Perspective - Economics
Why we’ve lowered our expectations for emerging markets growth
Craig Botham explains growth downgrades for Brazil and India for this year, and why Russia sees a slight upgrade.
The increase in oil prices this year, and renewed trade tensions between the US and China have led us to make broadly negative revisions to our emerging markets forecasts this quarter.
In some countries, local factors may counter the higher inflationary effect of increased oil prices. In China, however, African swine fever is putting further upward pressure on inflation because it is pushing up the price of pork.
Source: Thomson Reuters Datastream, Schroders Economics Group, 13 May 2019.
The forecasts included should not be relied upon, are not guaranteed and are provided only as at the date of issue. Our forecasts are based on our own assumptions which may change. Forecasts and assumptions may be affected by external economic or other factors.
We see slightly more scope for interest rates to be lowered, or at least less pressure for rate rises, in some emerging markets due to country-specific factors. Consequently, we now forecast a more accommodative outlook for monetary policy in Russia, India and Brazil. Again though, these are relatively minor revisions.
China-US trade truce broken
In China, first quarter GDP growth was stronger than we and consensus had anticipated, at 6.4% year-on-year, showing no slowdown from the end of 2018. However, the outlook for trade talks has darkened and is an obstacle to any thought of a growth upgrade. Indeed, it has prompted us to downgrade 2020 growth slightly; consistent with our US outlook.
We think this will manifest first through exports and investment, with knock-on effects for retail sales and industrial production. This also leads us to think that the central bank will need to revert to accommodative policy sooner than it might otherwise have wished.
One notable change for the China outlook is an upward revision to our inflation forecast. This is partly due to higher crude oil prices, but at least as important is the domestic pork price. China is seeing pork prices surge as a consequence of African swine fever, which has devastated domestic herds. The price impact is only just beginning to feed through, as the pre-emptive mass slaughter of pigs until now, initially led to a glut in the market.
Consequently, we have increased our inflation forecasts for this year and 2020. However, we do not believe that China’s central bank will halt its shift to more supportive monetary policy on the basis of the recent inflation pick-up. This is partly because we do not see inflation sustaining above the central bank’s 3% target for long, and partly because we see economic growth as the chief concern.
Brazil: dam disaster adds to woes
We have downgraded Brazilian economic growth for 2019 on the back of a series of disappointing monthly data prints; retail sales and industrial production have been very weak. Meanwhile first quarter GDP growth, published shortly after our forecast update, slowed sharply to 0.5% year-on-year from 1.1% in the final quarter of last year.
We ascribe some of this to ongoing uncertainty around pension reform and the impact on confidence and investment. Pension reform is viewed as key to putting public finances on a sustainable footing and boosting growth; we still expect it to pass later this year, albeit with some dilution of the current proposals.
There has also been a material hit to activity from the Brumadinho dam disaster. Owned by Vale, the world's largest iron ore producer, the dam's collapse in January killed more than 200 people and led to a $4.5 billion cost to Vale, or around 2% of Brazilian GDP. Vale was also ordered by Brazilian courts to cease mining operations elsewhere in Brazil. On its own, the disaster is estimated to have shaved 0.2 percentage points from Brazilian GDP growth in 2019.
Brazilian mining a drag on industrial production
Source: Thomson Datastream, Schroders Economics Group. 17 May 2019
We have made minor changes to our inflation projections in Brazil. Despite a slight upgrade to the 2019 forecast, this is unlikely to be sufficient to induce the central bank to raise interest rates, and in fact we now expect rates to remain unchanged this year and next, as policymakers attempt to compensate for slower-than-expected growth in 2019.
India: elections unlikely to have a significant macroeconomic effect
India’s marathon election process concluded with a stronger than expected victory for incumbent Narendra Modi. We do not think that the result will make a significant difference to the macroeconomic outlook.
We assume that in his second term Modi will continue to follow a broadly pro-business agenda, bolstered by a larger majority. However, it is not clear how much appetite the prime minister has for pursuing aggressive macroeconomic reforms. Attempts to push through land and labour reform at the start of his first term fell short, and absorbed large amounts of political capital. A more nationalist bent has emerged since then and partially diluted the reform agenda. Consequently, we would not expect any big bang reforms, but instead a continuation of the last five years; incremental improvements in the business environment.
The changes to our outlook arise chiefly from weaker-than-expected economic data for the start of the year. This leads us to once again revise down 2019 growth marginally. Helpfully, however, inflation has also surprised to the downside, to the extent that even with a higher oil price we lower our inflation expectations. This provides scope too for greater support from the central bank.
Russia: economic outlook improving
By contrast, we have upgraded our growth forecast for Russia. The economy should benefit from higher oil prices this year, and first quarter growth was stronger than expected. We continue to expect a pick-up in growth in 2020, despite slower global growth. This is thanks to planned increases in government spending on infrastructure.
Adding to the good news, the VAT hike introduced at the turn of the year has proved less inflationary than we and the central bank had feared. In combination with stronger oil prices, which are supportive of the currency, this has led us to downwardly revise our 2019 inflation forecast.
The central bank had adopted a relatively cautious policy outlook, in part due to inflation projections influenced by the VAT rise. We now think that it has lowered its expectations sufficiently to warrant a further interest cut this year; we forecast interest rates to be lowered to 7% by the end of the year, from the current 7.75%.