Disinflation Jitters

24 January 2023

Read Time 2 MIN

EM disinflation is underway, but it is bumpy. What does it mean for EM central bank’s ability to exit their tightening cycles?

EM Inflation Surprises

Headline inflation peaked in all emerging markets (EM) regions – and we have a chart to show that this is indeed the case (see below). However, disinflation progress can be full of setbacks and anxieties. Take today’s “double punch” upside inflation surprises in Mexico and Brazil, for example. Mexico’s surprise looked more concerning, as it involved a sizable uptick in core prices. Until a few days ago, the market was pricing in only one remaining 25bps rate hike in Mexico. But if the underlying price pressures persist for longer, it would be very difficult for Mexico’s central bank to decouple from the U.S. Federal Reserve (Fed), which is expected to hike twice by a total of 50bps, or so.

Brazil Policy Rate and Politics

Brazil’s upside inflation surprise was due to just one big category (communications – which can be jumpy), so in theory, the central bank should feel more relaxed. However, political noise and policy uncertainty creates additional challenges, forcing the market to price in a “warning shot” rate hike sometime in the next 3-6 months. Many observers were concerned by a lack of focus in the latest policy initiatives/announcements in Brazil, which included restoring diplomatic relations with Venezuela and creating a common currency with Argentina. This is nice, but the bond market really wants to get a better understanding of the country’s fiscal and debt dynamics, as the budget deficit is expected to widen from 4.7% of GDP in 2022 to 7.8% of GDP this year.

EM Monetary Policy Stance

Brazil and Mexico are not the only EMs where central banks are better to remain “en garde” for now. Hungary’s 24.5% annual inflation is a scary sight, so the central bank’s hawkish statement (tight monetary conditions over a prolonged period) – together with the decision to raise the mandatory reserve requirements to 10% – was duly noted by the market (the Hungarian forint was the third best-performing currency so far this morning). Hungary is also the best-performing constituent (year-do-date, U.S. dollar unhedged) in the J.P. Morgan’s EM local bond index (GBI-EM). Stay tuned!

Chart at a Glance: Peak EM Inflation, But Uneven Disinflation Progress

Chart at a Glance: Peak EM Inflation, But Uneven Disinflation Progress

Source: VanEck Research; Bloomberg LP.


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