Investors often clump emerging markets together, but they are a diverse assortment of economies that have responded in a variety of ways to the Covid-19 crisis, often showing more resilience than developed economies. South Africa falls in the middle of the pack, and sometimes we need to step back and compare ourselves with our emerging-market peers for a better perspective on how we are faring.
In a presentation for the Morningstar Investment Conference earlier this month, Alistair MacDonald, senior vice-president and institutional portfolio manager at global investment firm Franklin Templeton, made a positive case for emerging markets post-Covid-19.
He said that although the pandemic had devastated all markets, the focus has shifted to how economies will recover, and what steps governments should take to stimulate growth. And in this respect, emerging-market economies are, in many ways, better positioned than developed economies.
MacDonald said there is a noticeable difference in the fiscal and monetary policies being pursued by the governments of developed markets and those of emerging markets.
“Emerging markets, perhaps through greater experience of serious crises in the past, have actually been far more orthodox in their policymaking. We have seen a far greater reliance on interest rate cuts as a means of stimulating growth. By contrast, in the West we have seen massive fiscal stimulus (increased government spending and borrowing).”
MacDonald said we have yet to see how this fiscal experiment will play out. “We don’t know how fiscal spending is going to be paid for: the future tax rises required, potential debt monetisation, implications for inflation and the currencies of those countries. In comparison, if we look at the emerging markets, there is a greater degree, at least in some cases, of ammunition for future stimulus, should it be required.”
He said that when one considers government debt relative to gross domestic product (GDP) - a fair indicator of a country’s debt burden - emerging markets have lower debt than their developed counterparts.
In 2019, government debt to GDP in Japan was about 230%; in the US it was about 110% and in the UK it was about 80%. Of the emerging markets, Brazil was high, at about 85%, but others were relatively lower: India about 65%, South Africa about 60%, and China about 55%, while Thailand, South Korea and Russia were below 50%.
“The countries with higher debt are developed markets, which, ironically, have been spending the most. You can imagine that by the end of 2020 these figures will look very different,” MacDonald said.
“South Africa’s debt-to-GDP ratio of 60% seems like a reasonable level of debt, certainly when compared with the likes of Japan. But, of course what is of equal importance is the trajectory of that debt.”
Here, the picture is gloomy: at about -7% in 2019, our budget deficit (the difference between what the government receives in revenue and what it spends) is worse than our peers. This year, GDP is projected to be about -8%, which means both the budget deficit (government will be bringing in less revenue) and the debt-to-GDP ratio will skyrocket.
Another factor when considering the resilience of emerging markets is the diversification of their economies. “The stereotype of an emerging market is one with a major dependence on exports to wealthy nations to drive its growth. What we’ve seen is a shift towards a far greater dependence on domestic consumption,” MacDonald said.
China is a prime example, where in 2019 90% of the revenue of its biggest companies was generated domestically. At the other end of the spectrum, South Korea and Taiwan are still heavily reliant on exports, but each has an ace up its sleeve.
“South Korea and Taiwan are not exporting ‘cheap junk’, to crudely characterise the Asian exports of decades ago. These countries are well ahead of their Western peers in manufacturing semiconductors, mobile phones and a host of other high-value-add, world-class exports. Critically, these exports are in demand as a result of Covid-19.”
South Africa has a relatively balanced economy, with domestic demand roughly balancing exports. “The catch here, however, is that the nature of the exports is far more commodity-orientated, although in the current cycle this is proving to be quite beneficial, with an increased demand for precious metals,” MacDonald said.
Another shift, which emerging markets are positioned well to capitalise on, is from the “old” economy based on traditional materials and industries to the “new” economy, which is geared to new technologies. This is particularly evident in Asia.
MacDonald said Asian tech companies are outpacing their Western counterparts. Companies such as Samsung in South Korea are not just “good” emerging-market companies; in various product areas such as semiconductors they are “the best companies in the world, far ahead of any American, Japanese or other competitors”.
Unfortunately, in many respects, South Africa appears to be going in the other direction. Corporate debt, while comparatively low, is rising. More concerning is uncurbed government spending, rocketing government debt and the increasing level of tax needed to service it.
“Despite these headwinds, South Africa can use the Covid-19 crisis to implement reforms and get the country back to a strong growth trajectory. In recent years, Brazil managed to implement reforms, address corruption and reduce the country’s debt growth, which could point the way for South Africa,” MacDonald said.
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