What Has Changed in EM

What Has Changed in EM

1) Brazil has proposed a new fiscal package worth BRL56 bln after the S&P downgrade
2) Czech central bank is tilting more dovish
3) Central Bank Governor Jouahri said Morocco will seek IMF on how to shift to a flexible exchange rate
4) Polish President Duda will present a bill soon that would lower the retirement age and raise the minimum wage
5) S&P upgraded Korea one notch to AA- with a stable outlook

In the EM equity space, Turkey (+5.1), Malaysia (+4.1%), and South Africa (+4.1%) have outperformed over the last week, while China (-2.9%), Qatar (-1.8%), and Czech Republic (-1.8%) have underperformed.  To put this in better context, MSCI EM rose 3.5% over the past week while MSCI DM rose 0.7%.

In the EM local currency bond space, Russia (10-year yield -32 bp), Thailand (-32 bp), and Indonesia (-27 bp) have outperformed over the last week, while Brazil (10-year yield +30 bp), Chile (+8 bp), and Colombia (+5 bp) have underperformed.  To put this in better context, the 10-year UST yield fell -3 bp over the past week.

In the EM FX space, RUB (+3.2% vs. USD), MYR (+2.9% vs. USD), and ZAR (+2.3% vs. USD) have outperformed over the last week, while ILS (-0.8% vs. USD), BRL (-0.7% vs. USD), and IDR (-0.4% vs. USD) have underperformed.

1) Brazil has proposed a new fiscal package worth BRL56 bln after the S&P downgrade.  Many of the spending cuts are cosmetic, via delayed hiring or delayed pay increases.  On the other hand, much of the extra planned revenue is based on the CPMF financial transactions tax, which the lower house already rejected a couple of weeks ago.  Indeed, the head of the lower house has already said that new CPMF approval is unlikely.  In related news, local press is reporting that Lula and the PT are considering pro-growth measures that would see Levy and Tombini leave their posts.

2) Czech central bank is tilting more dovish.  Central banker Lizal noted that the CNB may not only prolong their loose policy regime but it may also ease monetary conditions further if negative pressures from the eurozone hurt the Czech economy.  This is the latest Czech central banker to raise this possibility recently, and the dovishness is a bit surprising.  Yes, deflationary risks remain strong but the real sector recovery is going pretty well.  Hungary and Poland are facing similar deflation risks but neither is talking about further easing, at least not yet.

3) Central bank Governor Jouahri said Morocco will seek IMF advice on how to shift to a flexible exchange rate.  More and more currency pegs are being phased out in the EM and Frontier space.  Indeed, 2015 may be on a par with 1997-98 in terms of the number of countries moving away from pegged exchange rates.  How to manage the de-peg is key, and Morocco is doing the right thing by consulting with the IMF.

4) Polish President Duda will present a bill that would lower the retirement age and raise the minimum wage.  Duda said the timing would give lawmakers more room to work on them ahead of the October 25 elections.  He added that Poland should lobby the EU so that any local farmers who break EU milk quotas won’t face penalties.  Duda’s victory has pulled (and will continue to pull) Polish politics and policy more towards anti-EU populism.  In effect, Duda is calling the ruling Civic Platform’s bluff in its efforts to appear more populist ahead of the elections.  An opposition Law and Justice victory this fall would be very negative for Polish assets.

5) S&P upgraded Korea one notch to AA- with a stable outlook.  This was not a big surprise, as S&P move puts it equal to Moody’s at Aa3 and Fitch at AA-.  Our own sovereign rating model rates Korea at AA- too and so further upgrades are seen as unlikely for now.