A weak outlook for domestic demand in rapid-growth markets (RGMs), and subsequent weaker trade flows are expected to drive down gross domestic product (GDP) growth in these regions next year, advisory firm EY reports in its quarterly Rapid-Growth Markets Forecast (RGMF), released on Thursday.

The forecast held that a flight from risk had driven sharp falls in many RGM currencies, sharp rises in bond yields and an underperformance of equities.

As a result, the RGMF now expected growth to be 4.7% next year – considerably lower than the 5.7% predicted in the July forecast – driven primarily by downward revisions to Latin America and Asia.

“Despite steady growth over the past few years, the RGMs were hit hard by external pressures, including the prospect of tapering of quantitative easing in the US and turmoil in the financial markets. Weaker domestic demand and concerns over structural weaknesses will also dampen growth,” commented EY senior economic adviser Rain Newton-Smith.

EY Africa Business Center leader Michael Lalor added that South Africa would not remain unscathed among its peers, indicating that the country ranked in the moderate- to higher-risk category on EY’s “vulnerability” heatmap, alongside Brazil, Poland, and the Czech Republic, but ahead of India, Indonesia, Egypt, Ghana, Argentina, Vietnam and Turkey.

“The vulnerability heatmap we have developed, which compares economic risks across all 25 markets, reveals the areas we already know are problematic for South Africa – foremost among these being the current account deficit, relatively weak import cover and currency devaluation.

“In other areas though, we are relatively well positioned – in terms of government debt levels, for example, we are ranked somewhere in the middle relative to other markets,” said Lalor.

He emphasised that, while the forecast indicated that there were “serious” risks that needed to be dealt with, South Africa was not facing an economic crisis and boasted a finance cluster that had an “exceptional” record.

“This certainly provides confidence in the ability of South Africa’s current Minister of Finance Pravin Gordhan and his team to effectively manage the South African economy over the next few years,” he commented.

Moreover, the economist believed that the key challenge for government would be its ability to maintain a consistent focus on the implementation of the National Development Plan (NDP).

“The emphasis that was given by Gordhan in his Medium Term Budget Policy Statement to the implementation of the NDP is, therefore, very encouraging. The extent to which government is able to make this shift successfully will determine which of the diverging RGM growth paths South Africa follows,” noted Lalor.

EMERGING CHALLENGES

Commenting on other RGMs, EY Emerging Markets Committee chairperson Rajiv Memani added that governments in emerging markets must introduce structural reforms and ease regulatory restrictions to restore investor confidence.

He believed that there was an opportunity to make progress amid the recent delay in the US’s quantitative easing programme until next year, which had resulted in capital flows into the RGMs.

“It is critical for the RGMs to take full advantage of the depreciation in their currencies and become more competitive by making the required shifts in policy,” Memani noted.  

Meanwhile, the RGMF further showed that India, Indonesia, Turkey and Brazil were struggling with sharp currency depreciation, as well as having to tighten monetary policy despite weak growth as a result of external pressures.

According to the RGMF heatmap of vulnerability for RGMs, which ranked each country under seven indicators of risk, these countries, as well as Argentina and Egypt, had demonstrated elements of vulnerability to currency and other financial crises.

“The common challenges running through these countries are relatively high current account deficits, levels of government debt and inflation. Economic reforms will be necessary to help ensure sustainable growth going forward,” said Newton-Smith.

While some RGM currency and equity markets had started to recover, EY cautioned that the impact of falls in many of the financial markets would be felt for some time.

The drop in currencies and rise in risk premiums in the rapidly growing economies had added to the challenges for RGMs, especially as weaker currencies added to inflationary pressures.

“Higher inflation is a particular issue for Argentina and Ghana, where the forecast predicts consumer price index inflation above 10% for the whole of this year,” the forecast noted.

In addition, increases in bond yields and policy rates had led to far higher borrowing costs for RGM governments, businesses and households.

“The higher cost of borrowing will translate into lower investment. Consumption will be hit by falls in financial wealth, the greater cost of consumer credit and higher prices for imported goods, particularly commodities. These challenges will all lead to much weaker-than-expected growth in the RGMs next year,” said Newton-Smith.

CHINESE UPSIDE

While the outlook for the majority of RGMs was subdued, the prospects for China were more positive.

EY held that the lower rate of growth in China was part of a deliberate effort by government and its central bank to curb the rapid growth in credit and set the economy on a more sustainable path.

Financial sector reform and the development of the recently opened Shanghai free-trade zone were also key to spurring trade and innovation in the country.

“However, while the outlook for China is relatively positive, there are significant challenges for the other Brazil-Russia-India-China nations. Brazil remains restricted by a low growth and high inflation dynamic, with inflation expected to be above 6% this year and growth well below 3%.

"Interest rates are also predicted to rise further, which could hamper investment growth,” said the forecast.

It further highlighted that, for the majority of RGMs, policy focus had been too short term in dealing with currency flows, rather than looking towards medium-term growth.

In addition, with several of the major RGMs facing elections in the next year, it had become more challenging to build political consensus for economic reforms.

“Over the next three years, we will see more divergences in growth prospects between those RGMs that are willing and able to implement growth-boosting economic reforms and those that are not,” Newton-Smith concluded.