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MORGAN STANLEY RESEARCH
Global Economics Team
Coordinators of this publication
Joachim Fels
Joachim.Fels@morganstanley.com
+44 (0)20 7425 6138
Manoj Pradhan
April 24, 2013
Global
Manoj.Pradhan@morganstanley.com
+44 (0)20 7425 3805
The Global Macro Analyst
Patryk Drozdzik
Patryk.Drozdzik@morganstanley.com
+44 (0)20 7425 7483
Why Is EM Under Fire?
Sung Woen Kang
Sung.Woen.Kang@morganstanley.com
+44 (0)20 7425 8995
This has been a strange EM recovery: Since EM
growth bottomed in 2H12, EM markets and growth
recoveries have faltered, as have commodity prices.
Although Japan’s policy-makers have spurred another
round of EM monetary policy easing, China and Brazil
have already seen monetary policy tighten. Why? In
today’s note, Manoj Pradhan and Patryk Drozdzik
argue that structural issues have reached a tipping
point just as the risk/reward trade-off of using cyclical
policy tools has deteriorated.
Taking a deeper dive into China, Russia, Brazil and
India, they ask: Have EM growth issues been
diagnosed and treated correctly? What specifically are
the main impediments to growth in the structurally
challenged economies of China, Russia and Brazil? Why
is India not among the most structurally challenged
economies? Why have the usual cyclical tools been
ineffective in this cycle in these economies?
p2
EM Giants Facing Difficult Structural Problems
Structural challenges facing EM economies
Most challenged
Brazil, China, Russia, S. Africa
Moderately
challenged
Chile, Czech Rep., India*, Korea,
Malaysia, Mexico*
Least challenged
Colombia, Indonesia, Peru,
Philippines, Poland, Turkey^
Source: Morgan Stanley Research; *Enacting structural reforms; ^Relative to the high
volatility of its economy
Global Economics Forecasts
Real GDP (%)
CPI inflation (%)
2012E
2013E
2014E
2012E
2013E
Global Economy
3.1
3.2
3.9
3.3
3.3
2014E
3.3
G10
1.3
0.9
1.8
1.9
1.6
1.7
Emerging Markets
4.9
5.4
5.8
4.8
5.0
4.7
Source: Morgan Stanley Research forecasts
Spotlight
Euro Area: Deciphering Draghi
Like many investors, we’re still somewhat bemused by
the noticeable shift in tone at the last ECB press
conference. We benchmark the shift against the
language ahead of past ECB rate cuts and discuss
possible economic, financial and political motivations
for the shift. On balance, we conclude that our previous
outside scenario of an ECB refi rate cut in one of the
next two meetings has now become our base case,
and we now expect a 25bp rate cut by June.
p6
The Morgan Stanley Global Economics View
Global Macro Watch
US: What Would Winston Do?................................p 9
Japan: BoJ Watch: April Outlook Preview ..............p 9
UK: 1Q GDP: A Negative Print Likely ...................p 10
N. Zealand: Defying the Great Monetary Easing..p 10
China: Too Early to Turn Pessimistic ...................p 11
Korea: Downside Risks to Growth?......................p 11
Asia Pacific: Growth Entering a Soft Patch .........p 12
Brazil: A Dovish Hike?..........................................p 12
p7
For important disclosures, refer to the
Disclosures Section, located at the end of
this report.
MORGAN STANLEY RESEARCH
April 24, 2013
The Global Macro Analyst
Why Is EM Under Fire?
Manoj Pradhan (44 20) 7425 3805
Patryk Drozdzik (44 20) 7425 7483
The bottoming of EM growth towards the end of 2012 has
produced some surprising dynamics. Normally, at this early
stage of the economic recovery, EM risk markets should be
surging and outperforming their DM counterparts, growth
indicators should be showing above-trend growth (coming from
a below-trend level of output), commodity markets should be
booming and monetary policy should be on cruise control,
waiting for signs of inflation to start worrying again. Instead, the
EM markets and growth recoveries have faltered, as have
commodity prices. Although Japan’s policy-makers have
spurred another round of EM monetary policy easing, China
and Brazil have already seen monetary policy tighten. Why?
