Debt crisis awaits in emerging markets
Illustration: Eniola Odetunde/Axios
Many of the world's poor and developing countries could begin defaulting on their bonds in the coming weeks as the coronavirus outbreak has led to massive outflows from emerging market assets and real-world dollars being yanked from their coffers.
Why it matters: The wave of defaults is unlikely to be contained to EM assets and could exacerbate the global credit crisis forming in the world's debt markets.
Driving the news: Investors pulled a record-breaking $83.3 billion from EM securities in March, dwarfing outflows seen during previous "stress events" like the global financial crisis, the 2014 taper tantrum, and China's devaluation scare of 2015, the Institute of International Finance says.
- The outflows will be particularly damaging for emerging economies that are heavily reliant on foreign capital, especially as foreign direct investment has been drying up since early 2019 as a result of the U.S.-China trade war.
What they're saying: "The huge fiscal costs and humanitarian consequences of coronavirus could incentivize a slew of distressed governments to default on their debts," Edward Glossop, emerging markets economist at Capital Economics, wrote last week.
- The World Bank and IMF already have called for an immediate suspension of debt payments from International Development Association countries, which are the world's poorest.
- However, both Fitch and Moody’s warned that any restructuring of private-sector debt could trigger restrictive defaults.
State of play: The emerging world is being battered on all sides by a slowdown in manufacturing, cratering oil prices and the depression of aggregate demand as a result of the COVID-19 outbreak.
- The suffering expected in developed economies like the U.S. and eurozone will be compounded significantly in emerging economies, like those in Asia, Latin America, and Africa, which are expected to drive the world's growth in the coming years.
- There are at least 20 EM countries that have bond yields already trading at distressed levels of more than 10 percentage points above comparable U.S. Treasuries, with Venezuela, Argentina, and Lebanon having already entered defaults.
Yes, but: Bullish investors are banking on the IMF and World Bank to deploy up to $1 trillion in relief to help stave off mass defaults and worst possible outcomes.
Yes, but, but: That may not be nearly enough.
- The institute's data show total debt for 30 large EM countries reached $72.5 trillion in 2019, a 168% increase over the past decade.
- EM countries also have around $5.5 trillion of debt coming due this year, with a sizable percentage held by investors in the industrialized world.
A number of emerging market central banks will likely begin quantitative easing measures, Capital Economics analysts say, further flooding the world with an abundance of cash never before imagined.
- Major central banks from the U.S., Japan, China and the eurozone already have run up more than $21 trillion on their respective balance sheets and are expected to deliver much more in the coming months.
The big picture: Quantitative easing is an extreme measure that has an unproven track record at stimulating economic growth and has never been attempted in emerging countries, which have higher interest rates than their industrialized peers.
- In the hands of potentially politically conflicted central banks like those in Brazil, Poland, Turkey and others in the emerging world, such a program carries a very real risk of spiking inflation and eroding the credibility of policymakers, says Liam Peach, Capital Economics' emerging Europe economist.