INSIGHT: The multiple threats of disorderly tapering

20 January 2014 16:36  [Source: ICIS news]

By John Richardson

PERTH (ICIS)--The World Bank thinks that 2014 might be a breakthrough year for the global economy. But it has also highlighted a big risk: reverse flows of “hot money” out of developing economies in the event of a disorderly tapering of Quantitative Easing (QE) by the US Federal Reserve.

Financial flows to developing countries could decline by as much as 80% for several months if there is a negative response to tapering, the World Bank highlighted in its annual Global Economic Prospects report, which was released last week.

And research by the Financial Times and the investment bank, Schroders, shows that it is not just the “Fragile Five” countries – Brazil, India, Indonesia, South Africa and Turkey – that are particularly exposed to the adverse effects of a panicky tapering. Hungary, Poland and Chile have now been added to this list to make up what is now being called “The Exposed Eight”.

At the core of the problem are insufficient foreign currency reserves to cover a severe and sudden withdrawal of foreign money. A 16 January Financial Times Beyondbrics blog post illustrates the point. 

It highlights the gross external financing requirements (GEFR) of the eight countries mentioned and shows that in the first half of 2013 Turkey, Chile, Indonesia, India and South Africa had around just one year of sufficient foreign reserves to cover their respective GEFRs.

But even around two years’ coverage, which applied to Brazil and to Poland, is still considered to be quite risky in the event of investor panic.

This is all scarily reminiscent of the Asian Financial Crisis of 1997-1998, when a collapse in the value of some Asian currencies set economic growth back by several years.

Now, as of then, at the core of the issue is ultra-cheap money from the West that has inflated property and other asset bubbles, mainly to the benefit of rich minorities, according to some commentators.

Meanwhile, the cost of living for low-income earners has soared, and, in countries such as Malaysia, the middle classes have become dangerously over-leveraged, some believe.

In a further echo of 1997-1998, there is also talk of some Asian companies having borrowed excessively in US dollars. If these loans are un-hedged, there is anxiety over another wave of corporate failures as debt repayments in weaker local currencies become unsustainable.

There was a dry run of what the World Bank has warned about in May-September last year.

Rumours of Fed tapering caused a sharp retreat in stock markets across Asia and in currencies such as Indonesia’s rupiah and India’s rupee.

Not all countries are the same, however.

“I don’t consider Thailand to be as exposed to capital flight as Indonesia because its financial system is sounder and consumer debt is not as bad. I would also put Malaysia ahead of Indonesia, but slightly behind Thailand,” said a Bangkok-based chemicals analyst.

But Thailand is, of course, in the middle of major political unrest, the economic outcome of which nobody can be certain.

Local politics are also important factors in India and Indonesia, where parliamentary and presidential elections take place in May and July of this year, respectively.

The impact of Fed tapering in 2014 was a dominant concern at last November’s ICIS Asian Polyolefins conference in Jakarta, Indonesia.

It was the lack of certainty that bothered delegates. They found it very difficult to quantify the impact of not only the Fed’s withdrawal of QE, but other big macro-economic factors, such as a potential economic slowdown in China.

Underlying these macro-economic anxieties was an obvious awareness of the substantial tranche of new polyolefins capacity due on-stream over the next few years.

Some of this capacity is due on-stream this year, but most of it is set to be commissioned post-2017, after which many of the highly competitive US ethane-based expansions are due to start-up.

Naphtha-based cracker complexes are also being planned in Indonesia, Malaysia and Vietnam for commissioning after 2017.

One polyolefins industry source believes that these new complexes can only be competitive versus the US and the Middle East ethane-based capacities if oil prices fall to $60-80/bbl. In his view, and the view of his company, such a steep decline in crude prices isn’t on the cards.

“This assumes, though, that there is no significant rise in trade protectionism that would erect barriers behind which these plants in southeast Asia could operate at reasonable profitability,” he added.

There seems to be no clear evidence as yet of a big rise in antidumping and safeguard duties in the petrochemicals sector, in response to concerns about US-driven oversupply and the potential for lower developing-markets growth.

But several planners working for polyolefins producers say they are worried that this might happen, especially if tapering by the Fed is disorderly.

Read Paul Hodges’ Chemicals and the Economy blog
Bookmark John Richardson and Malini Hariharan’s Asian Chemical Connections blog

By: John Richardson
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