econintersect.com
       
  

FREE NEWSLETTER: Econintersect sends a nightly newsletter highlighting news events of the day, and providing a summary of new articles posted on the website. Econintersect will not sell or pass your email address to others per our privacy policy. You can cancel this subscription at any time by selecting the unsubscribing link in the footer of each email.



posted on 27 January 2016

Emerging Markets Fear Yellen, But Need To Keep Their Eye On Draghi

by Benn Steil

--this post co-authored with Emma Smith

Mr. Steil is director of international economics at the Council on Foreign Relations. Ms. Smith is an analyst at the Council.

In anticipation of the U.S. Federal Reserve's first rate hike in nearly a decade, $500 billion in capital outflows slammed emerging markets (EMs) last year - a slow-motion version of the 2013 "taper tantrum," when the Fed signaled that the era of quantitative easing was coming to an end. IMF Managing Director Christine Lagarde has warned of a deeper and more disorderly downturn going forward if the pace of Fed tightening is more aggressive than markets are discounting.

Many of those EMs hit in 2013 remain in the crosshairs today, owing to sizable current account deficits and large sovereign or corporate dollar-denominated debt. Brazil, Russia, South Africa and Turkey look particularly vulnerable, caught between the rock of a faltering economy and the hard place of surging imported inflation.

Yet global monetary conditions today are actually more favorable for them than they were three years ago.

With the Fed's rate hike on December 16, monetary policies in the developed world are entering a period of unprecedented divergence. While the United States tightens, the euro zone and Japan are set to continue pumping out massive amounts of new central bank liquidity through their own quantitative easing operations. This is creating unique conditions in global financial markets.

Playing the role of the Fed

As shown in the figure below, the European Central Bank (ECB) and Bank of Japan (BoJ) are effectively playing the role the Fed played three years ago with their large-scale asset purchase programs. In 2013, the Fed poured $1.1 trillion of new liquidity into financial markets, much of which made its way abroad. In 2015, the ECB and BoJ pumped in $1.1 trillion, and are set to pump in at least another $1.5 trillion in 2016. These euros and yen are at least as likely as the Fed's dollars to find their way to emerging markets.

Screen Shot 2016-01-21 at 11.58.12 AM

As new issuance of government debt is smaller in the euro zone and Japan than in the U.S., the ECB and BoJ have to purchase a larger amount of secondary market assets from private investors in order to meet their target quantity of purchases. Those investors will be looking for places to park their money and they will be no less likely than those displaced by Fed asset purchases to invest in emerging markets.

The flow to foreign assets

To see this, consider their investment options. One is domestic non-government bond or equity markets. In fact, these are smaller in the euro zone and Japan than in the U.S., which suggests less scope to reallocate to such markets. For one (large) class of investors - banks - there is also the option to increase lending to households and businesses. But the economic outlook remains weak in Europe and Japan, and weaker than in the U.S. at the time of the Fed's QE3, suggesting fewer attractive opportunities to expand lending. If domestic markets and bank lending are likely to absorb less of the new liquidity than in the U.S., then a greater proportion of the money displaced by ECB and BoJ purchases will flow to foreign assets.

In short, a tightening of U.S. monetary policy does not mean a tightening of global liquidity. That's the good news for emerging markets.

Shifting towards euro financing

The worrying news is that the rising cost of dollar financing has been pushing EM sovereigns and corporates towards a new and riskier form of foreign-currency financing. Since early 2014, the dollar has appreciated by 24% on a trade-weighted basis while the euro has depreciated by 12%. Diverging dollar-euro interest and exchange rates have encouraged EMs to shift out of dollar debt and into euro debt. A fall in outstanding dollar-denominated debt of roughly $40 billion over this period has been nearly offset by a rise in borrowing in other currencies - mostly euros. We expect the recent Fed rate rise to accelerate the shift towards euro financing in 2016.

