Emerging Markets: Risks and Opportunities in 2023

A varied set of nations known as emerging markets exposes investors to greater growth potential, lower values, and the advantages of diversity. However, they also encounter major difficulties, including inflation, geopolitical unrest, and unpredictability in policy. We will examine some of the major threats and chances for developing markets in 2023 in this post.

Risks

The effects of monetary tightening by important central banks, particularly the US Federal Reserve, are one of the biggest dangers for developing markets in 2023. In reaction to increasing inflation and the strong economic recovery in the US, the Fed has already begun to raise interest rates and cut down on its asset purchases. Higher US interest rates often lead to higher borrowing costs, capital outflows, and downward pressure on developing market currencies. J.P. Morgan Research estimates that since 2022, global policy rates have increased by roughly 400 basis points (bps), which has an effect on interest-sensitive expenditure and restrains manufacturing production.

Another risk for emerging markets is the possibility of a global recession hitting sometime before the end of 2024. J.P. Morgan Research expects global economic growth to moderate in the second half of 2023 as the effects of fiscal stimulus fade and supply shocks persist. A new round of developed market tightening is likely to undermine the health of the private sector and trigger a synchronized downturn. A global recession would hurt emerging market demand, trade, and commodity prices.

A third risk for emerging markets is the geopolitical uncertainty stemming from the war in Ukraine, China’s zero-tolerance COVID-19 policy, and the growth trajectory for the US and European Union. The war in Ukraine has disrupted the supply of food, energy, and other commodities from the region, as well as increased the risk of further escalation and sanctions. China’s strict approach to containing COVID-19 outbreaks has led to frequent lockdowns and travel restrictions, hampering its economic activity and spillover effects on other Asian economies. The US and EU face challenges such as political polarization, social unrest, and fiscal sustainability, which could affect their growth prospects and trade relations.

Opportunities

Despite these risks, emerging markets also offer some opportunities for investors in 2023. One of them is the expected decline in inflation and interest rates in some regions. Deloitte Insights expects inflationary pressures to ease in Eastern Europe, Latin America, and much of Africa in the second half of 2023 as supply chain disruptions and consumer preferences normalize. This would allow some central banks to keep rates on hold or even cut them to support growth. Lazard Asset Management believes that emerging markets central banks are on the brink of a rate cut cycle likely to start in the third quarter of 2023, continuing well into 2024.

Another opportunity for emerging markets is the reopening of China and its positive spillover effects on other Asian economies. China has announced that it will end its zero-tolerance COVID-19 policy by mid-2023 and gradually resume international travel and trade. This would boost its domestic consumption, investment, and tourism sectors, as well as its demand for imports from other Asian countries. Deloitte Insights expects China’s GDP growth to rebound from 5.5% in 2022 to 6.5% in 2023. However, despite that, JPM, Citi Group, and Morgan Stanley cut the forecasts of growth after the horrible 2023 Q2 GDP data and youth unemployment. China’s reopening would also benefit commodity exporters such as Brazil, Chile, Indonesia, and South Africa.

A third opportunity for emerging markets is the potential for structural reforms and innovation that could enhance their long-term growth potential. Some emerging markets have implemented reforms to improve their fiscal sustainability, governance, competitiveness, and social inclusion. For example, Brazil has passed a landmark tax reform that simplifies its complex tax system and reduces distortions. Chile has elected a new president who has pledged to address social inequalities and rewrite Pinochet’s constitution. India has launched several initiatives to boost its digital economy, infrastructure, and manufacturing sectors. These reforms could attract more foreign investment, improve productivity, and foster innovation.

Conclusion

Emerging markets face a challenging macroeconomic environment in 2023, but they also offer some attractive opportunities for investors who are willing to take a long-term perspective and diversify across regions and sectors. Emerging markets are not a homogeneous group; they have different exposures to risks and opportunities depending on their economic structure, policy stance, and geopolitical situation. Investors should carefully assess the fundamentals and valuations of each country and select those that have strong growth prospects, low inflation pressures, stable currencies, sound policies, and favorable reforms.

References

1. J.P. Morgan (2023). “Mid-year market outlook 2023: Entering uncharted territory”. https://www.jpmorgan.com/insights/research-mid-year-outlook
2. Deloitte Insights (2023). “Emerging markets outlook, February 2023”. https://www2.deloitte.com/us/en/insights/economy/emerging-markets-outlook.html
3. Lazard Asset Management (2023). “Outlook on Emerging Markets.” https://www.lazardassetmanagement.com/research-insights/outlooks/emerging-markets
4. Business Insider (2023). “2023 Market Outlook: How to Invest in Emerging Markets”. https://www.businessinsider.com/2023-stock-market-outlook-investing-forecast-emerging-markets-goldman-sachs-2023-1
5. Reuters (2022). “Brazil’s Congress approves landmark tax reform.” https://www.reuters.com/world/americas/brazils-congress-approves-landmark-tax-reform-2022-12-16/
6. The Economic Times (2022). “India’s digital economy to touch $1 trillion by 2025: PM Modi”. https://economictimes.indiatimes.com/tech/technology/indias-digital-economy-to-touch-1-trillion-by-2025-pm-modi/articleshow/87893476.cms