Morningstar's "Perspectives" series features investment insights from third-party contributors. Here, Cesar Perez, Chief Investment Strategist for EMEA at J.P. Morgan Private Bank discusses how the countries that have implemented economic reforms successfully are likely to provide the best opportunities for investors.
Regional differences to continue to drive the dispersion in performance between emerging market economies over the coming decades. While growth across emerging markets as a whole has been slower for a number of years, there are clear divergences between individual countries. Specifically, most emerging market manufacturers are showing cyclical improvements, while slowing globalisation is dragging down China and commodity-exporting emerging markets.
The Outsourcing Cycle has Finished
For several decades the developed world outsourced a sizable portion of its manufacturing sector to China, where labour was abundant and cheap, accelerating these country’s growth. Yet emerging market commodity exporters also gained owing to China’s strong demand for natural resources. By the end of the last decade the pace of outsourcing had slowed sharply, as advanced economies had shifted most of their labour-intensive industries out of China. China’s exports miracle faded, its industrialisation process slowed, and the super-cycle in commodity prices finished. The end of outsourcing has now levelled the playing field for emerging market manufacturers, which is why they are already participating in this global recovery.
Yesterday’s Leaders are Today’s Laggards
Meanwhile, China’s cyclical leadership has faded and commodity-exporting emerging markets are now lagging behind the pace of economic growth. This pattern has been reflected in the performance of their respective equity markets. Other emerging market manufacturers are leading the way. We expect this divergence within emerging markets to continue.
Current Account Deficits are Not Always Negative for Future Growth
Cyclical deficits often arise in anticipation of improving growth conditions. As foreign capital flows in, it often pushes a currency to the point where it is strong enough to entice the economy to consume and invest beyond its means. India and Indonesia fit into this category. Last year’s spike in US rates pushed both currencies low enough to stabilise their current account dynamics. Since then the two economies have seen robust growth and falling inflation.
Structural Deficits are More Worrying
They tend to arise in less competitive economies with slower growth, and are often funded by yield-seeking foreign capital. Brazil falls into this category where the pace of growth is capped by a tight labour market and poor labour productivity.
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