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Emerging Markets - Gimme Shelter

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Growth in emerging markets is slowing. This is concerning. Senior Economist Marcus Wright considers two questions. What are the problems in emerging market economies? Why does that matter to us?

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Emerging Markets - Gimme Shelter

  1. Marcus Wright RBS Economics November 2015 Emerging Markets: Gimme Shelter
  2. What’s this about? - Growth in emerging markets is slowing. This is concerning. We consider two key questions: 1. What are the problems in emerging market economies? 2. Why does that matter to us?
  3. Emerging markets matter more than ever 0 10 20 30 40 50 60 70 1994 1996 1998 2000 2002 2004 2006 2008 2011 2013 2015 Share of the Global Economy (%) Developed Economies Emerging Economies Emerging Asia Source: IMF 0% 10% 20% 30% 40% 50% 60% 70% 80% 1994 1996 1998 2000 2002 2004 2006 2008 2011 2013 2015 Contributionto Global GDP Growth Developed Economies Emerging Economies Emerging Asia Source: IMF • Emerging markets have accounted for 50%-60% of global output & 70% of global economic growth each year since the crisis. • They are much more important to the global economy compared with the late 1990s when the last EM crisis struck. • In other words, an EM slowdown can do a lot of damage to the outlook for global growth.
  4. Pass the credit parcel • While credit growth stagnated in developed economies following the crisis, it rebounded quickly in emerging markets. • But now slower EM credit growth and Eurozone deleveraging has left global credit growth in the doldrums. -5% 0% 5% 10% 15% 20% 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 Outstanding PrivateSectorCredittoDeveloped andMajor Emerging Economies (%Y/YChange) Source: BIS -10% 0% 10% 20% 30% 40% 2000 2002 2004 2006 2008 2010 2012 2014 Outstanding Private Sector Credit (% Y/Y Change) Developed Economies Emerging Economies Source: BIS
  5. Quelle surprise – China is the main culprit 0 5 10 15 20 25 China - Credit to Private Non-Financial Sector (Oustanding, $ Trillion) Source: BIS 0% 20% 40% 60% 80% 100% 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 Outstanding Credit to China'sprivate sector... As% of the US As% of global Source: BIS • Credit to China’s non- financial private sector has risen a staggering $15trn since the crisis – close to the size of the US economy. • China’s credit pile has risen from a mere 20% of the level of the US to 80% in just six years. • When credit rises that much so quickly, much of it inevitably gets wasted.
  6. A reckoning awaits China’s banking sector - 5 10 15 20 25 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 Liabilities of Chinese Corporates (Trillions of RMB) Transportation Manufacturing Mining, utilities Nonfin services Construction and real estate Source: IMF • It’s the corporate sector that has driven China’s debt increase. • Hong Kong’s build-up has been even greater, relative to the size of its economy. • China’s banking sector is likely to be sitting on non- performing loans in excess of official figures. • China can afford the clean- up but the debt overhang and banking sector repair will drag on growth. -40 -20 0 20 40 60 80 100 Corporate Sector Debt (% of GDP Change since Crisis) Source: BISNon-financial Corp Sector
  7. That debt is becoming more of a burden • Emerging economies have gorged on debt. Consequently, since the crisis, they are devoting more of their incomes to repaying it. • Developed countries by contrast are devoting less. 0% 10% 20% 30% 40% UK Rest of World US Japan France Australia Germany Netherlands Canada Spain Italy Sweden Banking Exposureto China and HK by Country (% of $1.5 trn global exposure) Source: BIS • Despite China’s relatively closed financial system, global banking exposure to China is $1.5trn. -10 -5 0 5 10 Den Spa UK Hun Por SA US Aus Fin Jap Ger Ita Kor Cze Pol Mex Swe Bel India Fra Indon Bra Neth Thai Mal Tur Rus HKSAR China DebtService Ratios - Change since 2008, Private Non-FinSector Source: BIS Mainly Developed Economies Mainly Emerging Economies
