Emerging markets 'exposed' to corporate debt strains
Exposure by banks in emerging markets to bad corporate loans raise concerns of the potential for a bout of financial instability and warns that strong short-term growth is masking the need for ministers to take action to boost longer term prospects
Mounting evidence of strains in the corporate debt market should be seen as warning signals of the potential vulnerabilities in the emerging market financial system, a senior economist at the World Bank has warned.
Shanta Devarajan, its senior director of development economics, said he was concerned by the volume of non-performing loans on the books of emerging market banks and an increased likelihood of debt defaults by companies.
However he echoed this week’s upbeat world economic outlook from the International Monetary Fund, saying that all regions of the global economy were headed for stronger growth for the first time in a decade.
Turning to his worries about the longer term, Devarajan told GlobalMarkets in an interview: “The number of non-performing loans in the banking system has grown but provisioning for non-performing loans has shrunk so they are more exposed than before.
“Then there is a measure of vulnerability called distance to default that has gotten shorter for developing countries although it’s about the same for developed countries.” The distance to default is a measure of the degree to which assets value have to fall before reaching the default point.
He said that other measures of non-financial corporate liability were also concerning. “We know that these companies have been taking on pretty high debt,” he said. Devarajan said that comparisons between 2009 and 2016 showed that more countries were more vulnerable today than eight years ago.
“These are all signs but of course the countervailing sign is that equity markets are booming.”
However, he played down concerns the danger of an imminent crash in global bond markets. While he said there were signs of “increased fragility” in the global financial system, he added: “It’s no way as serious as what we experienced in 2007.”
Devarajan said he was also concerned by the slowdown in rates of productivity growth, which had started to slow in developing countries. “What is even more troubling is that productivity growth in developing countries is typically borrowing innovation coming out of developed countries so if innovation is slowing we could a serious slowdown in productivity growth have,” he said. “When you take these factors together it is hard for me to jump up and down with unbounded enthusiasm.”
He urged emerging market finance ministers to focus on measures to stimulate productivity growth including investment in human capital via education and in infrastructure, and cutting energy subsidies that add to congestion and pollution.
His remarks echoed the message from the IMF that ministers should see a short-term economic revival as a “window of opportunity” for fiscal reforms.