EM Rates - Expect the Unexpected

Monetary Policy Pivots

It’s never a dull moment in emerging markets (EM). You spend the morning lovingly drafting your daily comment, with the sanguine opening line “A restrictive policy stance is the best way to bring inflation down and keep expectations anchored. This is a key takeaway from yesterday’s U.S. Federal Reserve minutes”. And the next moment you nearly choke on your morning espresso because the Bloomberg screen flashes a 100bps rate CUT in Turkey. Think for a second - Turkey’s headline inflation is nearing 80% year-on-year (see chart below), and producer prices were up by 144.61% year-on-year (!!!). The policy rate goes from the already fundamentally inadequate 14% to 13%.

EM Growth Outlook and Policy Rates

Turkey’s rate cut definitely looks weird against the backdrop of very high inflation, but also June’s regulations to slow credit growth. And persistently high inflation is not conducive to growth - just ask Turkey’s fellow “rotten apple”, Argentina. However, Turkey’s move draws attention to the fact that EM central banks started to pay more attention to the weakening growth outlook (growth “cliff”). Will, for example, the Czech or Polish National Banks be tempted to cut rates due to multiplying growth headwinds? The Czech central bank had already surprised with a pause earlier this month. And the latest manufacturing PMI looked unequivocally bad (down to 46.8). Poland’s Q2 GDP was much weaker than expected (-2.3% quarter-on-quarter), the manufacturing PMI looked even worse than Czech’s (42.1), and the consumer confidence index took another plunge in August. Local bonds might not like it, but the probability of a rate cut in Central Europe might no longer be zero.

EM Tightening Cycles

Luckily, not all EMs are turning prematurely dovish. The end of the tightening cycle in Brazil is definitely justified (early aggressive hikes, peak inflation). The Philippines hiked more than expected today, raising the standing overnight deposit facility by 50bps instead of expected 37.5bps - in addition to a 50bps increase in the overnight borrowing rate. The communication suggests that the central bank is not yet done tightening. So, stay tuned!

Chart at a Glance

Source: Bloomberg LP