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Published by the CIPS Network of the National Association of REALTORS®
Third Quarter 2008
Economic and Stock Market Decoupling: Are the Emerging Markets Reshaping the World Economy?
Excerpts from a discussion of the impact of economic growth in the emerging markets with Jonathan Garner, Managing Director and Head of Global Emerging Market Strategy, Morgan Stanley at the Cityscape USA website.1 Cityscape USA is a new NAR alliance.. (See box.)
Why is there so much controversy surrounding the issue of decoupling?
There is controversy surrounding two forms of decoupling.The first is economics and the second is financial stock market decoupling and there is a lot of imprecision in how the debate is framed in both cases. I myself am in the decoupling camp;
what I mean by that is that in the emerging markets‚ (EM) economic growth will suffer only a limited downside from the
ongoing U.S. recession.
The controversy over decoupling is high right now because many people find it difficult to accept that the U.S. economy, which has typically driven the global economic cycle and U.S. stock markets are not as essential in driving the global economy now as in the past.To give you some statistics on that,the U.S.share of global GDP at current exchange rates is at 25% now, while both developed Europe, which is at 29% and emerging markets, including the Middle East, which is at 30%, are larger economic blocs. If our GDP forecasts are right, we’ve got the U.S. growing at basically 1% this year and emerging markets at 6.7%. In aggregate, then, we expect emerging markets to deliver over 60% of all growth in the global economy
this year and the U.S. to deliver about 10%.
What are the skeptics arguing?
I suppose the skeptics are looking at the short term correlation between stock markets. I think they also have a view of the world in which emerging markets simply export to the U.S. and that their economies . . . are just gigantic factories for the U.S. consumer.That may have been true in the early to mid 90s but it is very far from being true now. First . . . there is another big consumer market in Europe which we’re not expecting to slow so much and to which emerging countries export as
well. Secondly, and probably much more importantly, emerging markets have developed their own large internal consumption and investment markets.We have a lot of evidence for this. Just to give some guiding points, in automobile sales Brazil, Russia, India and China, (the BRICs) now have annual auto sales that are 90% the size of the U.S. and they are growing 20% year on year. So, by the end of this year, the BRICs will be a larger auto market than the U.S. In the last U.S. recession, (2001-2002) they were less than a third of the size of the U.S. Given the compounding effect of their more rapid growth rates, the large EM countries have reshaped the global economy very significantly, even since the last U.S. recession.
To what extent is China’s growth fuelled by domestic demand?
Towards the end of 2006, about 30% of Chinese GDP growth was driven by net exports and about 70% by domestic demand and that was with an overall growth rate that was running at about 11.5%. By the back end of last year, the fourth quarter of 2007, only 3% of Chinese GDP growth was driven by net exports and 97% was by domestic demand.That shrinking of net exports was very pronounced through 2007 and yet the overall GDP growth rate held up at about 11%. So in the overall
growth there was a really important structural change in the drivers for growth and that is of course because the U.S. is slowing and taking fewer exports.
What are the key areas of demand?
It is basically consumer durables, such as automobiles and PCs.As incomes per head rise, you are moving beyond meeting basic needs such as food and shelter, so you can spend on consumer durables.The other area of demand is infrastructure investment on which we have written a lot, particularly transmission and distribution of electricity, railway upgrade projects, water upgrade projects, although there is less on airports and roads now.There is a general ongoing property investment
situation which we think will have considerably further to run, not so much in the tier one cities but in the tier two and tier
three cities.
Is EM demand more significant for Chinese exports than U.S. demand?
No,not yet.However Europe became a larger export market for China than the U.S.about a year ago and that is quite important. So exports to Europe have been growing much faster for some time than to the U.S. and Europe is a more important
market for China than the U.S. EM in aggregate would be in third position behind Europe.
How significant is investment in infrastructure and property projects in emerging markets?
