Emerging Markets Debt Daily
Solving EM Inflation Surprises MysteryNatalia Gurushina, Chief Economist, Emerging Markets Fixed Income StrategySeptember 14, 2021
The gap between inflation surprises in EM and DM looks unusually wide. What’s behind it and are EMs about to catch up?
The market’s focus today, of course, is on the U.S. inflation, which surprised slightly to the downside – possibly due to the Delta resurgence - we’ll see whether this argument holds after the next release. One important indicator to watch is the dispersion of U.S. inflation – specifically the fraction of items with price increases in the inflation basket. This fraction rose to 84.3% in June from 66.7% in December, so make sure to check the next update (from the San Francisco Federal Reserve). In the meantime, one thing that attracted our attention on the inflation front is an unusually wide gap between inflation surprises in emerging markets (EM) and developed markets (DM) (see chart below).
The first thing that comes to mind is that central banks in EMEA and LATAM had been tightening for several months now – the average policy rate went up by about 170bps since February in both regions – and this started to have an impact on prices (and surprises). The next important rate-setting decision will be in Brazil on September 22. The market and consensus expect a larger hike (115-125bps), but Governor Campos Neto’s latest remarks (about sticking to a longer-term plan of actions) suggest that the central bank might opt for 100bps instead.
It is also worth mentioning that the proliferation of orthodox (=more credible) monetary policies in EM after the global financial crisis of 2008 reduced the passthrough between FX and inflation in many countries. As a result, EM FX weakness is not adding to upside inflation surprises the way it used to do in the past. Finally, another possible explanation for the large discrepancy between EM and DM inflation surprises is that certain EM geographies continue to rely on lockdowns in order to control the virus outbreaks. However, the pace of daily vaccinations in EM is increasing, pointing to a stronger rebound in domestic demand (and a potential catch up with DM inflation surprises) later on. So, stay tuned!
Chart at a Glance: EM-DM Inflation Surprises Gap Is Unusually Wide
Source: Bloomberg LP
PMI – Purchasing Managers’ Index: economic indicators derived from monthly surveys of private sector companies. A reading above 50 indicates expansion, and a reading below 50 indicates contraction; 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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