Friday, May 03
AM / Fitch Ratings
Easier global financial conditions since the start of the year should help stabilise growth in emerging markets (EM), according to the latest Chart of the Month by Fitch Ratings.
US dollar credit growth to EMs slowed rapidly over the course of last year as global central banks made progress with normalising policy settings and this played a key role in the deterioration of GDP growth dynamics in EM. The subsequent shift to a more accommodative approach by global central banks has eased dollar liquidity and should help EM demand stabilise later in 2019.
During 2018, central banks in developed economies made progress in normalising monetary policy through higher interest rates, an end to asset purchases and a reduction in the size of their balance sheets. Tighter monetary conditions in the US resulted in an appreciating US dollar, which in turn put severe pressure on EM currencies.
Tighter policy in the US meant not only an outflow of capital from EMs but also an increase in the cost of servicing their dollar debt with much weakened currencies. Countries that possessed a sizeable current account deficit, elevated inflation, a hefty external debt burden and heightened political uncertainty were hit particularly hard. The Argentine peso and the Turkish lira saw the most dramatic response. The fallout from currency volatility and tighter domestic monetary policies was a sharp decline in imports accompanied by weakening domestic demand in EMs.
A useful way to gauge the extent to which EMs were affected by the reduction in dollar liquidity is to look at Bank for International Settlements (BIS) data on US dollar credit extended to EMs. While this data is not timely (latest data point is 3Q18), its coverage is nevertheless comprehensive, providing a measure of total US dollar credit, both bank lending and debt securities, to non-bank borrowers in EMs.
The data includes dollar- denominated bank loans to non-banks (including non-bank financials) extended by both local banks (within the respective economy) and cross-border. For bonds it includes outstanding dollar obligations of resident non-bank borrowers. Combined, these elements provide an estimate of the total dollar credit to non-banks resident in the country. At the beginning of last year, US dollar credit to EM borrowers was growing at an annual rate of 8.5% but by 3Q it was 4.4%.
It is clear from the chart that periods of slowing total US dollar credit growth are a good lead indicator of a slowdown in EM import growth. Our non-weighted aggregate measure of EM imports includes countries whose currencies depreciated sharply in 2018, namely Argentina, Brazil, India, Indonesia, Russia, South Africa and Turkey.
But the start of this year brought relief to EMs. The Federal Reserve's change of messaging (along with more dovish signals from other central banks) has resulted in a reversal of last year's tightening in dollar financial conditions. This is illustrated by various daily measures of US financial conditions including the Chicago Fed and Goldman Sachs Financial Conditions indices. To the extent that this more recent easing in liquidity translates into a recovery in dollar credit growth this should help EM import and demand growth stabilise through the course of this year.