  8. A big score…off-shore 500 1,500 2,500 3,500 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 Emerging and Developing Economies - Debt Securities Outstanding ($ Bn) AtHome IncludingOffshore Borrowing Source: BIS China - Offshore Bonds by Industry Real Estate Finance Oil and Gas Utilityand Energy Computersand Electronics Metal and Steel Transportation Source: IMF • Offshore bond issuance results in the classic emerging market problem – currency mismatch on the balance sheet of EM firms. • A move toward tighter US monetary policy could expose these vulnerabilities. • Unsurprisingly, China is again the major player with real estate, finance and oil & gas the main sectors.
  9. The problems are more than debt alone • Having previously grown much faster than the pace of global GDP growth, world trade growth is now slower. • Emerging markets hoped for a strong rebound in export growth following the crisis but it never materialised. It’s not just due to the Eurozone. • China’s slowdown is transmitting across other emerging markets as reduced demand for their exports.-20% -10% 0% 10% 20% 30% 40% 2003 2005 2007 2009 2011 2013 2015 Export Volume (% Y/Y Change) Emerging Economies Emerging Asia Source: CPB Pre-crisis average: 10% Post-crisis average: 4% -15% -5% 5% 15% 1995 1997 1999 2001 2003 2005 2007 2009 2011 2013 2015 Global GDP Growth v Global Trade Growth (% Y/Y Change) Global Trade Growth Global GDP Growth
  10. Here comes the deflationary wind • Emerging markets pushed investment in productive capacity, housing & infrastructure in response to the global slowdown. • The global economy benefitted because developed economies pulled back. 70 80 90 100 110 120 2007 2008 2009 2010 2011 2012 2013 2014 2015 Investment as Share of GDP (2007 = 100) Developed Economies Euro Area Emerging Economies Source: IMF -4 6 16 26 36 China S. Korea Philippines Taiwan Singapore Malaysia Months in Producer Price Deflation (Overpast 36 months) Source: Macrobond • Too much investment. Too much capacity. Lots of price deflation. • That deflation gets exported to the developed world.
  11. Falling productivity, but room for reform 0.0 1.0 2.0 3.0 4.0 1970s 1980s 1990s Pre-Crisis 2011-2012 2013-2014 EM Labour Productivity per Person Employed(% Y/Y Change) Source: Conference Board • Emerging market productivity growth has slowed substantially. • It’s another sign that investment in many emerging markets, particularly China, has been targeted at the wrong areas. Capital has been misallocated. • And emerging markets, generally speaking, are relatively difficult places to do business. • They remain a long way behind the great emerging market success story – S.Korea. 40 50 60 70 80 90 Ease of Doing Business (Distance toFrontier of Best Practice, 100=best) Source: World Bank
  12. Less favourable demographics have arrived 30 40 50 60 70 80 90 1950 1960 1970 1980 1990 2000 2010 2020 2030 Population Dependency Ratio China India S.Korea Source: UNRatio of population aged 0-14 and 65+ per 100 aged 15-64 Forecast 40 50 60 70 80 90 1950 1960 1970 1980 1990 2000 2010 2020 2030 Population Dependency Ratio SelectedEmerging Economies DevelopedEconomies Ratio of population aged 0-14 and 65+ per 100 aged 15-64 Source: UN Forecast • China’s dependency ratio has started to rise (more dependents per working-age person). The change to the one-child policy may have come too late in the day. • South Korea’s is also beginning to rise. But South Korea is a much richer country. • A falling dependency ratio has thus far boosted growth. Those days are over for many emerging markets. • India remains in the midst of its ‘demographic dividend’.
  13. Consequences… • The issues facing emerging markets, are deep-rooted & unlikely to disappear soon. Consequently their drag on global growth, trade & inflation will likely persist. • In response, the US Fed & the Bank of England may have to keep interest rates lower for longer. The ECB and the Bank of Japan will likely expand their Quantitative Easing (Buying for longer).
  14. …and yet more consequences • All the while emerging markets will likely remain a source of financial vulnerability. Periodic bouts of financial stress like those seen in recent months should be considered the norm. • China’s policy response to its debt problems will be a crucial influence on the fortunes of the global economy in the coming years. Either it cleans up its banks and rebalances growth toward services and consumption (of which there is so far little or no evidence) or it doesn’t & risks heading into financial stress.
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