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In a note preceding the upcoming G20 meeting in St. Petersburg, the IMF warned that the Federal Reserve’s planned taper of its bond-buying program threatens to harm emerging market economies. This isn’t a total surprise: it’s been an ongoing concern. The problem from the perspective of the EM countries (including Turkey, Brazil, India, Malaysia, Indonesia, and China) is that low interest rates in the US have allowed emerging markets to borrow cheaply. Now, however, companies and governments that borrowed in dollars but bring in most of their revenue in local currency have a problem: their currencies have started to weaken.
Last week, China officially warned the Fed that a taper would have detrimental effects on emerging market economies. The OECD wrote in its economic outlook report that “financial market turbulence – partly triggered by discussion of a tapering of quantitative easing in the United States – has highlighted difficulties facing a number of other emerging economies, especially those with large current account deficits”.
Fed officials, meanwhile, don’t seem overly concerned with the woes of global markets. At Jackson Hole, Terrence Checki from the New York Fed said that, “as much as we may like to find it, there is no master stroke that will insulate countries from financial spillovers”. This reaction is “dangerously insouciant,” Ambrose Evans-Pritchard writes. “The bank has made a series of errors over the past six years, the result of a ‘closed macro-economy model’ that fails to take full account of global interactions”.
For what it’s worth, John Makin doesn’t think the taper will last long: “the Fed will have to reverse itself (again) and start talking about “un-tapering” or QE4 at its December meeting”, he says, citing slowing growth and a drop in the inflation rate.
However, the emerging markets problem is about much more than the taper. Cardiff Garcia, who comes out relatively positive on EMs, summarizes the various worries:
Among the various possible causes normally cited are the Fed’s talk of tapering; the unwinding of carry trades; Chinese rebalancing; the pass-through effects of this rebalancing on commodity-exporters (Australia, South Africa, various countries in South America); the end of the commodity super-cycle generally; the limits to growth in countries that procrastinated on necessary structural changes; continued sluggishness by developed-country consumers; and dwindling investor patience with widening current account and budget deficits.
These issues have Kenneth Rogoff concerned: “The fact that relatively moderate shocks have caused such profound trauma in emerging markets makes one wonder what problems a more dramatic shift would trigger”. — Shane Ferro
On to today’s links: