Emerging Market Resilience - The Year Ahead

A piece I penned for the company newsletter was recently republished by the American Chamber of Commerce in Hanoi for their own newsletter. While it’s a little beyond the scope of my normal musings, I thought it'd be a good way to start off a New Year of infrequent blogging...

In 2009, the theory of decoupling will get another proverbial “nail in the coffin,” as emerging market economies are expected to slow as a direct result of weakening demand in the developed world. The East and West are inextricably linked, and the global financial crisis that began in the U.S. and spread to Europe has demonstrated that no country, however far removed, is isolated from the primary markets of industrialized nations.

Already, export-driven Asian economies are experiencing substantial reductions in their turnover: Taiwan’s exports decreased 42% in 2008 compared to the year prior, and South Korea is reporting a 17% reduction. China’s scenario is also similar, as is Singapore’s, which experienced a 12.5% decline in its annualized GDP in the last quarter of 2008, the country’s largest decline in GDP on record.

Such circumstances call to mind the question, “Is this the end of the emerging market boom?”

On the back of the global financial crisis, it is expected that no economy will expand, in the near-term, at rates recorded in years prior. Over the five years leading into 2007, emerging economies grew by a yearly average of more than 7% — for the same period, Vietnam posted a GDP growth rate of 7.8% and a solid 8.5% in 2007 alone. For 2008 as a whole, the growth rate of emerging economies was still above 6%, as reported by The Economist, with Vietnam registering a 6.2% increase in its GDP.

As the G7 nations ready themselves for an expected 2% contraction of their combined economies in 2009, the economies of emerging markets will be forced into similar realities, with growth forecasted to average out at possibly less than 4%, as estimated by private sector analysts. The shock to the system for many emerging markets will be felt three-fold: 1) consumer demand will wane in developed countries, particularly the U.S., slowing growth for export-dependent countries with large manufacturing bases; 2) the global financial malaise has made access to cheap capital difficult, negatively affecting capital inflows in the form of foreign direct investment; and 3) commodity prices in 2008 have shrunken from their record highs in 2008 and will thus be unable to bolster economic growth in emerging markets whose GDP base is reliant on commodities-exports.

With the collapse of these three emerging market growth fundamentals, the year ahead will inevitably be difficult for developing countries. Purchase orders at factories will slow, if not cease entirely. Portfolio investments in equities markets will also become rare, and in Vietnam’s case, almost unfeasible for mainstream foreign investors with the absence of any stock with a market cap over US$1 billion. FDI projects under implementation will be delayed, or cancelled altogether. Newly registered and implemented FDI will decline, perhaps significantly, and even remittances will suffer as the earnings of those living abroad will dwindle, rendering individuals incapable of sending money home.

In the year ahead, the most important factor determining an emerging market’s recovery from a recession in the West will be whether its exposure to debt will hinder its ability to manage a budget deficit and stimulate its own economy. As external capital inflows become scarce, or worse dry up, in emerging markets, countries with high savings and modest debt will recover quicker from the downturn in 2009. For those whose balance sheets are laden with debt, the global financial woes will force them to seek financial assistance from the international community – over the last six-months, several Central and East European countries as well as Pakistan have gone hat-in-hand to the IMF asking for assistance in overcoming their balance of payment challenges and fulfilling their debt-service payments.

As the world rebounds from an economic downturn in 2009, the prospect for a V-shape recovery of GDP growth rates is possible only in countries with low debt-to-savings ratios, giving them the capacity to sustain fiscal deficits and inject capital into their own economies. The base case economic growth outlook for Vietnam, provided by The Economist Intelligence Unit, forecasts that GDP growth will shrink to 3.2% in 2009 and then rebound back to 4.1% in 2010 — analysts from HSBC are forecasting 5.4% and 6.6% growth rates in 2009 and 2010 respectively.

Vietnam’s economic outlook for 2009, while substantially lower compared to years past, is relatively positive because of the country’s low level of debt and adequate foreign exchange reserves. Taking advantage of its light balance sheet, the Government’s fiscal policies in the year ahead will focus on implementing a homegrown stimulus program to bolster domestic consumption and increase the nation’s industrial capacity, capitalizing on its inherent, strategic advantages as a low-cost labor base and commodities-rich nation with ample natural resources and compelling demographics.

Like other export-driven emerging markets, Vietnam will be forced to confront depressed consumption in the West, low commodity prices and shrinking levels of foreign direct investment, but a balance of payment crisis is not in the cards. While export growth will moderate, if not contract, due to diminishing demand and weaker commodity prices in 2009, the trade deficit is anticipated shrink.

Yet, Vietnam’s resilience as an emerging market will be best realized in the effectiveness of its fiscal policies. As announced by the Ministry of Planning and Investment, the Government intends to implement a US$6 billion stimulus package, aimed at large-scale infrastructure projects, export-oriented sectors and vulnerable socio-demographic segments, namely low-income wage earners. With ample foreign reserves (US$22 billion) and modest external debt, only 30% of the GDP, the Government is hoping to sustain a fiscal deficit in order to maintain modest economic growth in the year ahead.