In our view, these dynamics are asserting themselves
because structural issues have reached a tipping point just as
the risk/reward trade-off of using cyclical policy tools has
deteriorated.
The Brazilian canary in the coalmine: The first real
demonstration of this difficult dynamic came when Brazilian
growth continued to tumble even as the central bank cut
policy rates by a massive 525bp. Economic growth finally
bottomed in 2Q12, but the recovery has remained sluggish.
The beleaguered manufacturing sector has seen scant
improvement. Instead, bank lending and consumption are
driving economic growth, worsening the ‘Growth Mismatch’ of
weak supply and strong demand that our Brazil team has long
pointed out. To complete the misery, the central bank has
already hiked policy rates to curb the elevated inflation
expectations that it raised by easing policy so aggressively.
Some better cyclical news is on the way: Cyclically, the
weakness in commodity prices and the (partly endogenous)
response from EM central banks should help growth to
improve in 2H13. Beyond responding to the effects of Japan’s
policy actions, soft global growth and inflation risks pushed
further out thanks to lower commodity prices will likely lead to
easier EM monetary policy or keep the stance easy for longer
(i.e., China and Brazil will tighten by less).
Better structural news will need structural reforms… As
we have highlighted many times, only Mexico and India have
delivered on structural reforms so far. Mexico’s proposed
labour, energy and telecom reforms and prospective finance
reforms have been rightly seen as possibly heralding a new
era of growth – ‘Mexico’s Moment’, as our colleagues Gray
Newman and Luis Arcentales call it.
But there is hope, given notable changes over the last year.
We have previously pointed out the structural roadblocks in
the EM world (see Emerging Issues: The Broken EM Growth
Model, June 27, 2012), and attention of policy-makers in the
major EM economies has slowly but surely shifted to
structural reforms. We believe that this attention has to
translate into action.
…and industrial policy to direct resources: One feature of
growth in China, Russia, Brazil and India is that the lagging
sector in each economy is the one that needs to drive growth
in the future (consumption in China, manufacturing in Russia
and Brazil and investment in India). Standard macro tools
cannot address such sectoral imbalances, but modern
industrial policy can (see The Global Macro Analyst: Time to
Build More Shenzhens, October 17, 2012). It is on this count
that India’s policy reforms stand out as the ‘right’ kind of
measures. They have specifically targeted fast-tracking of
investment and faster provision of infrastructure and energy to
support investment specifically.
In today's note, we examine why EM growth is under fire.
Specifically, we ask: Have EM growth issues been
diagnosed and treated correctly? What specifically are the
main impediments to growth in the structurally challenged
economies of China, Russia and Brazil? Why is India not
among the most structurally challenged economies? Why
have the usual cyclical tools been ineffective in this cycle in
these economies?
The Malaise Affecting EM Growth: Misdiagnosed
and Mistreated
The misdiagnosis… Brazil’s predicament is an extreme
reflection of the difficulties facing many EM giants. The primary
EM problem is a structural one: of allocation of capital to a
strategy whose time has passed. The redirection of that capital
towards more productive uses and the release of productivity
through reforms is a structural issue that needs structural tools
and changes. However, we believe that this structural problem
has been repeatedly misdiagnosed as a cyclical one.
…the mistreatment… As a result, cyclical tools have been
used in the past (and continue to be used even now in many
places) to treat a structural malaise. In 2009/10, EM
economies deployed massive doses of monetary and fiscal
easing to protect growth. Yet, we know from the wrenching
experience of the crises in the US and euro area that such
policies can support growth temporarily but not solve
underlying structural problems.
2
MORGAN STANLEY RESEARCH
April 24, 2013
The Global Macro Analyst
…and the inevitable unintended consequences:
Misdiagnosis and mistreatment has created two important
unintended consequences:
 Worse starting points: As if the challenge of structural
change wasn’t enough, the use of monetary and fiscal
palliatives reinforced the existing growth strategy, thereby
creating a worse starting point for rebalancing. As my
colleague Chetan Ahya has pointed out eloquently, China
needed consumption but pursued investment, while India
needed investment but pursued consumption, making it
harder for both of them to rebalance. Most commodityproducing economies also committed too many resources to
the commodity sector, which has made a shift away from
commodities and into manufacturing that much harder.
