If you invest, you may have noticed emerging market stocks have done badly lately. The MSCI emerging markets index, which performed so well in the early 2000s, has been almost unchanged since the global financial crisis. But since this spring, it has tanked.
Underperformance in emerging market shares has been accompanied by discouraging economic data. Brazil’s economy has been shrinking this year. So has Russia’s. Indonesia and Turkey have slowed. And China, grandfather of all emerging markets, is entering a sharp slowdown after its housing and stock market bubbles burst.
This is a dramatic reversal from the 2000s, when emerging markets grew so much the entire global income distribution became much more equal.
Media sentiment now is as pessimistic as it was optimistic then. Bill Emmott, the former editor of the Economist, recently proclaimed dysfunctional politics had crippled the emerging market growth story:
“The main determinants of an emerging economy’s ability actually to emerge, sustainably, are politics, policy and… governance… Although countries can ride waves of growth and exploit commodity cycles despite having dysfunctional political institutions, the real test comes when times turn less favourable…
“Unless emerging economies can ensure they remain flexible and adaptable, they will not continue to ‘emerge’. It’s the politics, stupid.”
This sounds intuitively appealing – after all, everyone believes that institutions determine the limits of catch-up growth. So when we see emerging markets slowing, the natural urge is to shrug and say these countries are too dysfunctional.
The problem is the story doesn’t hold up. The timing is too suspicious. Emerging market stocks flatlined right after the global financial crisis of 2008-2009. What are the chances that a whole bunch of countries, at very different income levels, suddenly hit the limits of their institutions all at the same time? Essentially nil.
Hit a roadblock
The same is true now. The culprit is obvious: China. China’s stupendous industrialisation in the 2000s – probably the most rapid the world has ever seen – raised global commodity prices, funnelling cash into the economies of resource exporters like Brazil, Russia, Indonesia, Africa and the Middle East. Now that the industrialisation has hit a roadblock, commodity prices have been falling, straining the economies of the resource exporters.
Almost everywhere throughout the developing world, the story is the same: China, China, China. Bric may have stood for Brazil, Russia, India and China, but it was always mostly about the “c”.
Much of the hand-wringing about emerging market governance, therefore, is misplaced. Of course, it’s always good to take advantage of periods of crisis to prod governments to reform their institutions for the better – as Winston Churchill said, we should “never let a good crisis go to waste”. But structural reforms are slow in coming, even in the best of cases, and they always take years to work.
Governance reform won’t fend off the China-driven slump. In the long run, the emerging market growth story seems strong. Now that Chinese costs are rising and growth is slowing, it opens opportunities for other developing countries to experience their own growth spurts.
This is the prediction of one of my favourite economic ideas, the new economic geography theory of Paul Krugman and Masahisa Fujita. In this model, global growth proceeds in fits and starts. Industrialisation spreads from country to country like a glorious epidemic, and each new growth star gets rich faster than the one before. If you look closely, I think you can see this pattern playing out in the world around us. In the 1980s, it was Japan and Europe driving global expansion. In the 1990s, it was the Asian “tiger” economies and China. In the 2000s, it was China, with India starting to make a contribution.
Who will pick up the mantle of industrialisation? My money is on India. Blessed with a large domestic market and vast human capital, it has weathered the China slowdown better than other emerging economies. If India begins to take off, just as China settles to earth, it will become the driver of a new boom among developing nations in the next two decades.
* Noah Smith is a Bloomberg columnist.
** The views expressed here do not necessarily reflect those of Independent Media.
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