In a break from historical pattern, EMs less vulnerable to rate-hike-led hard landing: Nomura

In a deviation from historical pattern, emerging market (EM) economies now appear less vulnerable to hard landings than their developed market (DM) counterparts, said Nomura.

When central banks start a rate-hiking cycle, economies can either have a hard landing, which results in economic stagnation or recession; or have a soft-landing, which is taming inflation without slipping into a significant economic slowdown.

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With EMs appearing less vulnerable to a hard-landing, it can affect the risk premium investors charge for EM securities. “Typically, a higher investor risk premium is built into EM over DM because EM economies tend to be more prone to financial crises and hard economic landings. However, our results suggest that this time around, the reverse could be true,” stated the brokerage’s report written by Rob Subbaraman and Si Ying Toh.

Resilient nine

The brokerage analyzed over 100 monetary policy tightening cycles across 30 countries from 1985 to 2019. They found nine economies that appear most likely to have soft landings. Its report stated, “Interestingly, they are all concentrated in EM”.

The analysts have captured the possibility of a hard or soft landing in a z-score. Nine economies—Malaysia, Indonesia, Czech Republic, Mexico, Philippines, Thailand, Brazil and South Africa—have a z-score less than 99, which signals that they are least vulnerable to a hard landing or are likely to have soft landings.

India has been assigned a z-score of 99.

The brokerage identified four DM economies – the US, New Zealand, Canada and Norway – and three EM economies – Chile, Colombia and Hungary – as “most vulnerable” to a hard landing. The DM economies have z-scores between 105.1 and 110.2, and the three EM economies have z-scores between 108.5 and 111.5.

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“Hard landings are more common if inflation is higher at the start of a tightening cycle. In DM, elevated household debt and property prices at the start of tightening cycles are also common features of hard landings, while for EM, a common feature is large current account deficits,” stated the report.

“Hard landings also tend to feature central bank rate hiking cycles that are larger, longer and less front-loaded,” it added.