Emerging Markets: Economy Update September 2014

Transcription

1 Emerging Markets: Economy Update September 2014 MACRO REPORT Executive Summary Monica Defend Head of Global Asset Allocation Research Also contributing Annalisa Usardi Economist, Global Asset Allocation Research Andrea Brasili Senior Economist, Global Asset Allocation Research Alessia Berardi Economist, Global Asset Allocation Research Elina Ribakova Senior Economist, Global Asset Allocation Research Riccardo Soggiu Senior Economist, Global Asset Allocation Research CHINA: The risk to our central forecast for Chinese GDP is to the downside, meaning that the target for this year could be missed. Today, the dilemma is the conflict between the will to achieve that target with further efforts to ease credit, and the will to speed up the reforms process while tolerating lower GDP growth. EMEA: Concerns regarding European energy security continued, as the ceasefire in Ukraine appears very fragile. Countries particularly exposed to any shortage of gas are Germany and Austria; it is therefore not surprising that business sentiment in Germany has continued to be weak. In Germany, Russian gas is used mostly for industrial use and a number of industries have a high degree of energy dependency. We estimate that the political uncertainty surrounding conflict with Russia could shave off as much as % of GDP growth in 2014 and For Russia itself we now expect a recession of 1.5% in 2014, and subdued growth in subsequent years. The ruble also continued to come under pressure as Bank Rossi may find it difficult to hike rates due to growth concerns. That said, we do not rule out emergency measures should the ruble continue to depreciate rapidly. Russian corporates continue to struggle with the shortage of US$ in the system, given the expected sharp drop in roll-over ratios for Russia s private sector external debt due to sanctions. LATAM: We remain quite gloomy about the forecast for this year s growth in Brazil, especially after 2Q14 performance which technically put Brazil in recession. The low growth-high inflation mix is representing a difficult dilemma for Brazil s Central Bank: While the Committee is trying to address the deceleration in economic activity with credit measures, it also seems to be reinforcing the message that no further cuts in the benchmark SELIC rate are in prospect. Mexico: After a couple of weak growth quarters, Mexican GDP posted strong performance in 2Q14, growing at a seasonally adjusted annual rate of 4.2%. We might see further acceleration in the second half of 2014 as US growth strengthens, bringing higher demand for Mexican exports and lifting employment, which should in turn be supportive for internal demand. Government spending on infrastructure and the approval of secondary legislation on the energy reform side should also generate a positive payoff in the medium-to-longer term for the Mexican economy. Asia 1. China The macro figures just released for August signal a further clear worsening of the macro outlook: Industrial Production has grown by 6.9% YoY compared to 9.0% in July, and Fixed Asset Investments by 16.5% YTD YoY compared to 17% in July. 1

2 In consequence of that, we have lowered our GDP forecast for Q to 7.4% YoY from 7.5%, while confirming our expectation of 7.4% for the year overall. We confirm our GDP growth expectation at 7.4% YoY. Internal Forecast of Chinese GDP China Real GDP Forecast (YoY) 2014Q1 2014Q2 2014Q3 (E) 2014Q4 (E) Bear Bull 78% Probability Central Scenario 7.4 Consensus 7.4 IMF 7.0 Source: Bloomberg, CEIC as of September 15, The risk to our central forecast for Chinese GDP is to the downside, meaning that the target for this year could be missed. Today, the dilemma is the conflict between the will to achieve that target via further efforts to ease credit, and the will to speed up the reforms process while tolerating lower GDP growth. In our opinion, the path will not be linear in one direction or the other. Sooner or later, the reforms process has to be completed in order to avoid the crash of the economic system, but the pace will be dependent on the growth path, at least in the short term. As of today, we expect that Chinese authorities will try to stay reasonably close to the target without relying on massive credit easing. The success of this strategy is not guaranteed and some adjustments could be requested on the way. One likely approach would be to let GDP grow less than the target this year and reduce the target for next year towards a rate closer to the true potential. Inflation The August PPI figures confirmed the picture of deflation at the corporate level (-1.2% YoY from -0.9% in July). CPI softened at 2.0% YoY from 2.3%. While the risk exists, deflation is not our base case, due to the upside pressure coming from wages and from price liberalization on a medium-to-long term horizon. In the ongoing process of liberalising interest rates and increasing efficiency in credit allocation, monetary policy has to remain prudent to prevent a return to the old model of credit allocation and growth. In order to achieve the GDP target and to support economic growth, the PBOC seems comfortable with its current stance of selective/targeted easing. However, the recent awful macro figures open the door to a more incisive intervention by the PBOC, and the inflation outlook will not prevent it. 2. India India s economy has to be unlocked, and a big effort with respect to political reforms is needed. The Indian economy has already started to turn up: The Q GDP has been printed at 5.7% YoY and Fixed Investments nicely contributed to growth by 2.3%, after many stalled quarters. Of course, the recovery in place is based largely on the measures introduced by the former Government. With regard to the new reform plan, in the short term, Modi s Cabinet is taking care to execute the decisions to unlock investments already approved. The reforms are more of a long term process and the accompanying productivity improvements will be crucial to lifting growth. All of it will take time and it will be 2