 A worse risk/reward trade-off of using cyclical tools:
Aggressive use of these tools in the past has created many
of the problems that prevent their use in the present. China’s
aggressive credit growth in the past has forced policymakers to follow a more moderate path now. Brazil’s rate
cuts in 2011 have raised inflation expectations, which have
already forced a policy rate hike. India’s loose fiscal policy
has raised inflation, which has forced both monetary and
fiscal policy-makers to maintain a prudent stance. Using
cyclical tools isn’t as straightforward as it was in the past.
A deeper dive into structural challenges and cyclical
constraints facing China, Russia, Brazil and India: We see
little point in another general note without specifics about the
structural challenges facing these EM giants. Among these
four, we argue that China, Russia and Brazil have the
toughest structural challenges to solve, while India’s problem
is a deep cyclically downturn. In each economy, we show how
the path leading to rebalancing is a difficult one thanks to the
risk of unintended consequences.
Exhibit 1
EM Giants Facing Difficult Structural Problems
Structural challenges facing EM economies
Most challenged
Brazil, China, Russia, S. Africa
Moderately challenged
Chile, Czech Rep., India*, Korea,
Malaysia, Mexico*
Least challenged
Colombia, Indonesia, Peru,
Philippines, Poland, Turkey^
Source: Morgan Stanley Research; *Enacting structural reforms; ^Relative to the high
volatility of its economy
China: A Tricky Rebalancing in the Offing
Rebalancing consequences: The Chinese economy is
likely to remain in transition for a considerable period,
keeping the volatility and downside risks to growth that are
associated with economies in transition in play as well.
China’s transition from an investment-led economy to a
consumption-led one requires continued liberalisation of its
interest rate markets. Faced with a dearth of vehicles to
protect their savings, China’s households save more than they
‘should’. A liberalised interest rate market can deliver better
ways to protect and reward savings, reducing the incentive to
over-save. The higher real interest rates that such
liberalisation is already generating should incentivise betterquality investment.
Unintended consequences... That’s the theory. However, in
practice, rapid changes along any of these fronts are likely to
produce unintended consequences.
…of a faster liberalisation of interest rate markets: Partial
liberalisation of the interest rate market started a decade ago
but has really picked up steam only recently. However, the
pace with which some products have grown (corporate bond
issuance is up 70% in 2012, wealth management products
could be c.10% of deposits) has created some unintended
consequences. According to our banks analyst, Richard Xu,
an inadequate regulatory structure allowed non-standard
credit assets to be classified as interbank loans rather than
corporate loans (which requires 4-5 times the risk-weighting).
That has led to rapid M2 growth and a risk of misallocation of
resources, with the possibility of funds going towards the nonproductive housing sector rather than productive investment.
These loopholes are being addressed via new regulations, but
the risk is that they tighten credit conditions by too much at a
very early stage of the business cycle.
Because of the impact of higher real interest rates on
investment and unintended consequences like the one above,
a faster liberalisation of the interest rate market seems
unlikely to us.
…of a faster move to consumption-led growth: If
liberalisation is slow, household savings will continue to
‘finance’ an implicit ‘subsidy’, either to firms or to banks (which
in turn could be asked to support SOE investment). Now, if
consumption as a share of GDP rises very rapidly, household
savings as a share of GDP will fall. Economic rebalancing
may appear to be closer, but the decline in household savings
will erode the ‘subsidy’ and could lead to too rapid a decline in
investment and growth. A rapid rebalancing towards
consumption-led growth is thus not salutary.
3
MORGAN STANLEY RESEARCH
April 24, 2013
The Global Macro Analyst
…of ‘better’ investment via urbanisation: The quality of
investment has to improve, but more urgently, given slow
rebalancing and oncoming demographic issues. China’s
urbanisation drive has the potential to do just that by creating
synergies and a demand for services. Just the process of
taking people out of agriculture and into modern production of
goods and services has the potential to raise productivity by
multiples.
