The 2013 Taper Tantrum

By Nataly Kehyayan

When the US government decided to tighten monetary policies and reduce bond-purchases, in 2013 global markets increased in volatility, and emerging markets were hit by a huge wave of uncertainty and turmoil in capital flows and exchange rates. While the effects of the taper tantrum were felt across the world, ultimately, developing economies paid the heavier price. Decisions made by the central banks of advanced economies can have extremely detrimental impacts on emerging markets. EMs rely on the clear communication of information and market guidance provided by these economies to better administer major policy changes.

2021 projections for EMs

Rising US interest rates command the attention of emerging market investors. In 2020, MSCI-EM recorded better performance than MSCI-World (Developed Countries) for the first time since 2017. The index was up 18.31% while the latter finished the year 15.90% in the green. Despite this satisfactory achievement, there is one thing that could pose a serious threat to the developing world: Global borrowing costs. 

According to a forecast by the Bank of America, EMs are estimated to sell over 750 billion dollars worth of debt in 2021, and high-interest rates are terrible news for the debt-to-GDP ratio of many countries that are already beyond the 100% point. According to the World Bank, a debt-to-GDP ratio of 77% and above negatively impacts economic growth. However, a ratio of +100% does not necessarily imply bankruptcy. Japan, for example, has 2.64 (263.97%) times the debt of its economy. A country’s ability to pay off the interest on its debt without the need for refinancing usually eliminates or reduces the risk of default. 

With a steep decline in EMs over the past month, could we be headed towards another tantrum? This time the situation is a little different.

In 2013, the countries most vulnerable, the “fragile five” (Indonesia, Turkey, Brazil, India, and South Africa), had similar economic characteristics that let them become more exposed to the changes in the West. These countries were dealing with issues like inflation, trade deficits, and overvalued exchange rates. This measure of vulnerability also demonstrated the relationship between a country’s domestic economic fundamentals and its dependence on more advanced economies. However, an alternative vulnerability measuring instrument was recently introduced by HSBC bond strategists to account for the current COVID-19 situation. The list of countries most at risk does not look too different from 2013. Brazil, Indonesia, Mexico, and South Africa are now being closely watched. 

The focus of the approach suggested by HSBC is a country’s gap between its government spending and revenues. Fiscal policies have been a major topic of discussion since the beginning of the pandemic. These countries are also under the pressure of government debt that increases their chances of exposure to foreign policies. Countries like Mexico that have sold a large portion of their bonds in foreign markets are more likely to feel the effects of the strengthening dollar. 

The Economist reports, “One reason why Mexico is on HSBCs worry list and Turkey is not is that foreigners hold 46% of Mexico’s local-currency government bonds and less than 7% of Turkey’s”.

Numerous current uncertainties in global markets make it difficult to predict the magnitude and the nature of the effect these changes will have on emerging markets. Regardless, investors will be closely monitoring EMs as there are as many, if not more, opportunities as there are risks while these economies recover from the health crisis and offer new growth opportunities. 

Photo by George Bakos on Unsplash

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