Taper tantrum II: just when you thought it was safe
The Fed is doing what it can to make its hawkish tilt gradual but circumstances may make a sharp tightening inevitable
The Federal Reserve will start cutting down its bond purchases from November. For those with memories of the deep and distant past (2013), that could seem a chilling concept.
The taper tantrum has become a part of bond market vocabulary, as a scenario central banks have to avoid at all costs.
And so far, they have done a good job. The Fed has told people its intentions well in advance and left itself with plenty of room to manoeuvre out of its extraordinary monetary policy in a gradual process calculated to minimise the alarm of market participants.
For the borrowers that suffered a lack of market access back then — that is to say, those in emerging markets — there are plenty of signs that they are better prepared for any such eventuality this time round.
Of course, higher rates will mean struggles for emerging markets with dollar debt, but with a sufficiently gradual process, the Fed hopes to keep market participants relaxed and investors willing to buy EM paper.
But events are running ahead of them. The debate over whether or not inflation is transitory has yet to be settled, but with energy prices running rampant, CPI prints are likely to make ugly reading in the months to come.
When that happens, the pressure will mount on the Fed to accelerate its strategy and raise rates earlier than anticipated.
If this happens, the taper tantrum may well become a real threat. The challenges emerging markets face in rebuilding economies scarred by the pandemic will be exacerbated by a drought of capital.
Issuers may be uncomfortable in swallowing the new issue premiums investors are demanding at present, but in holding back they run a risk of getting nothing at all if worse is indeed on the way.