3 quite difficult to achieve the previous GDP growth peaks of around 9% anytime soon. Countercyclical tools such as rate cuts or further fiscal expansion are not currently available, Investments are recovering slowly and banks are not aggressive in financing. However, the confidence indicators are all pointing to the upside. Recent GDP Dynamics: Contributions to the GDP % YoY % Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q C G FI INV Net Trade Discrp. GDP YoY Source: CEIC, data as of September 15, Inflation In August, Headline Inflation eased to 7.8% YoY (still below the RBI target for January 2015 at 8% YoY). The benign dynamics were more focused in the Core components of the Index than in the Food component: Core Inflation declined to 6.9% YoY from 7.3%. Going forward, we expect that the inflation rate target will be achieved by January 2015 as in the RBI expectations, while the risk of the 6% YoY inflation by January 2016 is to the upside. The new Government is acting in keeping with the RBI s desire to keep the inflation rate under control. In order to reach the inflation targets for , the RBI is expected to stay on hold in the near future. Moreover, the commitment of the new Government to fiscal consolidation and the measures put in place to rein in inflation spikes are supportive of the Central Bank s goals. As highlighted by our internal Taylor Rule, with the August CPI numbers we confirmed the fair value for the policy rate at 7.5% compared to the actual 8%. However, the risks related to next year s target will prevent the RBI from cutting rates any time soon. Triggers India: An effective Government in India, able to address the inflation issue and unlock investments, together with the RBI s support. Risks China: Adherence to the GDP target of 7.5% YoY, when the potential growth is below, will result in an unnecessary effort to achieve it and in a further misallocation of resources. 3

4 EMEA 1. South Africa In the words of the South Africa Reserve Bank, the Committee faces an increasingly difficult dilemma of rising inflation and slowing growth. Recent data has added to the complexity of the macroeconomic situation in South Africa. The Q2 current account deficit bounced back to -6.2% of GDP, despite the recent weakness of the rand, unsettling the market. While GDP data rebounded to some degree (rising 0.6% QoQ annualized in Q2, reversing the previous decline), manufacturing dropping by -3.6% MoM, -7.9% YoY is further evidence of a slow dynamic, due in part to continuing mining and metals sector strikes. There is nothing in the news that points to a solution for the SARB s dilemma of excessive inflation (and a possible wage-inflation spiral) and inadequate growth. It is clear that the current account deficit could be the arbiter in this dilemma and suggest a tougher stance. However, as the SARB noted, the mining strikes caused first the slowdown in Q1 and then the worsening of current account deficit in Q2 (platinum production in July was down by 45.2% YoY). South Africa: Current Account Deficit and (%) % Q Q Q Q Q Q GDP QoQ Ann. CA /GDP RS The SARB dilemma: Slowing growth with high inflation and a potential wage-prices spiral Source: Datastream, data as of Sept 12, Inflation Inflation numbers are mixed. As the SARB explicitly stated in its last (July) statement, there are no inflationary pressures coming from demand or from excessive credit growth; nonetheless, the wage settlement round (linked to the strikes cited above) is considered worrisome. Headline inflation declined a little in July to 6.3% YoY from 6.5%. The core rate, by contrast, trended up a little from 5.6% in June. It seems likely that the SARB will want to see more data before deciding to continue to hike after the 75 basis point increases during the summer. This is despite the fact that further weakening of the currency (since the last meeting the rand depreciated by 3.5% vs the US dollar) could maintain CPI rates above the upper bound of the target range. 4

