of the debt 2/7/2019
Growth is slowing down whereas private debt has just levelled off. Is this something to worry about?
External vulnerability of emerging countries: Ten years on 9/12/2018
In emerging economies, debt of both the public and private sectors has increased over the past ten years. Asian countries, especially China, face mostly a local-currency debt problem; only Indonesia has registered a rise in its USD-denominated debt (as a percentage of GDP). In contrast, in Latin American countries, Turkey and South Africa, the USD-denominated debt of corporates has increased meaningfully. In Gulf countries, governments have had to issue debt on global bond markets to finance their deficits, which have widened following the 2014-2015 fall in oil prices. Emerging borrowers have benefited largely from the global environment of abundant liquidity and low US interest rates in the years that followed the 2008 crisis. Some countries, especially Turkey, Argentina, Chile, South Africa and Indonesia, posted the most deteriorated USD debt-to-GDP ratios at the end of the first quarter of 2018. This highlights their significant vulnerability to US monetary policy tightening and to the ongoing episode of depreciation of their currencies.
A sudden chill 5/18/2018
In recent years, emerging market issuers, in particular corporates, have raised huge amounts of USD debt, thereby increasing their sensitivity to an appreciation of the dollar. Rising US treasury yields, a sudden strengthening of the dollar and country-specific issues have triggered considerable portfolio outflows and a weakening of emerging currencies.
Weak links 5/14/2018
The IMF reports published in mid-April insist once again on the external financial vulnerability and indebtedness of the emerging and developing countries. The potential risks are highly focused on the low-income countries. But large emerging economies, Argentina, Egypt and South Africa also show many weaknesses...
Rebound in GDP growth in Malaysia 3/9/2018
In Q4-17, real GDP growth in Malaysia reached +5.8% y-o-y (+0.9% Q/Q) and was above expectations and long-term average. Economic activity was driven by the dynamism of households’ consumption due notably to the decline in inflationary pressures (+3.6% y-o-y in Q4-17).
A rebound in Mexico's GDP 2/2/2018
A rebound in Mexico’s GDP was expected in Q4 ’17, in the aftermath of the Q3 contraction mostly due to natural disasters. Preliminary figures for Q4 GDP growth have even surprised on the upside.

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