Shift in global economic power
Since we launched our thinking on the megatrends in early 2014, one factor more than any other has contributed to a significant change in the economic performance of many emerging markets: the dramatic fall in commodity prices. While the fall in the price of oil has been the most visible marker, other commodities have also seen precipitous declines.
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The fallout from a drop in commodity prices
Emerging economies that were growing rapidly, particularly Brazil and Russia, are both now in recession. Commodity prices have played a considerable role in sending these economies into reverse, although this has been compounded by political developments in these countries.
The previous major engine of global growth, China, has also seen its economy slowing. Although still growing at a brisk pace compared with mature western economies, by the double digit standards that China set for itself in past decades it is unquestionably experiencing slower growth. This has happened at the same time as, and is related to, China rebalancing its economic growth model from reliance on exports and capital investment towards domestic consumption and services. One consequence of this has been lower demand for imported commodities, which has been one factor depressing global prices, particularly in areas like metals.
India continues to grow
In contrast, India since 2014 offers the exception to an otherwise less buoyant global picture. The Indian economy has actually picked up speed over the last couple of years after dipping in 2012-13. A number of factors have contributed, including its status as a net importer of oil and other commodities (and therefore a beneficiary of lower global prices) and a new government since 2014 that has been starting to introduce more business-friendly policies to stimulate economic development and growth. Its potential is revealed by the projection from our World in 2050 report that India could overtake the US as the world's second largest economy by 2050 (based on GDP at purchasing power parities) and should be the third largest economy ahead of Japan by 2030.
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Commodity dependent economies in Africa hit hard
In contrast to India, some of the other most positive looking prospects for growth just a few years ago have been hit hard by falling commodity prices. These include a number of African countries that were seen as having great potential for rapid growth a few years ago, including Nigeria (dependent on oil and gas), South Africa (coal and metals) and other smaller economies such as Angola (oil and various minerals). Africa had, in fact, been the fastest growing global region over the past decade, with the middle class in sub-Saharan Africa expected to grow 6% per annum, from 33m in 2010 to 107m in 2030[1]. The working age population in Africa is expected to rise by 273bn from 2010 to 2025 – raising the challenge of addressing significant skill shortages when 50% of the population live off less than $1.25 per day[2]. Africa does retain great potential, but lower commodity prices have highlighted the need for more diversified economies with strengths in sectors with strong job-creating potential.
Diversification an increasing priority for commodity-dependent economies
China's rebalancing act
Hard currency borrowing risk
Developed economies - slow growth, but growth nonetheless
Many economies in the Middle East and Latin America have also seen their prospects dented by commodity price falls. Their efforts to rebalance and diversify away from commodity-driven growth can only become more important to achieve greater economic stability. To that end, for example, Saudi Arabia has a dedicated investment fund of $2 trillion[3] whose express purpose is investment in economic development and innovation to move away from reliance of fossil fuels as the main economic driver[4].
Slowing growth in China has had a considerable impact on other economies both in terms of reliance on China as an export destination and, again, due to China's shrinking appetite for commodities. China's high debt levels also present a potential, and sizeable, systemic risk whose impact would be felt globally were there to be a sudden shock. To date, the Chinese government has managed to avoid a hard landing. However, as it puts measures in place to support growth in the short term, it raises the risk of a sharper correction further down the road – and this remains a significant risk to the global economy that businesses need to monitor.
There is also a risk that some emerging economies with large foreign currency borrowings in dollars may run into problems that could rebound on the western banking system – particularly as and when the US Federal Reserve begins to raise interest rates again. The current perception is that the strengthening of the western banking system post-financial crisis through enhanced capital and liquidity requirements makes it better placed to withstand those risks than it was in, say, the 1980s, when the Latin American debt crisis struck. But there could still be some problems to come here.
The developed economies have continued to grow, albeit somewhat sluggishly by historic standards. The US economy is growing at about 2%, Japan at around 1% and the Eurozone at a rate in the region of 1.5%, with most member states recovering slowly.[5] Some smaller economies are achieving faster growth than this, for example Ireland and Spain although serious concerns remain about Greece and, to a lesser degree, Italy where growth has been low and the banking system fragile. The UK's vote to leave the EU, as well as potentially leading to a marked slowdown in growth in the UK, could also have wider implications for the future of the EU and growth in that.
Is the shift in economic power still proceeding?
So does all this mean that the shift in economic power is a less valid trend today than it was a few years ago? That seems unlikely in the longer term as China and India in particular continue to raise their productivity level towards western levels, while having vast populations. But what recent developments demonstrate is the importance of taking a nuanced and differentiated approach to assessing the prospects for specific emerging and developed economies. While the consensus appears to be that over the next few years the global economy will have a relatively low commodity price environment, looking further ahead, the highly volatile nature of commodity prices will continue to drive the prospects for some economies, while also making the case for greater sectoral diversification.
Businesses that are investing, or already invested, in emerging economies will need to make a careful assessment of whether and, if so, how they should manage in these more volatile market conditions, where prospects look less certain today than they did even a few years ago. The need to spread risks across economies with different characteristics in order to manage potential volatility will become more important than ever.
Of course investors have always had to be aware of the 'micro' risks that doing business in certain jurisdictions may present. But there is also now a need for greater awareness of the 'macro' risks and therefore a need to proceed with an appropriate degree of caution while not forgetting the continuing greater long term growth potential of emerging economies as a whole.
[1] IMF.org, [2] Worldbank.org, [3] , [4] Bloomberg.com, [5] Tradingeconomics.com
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