Eco Emerging

From one shock to another

07/08/2022
PDF

Emerging countries have recently faced a series of unexpected and severe shocks that will significantly dampen their economic performance in 2022. Global inflation has increased due to rising commodity prices and world supply disruptions resulting from the conflict in Ukraine. The lockdowns in China’s industrial regions during the spring have aggravated supply problems and further worsened the global economic outlook. Moreover, monetary policies have tightened in most countries, while external financing conditions have also deteriorated due to the weakening in global investor sentiment and US monetary policy tightening. Emerging markets have already faced a bout of large capital outflows since the beginning of the year. In this context, the emerging borrowers most exposed to potential payment difficulties include speculative-grade sovereign entities in countries currently posting both weak public finances and widening current account imbalances. They are not so many facing this situation.

Multiple headwinds on economic growth

Over the past four months, Emerging Markets (EMs) have faced a new series of severe shocks, which were not predicted at the start of the year. First, global demand and world supply chains have been hit by two major and very different blows, including the war in Ukraine since late February and stringent lockdowns that disrupted activity in industrial regions in China from March to May.

Moreover, global inflation pressures have increased rapidly, driven by supply disruptions and soaring prices of energy and agricultural commodities, which were already high and increasing before the war. In turn, most central banks have started to tighten monetary policies in spite of the deterioration of the economic growth outlook. Finally, fast tightening in US monetary policy and weaker market sentiment have led to the deterioration of external financial conditions for EM borrowers and to significant foreign portfolio investment outflows.

As a result, economic growth in EMs will be slower than expected in 2022. One of the main downward real GDP growth revisions recently has affected our forecast of China’s economic growth. As a matter of fact, China’s economic activity slowed in Q1 2022, probably contracted in Q2 2022, and should recover only gradually in the short term. Moreover, downside risks remain high. In particular, the health situation remains uncertain and the authorities maintain a tough COVID strategy; private consumption will struggle to recover because of the slack in the labour market; and the contraction continues in the real estate sector.

China’s economic policy mix is increasingly expansionary, with the authorities implementing gradual and targeted support measures rather than a vast stimulus plan. Monetary policy and credit conditions have been eased gradually since Q4 2021, but the effectiveness of monetary policy easing on economic activity has been impaired by weak credit demand.

Tightening in external financial conditions

The impact of recent foreign portfolio investment outflows on EMs’ external liquidity is not yet a matter of concern, even if central banks’ forex reserves have weakened in most EMs (notably Turkey), including in many commodity exporters. The impact on exchange rates and borrowing costs is significant as well, but less negative than expected, given the magnitude

of the reversal in portfolio inflows in light of past experiences. Regarding the impact on external borrowing costs, the shock has reinforced the dichotomy between investment-grade and speculative-grade sovereign borrowers. As for domestic borrowing costs, the picture is much less binary and more reassuring to some extent as, except for a few countries, real government bond yields are unchanged or even lower now than at end-2019.

For investment-grade sovereign borrowers, the real interest rate on debt will remain below the real GDP growth expected in 2022. The debt burden may therefore ease despite the rise in the debt-to-GDP ratio. By contrast, for countries whose public finances were already structurally fragile before the COVID-19 crisis and for which the current account deficit will worsen as a result of the rise in commodity prices, the cost of external financing has reached a dissuasive, or even prohibitive, level.

The refinancing of external debt will necessarily require the support of international financial institutions or official bilateral creditors in order to avoid a sovereign default. Among the main emerging and developing countries, Tunisia and Pakistan are currently in this dire situation. Countries that will only have to bear a heavier debt burden include South Africa and Brazil. Egypt is between these two categories.

The COVID-19 crisis has not entailed a major surge in debt of the non-financial private sector, contrary to public debt. The strongest rise in corporate and/or household debt has been registered in countries posting a high level of development and/or good macroeconomic fundamentals. Regarding foreign-currency indebtedness, corporates’ external debt has actually decreased, or increased marginally for a large number of EMs since end-2019. However, tensions on exchange rates and interest rates may weaken corporates’ capacity to support higher indebtedness.

