Credit growth in non-Chinese emerging markets is accelerating for the first time since 2011, buoying expectations of stronger economic growth.
Credit is growing at an annual rate of 8.7 per cent, based on a gross domestic product-weighted average of 19 emerging countries, bar China, according to data compiled by NN Investment Partners, a Dutch asset manager.
This follows a six-year-long slump from 2011 to February this year, when the rate of year-on-year credit growth slid to just 6.7 per cent. This was the weakest reading since 2003 bar the two worst months of the global financial crisis in 2009 and far below the post-crisis peak of 20.9 per cent in October 2011.
“Credit growth in emerging markets ex-China has picked up for the first time in six years,” said Maarten-Jan Bakkum, senior emerging markets strategist at NNIP, who attributed the bounce to improving financial conditions.
“[Cross-border] capital flows are not as negative as before, currencies have recovered and central banks have been able to cut rates and, after a long period of lost confidence in these countries, that has bottomed out so people and companies are more confident about borrowing money,” he added. “There is a lot of pent-up demand [for credit] because growth has been so weak for so long.”
The supply of credit in China is rising at a faster pace, 13.5 per cent in the year to August, although this is down from a cyclical peak of 22 per cent in January 2016 as Beijing has eased back on economic stimulus and attempted to rein in China’s shadow banking sector. The pick-up in credit growth coincides with rising forecasts for economic growth in emerging markets.
The IMF said on Tuesday it expected GDP growth in emerging and developing countries to hit 4.6 per cent this year, up from 4.3 per cent in 2016, and 4.9 per cent in 2018, amid a “modest cyclical recovery”.
Compared with its previous forecast in July, the IMF upped its estimate for 2017 growth in eastern Europe by a full percentage point to 4.5 per cent, as the region taps into better than expected growth in the eurozone. It also raised its 2017 growth forecasts for commodity exporters Brazil and Russia by 0.4 percentage points, to 0.7 per cent and 1.8 per cent respectively. Although both countries are still seeing credit decline in year-on-year terms, according to the IMF, the rate of contraction has fallen sharply in the past year, easing the squeeze on their economies, as shown in the second chart.
The improving backdrop ties in with broader liquidity data produced by CrossBorder Capital, a London-based financial research company.
Its measure of EM-wide liquidity, which encompasses credit, savings and net foreign capital flows, using data sourced from central banks and finance ministries in about 80 countries, is at a reasonably elevated level, although down from highs at the turn of the year, as the third chart shows.
However, Michael Howell, managing director of CrossBorder Capital, believed the picture was somewhat brighter than his headline reading would suggest.
As the fourth chart indicates, two of the three components of the headline index - private sector liquidity, which measures the likes of bank loans, household savings and corporate cash flow; and policy liquidity, which measures the liquidity created by central banks - are currently strong. However, the overall measure is being dragged down by the third component, cross-border flows. This appears odd, given that portfolio flows into EMs have been strong this year.
Mr Howell said his cross-border measure was being dragged down by Chinese and other Asian companies redenominating debt out of dollars and into their local currencies, creating a “short-term blip” in the capital flows data.
“Generally the EM liquidity story is going well, there is evidence banks are lending and the corporate sector generally has a lot of cash, a radical change from two to three years ago,” Mr Howell said.
He believed CrossBorder’s measure was a leading indicator for economic growth and financial market returns, leading the foreign exchange and fixed-income markets by three to six months, equity markets by six to nine months and the real economy by 12-15 months.
In particular, with his measure of private sector liquidity hitting a year-to-date high in August, Mr Howell said this “likely signals further economic recovery”. At the country level, Hong Kong, South Korea, Taiwan and Brazil currently have the strongest liquidity conditions, with Indonesia seeing the biggest gain over the past six months. Liquidity is weak, however, in Turkey, South Africa, Chile and Mexico. In Tuesday’s quarterly World Economic Outlook report, the IMF also noted a period of “abundant credit supply” in emerging markets thanks to higher financial flows and a recovery in global risk appetite.
However, it warned that a “sudden tightening of global financial conditions could expose financial fragilities,” for instance if faster than expected US monetary tightening led to a stronger dollar and capital outflows from emerging markets, “imposing strains on economies with high leverage, balance sheet mismatches, or exchange rates pegged to the dollar”.
The risk is heightened by sharp rises in the credit-to-GDP ratio in some countries, such as China, where it has risen from 118 per cent in late 2006 to 225 per cent, Turkey, where it has risen three-fold to 68 per cent since 2006, Russia, Colombia and Brazil.
“Minimising the risk of a sharp slowdown in China will require the Chinese authorities to intensify their efforts to rein in the credit expansion. Many other economies need to guard against a build-up of financial stability risks in a global environment of easy finance and monitor the risks from volatility as advanced economies’ central banks gradually withdraw stimulus,” the IMF said.
Despite the risks, Mr Howell believed the strong EM liquidity conditions could continue for some time, although that is largely dependent on the actions of China. In particular, he argued the country’s “One Belt, One Road” plan, based on huge infrastructure investment across Asia and beyond, was capable of generating credit growth of 10-12 per cent over the medium term.
Given his expectations of EM-wide GDP growth of 5 per cent or so, Mr Bakkum said credit growth should continue at a faster pace than that, particularly with many companies having “cleaned up” their balance sheets.
“That could be a long-term trend as long as China’s deleveraging doesn’t derail the whole emerging market story, which at the moment it is not,” he added.
