RaboResearch - Economic Research

Impact of tapering on emerging markets

Economic Update


In this Economic Update, we take a closer look at the impact of the gradual slowing down of the rate of asset purchases by the US Federal Reserve (Fed) on the emerging markets. 

Tapering to affect large emerging markets

Since late May 2013, the financial markets have been anticipating tapering of the asset purchase programme by the US Federal Reserve, which resulted in a significant tightening of financial conditions in the emerging markets. While the Fed postponed the tapering in September, our Financial Markets Research team expects it to start in January 2014. The strong market reaction that took place even before tapering had started shows that the eventual withdrawal of exceptional monetary stimulus in the US could have strong repercussions for the emerging markets. When tapering actually begins, expect its consequences to affect not only Brazil and India (see both outlooks), but also traditionally volatile countries South Africa and Turkey, and – negative – surprise package Indonesia.

Figure 1: Impact of Fed announcements
Figure 1: Impact of Fed announcementsSource: Reuters EcoWin
Figure 2: Impact on stock market
Figure 2: Impact on stock marketSource: Reuters EcoWin 

Indonesia will intervene

Indonesia’s impressive growth over the past years had been backed by domestic demand, leading to a current account deficit in 2012, after reporting positive numbers since 1998. It was nevertheless surprising that the tapering announcement so negatively affected the country’s exchange rate. While there is no panic in the market, central bank action to stem the downfall has been ineffective so far. Both a rate hike and direct intervention in the market did not work. The economic fallout in growth terms has remained minimal, though. We still expect growth to continue on the back of domestic demand and remain above 5% for 2014. However, the depreciation of the currency is likely lead to renewed intervention by the central bank, which will reduce liquidity in the local market and thereby depress domestic demand. We may therefore see a reduction in growth in the second half of the year, although that in turn may prove to be beneficial for the current account.

Figure 3: Impact on BITSI bond yields
Figure 3: Impact on BITSI bond yieldsSource: Reuters EcoWin, Bloomberg
Figure 4: Impact on BITSI currencies
Figure 4: Impact on BITSI currenciesSource: Reuters EcoWin

South Africa and Turkey also vulnerable

Whenever there are troubles in Emerging Markets land, investors in South Africa look to the exit. In this instance, investor’s confidence in South Africa had already deteriorated by domestic issues. Also, large twin deficits, a relatively high reliance on short-term capital inflows and a low level of FX reserves placed South Africa in a poor position when the Fed first announced tapering. Given the pressure on the rand, the central bank maintained tight monetary policy to keep inflation in check. When tapering actually comes into effect, more action could be warranted. The tight monetary policy stance will affect domestic demand, hurting the backbone of South Africa´s growth performance (3.5% ten-year average), which may therefore remain in the doldrums at its current pace of only 2%.

Turkey shares most of the vulnerabilities to tapering with South Africa. It also has a high current account deficit (7.4% of GDP in 2012) combined with very low levels of FX reserves (2.2 months of imports). Also, it has become reliant on short-term capital flows to finance its current account deficit. Given rising pressure on the Turkish lira, the central bank has recently tightened its monetary policy. After the tapering announcement, Turkey’s economy slowed in 13Q3 on a quarterly basis, but remained robust at 4.4% on a y-o-y basis, since the reduced capital inflows in the summer did not seem to directly affect credit growth, the main growth driver in 13Q3 GDP. However, as the same external vulnerabilities are expected to persist, the actual start of tapering will increase capital flow volatility and if the credit boom weakens, Turkey’s economy could slow from the currently expected 4% growth in 2014 to around 3% as the Turkish consumer retrenches.

Overall, the danger of tapering being implemented too soon may cause a reversal of the emerging markets' good fortunes over the past decade. As the larger emerging markets, and regional powerhouses, may be negatively affected, so will the rest of the emerging world.

Ashwin Matabadal
Rabobank KEO
+31 30 21 62666
Alexandra Dumitru
RaboResearch Global Economics & Markets Rabobank KEO
+31 30 21 60441
Jeroen van IJzerloo
RaboResearch Netherlands Rabobank KEO

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