23 January 2018
The monetary policy outlook in emerging markets (EM) is as diverse as the countries that make up the EM indices. Early-cycle economies, such as Russia, Brazil, and Indonesia, are still experiencing negative output gaps, weak credit growth and benign inflation; while the later-cycle economies in Central and Eastern Europe or East Asia have closed their output gaps and are seeing upward inflationary pressures. While output gaps, credit growth, oil prices and especially food prices (see Chart 10) will determine the monetary policy outlook, it is impossible to ignore developed market (DM) factors. Monetary policy normalisation across major DM central banks could put upward pressure on EM rates, particularly in small open economies. In addition, the path of the US dollar will be important – a weaker dollar will allow EM countries to avoid raising policy rates by simply allowing their currencies to appreciate against the dollar; however, a stronger dollar could add to inflationary pressure in EM and force rate increases. It goes without saying EM is a heterogeneous group with different growth profiles and monetary policy outlooks; nonetheless, it might be becoming even more disparate as Asian economies are developing strong tech bases with fewer competitors. It’s difficult to summarize the outlook for such a disparate group, but in general we are expecting policy tightening in Eastern Europe as countries there are still growing above trend and seeing some signs of overheating. In Asia, the Philippines is in a similar situation, with above trend (and accelerating) growth creating upside inflation risks.
Determining China’s monetary stance has never been straightforward – China uses a combination of macroprudential policies, market-based rate measures, and quantitative tools to control interest rates, liquidity and credit growth. Although monetary policy tools have become more sophisticated and market-based, the current financial deleveraging campaign and regulatory crackdown makes assessing the trajectory of monetary policy more difficult. Credit growth and M2 have slowed substantially, despite surveys of credit demand rising to near-term highs (see Chart 11). The regulatory crackdown was/is intended to target high leverage within the financial sector itself and not intended to sharply cut the supply of credit to the real economy. In this respect it has largely been successful as bank and trust lending offset the contraction in channels that were under increased scrutiny. The questions facing China this year is how long the regulatory crackdown will continue and what impact it will have on credit growth and the overall monetary stance. Recent regulations provide a partial answer – the tight regulatory stance will likely continue, and make it difficult to avoid a further fall in credit growth. The CBRC called for renewed efforts to regulate trusts and told banks to reduce the funds being channelled to trust companies. In addition, new regulations on entrusted loans stated that non-bank asset managers could not finance the loans. However, since entrusted loans and trust loans combined account for 15% of aggregate financing, a further fall in credit growth might be unavoidable. To offset the slowdown, traditional bank loans would need to accelerate and corporate bond issuance recover. December data showed disappointing new bank loans, so January will be a more important sign of the trend. Bond issuance might grow this year, but with a substantial amount maturing this year it will have to grow significantly to create net growth, which will be difficult in a higher yield environment.