Biden brings new set of challenges for EM
Investors are counting on the election of Joe Biden as the next US president to bring a calmer, more rational tone to international politics, and perhaps a boost to world trade. But the new administration will also pose specific tests for some emerging markets, as Mariam Meskin reports.
For emerging markets, Donald Trump’s presidency can be characterised by a single word: volatile.
The US’s brusque interventions in global trade relationships, the risk of a war involving Iran and Saudi Arabia and Trump’s formation of concerning relationships with authoritarian leaders have disrupted some emerging market economies and global commodity markets.
Political volatility is always more of a problem for emerging economies, and their access to capital markets, than for developed ones.
That is why many EM watchers were overjoyed at Joe Biden’s victory in the November presidential elections. Though Biden is expected to provide relief after four years of erratic and unpredictable foreign policy under Trump, no transition of power is without its challenges, especially in a country as politically polarised as the US.
Biden has made it clear he will not share Trump’s affinity for autocrats. For some countries, that might be a problem — even potentially hampering their economic growth and investors’ confidence.
“Under Biden, the president’s dynamic with strongman leaders will change — we will not see the personal relationships that there were between Trump and leaders like Putin, Erdogan and Mohammed bin Salman,” says Neil Shearing, group chief economist at Capital Economics in London. “In Ankara and Moscow especially, that personal chemistry has been lost.”
Russians could once again be subject to fresh rounds of sanctions under the new Biden administration and the revived Democratic party, which for the past four years has accused Putin and his government of interfering in US presidential elections.
Biden, who in the past has called Putin “soulless” and who in October called Russia a regime “so paranoid that it is unwilling to tolerate any criticism or dissent” after the poisoning of opposition leader Alexei Navalny, may take it upon himself to revive Obama-era sanctions on Russia.
The sanctions imposed on Russian companies and figures in the aftermath of Russia’s invasion of Crimea in 2014 cut off capital markets access across the country, a pattern that some fear could be repeated. In 2013, Russian borrowers issued 51 dollar bonds. In 2015, they sold five.
“Over the last four years, most sanctions against Russia came through Congress — now those sanctions could come through the president,” says Shearing.
“I wouldn’t expect sanctions from Biden immediately, but I think there will be a desire and a particular focus there,” says Timothy Ash, senior emerging market sovereign strategist at BlueBay Asset Management in London. “The Biden administration will focus on cleaning out dirty Russian money as part of a broader fight against corruption globally. That could potentially mean a repeat of the April 28  sanctions.”
However, since 2014, Russia and its companies have strengthened their financial defences, so that they are expected to be in a better position to weather any future sanctions.
Russia’s government debt has long been small as a share of GDP, and although the International Monetary Fund estimates it to have grown in 2020, it is still only 18.9%. Official reserves are around $600bn.
Nevertheless, investors are already bracing themselves. “A geopolitical risk premium is already being priced into Russian assets, with hard currency debt trading much wider than we think it should, based solely on fundamentals,” says Francesc Balcells, chief investment officer of EM debt at FIM Capital in London.
Turkey, another emerging market that enjoyed a special, though stormy, relationship with Trump, is also drawing attention. At times, Trump threatened sanctions and sent the Turkish economy to the brink of crisis; at others he was accused of being too easily swayed by President Recep Tayyip Erdogan.
Observers say Biden is likely to try to pull Turkey back into the Western alliance, though the spectre of sanctions continues to hover over the country, which once again this year found itself facing a critical economic crisis.
The Biden campaign majored on climate change and sustainability, important causes for sections of an increasingly environmentally conscious electorate. For hydrocarbon-dependent emerging markets, this is ominous.
“Biden will only exacerbate a trend that was already happening in global debt capital markets, which is investors pivoting towards renewable, sustainable long-term projects and avoiding exposure to fossil fuels,” says Gustavo Medeiros, deputy head of research at Ashmore Group, the EM-focused asset manager in London. “Capital outflows from energy have already added a significant amount of pressure on the cost of funding for traditional energy companies. The ability of renewable energy companies to raise cheap funds will keep the pressure on high-cost hydrocarbon companies and countries.”