5 2. Turkey The Turkish statistical office stated that GDP rose by 2.1% YoY (workday adjusted, after 4.7% in Q1) which is tantamount to a -0.5 contraction on a quarterly basis. The number is below expectations, as the improvement in the trade balance and the apparent resiliency in industrial output were suggesting a better outcome. The strong rise in production in July (1.8% MoM) allows the interpretation of this Q2 figure as a somewhat erratic one-off result. It is likely that Q3 will be stronger and in positive territory. Apparently, however, the main negative contribution to growth is coming from the decline in private investments. This, together with the evidence of a clear improvement in the trade balance (in the first seven months of the year the deficit amounted to 45.7B USD against 60B in the corresponding period last year) could convince the Central Bank to embrace a softer stance. Turkey: GDP Contracted in Q2 (%) is slowing and the Central Bank could be induced to ease again Q Q Q Q Q Q2 Source: Datastream, data as of Sept 12, The Central Bank released its inflation report, forecasting inflation at 7.6% by yearend and as being back at the target by the end of 2015; the current level in August is 9.54% (it has hovered above 9% since April and has risen a little since July). The CBT suggested headline inflation as being a bit stronger than forecast but with core numbers substantially in line. It s clear that the actual output gap could be closing more slowly than thought, hence freeing a bit of space for some further easing (at least it seems likely that government pressures in this direction could increase). The next meeting of the CBT is planned for the 25 th of September. 3. Russia GDP QoQ RS GDP YoY The economy is slowing sharply. Until recently, domestic consumption was supported by increasing real wages in the public sector and credit growth. However, real wage growth above productivity is already putting a strain on regional budgets, while consumer credit is showing signs of saturation. Investments, already low as a percent of GDP, began to slow at the end of 2012, driven first by cuts in the government budget and state-controlled enterprises, and more recently by the 5

6 private sector. Political uncertainty amid looming sanctions, plus the tightening financial conditions (again partly because of the sanctions and partly as a result of higher policy rates to stem financial outflows) caused an abrupt fall in Q In general, GDP came out up a meagre 0.9% YoY in Q1 and 0.8% in Q2. Nonetheless, due to demographic change and structural problems in the economy, unemployment reached an all-time-low of 4.9% in August. Inflation continues to move up as a consequence of ruble weakness, and is hurting consumer purchasing power. Inflation We do not expect inflation to fall under 7.0% in 2014, despite cooling domestic demand. As of 7 September, inflation accelerated to 7.7% due to ruble weakening and a ban on agricultural imports. We estimate a pass-through effect of about 0.2% where a ruble devaluation of 10% brings about a 2% increase in inflation. Further sanctions on car imports and textiles will put additional pressure on the CPI. The weakness in consumption is also clearly related to the fact that wage inflation is now running at the same level as the consumer price inflation which hits the purchasing power of households. During its last meeting in September, Bank Rossii decided to keep rates on hold, possibly due to political pressure. The move was not welcomed by the market and the ruble weakened sharply. Should this sharp devaluation dynamic continue, we expect Bank Rossii to react by a combination of FX interventions (spot or swaps) and/or monetary tightening. Since March 2014, Bank Rossi has been forced by the fallout from political unrest in Ukraine to increase its key rate used for one week open market (liquidity providing and absorbing) operations, from 5.50% to 8% in a bid to sustain the exchange rate of the ruble. Going forward, we expect the need for US dollars to be acute among Russian corporates and banks as a result of the sanctions aimed at limiting available financing. Triggers If the ECB proves successful in enhancing Eurozone conditions both in financial markets and on purely macroeconomic terms, this will have clear positive spillovers in the region. Risks Main risks are still on the geopolitical side: the Ukraine-Russia issue can impact via volatility in the market, commodities prices and also direct trade links. 6

7 Latin America Brazil: We remain quite gloomy about the forecast for this year s growth in Brazil, especially after 2Q14 performance which technically put Brazil in recession. The low growth-high inflation mix is representing a difficult dilemma for the BCB: While the Committee is trying to address the deceleration in economic activity with credit measures, it also seems to be reinforcing the message that no further cuts to the benchmark SELIC rate are on the horizon. Mexico: After a couple of weak growth quarters, Mexican GDP posted a strong 2Q14 performance, growing at a seasonally adjusted 4.2%. We might see further acceleration in the second half of 2014 as US growth strengthens, bringing higher demand for Mexican exports and lifting employment, which should in turn be supportive for internal demand. Government spending in infrastructure and the approval of secondary legislation on the energy reform side should also generate positive payoffs in the medium-to-longer term for the Mexican economy. 1. Brazil We remain quite gloomy about the forecast for this year s growth in Brazil, especially after the 2Q14 performance which technically put Brazil in recession. In QoQ terms, real GDP growth further contracted in 2Q by -0.6% (1Q decline was -0.2%), bringing the average growth for the year to 0.5%). While Household Consumption recovered marginally (+0.3% QoQ from -0.2% in 1Q), Government Consumption went negative (-0.7%), Gross Fixed Capital Formation plunged (- 5.3%) while net trade posted a positive contribution of 4.9% as Imports contracted - 2.1% versus an improvement in Exports of 2.8%. Surveys do not signal a clear reversion trend as of yet: CNI industry survey continued its negative trend at 46.5 in August, PMI survey data remained below 50 (at 49.6, prior 49.3), with the manufacturing component moving higher in August (from 49.1 to 50.2) while the services component points to deterioration of business conditions (from 50.2 to 49.2). Other data in July posted a rebound that might signal hope for a reversal of the negative trend: Industrial Production in July increased 0.7% MoM but still remains in a negative annual trend (-3.6% YoY after - 7.1% in June). Capacity Utilization improved in July from 80.4 to 81, following the path of industrial production (although the trend is still negative), and the Economic Activity Index turned positive in MoM terms from -1.5% to 1.5%. On the consumption side, going forward some deceleration in the labor market (the unemployment rate, while as low as 4.9%, has been increasing in the majority of the metropolitan areas since the beginning of the year), could be driving a weakness in consumer expectations. With the addition of some deceleration in credit growth and already high consumer indebtedness, we should see significantly diminished ability for Consumption to drive growth as it has in the past. 7

