EM Rates – Choose Wisely

Exiting EM Tightening Cycles

The market is gearing for another rate hike by the U.S. Federal Reserve (Fed) next week and more policy tightening in Europe. In the meantime, emerging markets (EM) central banks are moving in different directions. Many opt to stay on hold, despite successful disinflation, due to widespread concerns about sticky core prices and high inflation expectations. Factors like Brazil’s fiscal uncertainty (see chart below) and a potentially larger minimum wage increase can easily contribute to the latter.

EM Rate Cuts

Several EMs outside of China are testing the waters with inaugural rate cuts – Uruguay, Costa Rica and Hungary’s Lombard rate cut – betting on a combination of a very supportive base effect and weakening domestic activity. However, these attempts are generally met with skepticism by the market (=weaker currencies), because there are plenty of headline risks (Argentine mega-drought, OPEC’s production cuts, El Nino) and policy reversals can be costly (including credibility).

EM Rate Hikes

Finally, there are still some EM rate hikes in the pipeline. Of course, Argentina’s gargantuan +1000bps (!) move yesterday is a sign of desperation (as the underlying reasons for triple-digit inflation and other imbalances are still in place), but the consensus added a more reasonable 25bps “insurance” rate hike for Colombia in the wake of the cabinet reshuffle. The tightening cycle might also not be over in South Africa and Thailand. Thailand could be a victim of its own success, as demand-side price pressures might increase on the back of stronger tourist arrivals (including China) and faster GDP growth. Stay tuned!

Chart at a Glance: Brazil’s Fiscal Path – A Wrong Turn¹

Source: Bloomberg LP.

¹ Brazil's Public Primary Budget (BZPBPR Index) balance excludes debt servicing costs (payments of interest and amortizations of the public debt, as well as state and municipal loans).