beyondbrics

When the developed world nosedived into the Great Recession in 2007, few economists thought emerging markets would grow quickly enough to prevent a prolonged global downturn. But they did.

Now they risk paying the price in the form of inflation. As Stefan Wagstyl, emerging markets editor and editor of beyondbrics, argues on the FT’s analysis pages on Tuesday, rising food and fuel prices are having dangerous knock-on effects.

The piece quotes John-Paul Smith of Deutsche Bank:

Investors are underestimating the extent to which inflation across many emerging markets is a structural as opposed to a cyclical phenomenon.

Smith – a self-professed structural GEM bear – warned beyondbrics this month about the broader dangers facing the EM asset class. Among his concerns are what he calls increasingly heterodox policies being used in emerging markets to tackle rising inflation.

Not all emerging markets are at risk. As Wagstyl points out:

Some states have learnt from history and tamed inflation through consistent anti-inflationary policies, including tight fiscal management and bank supervision. The Czech Republic is an example, with inflation of just 1.6 per cent.

But tight fiscal management has not been embraced by all. Brazil, Russia and China have all made fighting inflation their top priority this year. Yet while Brazil, for example, has consistently met its fiscal targets, it has done so only by raising tax revenues more quickly than spending. The country’s finance minister says the trick can be pulled off indefinitely – meanwhile, the country risks slipping back into the bad old days of “indexation”, when wages and prices chased inflation indices into a mad spiral.

Governments would need a lot of persuading to enact deep spending cuts while their economies are growing strongly. Indeed, as Wagstyl argues:

Overall, emerging nations’ rapid recovery from the global crisis is a historic achievement that has helped prevent prolonged worldwide recession. Their economies are resilient and their companies compete with the best anywhere. For most, the cost in terms of increased inflation is so far justified by the GDP growth generated.

But inflation’s destructive power, especially on living standards among the poor, is not to be overestimated. Brazil, for one, has seen it before. The emerging world will need all its resolve to avoid it now.

Related reading:
Fund flows: out of equities, into bonds? Not so fast, beyondbrics
GEM bulls look out, here comes a bear, beyondbrics
Chart of the week: inflation stoking inequality in China and India, beyondbrics