If I were a policymaker in an emerging economy, I would assume that a large part of the apparent structural improvement to my own country’s fortunes was because of external forces, and not my own. In particular I would look to the long period of easy monetary policies in the developed world, the US in particular, and the strong era of state-directed investment growth in China.
This might be an overly cautious assumption but it is definitely better than making the assumption that it has all been down to good domestic policies. Adopting such a philosophy might be useful as, of course, the world’s largest economies usually provide most of the growth for the rest of us, and in addition, it might add pressure on us to devote more attention to positive economic reforms that improve domestic resilience to the inevitable shift in external forces.
Emerging markets face contrasting challenges that they need to reconcile. On the one hand, many continue to seem to offer the best prospects for strong long-term economic growth especially for their own consumers. But on the other, many seem to be still vulnerable to the prospect of a change in US monetary policy, something which is starting to look more and more likely in 2015.
I have spent many years watching the trend in weekly US job claims as a very good short term leading indicator, and recently it appears to be trending lower, below the 300,000 level, suggesting an improving US economy, a tightening labour market, both of which will probably result in a shift to higher short term interest rates in the US in 2015. Getting ready for this day is important for all countries. Countries with sizeable current account deficits will be especially vulnerable.
New Era for China
It is now evidently clear that the days of double digit, low value-added export and state-directed heavy industry investment in China are over. As it tries to transition to a new era of growth driven more by domestic consumption, the big question remains whether it can maintain growth at 7%-7.5% for the remainder of the decade. I suspect they probably can — they have done better than most thought the past 12 months or so. But challenges will reappear such as the many questions surrounding the property market and lending related to it.
China’s weight in the world economy and the emerging world in particular means it is possibly even more vital than the US. At around $9tr, China is bigger than Germany, France and Italy combined. It is one and a half times the other BRIC economies put together, and it is quite conceivable China will be the world’s biggest importer, replacing the US before this decade is over. So China is obviously the most important of the so-called BRIC economies.
Under Modi, India is trying to improve its own domestic resilience and reduce its external vulnerability with serious policy reform. It is heartening to see the evidence of accelerating GDP growth in the second quarter of 2014 and I suspect many analysts will soon revise higher their growth forecasts. I can imagine India growing more than 7% in the second half of this decade, possibly more than China, and it is no surprise to me that markets are re-rating Indian equities.
As for Brazil, they have urgent need for serious reform to raise private investments in their economy, to improve their competitiveness and to reduce the importance of commodities to the economy. Their current election is quite important in this regard, and certainly of more lasting relevance than their hosting of the World Cup and the next Olympics.
Russia has these same problems as Brazil, and of course, now even bigger ones given the developments in the Ukraine, and without a very different change of leadership style, Russia has virtually no chance of returning to the years of buoyant growth.
Mixed Mints
Among the MINT economies — Mexico, Indonesia, Nigeria and Turkey — I am really excited about the first two, Mexico and Indonesia, and quite concerned about Turkey, and frankly, have very mixed opinions about Nigeria. Mexico has undertaken considerable economic reforms and the fruits of these should start to come through in coming years.
Indonesia, having just seen a peaceful democratic election of a non-elitist leader, is probably going to embark on reforms that should keep growth at 5%-6% for years to come. Indonesia, like India has reduced its external vulnerability. The same cannot be said for Turkey and I worry how they will fare when the Fed starts raising rates.
Nigeria has huge potential involving the application of modern technologies but, as can be seen from the international news, has a lot of severe social challenges, none of which are likely to be dealt with sufficiently ahead of the election next spring.
All in all, while it is far too simplistic to generalise, I probably remain more optimistic than most about the emerging world, but the period ahead is not going to be without its challenges for many.
Jim O’Neill is Visiting Research Fellow to BRUEGEL and Economic Advisor to the International Finance Corporation