I think it’s globally a very significant investment theme.We suspect that infrastructure investment, and we would define that quite narrowly just as property and what we would call hard infrastructure spending on areas like railways, water,
power, roads, airports and ports (not including social infrastructure spending on
schools, hospitals and not including plant and general capital equipment and manufacturing) will be about $1.3 trillion this year, which is about 1.5 to 2% of global GDP, rising to almost $3.5 trillion by 2017, at which point it would be about 4%
of global GDP. And so I think it is a very important force driving the global economy
forward from here.
To what extent do you think these will be affected by supply constraints?
Supply constraints are certainly an issue. Upstream commodity prices are one
obvious area of concern but also implementation capacity and quality labor.
Governments, at the top down level, often want to accelerate infrastructure
spending. But, in some countries, there can be a lot of legal restrictions on federal
structures and local governments that can impinge on this.This is true of developed
economies as well. For example,Terminal 5 at Heathrow Airport took something
like 20 years to build.We view execution risks overall as being relatively low
in China,the Gulf region and Russia,medium in Brazil,Indonesia,Mexico and South
Africa and high in India.
Are smaller EM/non-oil economies more affected by the slowdown in the U.S.?
Yes, an emerging economy which is both an oil importer and a capital importer
running a current account deficit is not a good environment to be in.That is certainly
true of some Central Eastern European Countries. South Africa is also in
quite a difficult position. Notwithstanding its metals exports, it is running an 8% of
GDP current account deficit. That is a country where we are quite concerned
about currency risk and equities. So yes there are some weak spots within the
overall strong story of emerging markets.The strongest stories are is in China,in
the Gulf region, in Russia and in Brazil.
Do you think EM demand will bolster U.S. exports?
I think it already is. There is quite a notable turnaround in the U.S. trade and
current account position.The current account deficit peaked at over 6% of GDP
in the U.S. and it will probably fall over the next couple of years to 3% or maybe
even lower. And really you are seeing a very profound rebalancing in the U.S. with
much slower domestic demand growth and much stronger net exports and
exporting to emerging markets is an important part of that.
Do you think Chinese growth is sustainable?
We think that it will average within the 9.5%–10% range at least until the middle
of the next decade and that is based on our own work and also looking at the
work of experts in the area—such as the studies done by the Organization for
Economic Cooperation and Development (OECD) in 2005. Bear in mind that this
is the second burst of inflation we’ve seen in recent years in China.The current burst
is similar to 2004, when inflation was quite rapidly reversed.This is very similar to
2004 in the sense that the economy has been growing somewhat above trend.
Do you think the interrelationship between these economies means they are more vulnerable to each other’s macroeconomic fluctuations?
This is quite an important point.You have a rising trade relationship in terms of
rising trade within GDP and that is certainly true for China versus U.S. It was also
true of the U.S. versus Japan in the 1990s but that didn’t stop their economies
going in very different directions.All their stock markets had been going very differently, you made no money at all investing in Japanese equities in the 1990s and you made four times your money investing in U.S. equities in the 1990s, even
though they had reasonably large trade linkages.The point is that they had divergent domestic demand trends. Japan had a bursting property bubble and a major
financial sector crisis that lasted for a decade. Unfortunately it is looking like the
U.S. is going to have . . . a very big problem now in . . . its housing and financial sectors. It doesn’t necessarily have any implications for Chinese growth or the
Chinese stock market over the longer term in our view.
Do you think the Gulf currencies will depeg from the dollar?
Yes we do.We think given high inflation and strong growth and the positive terms
of trade effecting high commodity prices, there is a very strong economic case for
it and that has been recognized already in Kuwait and I think is formally under
review in Qatar. I suspect it will come back on the agenda in the UAE and in Saudi
Arabia ultimately because it is economically logical that, when faced with huge
balance of payment surpluses and high inflation, one should actually have currency
revaluation.This is the same dilemma that China faced in 2005 and I think China
took the right decision to depeg from the dollar and start to revalue its renminbi
(yuan). I think that has actually helped balance policy in China and I don’t see why
the Gulf region is that different. gp
1. To read the complete discussion, go to www.cityscapemis.com/cityscape.search.page.action?root ArticleTypeId=47&pageNumber=5
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