Emerging markets under pressure but can political changes help?

Big Six bank economist considers how political moves could impact the outlook for two of the most-watched EMs

Emerging markets under pressure but can political changes help?

Emerging markets (EMs) are facing mounting pressure “face mounting due to internal and external imbalances” warns Allianz in its latest global economic outlook.

But there has been some good news for two of the most closely watched EMs says Art Woo, BMO Economics’ director and senior economist.

In his EM Outlook, he notes the positive news coming out of Turkey and Brazil in the past week: a re-elected president Erdogan appointing new heads of Turkey’s finance ministry and central bank; and Brazilian president Lula not taking a feared far-left shift in his country’s economic policy.

Woo asks whether these two leaders will be able to maintain more conservative policies for the long term.

The economist is skeptical that Turkey’s president can do so, at least for now, with inflation increasing at eyewatering levels (CPI at almost 40% year-over-year in May) despite previous insistence from Erdogan that higher interest rates are the reason for inflation rather than an instrument to address it.

While the president has brought back a previous deputy prime minister and finance chief to shore up credibility and increased interest rates, he will be concerned about the soaring cost of living especially with local elections in 2024.

Brighter Brazil?

Despite Lula and his left-leaning party being keen to ramp-up public spending, it is constrained by limitations introduced in 2017.

This Public Spending Cap is set to be revised, but the president will still have curbed ability to move too far from the current policy, especially with three quarters of Brazil’s lower legislative chamber being from centre-right and centrist parties.

Woo also notes that the president has eased back on attacking central bankers due to the effect on the financial markets.

The Lula administration’s representation on Brazil’s National Monetary Council could however reduce the central bank’s control of interest rates over time.

In conclusion, Woo believe that despite the more favourable outlook for Brazil, it is Turkey that has the much greater potential upside from a financial market point of view.

He says that if Erdogan is really “willing to give up his unconventional beliefs on monetary policy” there could be a big boost for Turkey’s economy in the coming years.