Global Update: June 2020

This post is adapted from some of my June 2020 presentations on the global outlook, the impact of Covid19 and some US election related policy risks.

EM are facing some of the same challenges as DM – major demand shock at home and abroad due to lockdowns, with consumption lagging than production. Many struggle due to the energy and commodity shock. Increased health care and other spending is met with significant revenue drops. The impact varies a lot across countries – those with high reliance on fuel revenues, export revenues and have solvency issues more exposed. Some supply chains especially Asian manufacturing chain have been relatively resilient. 

Expect to see grreater involvement of government in economy, both in recovery and likely going forward – consolidation seen in Turkey, GCC, China. Expect to see more subsidies etc

There have been major liquidity issues, though some have eased, especially for stronger credits who have regained market access. . Capital outflow (faster sharper outflow than in 2008), economic contraction at sharper deeper pace than in 2008, while local balance sheets are weaker. At least fiscal ones that is, and weaker growth going into the crisis. Since then, capital flows have returned to some/many EM especially the more liquid ones and IG who have been able to issue debt especially in April and May. The economic challenge and solvency challenge is still with us.

Emerging markets face less FDI, lower remittances, especially for those places which send labor to US, GCC and Russia which are the largest sending countries for remittances. With remittances now higher than FDI as a capital source for EM in 2018 and 2019 this is a particular challenge for EM like Mexico, Bolivia as well as South Asia, Philippines and Central Asia. These may lag as sectors like household labor and construction may lag. 

EM have been pushing the boundaries on policy space – with over 12 countries engaging in QE, rolling out sizeable fiscal packages and credit measures.  They also benefit from the available lqiidity from Fed – Many remain concerned about how much stimulus market will allow – some of those trends are self-inflicted. 

But financial challenge remains – IG countries can issue debt, but fiscal gaps are opening and will grow larger in 2021 as growth struggles, and the interest in USD issuance to keep investors raises FX risk at a time currencies are used as a buffer. There is still much more that could be done at IMF and multilateral development banks. Over 100 countries asked for liquidity support around 60 have received. These funds have been somewhat slow, modest and a bit late and not covering larger countries who may be too big to help. Open question whether China and bilateral creditors will move beyond debt service trends. 

Country/regional divergence is extensive. Latin America will continue to lag behind, extending several years of underperformance. While Eastern Europe and Asia will likely outperform. Fiscal positions across EM are weaker than in 2008, as weaker growth hit revenues and in many cases contingent liabilities have risen – Mexico and South Africa standout, tho Brazil and others do also. lthough in many cases external balances and inflation have become more manageable – Turkey remains one of the rare exceptions. . 

In the Middle East – biggest challenge has been drop in energy revenue and the coincidence of liquidity and the non-oil sector including travel, entertainment and in-person services. Those with greater assets, especially liquid have been more able to address the issues and bought time, but all balance sheets weaker. Most vulnerable countries are Iraq, Algeria, Libya (and oil exporters like Nigeria) which were already facing fiscal or solvency issues pre-crisis (ditto Egypt, Lebanon and to some extent Oman). It is near impossible to calculate debt sustainability in these times. Richer countries have more runway and ability to leverage assets, retain access to the credit markets and temper austerity. However, they also face real estate oversupply, greater competition in region and at home – and rising debt levels. The policy mix will extend the challenge to consumers and cause a strain in the implicit social contract. 

Combination of crises is reinforcing several trends in Middle East – increase in labor nationalization, efforts to diversify revenue streams via new fees especially on consumers and to a lesser extent companies, expand local investment. The challenge is that a) there is a lot of competition between GCC countries b) some of the sectors that dominate economic diversification are those that are vulnerable to the crisis – travel (business and leisure, retail) entertainment. 

In short, the biggest divergence is between countries countries with ample savings who can either draw on them or leverage them, and those who lack assets. So far little signs of renewed protest 

Many clients are asking about the possible policy risks around the US election and policy changes of a Biden Administration.

The policy mix depends not only on the presidency but also on congress – do the democrats manage to take back the Senate, as it looks like they will. If not rule by executive order will constrain what can be done. 

Its useful to think about what could change and what won’t change in US policy outlook

What won’t change: Tough policy on China, heavy use of economic statecraft including use of sanctions, export controls and likely significant CFIUS reviews.

Tariffs are unlikely to be lifted immediately given political pressure and desire for concessions. But the strategies and focus these policies support will change – or rather expect there to be more of a strategy on some key areas. 

What would change – approach to alliances (especially NATO allies and East Asia), as focus shifts to common cause to counter adversaries including China. However, there will be plenty of bilateral irritants including within North America and with Europe. climate change and energy policy where regulation would change – focus more likely to be additive and focus on renewable energy and tightening environmental regulations rather than outright banning of fracking or the US energy industry.

Approach towards Iran and other MENA allies – attempt at a new deal, possibly Venezuela, but it may be difficult to draw Iran back to the table until some form of sanctions relief can be achieved. With many elements of JCPOA set to sunset, rejoining would be more difficult.