Since 2003, when risky assets bottomed in the last cycle, emerging market assets have benefited from "unusually broad-based" strength, according to Goldman Sachs chief markets economist Dominic Wilson.
There were five tailwinds that were "mutually reinforcing" and which helped push emerging markets forward, but now their strength is decreasing and some could even reverse, Wilson said in a report.
"This cannot be repeated," he said. "The landscape ahead over the next few years looks very different to 2003."
The first tailwind was the impulse from China and the rest of the BRICs to the world economy, with growth in demand from these big countries becoming a positive factor for other emerging economies.
Wilson said emerging markets' contribution to global growth rose from below 50% between 1990 and 1999 to around 75% in the following decade.
But this process of increasing trade integration and growing impact on the global economy is "probably over," as the rate of increase in China's trade share and the migration from rural to urban areas in the world's second-largest economy have slowed, he warned.
"None of this spells trouble, but the sharp impulse and positive surprises from this source are unlikely to be repeated."
The second tailwind was the rise in commodity prices, with increasing demand from China and other emerging markets, as well as a lack of investment in the 1990s – partly as a consequence of the Asian crisis – having "laid the foundations for a long period of tight commodity supply," Wilson said.
But now "the long uptrend in long-dated commodity prices is probably over," he added, with demand slowing and higher prices triggering responses in supply.
He warned that for the commodity exporters that consumed more than invested their income gains from the commodity price boom, "that shift will be more challenging."
DEBT, INFLATION AND YIELDS
Improving external balance sheets, coupled with a fall in sovereign debt, formed the third tailwind. By 2004, current accounts in emerging markets had a surplus of 1.7% of GDP compared with a deficit of 2.3% before. External debt ratios fell from 40% to the current level of around 20%. Foreign exchange reserves are now 120% of external debt, compared with 25% before.
But balance sheets "are unlikely to improve much further," and leverage in the private sector has increased, while current accounts in emerging markets have deteriorated since 2007, Wilson pointed out.
"External debt indicators are unlikely to improve much further and may in places begin to deteriorate again," he said.
Inflation, which in the last decade was "both lower and less volatile" than in the past, reducing a key source of macroeconomic instability, is the fourth tailwind that is unlikely to be repeated.
"With inflation having been brought lower, the scope to do this again – and its significance to the macro picture – is limited. The gains from this success are thus also likely to be behind us," Wilson said.
The fifth tailwind originated in developed countries – the fall in yields in major markets, which had a sharp influence on emerging economies.
Between 2003 and 2011, real yields in the US and in other safe haven countries fell, with the decline helping to bring down real rates in emerging markets and contributing to lower financing costs for these countries.
But now, "real yields in the US are likely to move higher" as the Federal Reserve steps towards exiting its quantitative easing policy, Wilson said.
"The last few weeks illustrate the potential for that shift to be disruptive," he added.
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