However, the history of urbanisation suggests that clustering
has followed growth. Rivers, natural resources and
innovations like the industrial revolution have attracted people
to try to extract profits from such sources of growth.
China’s urbanisation strategy carries the risk associated with
an attempt to preserve correlation while reversing causality. It
may work, but the risk that the correlation no longer holds if
the causality is reversed is an important one to bear in mind.
In other words, urbanisation may happen, but growth may not
follow everywhere. Rather, urbanisation of Tier-2 and Tier-3
cities may prompt a partial reversal of the great migration,
raising the pressure on urban wages and on corporate bottom
lines.
Thus far, good news out of Beijing… The best news to
come out of Beijing has been the pragmatism of the new
administration. The emphasis has remained on structural
reforms, deregulation and lowering corruption and wasteful
public spending. Guidance out of Beijing has shown
increasing comfort around slower growth that is of better
quality while showing less concern about volatility along the
path to rebalancing.
…partly reflecting the poor risk/reward from the use of
counter-cyclical tools: Reluctance to use standard cyclical
tools aggressively so far is understandable, given significant
downside risks of their use. Aggressive credit growth in 200910 supported growth but it made the starting point for
rebalancing worse thanks to a spike in investment and took
China’s credit/GDP ratio to around 125%, significantly raising
the risk of NPLs. As a result, using credit growth as a countercyclical policy measure now is very difficult, particularly since
part of the recent surge of ‘innovative’ credit growth has likely
gone more into the unproductive housing sector and not as
much into investment as policy-makers would have liked.
The upshot? Thanks to the risks of unintended
consequences, the Chinese economy is likely to remain in
transition for a considerable period of time, keeping the
volatility and downside risks to growth that are associated with
economies in transition in play as well.
The Dutch Disease in Russia and Brazil
Cases of Dutch Disease: The Dutch Disease is a hard
problem to solve. Until policy-makers in both places take
the message from commodity prices and structural reforms
more seriously, the downside risks to growth that are
already showing will likely continue to assert themselves.
Unintended consequences of China’s growth: The
commodity price boom that China’s investment-led growth set
off also created a surge in commodity-oriented investment,
exposing both economies to the risk of the Dutch Disease.
While Russia has succumbed over a longer period, given the
historical preponderance of hydrocarbons in that economy,
Brazil’s capitulation is far more dramatic, given that it is a
relatively closed economy and is among the least commodityoriented economies in Latin America.
What does the Dutch Disease entail? An overemphasis on
commodity-led growth always runs the risk of the Dutch
Disease. The Dutch discovered large gas fields in 1959 and
suddenly faced a large terms of trade shock and a commodity
boom in the domestic economy. The rapidly expanding
commodity sector attracted both capital and labour and bid up
their prices. As unemployment fell and wages rose, a richer
household sector spent freely, which benefitted services but
also created inflation in that sector.
There was one unambiguous benefit from the commodity story
– both economies have lowered their indebtedness during the
commodity boom. Debt/GDP ratios in both countries are now at
more benign levels – 46% in Russia and 58% in Brazil.
So, what’s the problem? The problem was that the
manufacturing sector could not compete against the twin
forces of exchange rate appreciation and high wages,
particularly since the price of manufactured goods is set
globally. In other words, the manufacturing sector faces a real
exchange rate appreciation (see “Brazil: The Growth
Mismatch Intensifies”, Week Ahead in Latin America, May 25,
2012). The expansion of the commodity sector thus came at
the expense of the manufacturing sector.
Dominance of commodity firms and banks in the stock
market: Commodity firms and banks usually tend to dominate
the stock market, making it relatively easy for them to raise
capital compared to the manufacturing sector. This puts the
manufacturing sector at an even bigger disadvantage.
Russia and Brazil do have unique problems beyond the
Dutch Disease: There are differences too. In Russia, the
corporate sector is dominated by state-run companies. The
efficiency and flexibility that the private sector tends to provide
4
MORGAN STANLEY RESEARCH
April 24, 2013
The Global Macro Analyst
is thus missing in Russia Inc. In Brazil, the conundrum of
subsidised public lending creates a real rigidity in the interest
rate market. Since real rates are high, some subsidised
lending can be justified. Yet, since the Treasury finances
subsidised lending, the pool of resources left for private
borrowers is smaller, perpetuating higher real interest rates.
