By Natalia Gurushina
Chief Economist, Emerging Markets Fixed Income
Natural Rates
The markets are getting increasingly accustomed to the prospect of a 25bps U.S. rate hike in May (90% implied probability as of this morning). Meanwhile, the IMF published an interesting report in which it argues that the current spike in real interest rates is likely to prove temporary, and interest rates are set to return to the pre-pandemic levels – once inflation is under control, of course. It is reassuring that the report also talks about alternative scenarios (see chart below), including the rising public debt, “green transition,” and de-globalization. Another important factor is emerging markets (EMs) ability – and willingness – to invest their surplus dollars into developed markets (DM) instruments. Many EMs already showed interest in high-quality EM instruments as potential reserve assets. EMs are also eager to accumulate reserve gold, and EMs’ domestic savings will be increasingly spent to finance the “green transition.”
Rate Cuts
Talking about lower rates, some EM central banks are getting antsy – despite various warnings about premature policy moves/communications. The Hungarian central bank tested the waters yesterday with comments about potential near-term easing, and the central bank of Uruguay surprised with a 25bps “proper” policy rate cut. Judging by the Hungarian forint’s reaction, the market is not yet ready to talk about policy easing in that part of the world, given that both core and headline inflation is still in their 20s. Uruguay’s move did not produce a lot of optimism either, even though the real policy rate is high, and both core and headline inflation are on their way down (and much lower than in Hungary). There are concerns that inflation expectations might prove stickier than expected, while mega-drought in neighboring Argentina poses obvious risks to food prices.
Disinflation
Most EMs are not yet ready to take the easing plunge. The Chilean central bank’s minutes sounded very hawkish, talking about upside surprises in both inflation and domestic demand and saying there are not enough signs that inflation is indeed converging to the target. Central banks in EM Asia might be better positioned to pause and eventually cut rates safely, as inflation generally peaked at much lower levels, and food prices are moderating at a faster pace. Malaysia’s central bank left the door open for another hike at its last meeting, but today’s downside inflation surprise (3.4% year-on-year in March) should reassure monetary authorities that the pause can be extended without jeopardizing the disinflation progress. Stay tuned!
Chart at a Glance: Future Interest Rates – Alternatives Matter
Source: International Monetary Fund.
Originally published by VanEck on April 20, 2023.
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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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