By Natalia Gurushina, Chief Economist, Emerging Markets Fixed Income
Disconnect between the market expectations and central banks’ messaging is not unique to DMs. Can EMFX strength save the day and open room for more easing?
Top Global Stories
The International Monetary Fund (IMF) Spring Meetings are upon us again. We’ll be on the ground next week – as usual – hoping to gain more insight into key global issues and country-specific developments. China’s rebound and hard landing in the U.S. are at the top of the list, contributing to the U.S.-Europe growth divergence story, and emerging markets (EM) relative growth performance vs. developed markets (DM). A stronger correlation of some EMs with China helped to shield EM assets from market turbulence in DM so far this year, but the uncertainty about the recovery’s timeline – especially as regards domestic demand’s ability to compensate for a potentially weaker external growth outlook – can affect performance going forward.
Market Expectations for EM Rates
A series of weaker than expected data points in the U.S. and concerns about tighter credit conditions are driving the market expectations of some kind of a recession in the coming months (Fed Funds Futures imply about 80bps of rate cuts this year – see chart below). Similar disconnect between central banks (more hawkish/cautious) messaging and the market’s more relaxed expectations can be seen in several EMs as well. Today’s surprising policy rate pause in India might be considered (by some) a signal that the market’s optimism is justified. The central bank’s communications did not strike us as particularly dovish – it looked more like a hawkish pause – but the anti-inflationary impact of a stronger currency might open more room for easing later this year.
Room for Rate Cuts In EM
Most LATAM currencies are also up against the U.S. Dollar, including the Chilean peso – buoyed by higher carry (thank you, proactive tightening) and better prospects for commodity prices. However, today’s inflation print in Chile pointed to offsetting factors that can easily delay rate cuts, despite on-going moderation in headline prices. A measure of annual inflation that excludes volatile items remained stuck just under 11%, reinforcing the central bank’s hawkish message and its new forecasts that show slower convergence to the inflation target. Stay tuned!
Chart at a Glance: Market’s U.S. Hard Landing Fears Are Back
Source: Bloomberg LP.
Originally published 06 April 2023.
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PMI – Purchasing Managers’ Index: economic indicators derived from monthly surveys of private sector companies. A reading above 50 indicates expansion, and a reading below 50 indicates contraction; ISM – Institute for Supply Management PMI: ISM releases an index based on more than 400 purchasing and supply managers surveys; both in the manufacturing and non-manufacturing industries; CPI – Consumer Price Index: an index of the variation in prices paid by typical consumers for retail goods and other items; PPI – Producer Price Index: a family of indexes that measures the average change in selling prices received by domestic producers of goods and services over time; PCE inflation – Personal Consumption Expenditures Price Index: one measure of U.S. inflation, tracking the change in prices of goods and services purchased by consumers throughout the economy; MSCI – Morgan Stanley Capital International: an American provider of equity, fixed income, hedge fund stock market indexes, and equity portfolio analysis tools; VIX – CBOE Volatility Index: an index created by the Chicago Board Options Exchange (CBOE), which shows the market’s expectation of 30-day volatility. It is constructed using the implied volatilities on S&P 500 index options.; GBI-EM – JP Morgan’s Government Bond Index – Emerging Markets: comprehensive emerging market debt benchmarks that track local currency bonds issued by Emerging market governments; EMBI – JP Morgan’s Emerging Market Bond Index: JP Morgan’s index of dollar-denominated sovereign bonds issued by a selection of emerging market countries; EMBIG – JP Morgan’s Emerging Market Bond Index Global: tracks total returns for traded external debt instruments in emerging markets.
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