Since EMs conduct the bulk of their trade in dollars, this shift increases currency mismatch between their financing and receivables. They are essentially speculating on a falling euro. Should it instead recover, they will be walloped by higher debt-financing costs. The greatest risk to EM financial stability this year may not be a hawkish Fed but a disappointingly dovish ECB.

This article appeared at Forbes, 22 January 2016.

Mr. Steil is the author of The Battle of Bretton Woods.


Also at Forbes:

>>>>> Scroll down to view and make comments <<<<<<

Click here for Historical Opinion Post Listing










Make a Comment

Econintersect wants your comments, data and opinion on the articles posted.  As the internet is a "war zone" of trolls, hackers and spammers - Econintersect must balance its defences against ease of commenting.  We have joined with Livefyre to manage our comment streams.

To comment, using Livefyre just click the "Sign In" button at the top-left corner of the comment box below. You can create a commenting account using your favorite social network such as Twitter, Facebook, Google+, LinkedIn or Open ID - or open a Livefyre account using your email address.



You can also comment using Facebook directly using he comment block below.





Econintersect Opinion


search_box

Print this page or create a PDF file of this page
Print Friendly and PDF


The growing use of ad blocking software is creating a shortfall in covering our fixed expenses. Please consider a donation to Econintersect to allow continuing output of quality and balanced financial and economic news and analysis.


Take a look at what is going on inside of Econintersect.com
Main Home
Analysis Blog
The Theory of the Monetary Circuit: A Critique
The Expected Effects of Petitions to Improve the Monetary System
News Blog
Trust In Mass Media Erodes
Shimon Peres Was An Israeli Nationalist First And A Peacemaker Second
Guessing Game: Valuations Of Trump's Fortune
What We Read Today 29 September 2016
This Mushroom Starts Killing You Before You Even Realize It
August 2016 Median Household Income Has Declined From The Beginning Of The Year
August 2016 Pending Home Sales Index Declines?
24 September 2016 Initial Unemployment Claims: Rolling Averages Continue to Improve.
Third Estimate 2Q2016 GDP Revised Upward. Corporate Profits Down.
The Terrorist Networks At Our Fingertips
Infographic Of The Day: Dubai Interesting Statistics And Facts
Early Headlines: Asia Stocks Up, Oil Surges, OPEC Cuts Production, Student Loan Woes Mount, Trump Still Close, Aleppo Hospitals Bombed, Huge Wind Storm In Oz And More
The World's Most Sustainable Cities
Investing Blog
Investing.com Technical Summary 29 September 2016
Will Deutsche Bank Survive?
Opinion Blog
First: 'Over-Population End-of Times' Now: 'Shrinking Population Disaster'
The Federal Reserve Note
Precious Metals Blog
War On Cash Turns To $20, $50, And $100 Bills
Live Markets
29Sep2016 Market Close: Wall Street Bracing For Major Turn Down If German Bank Fails, Crude Prices Rise Towards 50 Handle And US Dollar Showing New Strength
Amazon Books & More






.... and keep up with economic news using our dynamic economic newspapers with the largest international coverage on the internet
Asia / Pacific
Europe
Middle East / Africa
Americas
USA Government



Crowdfunding ....






























 navigate econintersect.com

Blogs

Analysis Blog
News Blog
Investing Blog
Opinion Blog
Precious Metals Blog
Markets Blog
Video of the Day
Weather

Newspapers

Asia / Pacific
Europe
Middle East / Africa
Americas
USA Government
     

RSS Feeds / Social Media

Combined Econintersect Feed
Google+
Facebook
Twitter
Digg

Free Newsletter

Marketplace - Books & More

Economic Forecast

Content Contribution

Contact

About

  Top Economics Site

Investing.com Contributor TalkMarkets Contributor Finance Blogs Free PageRank Checker Active Search Results Google+

This Web Page by Steven Hansen ---- Copyright 2010 - 2016 Econintersect LLC - all rights reserved