Wealthier populations in emerging markets have long been seen as an engine of growth and, aided by more mature banking systems and greater access to credit, they may help shield the world economy from recession.
As the US economy stalls under the weight of a housing bust and sub-prime mortgage crisis, credit and bond markets everywhere have been treated by investors with suspicion.
Yet a rapid pick-up in bank credit in emerging markets is fuelling still brisk demand for goods and services from those regions – one reason behind emerging markets’ stellar eight per cent gross domestic product (GDP) growth in 2007 compared to 2.5 per cent for advanced economies.
Higher living standards and more flexible exchange rates have made people more comfortable about borrowing, even if the benefits of a more developed financial system have yet to reach the most deprived in many of these countries.
But overall wealth has increased, with International Monetary Fund data showing growth per capita in India and China more than doubled in this decade compared to a 30 per cent rise for the United States.
The change in emerging markets’ landscape since the devastation of the 1997-1998 financial crisis is to a great extent a result of much stronger banking systems.
Better capitalised banks, many bolstered by foreign ownership, have turned from mainly investing in government bonds – lucrative when double digit interest rates were the norm in emerging markets – to retail and investment lending.
“If you look at the one common thread between places such as Ukraine, Nigeria, Brazil, China, India… the emerging markets that are doing well, it is a rising investment-to-GDP ratio, it is rising credit-to-GDP ratios,” said Bhanu Baweja, global head of emerging market currency research at UBS.
These markets are still under-leveraged and credit growth still has a big role to play in the years ahead, Baweja said, adding: “A stable and vibrant banking system has been the crucial part of this upsurge in growth in emerging markets.”
More scrutiny of lending policies and tougher regulation for banking supervision has helped. Bank credit in Turkey rose to 37 per cent of GDP in 2007 from 24 per cent in 2000, in India to 52 per cent from 32 per cent and in Brazil to 44 per cent from 32 per cent, while bank credit in advanced economies fell to 90 per cent of GDP in 2007 from 93 per cent in 2000, according to the IMF.
“A lot of these countries, if you look back 10 years to 15 years ago, some of them were quite credit starved,” said Pedro Fonseca, emerging market bank analyst at Nomura. “In all these countries you have got emerging middle classes, you have got low interest rates… and changing growth patterns of consumption,” he said, noting mortgage and vehicle finance was finally taking off in earnest in many countries.
Mortgage lending rates in Brazil and Turkey are still under five per cent of GDP versus more than 60 per cent in the United States.
Together, these factors helped fuel a 25 per cent rise in the MSCI Emerging Market Bank index last year, compared to a 17 per cent drop in the DJ Stoxx index of European bank shares, reflecting the overall outperformance of emerging equities versus their US or European counterparts.
Also helping domestic demand in emerging markets is the fall in interest rates in countries such as Turkey and Brazil that were formerly plagued by hyper-inflation.
The Turkish central bank has sliced 225 basis points off the borrowing rate since last September, while Brazil’s central bank has cut rates to a low of 11.25 per cent – providing an incentive to boost lending to the real economy.
Some argue that all these improvements happened in a benign world of easy credit and Simon Lue-Fong, who manages $2 billion (Dh7.3bn) in emerging debt at Pictet Asset Management, says in China non-performing loans may come back to haunt the banking sector.
“Credit-to-GDP has grown massively and this to some extent is permanent,” he said. “What has not been tested is how strong the banking systems are,” said Lue-Fong. (Reuters)
GDP growth was seen in emerging markets compared to 2.5 per cent in the West
Emerging markets can help ward off global recession