8 Brazil in Technical Recession. Brazil Real GDP, by Expenditure, Contribution 6.0% 4.0% 2.0% 0.0% -2.0% -4.0% -6.0% Mar-05 Jul-05 Nov-05 Mar-06 Jul-06 Nov-06 Mar-07 Jul-07 Nov-07 Mar-08 Jul-08 Nov-08 Mar-09 Jul-09 Nov-09 Mar-10 Jul-10 Nov-10 Mar-11 Jul-11 Nov-11 Mar-12 Jul-12 Nov-12 Mar-13 Jul-13 Nov-13 Mar-14 Household Consumption Gross Formation of Fixed Capital Net Trade Source: Datastream, Pioneer Investments, as of 12 th September 2014 Government Consumption Changes in Inventories GDP QoQ Inflation Inflation is currently above the Central Bank s target level and at the ceiling of the tolerance bands (4.5% +/- 2%). The IBGE IPCA Consumer Price Index was up 6.51% YoY in August (6.5% YoY prior), increasing 0.25% MoM (0.01% prior). The main contributor was Food & Beverages followed by Housing & Home appliances (highlighted in the table below). Inflation at upper band. Inflation MoM, Contribution 1.20% 1.00% 0.80% 0.60% 0.40% 0.20% 0.00% -0.20% -0.40% -0.60% Jan-12 Mar-12 May-12 Jul-12 Sep-12 Nov-12 Jan-13 Mar-13 May-13 Jul-13 Food & Beverage (FB) Home Appliances (HA) Transport Personal Expenses (PE) Communication Source: Datastream, Pioneer Investments, as of 12 th September 2014 Sep-13 Nov-13 Jan-14 Mar-14 May-14 Jul-14 Housing Apparel Health & Personal Care (HP) Education IPCA 8

9 In its September meeting, the COPOM unanimously decided to keep SELIC unchanged at 11% while communicating that "assessing the evolution of the macroeconomic scenario and the perspectives for inflation, the COPOM decided, unanimously, to keep the SELIC rate at 11%, without bias". This likely signals that the BCB will stay on hold for a while. The low growth-high inflation mix presents a difficult dilemma for the BCB: while the COPOM is trying to address the deceleration in economic activity with credit measures, it also seems to be reinforcing the message that no further SELIC rate cuts are on the horizon. A Focus on Presidential Elections After the tragedy with respect to the PSB candidate Eduardo Campos, Marina Silva took his place in the presidential election race. Her entry created a dramatic change in the election polls that had previously seen the PSDB candidate Aecio Neves make significant progress in closing the gap with President Dilma Rousseff in the event of a runoff round. Latest polls now put Marina Silva in position to be the favorite in a second round vote, beating President Rousseff, while the first round is likely to be a neck and neck run. Elections are just a few weeks away and the results remain uncertain. Recent corruption scandals involving members of both the lower and upper houses and linked in varying degrees to the candidates are creating significant background noise and could in some way make the result more volatile. 2. Mexico After a couple of weak growth quarters, Mexican GDP posted in 2Q14 a strong performance growing at 4.2% seasonally adjusted. Overall, average first half growth has been 1.75%, coming from a slow recovery phase in recent past quarters, largely due to weak internal demand and poor US economic performance. Acceleration from the Industrial sector (up from 1.73% to 4.06% QoQ) and Services (up from 1.5% to 4.35%) were the main drivers, while Agriculture (down to 3.65% from 4.56%) decelerated. Within the Industrial sector, Manufacturing increased 6.05% QoQ and Construction improved 6.81%. Given the growth path we expect for the US and the strong gains in the Mexican labor market (although slack remains), we expect Mexican GDP to accelerate in the second half of the year and into There is also the potential for the recently approved energy reforms and infrastructure spending to add to growth. 9

