Natalia Gurushina, Chief Economist, Emerging Markets Fixed Income Strategy
June 30, 2020
China’s June activity gauges signal that the recovery has legs. South Africa’s upside growth surprise was anything but.
China’s latest activity gauges clearly show that the policy stimulus is bringing results. Both manufacturing and services PMIs (Purchasing Managers Indices) accelerated in June, exceeding expectations and staying in expansion zone. Production still leads the recovery, but domestic demand is catching up fast. Importantly, the new orders sub-index rose to 51.4, signaling that the recovery has legs. There are two issues, however. First, China’s small firms continue to stumble (PMI is in contraction zone), and this puts pressure on employment (also in contraction zone). One of the reasons is that the funding costs for smaller and privately-owned firms remain high despite the latest support measures and policy pledges. Second, external headwinds are still here, even though the new export orders contraction was less severe than in May (42.6).
South Africa’s real GDP dropped less than expected in Q1 2020 (-0.1% year-on-year), but this was not a positive surprise. The number shows that (a) the economy was already in contraction going into the COVID crisis, and (b) the long-term growth downtrend became even more pronounced (see chart below). The COVID crisis will make it look much worse in Q2 2020 (possibly in Q3 a well)—with no structural foundation in place to support growth beyond a temporary rebound. And this also means that the market will continue to question South Africa’s ability to reduce its surging debt ratios through higher growth. So, the chatter about an eventual debt crisis is unlikely to go away any time soon.
We’ve got another upside inflation surprise in emerging markets (EM) this morning—this time in Poland. Headline inflation accelerated to 3.3% year-on-year in June, with most commentators pointing to pent-up demand as the main culprit. We think this is a good explanation, but we will continue to keep an eye on unit costs—this factor is already pushing prices higher in some EM (such as Mexico).
Chart at a Glance: South Africa Growth – On A Slippery Slope
Source: Bloomberg LP
IMPORTANT DEFINITIONS & DISCLOSURES
PMI – Purchasing Managers’ Index: economic indicators derived from monthly surveys of private sector companies; 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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