Thoughts on EM conference in NY

Yesterday I attended the 6th Annual Goldman Sachs Emerging Markets conference in New York. My takeaway from the conference overall was that the risk-on sentiment that is driving massive inflows into EM funds is still very much present. Going forward, the conference participants generally see emerging markets as “different” from those ten years ago, and will no doubt remain resilient to the sovereign stress that is emanating from the developed world.

China. Goldman Sachs views the recent property boom as limited to that sector – the Chinese authorities are currently clamping down via administrative tightening measures – and that a broader “asset bubble” is not present. China was deleveraging going into the crisis, so its starting point was on a very different level than that of other “frothy” economies, like the US or UK.

On the outlook for China, Goldman sees 13% growth this year, followed by a remarkable 12.4% next. The inflation outlook, although tame, depends very much on Asia continuing as front-runner of the policy tightening cycle.

Jan Hatzius presented his outlook on the US economy – he sees the Fed hiking rates in 2011, as monetary policy accommodates the massive labor underutilization. I could not disagree with this assessment.

Rebecca: I would add that I see a positive probability attached to further Fed QE measures, as the fiscal stimulus inevitably drags the economy – without further stimulus growth will turn negative and drag GDP. In lieu of a heroic surge in private sector demand, which is currently driven almost solely by the upswing on a massive inventory cycle, the Fed will have no choice but to continue to “pushing on a string”. The fiscal impetus is driving this recovery.

Actually I was truly shocked that the merits of the fiscal stimulus were not mentioned more directly in his outlook. He spent (roughly) 7 slides comparing this recession to previous post-war recessions, and not once did fiscal policy come up – just Fed policy. Several slides after that, we finally get a chart illustrating the contribution to GDP from government spending. And then, I knew it was coming, a chart about the US public debt to GDP. It’s just a scare tactic, I assure you; these charts should not be taken seriously. As long as the US issues debt in its own currency, and that currency is not fully convertible (into anything), the US government does not face solvency risk!

Unlike Greece….

Erik Nielsen proffered his outlook for the Eurozone. Currently, Goldman Sachs is more bullish on Eurozone growth than is the consensus. Their baseline case is that Greece’s liquidity crisis is mitigated through IMF/EU support, and that the solvency issues are repaired in a timely manner through restructuring and austerity measures. Overall, the economic impact remains mostly contained in Greece.

Of course, the risk in the interim is that the EU/IMF is too slow in approving the aid package, and a mass run on the banks ripples throughout the Eurozone (currently there is no deposit-insurance mechanism across the members of the “zone”). I queried Marshall Auerback regarding the banking sector in the Eurozone:

Rebecca: “In the “zone”, is there an FDIC-style insurance mechanism in place to shore up the banking system across the member countries?”

Marshall: “No. The deposit guarantee is handled on a national scale, which is why Ireland is basically insolvent. The deposit liabilities of its banking system are about 600% of GDP. Ireland can “write the cheque” to cover this, so it’s doomed. “

Rebecca: “Great, thx! This is not good…”

Marshall: “No, it’s a disaster. In many respects, Ireland’s problems are even worse than Greece. It truly is insolvent. Greece has problems because of self-imposed constraints, nothing more.”

Rebecca again: I still don’t see it: how “internal devaluation”, i.e., falling prices and massive wage cuts, is to drive export growth for all debtor across the Eurozone. It’s a fallacy of composition: if every country in the Eurozone deflated in order to improve competitiveness, then demand on the aggregate falls. Therefore, the Eurozone sees less rather than more export income generation.

The average country in the Eurozone earns over 60% of its export income via inter-European Union trade. Likewise, and this is why Nielsen’s base case is no contagion: the GIIPS countries (Greece, Italy, Ireland, Portugal, and Spain) account for 35% of GDP in Q4 2009. Contagion is assured if the GIIPS jointly face a liquidity crisis.

Ahmet Akarli is very positive on the outlook for Turkey. He is likewise bullish on Russia, which is consistent with the Goldman Sachs outlook for oil: $90/barrel in 2010 and $110/barrel in 2011. Finally, Hungary appears to be the apple of the investment banking eye. Hungary’s austerity measures have been very effective, and the economy gained momentum on improved competitiveness.

Rebecca: I should note that my feeling about Hungary’s bullish export outlook is consistent with that of the Eurozone overall: the forint is pegged to the Euro (within a band, that is), so its true competitive advantage can only be sustained by persistent productivity gains and wage declines.

Paulo Leme covered Latin America. For Brazil, their outlook on the BRL and its economy more generally is consistent with my own: hot! Week after week, the inflation numbers are “higher than expected”, the current account balance “surprises to the downside”, and domestic demand is outpacing GDP by leaps and bounds.

That’s all for now.

Rebecca Wilder

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