Following the large outflow of global capital last year, Emerging Markets (EMs) are now starting to feel the economic pain. EM growth is slowing sharply, from Brazil to Indonesia, Russia and South Africa, partly reflecting the tightening of domestic policies last year to stabilize EM foreign exchange rates. This slowdown is impacting global export demand, thus affecting the recovery in advanced economies as well. Overall, the EM slowdown could jeopardize the global recovery, unless advanced economies pick up the slack.
Since the announcement by the US Federal Reserve (Fed) in May 2013 of its intention to taper its asset-purchasing program-the so-called Quantitative Easing (QE)-global capital flew out of EMs, forcing EM central banks to tighten domestic policies to stabilize their exchange rates (see our related Economic Commentary dated April 27, 2014). While the tightening has been relatively successful in reversing the capital outflow in some countries, the impact on EM growth is just starting to be felt.
The last few weeks have witnessed a series of disappointing EM data releases. Brazil’s Q1 real GDP growth rate slowed to 0.7% (quarter-on-quarter annualized), compared with 2.3% for 2013 as a whole. Indonesia’s Q1 growth rate declined to 3.5% (5.8% in 2013). South Africa’s Q1 GDP contracted 0.6%, compared with growth of 1.9% in 2013. The most dramatic fall was in Thailand with an annualized Q1 contraction of 8.2%, partly reflecting the current political instability. Against this trend, India saw a jump in Q1 GDP growth to an annualized 8.2%, partly due to a record USD5bn spending on elections, which added an estimated 2 percentage points to growth in the first quarter.
This generalized slowdown in EM growth is impacting global trade flows. EMs account for approximately 40% of all global trade activity and have been among the largest contributors to global export growth in recent years. The EM slowdown is therefore having an impact on global export growth. According to the World Trade Organization, the USD value of global exports grew by a mere 1.7% year-on-year in the first quarter of 2014, compared with 4.3% in Q4 2013. Most of this slowdown can be attributed to lower export demand from EMs. In turn, lower global export demand has contributed to lower Q1 real GDP growth in both the US (-1.0%) and the Euro area (0.2%).
Is the EM slowdown therefore jeopardizing the global recovery? The short answer is it could, unless advanced economies pick up the slack. So far, the EM slowdown has not yet resulted in a contraction in global trade as witnessed during the Great Recession of 2008-09. If advanced economies continue to recover and pick up the slack of the EM slowdown, the global economy should be able to maintain its growth momentum.
The performance of advanced economies critically depends on the normalization of US monetary policy. The Fed seems to be set on completing QE tapering in late 2014. If QE tapering results in weaker US growth, long-term US interest rates are likely to remain below 3%, thus pushing global capital out in search for higher returns in EMs. The result could be an uneven global recovery in favor of EMs, just like in the period 2010-13. On the other hand, if the US economy recovers as expected, long-term US interest rates are likely to go up, making EMs less attractive. In turn, this would imply a further EM slowdown, while advanced economies recover. This may make for a more balanced and sustainable global recovery as advanced economies account for a larger portion of global trade.
Overall, the global economy seems once again at a crossroads. With the EM slowdown, global trade is being affected, which in turn is having a negative impact on growth in advanced economies. If the normalization of US monetary policy results in a gradual recovery in the US, advanced economies should be able to make up the slack at the expense of a further EM slowdown. The latest growth data from the US, however, suggest a rather different scenario, which may indeed jeopardize the global recovery.
source: Qatar National Bank SAQ