Macro policy tools are ill-equipped to deal with the
leading/lagging economic structure… Dutch Disease
economies typically see the commodity and consumeroriented sectors lead while the manufacturing sector lags.
Standard macro tools like monetary policy easing can simply
lift all sectors up or down, but not help one sector in particular
outperform any other.
…and their use creates unintended consequences: 525bp
of policy rate cuts in Brazil eased borrowing conditions for
everyone, which has spurred bank lending to consumers and
inflation expectations, precisely the two things that Brazil’s
economy did not need. In the meantime, global demand has
weakened terms of trade for commodity exporters, leading
headline growth lower. While Russia’s cyclical position is
better than Brazil’s, oil prices continue to fall and growth
concerns are already apparent. Brazil’s sobering experience
should be a case study for Russia’s policy-makers to assess
the effectiveness and unintended consequences of using
cyclical tools to solve a structural problem.
Will lower commodity prices help more than hurt? While
lower commodity prices will hurt growth at the cyclical horizon,
they are making policy-makers far less complacent in both
countries. The Dutch Disease is a hard problem to solve. Until
policy-makers in both places take the message from
commodity prices and structural reforms more seriously, the
downside risks to growth that are already showing will likely
continue to assert themselves.
Why Is India Not Among the Most Structurally
Challenged Economies?
Structural reforms to kick-start growth: After a difficult
period embedded with corruption scandals and investment
activity slowing down sharply, the administration introduced
structural reforms on a regular basis. These have been
very well directed, and should have a salutary impact on
investment and growth over time.
India does face structural issues, and serious ones at that, but
it falls into a category of more moderately structurally
challenged economies for two reasons: i) Because its
structural issues are in line with its low per capita GDP; and ii)
More importantly, its prices, wages, interest rates and
exchange rate are predominantly market-determined.
Compared to China (where the exchange rate is fixed, and
interest rates are only partly determined by markets), Russia
(where state capitalism is unlikely to be as flexible as a private
corporate sector) and Brazil (where subsidies create distortions
in the real interest rate structure), India’s market-oriented
approach to prices forces an earlier resolution of the problem.
India’s main structural problems are: i) Its archaic labour laws
and regulations; ii) Energy and agricultural subsidies; and iii)
Its fragmented political system. Employment growth in India
has largely occurred in sectors where labour regulations are
not as stringent. Subsidies to energy are relatively small and
are being addressed by the administration. The fragmentation
of the political structure and the intrinsic inertia of coalition
politics remain the biggest structural risk in India.
Deep cyclical issues are the main concern: Yet, we argue
that the biggest drag on growth in India is a deep cyclical
downturn from which India is likely to recover only very slowly.
Policy action in 2009/10 created unintended
consequences… Aggressive fiscal easing supported
consumption and economic growth during the Great
Recession. However, the lack of support for investment meant
that productive activities did not benefit from the government’s
initiative. The result? A widening of the fiscal and current
account deficits along with a deterioration of what our
colleague Chetan Ahya calls the ‘productive dynamic’. This
poor productive dynamic helped to produce an inflation
problem that appears to be ebbing only now.
…which prevent the use of cyclical policy tools now…
The central bank has rightly traced the roots of the inflation
problem to ill-directed fiscal policy, keeping the administration
from using fiscal measures to support growth.
…giving the administration little choice but to use
structural reforms to kick-start growth: India’s structural
reforms have taken the form of industrial policy aimed solely
at reviving investment in the economy. To this end, fasttracking of projects and investment in infrastructure and
energy should pay dividends over time (see Tracking the
Improvement in the Growth Mix, February 21, 2013).
Summary
The malaise affecting EM growth has been misdiagnosed as a
cyclical rather than a structural one. Even where structural
reforms appear to be on the agenda, the delivery of the ‘right’
kind of structural reforms has been lacking except in Mexico
and India. As growth slowly grinds lower, we expect that policymakers will pay more attention to these reforms and to the use
of industrial policy to direct resources to the right activities.
