The world’s investors are still quaking about a feared emerging markets meltdown.
In a recent survey by Dutch fund manager NN Investment Partners, a third of the institutional investors queried said a financial crisis in the emerging world was the biggest risk they faced. The fear seems justified. China’s topsy-turvy stock market and falling currency are roiling global markets. Brazil and Russia have entered deep recessions.
However, a financial crisis is less likely than headlines and global market turmoil suggest and most developing countries are in sounder shape than they might seem.
Pace of debt accumulation
Pundits warn of a debt explosion in the emerging world. Yet by historical standards, the build up in most countries has not been dramatic. In a 2015 study, Neil Shearing, the chief emerging markets economist at Capital Economics, analysed previous crises and found “problems tend to emerge after a rapid expansion of debt, rather than when debt passes a specific threshold.” He advises watching the pace at which debt grows, rather than its size.
And in recent years, most emerging economies have not added enough debt, relative to their size, to justify the most bearish warnings. Over the past decade, Malaysia’s ratio of private debt to its gross domestic product (GDP) has risen by 18.5 percentage points, India’s by 17 and South Africa’s by 11. By comparison, before the 1997 financial crisis, that ratio had surged by nearly 100 percentage points in Thailand and well above 50 in Malaysia.
Many developing economies are much better prepared for external shocks. In many key emerging markets, most of the new debt is denominated in local currency; that makes them less vulnerable to weakening currencies and capital outflows. Foreign exchange reserves have also been beefed up substantially. According to World Bank data, Indonesia had accumulated $112 billion (R1.87 trillion) in reserves by the end of 2014 – nearly six times higher than in 1996, before the Asian financial crisis. In India, reserves stood at only $5.6bn in 1990; by 2014 they were $325bn.
Of course, predicting crises is a risky business. A handful of important countries have become much shakier, most notably China, which has witnessed by far the biggest explosion of debt among major emerging economies. Its private sector debt leapt 80 percentage points to over 200 percent of GDP in the past decade. Turkey, Brazil and Russia are possible flash points as well. There is always a chance that a blowup in one country could spread throughout emerging markets.
Still, emerging economies have proven remarkably resilient over the past three years. Concerns over the impact of Federal Reserve tightening have led to a stampede of capital out of emerging markets since mid-2013. In the last quarter, outflows hit an all-time record of $270bn – larger than during the depths of the 2008 financial crisis. Currencies across emerging markets have tanked as a result. Yet despite these stresses, no major emerging economy has tumbled into a full-blown crisis.
What is going on in the developing world is not a financial crisis, but a growth crisis. The International Monetary Fund forecasts emerging economies will expand only 4.3 percent this year, well below the 8.2 percent of 2006.
The struggles of emerging markets may not provide the world’s next big crisis, but they are one of its biggest problems.
BLOOMBERG