Chinese monetary superpower rivals the Fed in the emerging market storm
ONE OF the joys of my job is watching fashionable but off-base theories crumple in the face of real world events. The current emerging market storm has seen the obvious destruction of not one, but two cocktail party staples: the rise of the Brics/Mints and the idea of the G-Zero world. The first thought to lump together wholly unlike countries with unique economic trajectories. The second, in defiance of 3,000 years of history, alleged that no country at present really has the power to steer and fundamentally direct global outcomes.
But the only way to make sense of the current emerging markets crisis is to refute both. Emerging market analysis screams out for disaggregation, just as it must be acknowledged that the mood music playing beneath all the tumult is the result of the G2 monetary superpowers – the US and China – belatedly trying to remove the punch bowl from the party, disastrously at the same time.
The US tapering of QE – at $10bn a cut – has purposefully been the worst kept monetary secret in modern financial history. Yet despite this, many emerging markets seem genuinely shocked that the era of easy liquidity is over. Speaking at the Asia Forum on Global Governance in New Delhi last November, I was plaintively asked by an Indian economist why the Fed did not take into account what monetary tightening would do to his country. “Because the Fed works for and looks after American and not global interests,” I gently answered. This really should come as a surprise to no one.
There is no doubt that the People’s Bank of China feels the same way as the Fed; its concerns are overwhelming linked to what happens to China, not the fate of the minnows who follow in its wake. Yes, the simultaneous tightening by the G2 monetary superpowers is draining global liquidity, but it is from a criminally-unprepared system, exposing those emerging markets whose fiscal, monetary, and credit policies have been too lax.
For China, things are especially tricky, as it attempts to de-leverage its economy while raising interest rates, all the while avoiding a hard economic landing. It will be a rough ride. Morgan Stanley has cut its growth forecast for China to an annualised 6.6 per cent for the first half of 2014. But the new leadership under Xi Jinping seems steeled to grasp the nettle of shadow banking reform. Easy credit fuelled an investment boom, in turn leading to excessive local government borrowing – up 70 per cent to almost $3 trillion since the end of 2010, on official figures. This has weakened Chinese banks and shadow banks, and Xi clearly feels that this is one problem that cannot be put off.
In doing so, it is little wonder China is shaking the world. The Party leadership is trying to deflate a credit bubble that has bolstered global growth following the western financial crisis. As recent market wobbles – prompted by signs of a Chinese manufacturing slowdown – have shown, emerging markets’ reliance on China as the primary destination for their commodity-dominated exports leaves them exposed to more than just the taper. In 2000, only five countries counted China as one of their top export markets, now the figure is 32. Further credit tightening will directly and adversely impact China’s supply chain around the world, from Brazil to Australia.
However, if the simultaneous tightening of the G2 poses a real threat to the continued prosperity of emerging markets, it does not doom them all to collectively playing the role of hapless victims in the face of two unreasoning leviathans; what emerging markets do internally will still largely determine whether they ultimately rise or fall.
A good analytical rule of thumb as to whether individual countries make it or not is that only those with both exposed economic and political systems are in genuine peril. For example, Turkey, Argentina, and Venezuela – all led by increasingly erratic authoritarians – are in real danger. In contrast, Mexico, South Korea, Taiwan, Vietnam and the Philippines seem in no peril at all. A sclerotic Russia, South Africa, and Brazil may have now definitively missed their chance to rise to great power status given their economic and political frailties, but they are not about to fall apart either. India is about to have an election that could well jumpstart its growth, and Indonesia responded in advance to the coming storm; both look well placed to ride it out.
In other words, the days of easy, all-encompassing theories that fatuously explain a complicated world are over. It’s time to think hard, and think again.
Dr. John C Hulsman is president and co-founder of John C. Hulsman Enterprises (www.john-hulsman.com), a global political risk consultancy. He is a life member of the Council on Foreign Relations, and author of Ethical Realism, The Godfather Doctrine, and most recently Lawrence of Arabia, To Begin the World Over Again.