Politics and growth are both key issues for Emerging Markets, where the overall news is positive – but with some notable exceptions.
Over the past few years, political risks in developed market economies have become a major focus of investors, overshadowing similar risks often associated with emerging market (EM) economies. In contrast, the EM risk environment has continued to improve, as rapid growth in the middle class has changed the structure of several key economies.
Consider Brazil, India Mexico and South Africa. The end of the 1990s saw private consumption, driven primarily by growth in household economic strength, which has generally overtaken government spending and exports as the main contributor to GDP.
Middle Class Consumption Continues to Grow
Chart courtesy of Brandywine Global. Source: Haver Analytics. Past performance is no guarantee of future results. This information is provided for illustrative purposes only and does not reflect the performance of an actual investment.
Of course, the picture isn’t entirely rosy. Aggregate wage growth in nominal terms has been tepid in those four countries over the past five years. And what improvement has taken place hasn’t benefited all economic strata. South Africa, for example, has an unemployment rate of 27% – a reality with strong influence on the continuing political turmoil in that country.
On the rise: Central bank equity holdings
The world’s central banks have increased their holdings of equities to more than $1 trillion, according to a recent report by independent research group OMFIF. That’s about 10% of total central bank reserves, according to the report, and a relatively small fraction of the total amount of outstanding equities worldwide of $77 trillion.
While that may seem surprising, remember that one of the key challenges of the world’s central banks is how to continue growing their reserves while managing the risks that come from over-concentrated holdings in bonds, and how to optimize investment returns on these reserve assets as a group while owned.
Of course, the irony is that the overconcentration in bonds and the temptation to reach for return both come in part from the collective actions of the central banks themselves – namely the global multi-year quantitative easing programs that driven interest rates, and yields on bonds, to record lows, and in some cases into negative territory.
On the slide: Turkey’s benchmark interest rate?
As the Turkish lira moves higher against the greenback after the country’s most recent rate crisis in early May this year, the country’s central bank faces the surprising prospect of cutting its benchmark rate, now at 24%, to stimulate growth – after lobbying hard (and successfully) to keep the rate elevated.
The room for maneuver is provided by financial markets, which are currently pricing one-year swaps on the currency at about 23% -- a percentage point lower than the bank is currently offering. This suggests traders in this illiquid part of the market believe they will receive only the lower of the two rates a year from now, A second interpretation: if the central bank actually lowers rates at the meeting on Wednesday June 13th, the position might be solidly in the money right away.
All data Source: Bloomberg, as of June 11, 2019, unless otherwise noted.
OMFIF, the Official Monetary and Financial Institutions Forum, an independent think tank for central banking, economic policy and public investment. With offices in London and Singapore, OMFIF focuses on global policy and investment themes relating to central banks, sovereign funds, pension funds, regulators and treasuries. Global Public Investors with investable assets of $33.8tn are at the heart of this network.
Emerging markets (EM) are nations with social or business activity in the process of rapid growth and industrialization. These nations are sometimes also referred to as developing or less developed countries.
Gross Domestic Product ("GDP") is an economic statistic which measures the market value of all final goods and services produced within a country in a given period of time.