Friday, September 2, 2011

Developments in emerging markets

India annual growth came in at 7.7% for the year to June 2011, down slightly on the 7.8% recorded for the year to March and slightly better than market expectations of 7.6%. This is well down on annual growth rates of over 9% in the first half of 2010.

This is a good result. Growth in India has been slowing over the course of the past 12-months on the back of an aggressive tightening in monetary conditions. This was in response to growth that was running hard up against capacity constraints and had taken annual wholesale price inflation to over 9%. However, growth in excess of 7% is still robust. We expect annual growth to come in at around 7.5% for the calendar year.
Annual inflation now appears to be drifting lower, but remains well ahead of Reserve Bank of India (RBI) comfort levels. The RBI has raised interest rates 11 times since early 2010, with the last two being 50 bps each as they realised they risked getting behind the problem.

The next policy meeting for the RBI is September 16. With growth slowing nicely and inflation appearing to be peaking, the issue is how much more tightening the RBI has to do. We think the tightening cycle is close to being over but we wouldn’t be surprised to see another 25bps tightening on the 16th.

The China manufacturing PMI staged a minor recovery in August, rising to 50.9 from 50.7 in August. This result is indicative of a stabilisation in industrial production in China and supports our view of soft landing. We continue to expect GDP growth of 9% this year.

The Chinese authorities continue to highlight taming inflation as their policy priority. We believe the activity data suggests they have done enough. We don’t expect any further interest rate increases, nor do we expect any further increases in the required reserve ratio following the recent moves to broaden the reserves base. However, continued appreciation in the exchange rate is desirable.

Finally on Brazil, the central bank cut interest rates by 50bps this week, taking the benchmark Selic rate to 12%. This was a surprise. The bank cited the renewed fragility of the global recovery as the rationale. If anything, the cut is more likely a response to the Government announcing a few days before that they would raise their projected budget surplus this year. Tighter fiscal policy and easier monetary policy taking pressure off the exchange rate? Whatever the reason we think the cut in rates is premature and potentially wrong unless growth is going to slow more dramatically than we currently think.