On the other hand, some see Biden’s election as an opportunity for many emerging economies, especially in the Middle East, to finally act on their pledges to become greener.
“The pandemic has accelerated movement towards a more environmentally friendly global economy,” says Simon Quijano-Evans, chief economist at Gemcorp Capital, an EM investment manager in London. “A change of leadership in the US would contribute to that process — once the ball starts rolling, there will be a snowball effect. There will be plenty of opportunities for emerging countries to take part in that process, especially those starting from scratch on larger infrastructure projects.”
No honeymoon with China
One of the most crucial issues is the US-China relationship and whether it can be salvaged after four years of hostility under Trump.
The US’s imposition of tough tariffs between 2018 and 2020, based on allegations of Chinese theft of US technology and intellectual property, pushed global trading relationships to the point of crisis.
If Biden chooses to de-escalate the confrontation and can establish a more amicable relationship with China’s President Xi, that could help other emerging markets, which would benefit from a recovery of trade.
“The relationship between Biden and Xi Jinping will be more strategic and diplomatic and will therefore lead to a better environment for trade growth,” Medeiros believes. “That will trickle down to emerging markets in a positive way by encouraging capital flows into developing countries. The relationship will not change too dramatically, but the overall backdrop will be more positive.”
Others are less convinced relations are going to improve.
“Trump was simply a symptom of a broader decoupling between China and the US — he was not the cause,” says Shearing at Capital Economics. “Removing Trump does not remove the fundamental strains. While the rhetoric may not be as heated, I do not think tariffs will be removed altogether. There will not be a fundamental improvement in the US-China relationship; there are still strained tensions around 5G [mobile phone technology], climate and trade. There is not broad support for trade deals among the Democrats. However, policy will become more predictable and no longer announced by Twitter.”
In November, the Financial Times reported that the EU would propose a new global alliance with the US to combat the “strategic challenge” posed by China. In 2020 there was friction between China and other G20 nations over the Debt Service Suspension Initiative (DSSI) and how much debt relief each was granting to poor countries struggling with the coronavirus, especially in Africa.
“The pushback against China will continue. Whether it is through the DSSI or by pushing back on One Belt One Road, the cross-party mood in the US is one of wanting to push back on China,” says Ash at BlueBay. “But Biden will likely take a more rules-based and multilateral-based approach, using traditional alliances, to ensure China is held to account. If Republicans keep the Senate, then there is going to be continued pressure on Biden to be tough on China.”
The Fed is king
But despite all the volatility that has shaken the world in 2020, the Federal Reserve has proved itself a pinnacle of power in US. “For investors looking at emerging markets, the biggest driver comes from the Federal Reserve rather than the White House,” says Shearing.
The prospect of a long period of low interest rates, reinforced by record-breaking quantitative easing, has made yields on developed market bonds pale in comparison to those on offer in emerging markets.
That has been mainly responsible for the investor influx that supported emerging market governments in 2020 — and gave them abundant access to debt.
As long as rates stay low, emerging markets will continue to reap the rewards. “Next year will be defined by reflation, which is good for emerging markets,” says Balcells at FIM. “A reflationary-focused US administration, combined with the retreat of Covid-19, provides a powerful context for emerging markets. The Fed’s quantitative easing is like the stimulus provided in 2010 but on steroids. Those are far more important factors than the US’s relationship with China or Russia.”
But the virus will continue to dominate emerging market investing next year — as it did in November, when a range of trial vaccines were announced as potentially effective.
“Economic recovery in emerging markets will be dependent on the timing and distribution of a vaccine,” says Quijano-Evans at Gemcorp. “Debt distress levels in emerging markets next year will depend on how much liquidity the G7 central banks will provide. Global central banks have become not only lenders, but also saviours of last resort.” GC