DAVOS is done, and chief executives are returning home to further volatility after last week’s emerging market-led sell-off. In December, the US Federal Reserve announced that it would start tapering its monthly asset buying from $85bn to $75bn. And tomorrow, its rate setting committee will inform us of both its latest rate decision (no change expected from 0.25 per cent), and whether we’ll see more tapering.
Given the continued US economic recovery, most analysts expect the Fed to announce additional tapering of $10bn. The Fed, in a sense, used December’s stimulus withdrawal to test the market reaction; it was only $10bn, it was low-volume-silly-month-December, and the market had priced in the start of tapering. The first steps away from monetary stimulus saw markets holding up pretty well – scaling new all-time highs in the weeks after.
This time could be different. Emerging market currencies were dumped last week after the Argentinian Central Bank announced it was relaxing its strict currency controls. The knock-on effect was broad, with heavy selling out of other emerging market assets. Europe and the US saw a bout of profit-taking, too. So what could be anticipated if the Fed tapers further?
When I spoke to Luis Videgaray, the Mexican finance minister, he told me a readjustment in emerging market portfolios has long been expected as the Fed continues its taper. Last year saw some readjustment, and he anticipates there will be more emerging market volatility through 2014. With the Mexican peso weaker by around 3.5 per cent against the dollar this month, it has held up well compared to other emerging market currencies. Videgaray says that the key is to ensure liquidity isn’t tightening; until now there have been no signs of this. Mexico is an open, emerging economy, and Videgaray thinks it is well-positioned to withstand the current volatility. At around 45 per cent, Mexican debt-to-GDP is low, it has a small current account deficit (less than 1 per cent), and its banking sector is seen as well-capitalised.
In the aftermath of the 2008 recession, Mexico’s GDP contracted by almost 7 per cent. Videgaray says the economy is now on track for 3.9 per cent growth this year, and unofficial estimates call for growth of 5 per cent in 2015. A large part of this is linked to the US recovery, given that 80 per cent of Mexican exports go north. Mexico has also been pushing ahead aggressively with new structural reforms – which should serve to keep the country strongly positioned.
Louisa Bojesen is the anchor of CNBC’s European Closing Bell. Follow Louisa on Twitter @louisabojesen