EM Prices – The Mother of All Base Effects? | ETF Trends

By Natalia Gurushina, Chief Economist, Emerging Markets Fixed Income Strategy, Van Eck Associates Corporation

Recent inflation prints in EMEA and LATAM look alarming, but a very high base effect can pave the way for sharp disinflation in the second half of the year.

Emerging markets (EM) inflation remains firmly in focus as headline numbers in many countries are now 2-3 standard deviations above the multi-year averages – especially in EMEA and LATAM. You can see it clearly on today’s chart. The rapid pick-up in consumer prices – caused both by supply-side and demand-side factors – is threatening to destabilize longer-term inflation expectations, which is why most central banks in these two regions are busy frontloading rate hikes. Poland delivered the first hike of the year yesterday (+50bps), and Peru is expected to raise its policy rate by the same amount tomorrow.

Another important takeaway from the chart below is that a very high base effect (deep red hues) can pave the way for sharp EM disinflation in the second half of the year. Yes, this would be a “technical” driver – as opposed to more fundamental changes in domestic demand or supply dynamics, and it does not necessarily mean that inflation will drop to pre-COVID “normals”. Still, this should improve inflation optics, bringing headline inflation closer to central banks’ targets, and reducing the need to further aggressive tightening (=fewer growth headwinds).

Our usual qualifier is that EM is not a monolith – and EM Asia really stands out as regards the extent and the nature of inflation pressures/risks. A recent IMF blog drew attention to the fact that the delayed recovery; as well as, lower food and energy prices that were instrumental in capping Asian inflation in 2021. Today’s downside inflation surprises in the Philippines (easing to 3.6% year-on-year in December) and Thailand (easing to 2.17% year-on-year in December) seem to be in line with this argument. The IMF, however, warns that higher shipping costs can push regional inflation higher this year, demanding a more proactive response from central banks. So, stay tuned!

Chart at a Glance: Very High Base Effect Can Cause Sharp Disinflation in H2-2022

Chart at a Glance: Very High Base Effect Can Cause Sharp Disinflation in H2-2022

Source: VanEck Research; 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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