Which emerging markets are the most financially threatened?
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WHAT TO WEAR? The question intrigued many people who had been taken out of their routines by the pandemic. It also confuses investors. The world is full of “dirty shirts,” as Bill Gross, a legendary bond trader, once said, contemplating bonds offered by heavily indebted governments. But you have to wear something. Thus, many investors buy Treasuries, despite the lackluster American public finances, because it is the “least dirty shirt”.
The dirtiest clothes can be found elsewhere, among the world’s emerging markets. They collectively owe $ 17 billion in public debt, 24% of the world total. So far, eighteen of them have had their credit scores lowered in 2020 by Fitch, more than the entire previous year. Argentina missed a $ 500 million payment on its foreign bonds. If he fails to convince creditors to exchange their securities for less generous securities by May 22, he will be in default for the ninth time in its history. The laundry pile also includes Ecuador, which has deferred $ 800 million in bond payments for four months to help it cope with the pandemic; Lebanon, which defaulted on a $ 1.2 billion bond in March; and Venezuela, which owes barrels full of cash (and crude oil) to its bondholders, bankers and geopolitical benefactors in China and Russia. These defaulters may soon be joined by Zambia, which is seeking to hire advisers for a ‘liability management exercise’, a deal to pay creditors a little less, a little later than it had promised (see article).
As the pandemic wreaks havoc on economies and public finances, the natural question is: who’s next? More than 100 countries, including South Africa, have asked the IMF to help. He has already approved 40 of the quick small loans he gives after natural disasters. Some countries are regular customers. Egypt is also asking for a new bailout just nine months after withdrawing the last tranche of a loan agreed in 2016.
When the virus first hit financial markets, the threat of a full-blown emerging market crisis loomed. Since January, foreign investors have withdrawn about $ 100 billion in emerging market bonds and stocks, according to the Institute of International Finance (IIF), a banking association. This is more than three times what they have withdrawn in an equivalent period of global financial crisis (although these figures do not cover all capital flows and emerging economies have experienced significant growth since 2008) .
The sense of panic has since started to subside. The Federal Reserve’s swap lines to 14 central banks, including those of Brazil, Mexico and South Korea, helped ease a global dollar shortage. Capital outflows moderated and emerging market bond yields fell. This temporary stay invites a more discriminating assessment of emerging market finances. The Economist ranked 66 countries using four financial soundness indicators (see chart). Some, like Russia, Peru, and the Philippines, seem relatively hardy. About 30 are in distress, or flirting with her. The alphabet of the alarm goes from Angola to Zambia. But these 30 represent a relatively small share of the group’s debt and GDP.
Covid-19 is hurting emerging economies in at least three ways: by locking down their populations, hurting their export earnings, and deterring foreign capital. Even if the pandemic subsides in the second half of the year, GDP in developing countries, measured at purchasing power parity, will be 6.6% lower in 2020 than the IMF had planned in October.
The damage to exports will be severe. Thanks to low oil prices, Gulf oil exporters will face a current account deficit of more than 3% of the GDP this year the IMF account, up from a surplus of 5.6% last year. When exports are lower than imports, countries usually close the gap by borrowing abroad. But the reversal of capital inflows has been accompanied by an increase in borrowing costs. In March, the risk premium that emerging markets must pay to buyers of their dollar bonds reached distressed levels (more than ten percentage points) for nearly 20 governments, a record number, according to the IMF.
To overcome the crisis, emerging economies may need at least $ 2.5 billion, according to the fund, from foreign sources or from their own reserves. One way to make sure countries have more hard currency is to stop taking them. the g20 group of governments has said it will refrain from collecting loan payments to the 77 poorest countries this year (although borrowers will have to make up the difference later). the g7 group of countries urged private lenders to abstain as well. A group of more than 70 private creditors support the idea, while noting its “complexity” and the “constraints” faced by lenders.
A radical debt stop may also be less necessary than it seemed just two weeks ago, as investors have calmed down somewhat. This may reflect an excess of optimism about the course of the pandemic. But even false optimism can be of real help to emerging markets, allowing them to refinance their debt on affordable terms.
The relative calm also allows for a more insightful look at emerging market strains. Some have large budget or external deficits; others have high debts. In some cases, the weak link is the government; elsewhere it is the private sector. The debt can be largely domestic, or it can be owed to foreigners – and sometimes also in foreign currency.
Our ranking examines 66 economies among four potential sources of peril. These include public debt, external debt (both public and private), and borrowing costs (represented to the extent possible by the yield on a government’s dollar bonds). We also calculate their probable external payments this year (their current account deficit plus their external debt payments) and compare them with their stock of foreign exchange reserves. The ranking of a country on each of these indicators is then averaged to determine its overall position.
The strongest countries, like South Korea and Taiwan, are overqualified for the role of emerging markets. Many larger economies, including Russia and China, also appear to be robust. Most of the countries that perform poorly on our indicators tend to be small. The last 30 represent only 11% of GDP, and less than a quarter of its external and public debt.
The ranking also reveals the big differences in the source and extent of potential weaknesses. Countries like Angola, Bahrain and Iraq have public debt that some say will exceed 100% of GDP This year. But about half of the economies we look at have debts of less than 60% of the GDP, the threshold that members of the euro zone are supposed to reach (and that few do).
The Asian financial crisis of 1997 showed that strong public finances are not enough to protect an emerging economy if private companies borrow heavily from abroad. Mongolia’s public debt appears manageable (less than 70% GDP) but its external debt (public and private) is almost double GDP. Conversely, the well-known fiscal weaknesses of Brazil and India are mostly confined within their own borders.
Bond yields, meanwhile, show how expensive foreign borrowing will be. Sixteen of the economies in our group must offer returns greater than 10% on their existing dollar bonds to find takers. But more than 20 have hard currency bonds earning less than 4%, the kind of cheap financing that was once the preserve of rich countries. Some, like Botswana, have no dollar bonds at all, preferring to borrow in their own currency.
During 2020, the 66 economies in our fiscal year will have to find more than $ 4 billion to service their external debt and cover any current account deficits. Excluding China, the figure is $ 2.9 billion. But that leaves aside the buffers that emerging economies have accumulated. Governments in our fiscal year hold more than $ 8 billion in foreign exchange reserves (or nearly $ 5 billion, excluding China). Half have enough reserves to cover all of their external debt payments due this year and any current account deficits. The rest (including 27 of the last 30) have a combined reserve deficit of about $ 500 billion. By far the biggest dollar gap is in Turkey, which quickly depleted its reserves by stepping in to support the lira.
Reserve deficit calculations ignore the risk of capital flight, when a country’s own citizens decide to withdraw their money from the country. But they also assume that countries will not attract any foreign direct investment and will not renew any of their foreign debt maturing this year. In March, such a scenario seemed too plausible. Now it looks too dark.
Indeed, in recent weeks, 11 emerging economies have been able to sell more than $ 44 billion in bonds between them, says Gregory Smith of M&g Investments, an asset manager. Even Panama, with large external debts and a large reserve deficit, issued bonds with a yield of less than 4% at the end of March. The sale has been oversubscribed three times. In a world of dirty shirts, some investors crave a Panama hat. ■
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This article appeared in the Briefing section of the print edition under the title “Next in line”