- Political unrest in Ukraine and Thailand makes headline news these days
- However, the flaring up of political unrest is nothing unusual for emerging markets …
- … and political risks are already to a large extent priced in for many countries
- Global financial markets appear to be more concerned about Fed tapering
Political turmoil EM flares up again
Today it is Ukraine and Thailand that reach the headlines, but in fact the flaring up of political unrest is not unusual for emerging markets. The Arab Spring is perhaps the most extreme and disruptive example, but in the past years we have seen protests in countries as diverse as Brazil, Chile, South Africa, Russia and Turkey. Although the nature and background of the protests may be different, a common feature in most countries seems to be that the electorate is no longer simply satisfied with the increase in wealth seen in recent years, but is also demanding that this wealth is associated with more inclusive growth and, better policies.
Ukraine’s political turmoil adds to high risk of default
Political turmoil intensified in Ukraine, after the authorities recently halted negotiations on an EU Association Agreement. This decision followed increasing pressure from Russia, which considers Ukraine – literally meaning ‘borderland’ – to be part of its orbit. With Ukraine traditionally split between a pro-EU-part (especially in the west of the country) and a pro-Russia eastern part, the decision has stirred up sentiment and led to mass demonstrations, bringing back memories to the 2004 Orange Revolution. All this adds further stress to a country with an already very fragile external position – large current account deficit, high external debt service and rapidly falling FX reserves – and with poor access to external financing. Securing a new IMF loan is probably the best way forward to deal with the current stress and to prevent an outright default . However, political commitment to the Fund’s preconditions has always been difficult, (see also our report Ukraine’s external pains published in October).
Thailand has much to lose from political turmoil
Political upheaval in Thailand has once again escalated. Uncertainty surrounding the political developments is weighing on economic activity as investor confidence suffers, affecting the already low GDP growth rates from the past two quarters. Moody’s has already warned about the implications of lower economic growth for government debt prospects. We expect that ratings will remain unchanged, but only if political unrest reverses quickly. In response to lower growth Thailand’s central bank decided to cut its policy rate by 25bp to 2.25% in late November. We expect that the Bank of Thailand will wait for further clarity on the impact of political instability before taking additional measures.
How have financial markets reacted so far?
Financial markets appear to be more concerned about the Fed tapering than about the developments in Ukraine and Thailand. Better-than-expected US economic data have increased the prospect of an earlier or a more aggressive tapering of bond purchases by the Fed. This has led to higher US Treasury yields, a lower JPY (higher USD/JPY), lower gold prices, lower emerging market currencies and slightly higher equity market volatility (VIX). If markets would have been worried about a possible contagion in emerging market assets, the JPY would rally and gold would be supported.
OPEC in focus
Today the OPEC will meet in Vienna. Market consensus, including ours, is for no change in production. The Iran deal did not lead to an immediate rise in Iran oil exports, and with production disruptions in Iraq and Libya, Saudi Arabia is likely to keep production up to secure stability in the OPEC output. There are, however, developments to watch in the near term, which could potentially lead to OPEC instability and production uncertainty in the coming years. Among these events are: the discussion about the OPEC-chairmanship, the ambition of Iraq to triple its output, the return of Iranian and Libyan oil, the US shale revolution, rising domestic demand, rising fiscal budget costs, succession of the Saudi King.