THE ECONOMISTS WHO PARTICIPATED IN THIS ARTICLE

Other articles from the same publication

China
A difficult spring time

A difficult spring time

Economic activity contracted in April and May 2022 as a result of severe mobility restrictions imposed in industrial regions such as Shanghai. Since late May, these restrictions have been gradually lifted, and activity has begun to bounce back [...]

Read the article
India
Change of policy mix

Change of policy mix

At the end of the 2021/2022 fiscal year, India’s real GDP exceeded its pre-crisis level, and economic activity indicators were positive in April and May 2022. Activity has been supported by a recovery in domestic demand and dynamic exports [...]

Read the article
South Korea
Positive overall

Positive overall

Korea’s solid macroeconomic fundamentals have made it one of the countries that has best withstood the COVID-19 pandemic. Economic growth prospects remain relatively positive [...]

Read the article
Taiwan
Robust

Robust

The Taiwanese economy has been very resilient to the multiple external shocks of the past two years. The export sector has benefited greatly from the rise in global demand for high-tech goods [...]

Read the article
Türkiye
On the razor’s edge

On the razor’s edge

The economic situation in Turkey offers striking contrasts between (i) sustained growth until Q1 2022 and stubbornly huge inflation, (ii) much greater confidence among companies than among households, (iii) a primary budget surplus and a deteriorating current account deficit due to the surge in the price of energy, and (iv) domestic borrowing conditions for the State at an unprecedented negative real rate despite massive outflows from portfolio investments. Economic policy still combines a deliberately accommodative monetary policy and a competitive exchange rate to stimulate investment, exports and import substitution. The government will now use fiscal leverage to mitigate the economic cost of inflation and is multiplying ad hoc measures to stabilise, unsuccessfully so far, foreign exchange reserves. [...]

Read the article
Hungary
Gearing towards budget consolidation

Gearing towards budget consolidation

Economic growth remained very dynamic until the first quarter of this year. Strong wages growth and significant government measures to back up purchasing power over this period have supported consumer spending [...]

Read the article
Czech Republic
Weak consumption

Weak consumption

The last two quarters have been marked by slower growth in economic activity. This is mainly attributed to weaker levels of consumer spending [...]

Read the article
Brazil
A difficult calibration of the policy mix

A difficult calibration of the policy mix

Economic activity held up well in the first half of the year, but a slowdown in GDP growth is coming and expected to intensify over the second semester. The recovery of the labour market continues [...]

Read the article
Peru
From one political crisis to another

From one political crisis to another

Peruvian GDP returned to its pre-crisis level thanks to the strong upturn in activity recorded in 2021. However, the country’s capacity to rebound further is limited and short-to-medium-term growth prospects are moderate [...]

Read the article
Saudi Arabia
Fiscal reform is ongoing

Fiscal reform is ongoing

The economic recovery should be sustained in 2022 due to the sharp increase in hydrocarbon production following the OPEC+ agreements and due to stronger growth in household consumption [...]

Read the article
Angola
Persistent vulnerabilities

Persistent vulnerabilities

Following five consecutive years of recession, Angola’s economic outlook is brightening: the country should return to growth, expected to be +3% in 2022, benefiting from a favourable economic situation marked by the upward trajectory of the oil price and a resumption of national production of hydrocarbons.  The resulting increase in budget revenues and exports should support the kwanza. This dynamic is helping to ease the pressures on the country’s external financing needs and debt sustainability, which has improved thanks to the reprofiling agreement concluded with China in early 2021. Nevertheless, the Angolan economy remains prone to significant vulnerabilities. The authorities should pursue reform efforts by taking advantage of the current situation in order to reduce the country’s economic dependence on the oil cycle. [...]

Read the article
Nigeria
Mixed prospects

Mixed prospects

The Nigerian economy is experiencing mixed fortunes. Its low level of oil production does not allow it to benefit fully from the rise in oil prices [...]

Read the article