As policymakers in the developing world struggle with the persistent spread of the coronavirus, they face the economic threat of inflation, not just at home.
In large economies, particularly in the United States, price fluctuations boost investor expectations of higher interest rates. This boosts bond yields, making debt sales more expensive for other countries as buyers demand higher yields.
What should be good news is that the beginning of world recovery has become a threat instead. That the price of loans will reach dangerously high levels in countries such as South Africa and Brazil, undermining their already volatile public finances.
Inflation. A new era?
In many large economies, prices are rising. FT is investigating whether inflation has finally returned.
DAY 1. Progressive economies have not faced rapidly rising inflation for decades. Will that change?
DAY 2. Global consensus among central bankers on how best to boost low, stable inflation was destroyed,
DAY 3. Canary in the coal mine for US inflation. used cars.
DAY 4: How? The virus has crashed Official inflation statistics.
DAY 5. Why are rising prices in advanced economies a problem for developing debt countries?
“Emerging economies need to worry more about US inflation than they do,” said Tatiana Lysenko, S&P Global Ratings’ emerging market economist.
“Not only is inflation and profitability growth in the United States increasing borrowing costs in the developing world,” he said. The broader risk is that the US economy will grow stronger than emerging economies, causing their stocks և bonds to leak և and eventually currency weakness.
Although rich countries have been able to borrow very slowly during the epidemic, many developing countries are already facing much higher financial costs.
S&P data show that refinancing costs of 15 of the 18 major developed economies fell by more than a percentage point below their average borrowing cost. Most pay a 1% fee. Raising funding costs by 1 percentage point will be easy for many to bear.
The same cannot be said of developing countries. Egypt, which is set to refinance its debt to 38 percent of GDP this year, is paying an average interest rate of 12.1 percent, which is 11.8 percent higher than its median value, according to S&P. Ghana pays 15 percent, while the average is 11.5 percent.
The danger is not only at very high rates. This year, Brazil refinanced at an average interest rate of 4.7%, which is lower than the average value of its existing debt. But this was done by selling bonds that need to be repaid faster than in the past.
This excludes the work of years when Brazil sold older fixed-rate debt to make its finances more stable. Last year, the average repayment period of his new debt was two years, instead of five in 2019.
This year, Brazil must refinance the debt, which is equal to 13% of GDP. It is lower than small countries, but generally a larger amount և it can be hampered by rising interest rates or a slower-than-expected recovery.
The central bank has already raised interest rates twice this year in a bid to curb price pressures after inflation exceeded its target range of 2.25 to 5.25 percent. Another increase is likely at its next meeting later this month, forecasting a base interest rate of 5.5 percent by the end of the year and a record low of 2 percent in March.
Brazil is a shining example of how inflation and rising profitability threaten debt stability, says William Acks Exxon of Capital Economics. “It has tightened public finances, inflation has risen. The central bank, which raises interest rates, feeds on debt service.”
He said South Africa was in the same category as Egypt, which was in dire need of refinancing.
There are mitigating factors. For example, Brazil, South Africa: India rely much more on domestic creditors than foreign ones. It makes them less vulnerable to capital outflows than they were during the debt crisis of the late 20th century.
In particular, India has applied to its domestic banking system to issue 10-year bonds at an interest rate of about 6%. It also borrowed less overdue loans during the epidemic, and despite its low refinancing requirement of just 3.3 percent of GDP this year, it is less vulnerable to rising rates.
But William Foster, vice president of Moody’s Investors Service Sovereign Risk Group, said India’s fiscal problems depend on debt, not government revenue, to fund its epidemic response.
“India has a large fiscal deficit, a very high debt stock,” he said. “The most important thing for debt sustainability is to achieve a higher rate of medium-term growth through reforms and other private investment measures that we have not seen in years.”
If, as many politicians hope, this year’s rise in inflation has been transient, interest rates in emerging economies may not be very high.
The governor of Brazil, Roberto Campos Neto, told a conference this week that the question was whether inflation was temporary, justified by growth, or whether central banks should raise interest rates further. “The first case is good for the developing world,” he said. “The second is not.”
“Food prices are already rising at a rate that boosts consumer inflation expectations,” Lisenko said. If interest rates rise significantly, it will be difficult to reduce debt growth and ensure growth in stable emerging economies.
“In an interconnected world with high capital inflows, US returns are significant,” he said. “It’s too early [for emerging markets] tighten [monetary policy], because doing so now can hamper their recovery. “But some countries may not have much room for improvement.”