What’s the new rules of the game in US …

The two oil-rich Gulf nations have been reclassified as “emerging markets” by Morgan Stanley Capital International (MSCI), having previously been “frontier markets”, with effect from May this year, and their governments are hoping to cash in on this new development by attracting more foreign investment.

But fears are lurking among various organisations that the Fed’s quantitative easing (QE) policy may force businesses to adopt a more cautious approach in investing funds in these countries, as the interest rates on their borrowings are likely to be on the high side. While the World Economic Outlook has expressed significant concerns over Fed tapering, including a spike in bond yields, a definitive shift into equities and possible contagion in the emerging markets, the International Monetary Fund (IMF) has warned that such re-pricing of risk could lead to potential capital flight by countries such as Brazil, Turkey, Indonesia, India and South Africa, among others.

In a report in September last year, Qatar National Bank (QNB) said that the US Federal Reserve has floated the idea of tapering its stimulus package in May 2013, which turned the winds against most emerging markets as global capital flew out, leaving them with large current-account deficits and scrambling for cover. “Capital flight is likely to continue due to QE tapering and, as a result, the emerging markets will be forced to reduce their own economic growth to bring their current account deficits back to a sustainable level by tightening both fiscal and monetary policy,” the QNB report said.

“With surplus budgets, strong GDP growth, a successful transfer of oil (resource wealth) into economic wealth, and limited government debt, Qatar is particularly well placed compared with other emerging market countries to withstand the potential volatility in the currency and interest rate markets due to the taper.” Bradley Ziff – Senior Risk Advisor, Misys

The Organisation for Economic Cooperation and Development (OECD) has also warned that the US decision could adversely impact the Asian economies including the emerging markets, as far as investments are concerned. In other words, there will be more capital outflows from the emerging markets compared with inflows in the coming months.

However Bradley Ziff, Senior Risk Advisor at financial services software firm Misys, says: “It is true that a strong US dollar will continue to worry countries in Asia and Latin America, and we would expect interest rates to rise slowly as tapering begins. However, the US decision is neither directed nor in any fashion intended to affect the growth of the emerging markets. The decision is consistent with the view that the US economy is now substantially stabilised – unemployment is dropping; growth, production and housing figures are all reflective of an economy on the rise. That allowed the Fed to begin tapering in a measured manner.”

He even differs with the US claims that the move has been designed to stimulate its own economy and serve the secondary purpose of supporting financial market performance in recent years. Actually, it is quite the opposite, he contends. “By removing the stimulus, there is a concern that the robust economy in the US could falter and indeed that the prior stimulus of above QR10.92 trillion ($3 trillion) has actually been the artificial stimulus over the past number of years,” says Ziff.As far as capital outflow from the emerging markets is concerned, Ziff feels there are a variety of reasons and they are hardly all due to the Fed’s action.

“In some of these markets you have sharp political instability (in the Middle East significant across Syria, Egypt, Lebanon, Iraq and Iran), and in others you are looking at poorer rates of return on investments or structural challenges (inflation, high unemployment, production/trade difficulties). So the currency fluctuation or interest rate issues associated with the US decision to taper is only part of the EMG challenges,” he says.
Though the Federal Reserve announced in May last year that it was considering tapering, markets around the world rattled, and it happened again in September 2013 when it announced that it was not focused on tapering. The announcements left investors hopping from one foot to the other in several countries including those in Asia and Latin America. “Markets moved rapidly when the first two announcements came out, but the impact was the least when the Federal Reserve actually announced they WERE going to taper in December 2013. But the other two announcements were not actual decisions,” Ziff says.

On the other hand, the markets in the US were generally on the upswing (better housing, solid equity returns, moderate inflation coupled with excellent growth in purchases and a reduction in unemployment) as the US economy showed signs of improving along with the Fed’s intervention. That’s likely the key question – can these improvements continue in the interim while the Fed slowly tapers?

Ziff says that the US housing market has been weaker than required to ensure a steady economy for the past several years, and its return in 2013 and looking forward is one reason the US will be able to initiate tapering without damaging the recovery. However, countries like India already initiated preventive measures with regard to interest rates in September in anticipation of the Fed’s move in December, even though there was no tapering at that time.
With surplus budgets, strong GDP growth, a successful transfer of oil (resource wealth) into economic wealth, and limited government debt, Qatar is particularly well placed compared with other emerging market countries to withstand the potential volatility in the currency and interest rate markets due to the taper. The UAE is in a somewhat similar situation, though inflationary pressures have reached their highest level in the past two years, and those results are a focal point for those who invest in the UAE , Ziff says.
Further, the conservative nature of risk managers in Qatar is stronger than with many of their counterparts in other countries, and the QE policy should not, in any way pose a hurdle to the ongoing development programmes in the country, Ziff says.
If investors are worried, one should understand that they are concerned more about the political strife in the region. The conflicts in Syria and Libya, the continued political unrest in Egypt and a nuclear Iran present a very mixed picture.
“Combined with the most recent border skirmishes in Lebanon and concerns about the resurgence of Al-Qaeda-linked militants in Iraq, this can create some chill for investors in the region,” he says.
“The withdrawal of the US troops in Afghanistan, which is in the periphery of the region, the concern of jihadists and the role they are playing in the uprisings in a select group of countries, does not send a reassuring signal that the region is a stable home for investments on a long-term basis,” Ziff points out.
However, Ziff emphasises that there are elements that make Qatar a compelling environment at this point in time: a stable political environment, a commitment to continued economic development and success down the line with the World Cup in Doha in 2022, limited unemployment, a growing services sector and, importantly, sovereign wealth investments that have provided long-term value. “Qatar has the potential of being a growing and a dynamic country from a financial perspective. Post the FIFA World Cup 2022, I believe there is a strong appreciation that the investment leading up to that event has to have substantial carryover effects for the continuation of economic value,” Ziff adds.
According to Ziff, Qatar has consistently run large current account surpluses over the past decade. The surplus is expected to reach 27% of GDP in 2013. The current account is traditionally supported by a very strong surplus of the trade balance, reflecting hydrocarbon exports.
“The external debt increased to 77% of GDP in 2012 and this, however, reflects the government’s decision to finance investments through debt issuance and to develop an external yield curve, rather than any pressing need for external financing. Even Qatar’s external debts are easily offset by its external assets, largely those held by the Qatar Investment Authority (QIA), thus making Qatar a net external creditor,” he adds. First Published in Qatar Today

Leave a Reply