Yellen pick buys EMs more breathing space

Too many Americans still can’t find a job and worry how they’ll pay their bills and provide for their families. The Federal Reserve can help if it does its job effectively.

So said Janet Yellen on Wednesday in her first comments following her official nomination by President Barack Obama to be the next US Federal Reserve chair.

The comments – which suggest Yellen is unlikely to put an early end to the Fed’s $85bn-a-month stimulus programme given the shaky-state of the US economy – should be seen as a strong short-term positive for emerging markets.

“In the short term Yellen’s appointment should help the recent rally in emerging market assets to continue,” Andrew Milligan, head of global strategy at Standard Life Investments, told beyondbrics. “She is perceived as dovish, which together with the dysfunctional politics dominating Washington suggests that the QE taper will be at least several months away.”

Since May 22, when the US Federal Reserve first hinted that it could cut back its asset buying programme this year, emerging markets assets have been under pressure. The selling intensified in August amid mounting expectations that the Fed would begin tapering in September. EM currencies – particularly those from countries like Brazil, Turkey, India and South Africa that have large current account or fiscal deficits – suffered a sharp sell-off as investors pulled their money out.

But the Fed’s surprise decision last month to hold fire on tapering has helped reversed some of these losses. The view among many analysts at the time was that EMs have just bought themselves at least three months of breathing space.

But Fabian Eliasson, head of forex sales at Mizuho, thinks that Yellen’s nomination, along with the partial US government shutdown means that tapering now probably won’t start until next year at the earliest.

“The consensus was that tapering was maybe going to start in December, depending on what the unemployment figures look like,” he told beyondbrics. “But the government shutdown has meant that no [economic] data is being collected, produced or released. So this will have an impact on next month’s payroll data.”

“There’s just been too many disruptions,” he told beyondbrics. “The Fed won’t have enough information to make any tapering decision next month.”

Not surprisingly, Yellen’s nomination to lead the Fed has been well received in the EM world.

“She has rich experience and an impressive resume as a policy maker,” Choi Hee Nam, director general of the South Korea finance ministry’s international finance bureau, told Bloomberg. “I expect her to consider well the ripple effects on other countries” from policy decisions such as altering the Fed’s bond-buying program.”

“Obviously Janet Yellen will delay tapering — she has taken a more soft position on this,” Chakravarthy Rangarajan, chairman of Indian Prime Minister Manmohan Singh’s Economic Advisory Council, also told Bloomberg.

In the short-term, barring a no-resolution scenario to the US debt ceiling talks, analysts say they expect to see a return by investors back into longer duration instruments in the coming weeks, a continued recovery in some of the harder hit EM currencies and a further pick up bond issuance from EM companies and sovereigns.

But that doesn’t mean EMs should take this stroke of good luck for granted. The threat of tapering has helped expose some of the structural weaknesses in EM economies – which have been largely papered over by large capital inflows that QE has brought to these countries.

These underlying problems haven’t gone away and we are already seeing a realignment of EM asset values with fundamentals. Given that tapering will happen sooner or later, EMs would be wise to take advantage of this reprieve to get their houses in order before investor sentiment changes again.