5
MORGAN STANLEY RESEARCH
April 24, 2013
The Global Macro Analyst
Spotlight: Euro Area: Deciphering Draghi
Elga Bartsch (44 20) 7425 5434
Like many investors, we’re still somewhat bemused by the
noticeable shift in tone at the last ECB press conference:
We benchmark the shift against the language ahead of past
ECB rate cuts and discuss possible economic, financial and
political motivations for the shift. On balance, we conclude
that our previous outside scenario of an ECB refi rate cut in
one of the next two meetings has now become our base case,
and we now expect a 25bp rate cut by June.
As the reason given by the ECB for the shift, i.e., potential
downside risks to a 2H recovery, is not entirely
convincing us, the future course of policy action is not
entirely clear to us either: The most likely motive for
reopening the debate on ECB rate cuts seems to be a desire
to take out insurance against a renewed strengthening of
EUR, or against a sudden jump in money market rates if
excess liquidity continues to ease, or indeed against a soft
patch in 2Q activity that seems to show globally now.
Given that, at least so far, the reasons for the ECB’s shift
are not entirely clear, we also discuss some alternative
policy scenarios – in particular: (i) a larger 50bp rate cut, a
negative deposit rate and possibly even getting ready for QE,
as well as (ii) limited near-term policy rate reductions
combined with more aggressive forward guidance. While we
have discussed a negative depo rate and QE in the past, a
move towards forward guidance would be a first for the ECB.
For a synopsis of investment implications across rates, foreign
exchange, equities and credit, see the full report, Economics
and Strategy: Deciphering Draghi, April 22, 2013.
Base case: Small refi rate cut, no depo rate cut: One could
argue that it would be difficult for the ECB not to cut rates in
one of the next two meetings after the strong language used
at the April press conference. By June at the latest, the ECB
Governing Council needs to decide whether the 2H recovery
is really being called into question by recent events, political
uncertainty and reform fatigue. In the run-up to the next few
ECB meetings, we think incoming data will still be important in
determining the timing and size of the rate cut. However, a
cut in the deposit rate would seem unlikely to us after ECB
President Draghi spoke of the unintended consequences of a
negative deposit rate in March. Hence, our base case would
be for a 25bp cut in the refi rate and a 50bp reduction in the
marginal lending rate to keep the corridor around the refi rate
symmetric. Over time, the ECB might also announce some
small-scale changes to its market operations in order to
further support the credit flow, such as tweaks to the collateral
framework or some form of support for ABS markets.
Alternative scenario #1: A bolder rate cut including depo
rate cut, possibly even getting ready for QE: A 50bp rate
cut would reduce policy rates to the lowest possible level, we
think. On balance, we would expect such a step to be
complemented by a reduction in the deposit rate – even though
to a smaller extent. Once the ECB has officially reached the
zero boundary, the market would likely start to wonder if and
when the Governing Council would embark on full-blown QE.
In our view, hurdles to such a step are very high – especially for
broad-based purchases of government bonds – due to the
blurring between the multinational monetary policy conducted
by the ECB and the national fiscal policy set out by national
governments. Effectively, QE creates a sizeable risk transfer
between the private sector and public sector and a rapid rise
of jointly guaranteed liabilities on the ECB balance sheet. As
such, QE could have a significant impact on the outcome of the
German elections in September, where Chancellor Merkel is
seeking to get re-elected – especially in the face of the newly
founded anti-euro party in Germany, which could potentially
upset the electoral arithmetic. In an extreme case, where
neither the incumbent coalition nor the main opposition parties
gain enough votes, Germany could become subject to a
serious political stalemate, not just between the two houses of
parliament but also within the Bundestag itself.
Alternative scenario #2: Limited action, but much more
active communication towards forward guidance: One of
the key passages has been moved from the Q&A in March to
the introductory statement in April. This has been seen by some
investors as a first attempt at forward guidance. Contrary to the
Fed’s forward guidance, it does not have a time stamp on it.
