Shake it all about
Which emerging economies have the most monetary and fiscal wiggle-room?
Jan 28th 2012 |
The good news is that whereas most rich countries have little or no room to cut interest rates or to increase public borrowing, emerging markets as a group still have lots of monetary and fiscal firepower at their disposal. That room for manoeuvre served developing countries well during the downturn of 2008-09: monetary and fiscal easing was more effective in boosting demand than it was in the rich world, thanks to healthier private-sector balance-sheets. Although the emerging markets have less room for easing now than they did in 2008, when they collectively ran a small surplus on their budgets, their average budget deficit last year was only 2% of GDP, against 8% in the G7 economies. And their general-government debt amounts on average to only 36% of GDP, compared with 119% of GDP in the rich world.
A healthy aggregate picture masks some big differences, however. Some governments have much more scope to loosen policy than others. An analysis by The Economist ranks 27 emerging economies according to their monetary and fiscal wiggle-room.
We began by using five indicators to assess each country’s ability to ease monetary policy. The first was inflation, which ranges from 2% in Taiwan to 20% or more in Argentina and Venezuela (using private-sector estimates for the former rather than the government’s dubious figure). Lower food prices have reduced inflation in many countries, but it remains above 5% in half of them. Our second measure is excess credit: the gap between the growth rate in bank credit and nominal GDP over the past year. This looks most alarming in Argentina, Brazil, Hong Kong and Turkey. In contrast, Chinese bank lending is now rising more slowly than GDP.
The third monetary indicator is the real interest rate. This is negative in about half of the economies, but is over 2% in Brazil and China. Fourth, we look at currency movements against the dollar since mid-2011. Nine countries, including Brazil, Hungary, India and Poland, have seen double-digit depreciations, with the risk that higher import prices could push up inflation. Our final gauge is the current-account balance. If global financial conditions tighten, it would be harder to finance a large current-account deficit, and so harder to cut interest rates. Turkey is the most vulnerable country on this measure, with a deficit of 9% of GDP forecast for 2012. India, Poland and South Africa are tipped to have deficits of around 4% or more.
We graded each country on all five indicators. We then added up the scores to produce an overall measure of monetary manoeuvrability (rankings for the individual indicators can be found here).
Next we devised a fiscal-flexibility index, combining government debt and the structural (ie, cyclically adjusted) budget deficit as a percentage of GDP. The most profligate governments, by emerging-market standards, are those of Brazil, Hungary, Egypt, India, Pakistan and Poland, with debts close to 60% or more of GDP. The last four countries also have huge structural budget deficits of 6-9% of GDP, leaving governments little room to respond to another downturn. In contrast, Russia, Singapore and South Korea have ample scope for a fiscal stimulus.
The average of these monetary and fiscal measures produces our overall “wiggle-room index”. Countries are coloured in the chart according to our assessment of their ability to ease: “green” means it is safe to let out the throttle; “red” means the brakes need to stay on. The index offers a rough ranking of which economies are best placed to withstand another global downturn. It suggests that China, Indonesia and Saudi Arabia have the greatest capacity to use monetary and fiscal policies to support growth. Chile, Peru, Russia, Singapore and South Korea also get the green light.
At the other extreme, Egypt, India and Poland have the least room for a stimulus. Argentina, Brazil, Hungary, Turkey, Pakistan and Vietnam are also in the red zone. Unfortunately, this suggests a mismatch. Some of the really big economies where growth has slowed quite sharply, such as Brazil and India, have less monetary and fiscal firepower than China, say, which has less urgent need to bolster growth. India’s Achilles heel is an overly lax fiscal policy and an uncomfortably high rate of inflation. The Reserve Bank of India has sensibly not yet reduced interest rates despite a weakening economy. In contrast, Brazil’s central bank has ignored the red light and reduced interest rates four times since last August. In its latest move on January 18th, the bank signalled more cuts ahead. That will support growth this year but at the risk of reigniting inflation in 2013. Desirable as it is to keep moving, ignoring red lights is risky.