With Syria and Egypt dominating the headlines, an international crisis of a different kind is going largely unnoticed. In countries like Turkey, India, Indonesia and Brazil, currencies and stock markets are plunging in value, with governments desperately trying to control inflation and prevent capital flight.
But, hang on, aren’t these the fast-growing ‘emerging economies’ that are supposed to be compensating for the moribund West? Er, yes.
So, why the sudden crisis of confidence? In an eye-opener of an article for Project Syndicate, Stephen Roach pins the blame on trade imbalances:
- “According to the International Monetary Fund, India’s external deficit, for example, is likely to average 5% of GDP in 2012-2013, compared to 2.8% in 2008-2011. Similarly, Indonesia’s current-account deficit, at 3% of GDP in 2012-2013, represents an even sharper deterioration from surpluses that averaged 0.7% of GDP in 2008-2011. Comparable patterns are evident in Brazil, South Africa, and Turkey.”
Worried about how these imbalances are going to be financed, investors are pulling their money out, thereby exacerbating matters in the time-honoured fashion.
But as Stephen Roach explains, there’s more to it than that. While we in the West worry about the impact that quantitative easing (QE) might have on our economies, we’ve given very little thought to the impact it might have further afield – and, in particular, upon global flows of capital.
The original purpose of QE was to artificially reduce interest rates and ease the repayment of accumulated debts. The inevitable side effect was that some investors took their money elsewhere in the hope of a better return. And where better than those exciting emerging economies?
- “[This] provided a surplus of yield-seeking capital from investors in developed countries, thereby allowing emerging economies to remain on high-growth trajectories. IMF research puts emerging markets’ cumulative capital inflows at close to $4 trillion since the onset of QE in 2009. Enticed by the siren song of a shortcut to rapid economic growth, these inflows lulled emerging-market countries into believing that their imbalances were sustainable, enabling them to avoid the discipline needed to put their economies on more stable and viable paths.”
Now that western economies are showing signs of recovery, finance ministers and central bankers are making plans for the unwinding of QE. Again this is a very self-centred debate, in which the experts worry about getting the timing just right (exit from QE too soon and we could stall the recovery; exit too late and we could unleash inflation).
Meanwhile, the money markets are anticipating the fact that QE is on its way out – and are looking towards a QE-free future:
- “Never mind the Fed’s promises that any such moves will be glacial – that it is unlikely to trigger any meaningful increases in policy rates until 2014 or 2015. As the more than 1.1 percentage-point increase in 10-year Treasury yields over the past year indicates, markets have an uncanny knack for discounting glacial events in a short period of time.”
Thus much of the capital that flowed into the emerging economies is flowing back out again – returning home to the West where interest rates and investment yields can only move in one direction.
In terms of distorting capital flows, QE has worked in a remarkably similar way to the Eurozone – pushing easy money at unreformed economies and then yanking the prop away at the worst possible moment.