Or at least not yet. The logic of forward guidance is that the
central bank via a verbal commitment in its communication
can affect market expectations for its future policy path. As a
result, forward rates as well as bond yields should come down
further, allowing the central bank to become more expansionary
even if policy rates are constrained by the zero boundary. In a
speech entitled “The Role of Monetary Policy in Addressing
the Crisis in the Euro Area”, ECB President Draghi – for the
first time to our knowledge – explicitly mentions forward
guidance as one of the main types of unconventional
measures next to large-scale asset purchases.
Euro Area: Revised ECB Rate Forecasts, 2013-14E
Current Jun 13E Sep 13E Dec 13E Jun 14E Dec 14E
EURO AREA
ECB Deposit (Floor) Rate
0.00
0.00
0.00
0.00
0.00
0.00
ECB Refi Rate (EoP)
0.75
0.50
0.50
0.50
0.50
0.50
1.50
1.00
1.00
1.00
1.00
1.00
ECB Marginal Lending (Ceiling) Rat
3M Money market rate and futures
0.21
0.20
0.22
0.25
0.31
0.40
Source: Reuters, Morgan Stanley Research; E = Morgan Stanley Research estimates
6
MORGAN STANLEY RESEARCH
April 24, 2013
The Global Macro Analyst
The Morgan Stanley Global Economics View
Our Core Global Views
Key Macro Risk Events
Global economy stuck in the ‘twilight zone’: While the growth momentum is now on
the up, the global economy remains stuck in the twilight zone thanks to a fiscal drag in
the US and Europe and a hesitant recovery in the EM.
May 1, 2013
US FOMC meeting
May 2, 2013
From twilight to daylight: However, we see global growth reaccelerating to 4% in 2H
and 2014 as US private sector heals and re-leverages, the recession in the euro area
ends and the central banks stay supportive (led by Japan) despite the cyclical upturn.
Eurozone not out of the woods yet: We think that resolution of the euro area
sovereign and banking crisis requires both a fiscal union and a banking union coupled
with the ECB being willing and able to be the lender of last resort to governments.
While the ECB has taken a decisive step towards fulfilling this role, progress on fiscal
and banking union remains painfully slow and full of setbacks. Eurozone break-up,
although not our central case, remains conceivable.
Fiscal dominance: Don’t expect DM central banks to tighten soon – they are locked
into a regime of fiscal dominance, where increases in the real interest rate worsen
government debt sustainability, inflation targeting becomes unfeasible and monetary
policy is forced to remain super-accommodative.
ECB council meeting and press conference
May 9, 2013
Bank of England MPC meeting
June 24, 2013
Nabiullina to take over as the new governor of the CBR
July 4, 2013
Mark Carney’s first MPC meeting as governor of the
Bank of England
July 11, 2013
Japan upper house of the National Diet elections
September 22, 2013
Financial repression and inflation: Part of the solution to high government debt
levels can be imposing artificially low, or even negative, real returns on captive investor
groups – financial repression. Inflation – allowed by central banks constrained by fiscal
dominance into a passive monetary stance – could be part of this solution, too.
EM growth model broken – needs structural reform: EM economies face external
and internal challenges that render the old, export-led model of growth defunct. Weak
DM consumers, onshoring of DM manufacturing and risks to external funding all work
against EMs externally. Internally, the focus on export-led growth has meant that
important sources of domestic demand have been neglected. Aggressive policy
stimulus will probably make imbalances worse. For potential output growth to rise,
policy stimulus needs to go to the ‘right’ sources of domestic demand. There is some
progress in India and to lesser extent in Brazil, but the key remains China.
German parliamentary elections
February 1, 2014
Term begins for new chairperson of the US Federal
Reserve
March 1, 2014
ECB expected to assume supervisory tasks within Single
Supervisory Mechanism by March 1, 2014
Regional Themes
Chart of the Week
Asia ex Japan: India and China need internal rebalancing – China needs to boost
consumption, India investment. This would be part of global rebalancing, too. India’s
administration has unveiled some reforms that go in the right direction. However, the
rebalancing is likely to be a drawn-out process in both countries.