10 GDP growth finally pickingup. Mexico GDP (%) Jun-00 Dec-00 Jun-01 Dec-01 Jun-02 Dec-02 Jun-03 Dec-03 Jun-04 Dec-04 Jun-05 Dec-05 Jun-06 Dec-06 Jun-07 Dec-07 Jun-08 Dec-08 Jun-09 Dec-09 Jun-10 Dec-10 Jun-11 Dec-11 Jun-12 Dec-12 Jun-13 Dec-13 Jun-14 GDP YoY NSA Source: Bloomberg, data as of 12nd of September 2014 GDP QoQ sa Other metrics also seem to bode well for the composition of growth. As we wrote back in July, the trend of weak consumption appears to have partially reversed in 2Q due to some recovery in Retail Sales (+1.1%, after +1.6% in May) and Consumer Confidence (despite a marginal decline in August the household economic situation is improved versus the prior 12 months). On the labor side, job creation was quite strong in Q2, but the unemployment rate in July stabilized around 5.2%, signaling continued slack in the labor market despite an upward trend. On business sentiment, some dampening effect coming from the uncertainty on final demand should moderate, as domestic household consumption recovers and global demand (in particular US growth) increases. HSBC Manufacturing PMI is stable in the expansionary territory since February, moving in August to 52. The IMEF Manufacturing Index clearly accelerated in August, from 49.4 to 51.6, as did the Nonmanufacturing index (up to 52.7 from 50.4). The sub-components of the index accelerated accordingly, especially with respect to new orders and current production. Industrial Production accelerated In July from -0.17% MoM to 0.28% (and from 1.95% to 2.1% YoY), bringing the annual average growth rate to 1.4%YoY. Inflation On the inflation front, CPI data were a bit lower than expected. In August, Headline CPI moved to 4.15% YoY (from 4.07%) while Core moved higher as well, from 3.25% YoY to 3.37%, increasing 0.17% MoM in June (up from -0.32% in May) and 3.75% YoY (up from 3.51% in May). Banxico is currently expecting inflation to end 2014 above 4% and close to 3% in 2015, seeing current pressures as temporary. Upside risk to this outlook on 2015 is presented by the recent proposal to increase the minimum wage. Based on weak economic data, the Mexican Central Bank in May first cut its growth expectations for 2014 from the 3%-4% range to 2.3%- 3.3%; then, surprisingly cut rates by 50 basis points in its June 6th meeting, bringing the overnight rate to 3%. In justification, Banxico cited the poor results for 1Q GDP, the GDP monthly proxy, and 1Q US GDP, as well as the room for action given by a well behaved inflation rate. In following meetings, Banxico left the overnight rate unchanged, and in the 10

11 September meeting the tone of the statement had some more hawkish tones than before. Specifically, Banxico admitted that after the weakness in the previous two quarters, the economy had finally posted "an important recovery" in Q2. Banxico expectations for inflation position CPI above 4% by the end of 2014, but the factors driving the recent increase are considered temporary. As Banxico continues to see slack in the economy, and inflation remains close to 4%, it is difficult to foresee further action by the Central Bank, which will likely stay in wait and see mode with regard to what the Fed does. Triggers Stronger than expected pickup in US activity could positively affect economic activity and exports (Mexico). Planned government spending (i.e. Mexico City Airport) and additional infrastructure projects could support GDP and generate immediate payoffs into the economy, lifting growth above expectations. (Mexico). Secondary Legislation on energy reform has been passed and this could support foreign direct investment from 2015 (Mexico). Risks The slowdown in China could negatively affect exports (Brazil). Fiscal discipline wavers given current weak economic performance (Brazil). Deteriorating confidence and higher rates could further slow the adjustment process towards higher investment (Brazil). 11

12 Important Information Unless otherwise stated, all information contained in this document is from Pioneer Investments and is as of September 16, Unless otherwise stated, all views expressed are those of Pioneer Investments. These views are subject to change at any time based on market and other conditions and there can be no assurances that countries, markets or sectors will perform as expected. Investments involve certain risks, including political and currency risks. Investment return and principal value may go down as well as up and could result in the loss of all capital invested. This material does not constitute an offer to buy or a solicitation to sell any units of any investment fund or any services. Pioneer Investments is a trading name of the Pioneer Global Asset Management S.p.A. group of companies. Date of First Use: September 19,