Readers’ Questions Answered Part VII
Many of you may be particularly concerned about the developments related to debt in the eurozone and the U.S. over the last few weeks. I’d like to take this opportunity to share my thoughts on these events and respond to a couple of reader’s questions.
How concerned are you about the current problems within the eurozone and with U.S. debt?
– Peter, United States
To me, the European debt situation does not seem as serious as the U.S. debt crisis, both in terms of scale and the possible impact on the global economy. As such, I believe the world’s focus should really be on the U.S. debt crisis. We also have to remember that the tolerance for debt is generally affected by investor confidence levels. Therefore, we must focus on reinstating confidence, which may be impacted if debt levels rise. Increasing debt levels may lead to a weaker currency, as investors may shun currencies of countries burdened by debt. One possible way to counter the effects of a weaker currency is to make investments that could potentially increase in value over the long-term and could thus potentially help reduce the value-eroding effects of inflation, which can result from a weaker currency.
In Europe, we will continue to closely watch the region’s emerging markets, particularly Romania, Russia and Poland. In Romania, we continue to see plenty of opportunities, especially in sectors such as energy and transportation. I’m also very excited about Russia, where we see high growth potential, particularly in the agriculture, natural resources and oil sectors. We believe Poland offers potential resulting from its strong political structure and what has been its positive gross domestic product (GDP) growth. In fact, Poland was the only country in the European Union to maintain positive GDP growth throughout the 2008-2009 global financial crisis.
With the U.S. debt ceiling lifted, what are your thoughts on the effect on emerging markets?
– Joseph, Philippines
The lifting of the debt ceiling was expected to take place eventually, since there seemed no other way out of the problem in the short-term. The world’s focus now has turned to the downgrade of the U.S. credit rating. In general, the short-term impact on emerging markets has been similar to the impact on other world markets—confusion, volatility and a loss of investor confidence. However, in the medium to longer term, with the increased money supply and continued loose monetary policies, not only in the U.S. but in other parts of the world, we expect higher inflation to impact all countries, including emerging markets.
How might these issues broadly impact global markets?
I believe the European debt crisis alone is unlikely to cause a global recession, because we are seeing continued growth for many countries around the world. The IMF forecasts that, as a whole, emerging economies will grow 6.6% this year, three times faster than the 2.2% growth projected for developed countries. Increasing consumption and per capita incomes, especially in emerging markets, continue to drive our focus on the consumer and commodities sectors.
So far, we have seen no significant impact of developed market debt problems on emerging economies, including Asia’s export-driven markets. We expect Asia’s exports to grow and likely remain the engines of the region’s prospects. We must remember that despite the concerns about European sovereign debt, the region continues to consume. Also, Asian countries have become less dependent on the U.S. and European export markets. In many of these countries, the U.S. and Europe are no longer the largest export destination. For example, 41% of China’s exports and 58% of Thailand’s exports have gone to other Asian countries.
As I see it, the problems surrounding the U.S.debt situation have placed greater emphasis on the potential of emerging markets. Several emerging countries have lower debt-to-GDP ratios and larger foreign reserves than many developed countries. We may see more diversification away from the U.S. dollar and U.S. Treasuries and into emerging markets, a shift that has already been reflected in the strong appreciation of several emerging market currencies. Credit default swap (CDS) spreads are another potential indication of that preference, with some emerging countries having a lower CDS spread than some developed countries, implying a lower perceived risk of default.