If you were expecting widespread easing of policy rates across the emerging world, think again.
Since the end of August three EM central banks have cut rates — Brazil, Israel and Indonesia – but don’t go expecting much more monetary easing, Citi has cautioned in a recent report.
Markets are pricing in further cuts and there is some compelling evidence in that direction, namely the “disinflationary effects” of falling global food prices, but “we don’t think it is quite right to expect a full-blown slashing of interest rates”, Citi says.
Global food inflation has recently suffered a sharp decline to 16 per cent y-o-y in September, its lowest rate in 12 months, from an average of 34 per cent during the first 8 months of 2011. The lower inflation rate has creating some disinflationary pressure in a number of countries and could leave EM central banks with an inclination to cut rates.
However, there are a number of other factors that will make it relatively difficult for EM central banks to justify big rate cuts, Citi predicted. It is only really in Asia where there are clear signs of disinflationary momentum, led by Thailand, Philippines, Malaysia and India, whereas in Latin America core momentum appeared to be rising and a similar trend was evident in the CEEMEA region, in Turkey and Russia in particular.
Another factor limiting the scope for rate cuts is that inflation expectations don’t seem to be “tremendously under control”, Citi said. In a number of countries, there is a considerable gap between CPI expectations and the CPI target:
In addition, Citi says overall monetary conditions don’t seem “especially tight” across EM. In a number of countries monetary conditions are tighter than their loosest levels in 2009 but nowhere near as tight as they were in the run up to the Lehman crisis:
As if that weren’t enough, exchange rate pass-through could raise inflation pressures in some countries despite a general consensus that lower levels of dollarization and also stronger levels of central bank credibility in some countries have reduced this transfer in the past few years.
And last but not least in Citi’s reasons not to expect further EM easing we have the discomfort of EM central bankers at the pace of exchange rate depreciation in September:
Figure 10 shows the interventions in fx markets during the course of last month, and some of the interventions were large as a share of foreign exchange reserves. There may be an element of irony here, given that so many EM central banks had previously expressed unhappiness earlier in the year with the pressure on exchange rates to appreciate. But EM central banks’ discomfort in September is valid in the sense the speed of an exchange rate depreciation can be just as important as the amount of a depreciation, since volatility can create self-fulfilling chaos in fx markets. But given that central banks will be reluctant to facilitate any self-fulfilling panics, rate cuts in this kind of environment might be less likely.
Related links:
Dad, where does growth come from? – FT Alphaville
The King has spoken – HSBC on EMs’ policy bind – FT Tilt