EM Giants Facing Difficult Structural
Problems
Latin America: Greater divergence in Latin America, with Brazil and Mexico
reaccelerating, Colombia, Chile and Peru slowing and Argentina and Venezuela
recently suffering from weaker domestic conditions and weaker commodity prices.
Recent policy measures from Brazil and especially Mexico are encouraging, but
implementation remains a key risk.
CEEMEA: Slowing everywhere except for Turkey, where growth dynamics have been
improving and credit growth has been picking up pace. Russia’s performance will
depend on delivery of President Putin’s pro-investment economic strategy, CEE’s on
developments in the euro area.
Structural challenges facing EM economies
Brazil, China, Russia, S. Africa
Most
challenged
Moderately
challenged
Chile, Czech Rep., India*, Korea,
Malaysia, Mexico*
Least
challenged
Colombia, Indonesia, Peru,
Philippines, Poland, Turkey^
Source: Morgan Stanley Research; *Enacting structural reforms; ^Relative
to the high volatility of its economy
For our global forecasts, see Spring Global Macro Outlook: From Twilight to Daylight, March 12, 2013.
For our cross-asset views, see Global Debates Playbook: Hope Springs Eternal, April 18, 2013.
7
MORGAN STANLEY RESEARCH
April 24, 2013
The Global Macro Analyst
Key Forecast Profile
Global Economics Team
Quarterly
2012
Real GDP (%Q, SAAR)
1Q
2Q
3Q
Annual
2013
2014
4QE
1QE
2QE
3QE
4QE
1QE
2QE
3QE
4QE
2012E
2013E
2014E
3.9
Global**
3.0
2.3
2.9
2.3
3.1
3.3
4.0
3.8
3.7
3.5
4.0
3.7
3.1
3.2
G10
1.8
0.3
1.2
-0.5
1.5
1.0
1.8
2.0
2.0
1.4
1.9
2.1
1.3
0.9
1.8
US
2.0
1.3
3.1
0.4
2.7*
1.0
2.2
2.6
2.6
2.6
2.7
2.8
2.2
1.6
2.5
Euro Area
-0.2
-0.7
-0.3
-2.3
-1.0
-0.6
0.6
1.0
1.0
1.0
1.2
1.2
-0.5
-0.7
0.9
Japan
6.1
-0.9
-3.7
0.2
3.1
3.9
3.3
2.8
2.4
-2.8
-0.1
1.0
2.0
1.6
1.3
UK
-0.3
-1.5
3.8
-1.2
0.8
0.4
1.2
1.4
1.2
1.2
1.6
1.6
0.3
0.7
1.3
EM (%Y)
5.3
5.0
4.5
4.9
4.8
5.2
5.6
5.7
5.8
5.8
5.9
5.9
4.9
5.4
5.8
China (%Y)
8.1
7.6
7.4
7.9
7.7
8.4
8.5
8.0
8.1
7.8
7.8
7.8
7.8
8.2
7.9
India (%Y)
5.3
5.5
5.3
4.5
5.1
5.6
6.3
6.3
6.0
6.6
7.2
7.3
5.1
5.9
6.8
Brazil (%Y)
0.8
0.5
0.9
1.4
2.3
2.5
3.1
3.4
2.8
3.1
3.8
3.8
0.9
2.8
3.4
Russia (%Y)
4.8
4.3
3.0
2.1
1.7
2.0
3.1
4.1
4.5
4.3
3.1
2.3
3.4
2.9
3.4
3.3
Consumer price inflation (%Y)
Global
3.7
3.3
3.2
3.2
3.3
3.4
3.4
3.3
3.1
3.3
3.4
3.3
3.3
3.3
G10
2.4
1.8
1.7
1.8
1.5
1.7
1.6
1.6
1.4
1.7
1.8
1.9
1.9
1.6
1.7
US
2.8
1.9
1.7
1.9
1.7
2.0
1.8
1.6
1.3
1.5
1.6
1.7
2.1
1.8
1.5
Euro Area
2.7
2.5
2.5
2.5
1.9
1.7
1.6
1.6
1.6
1.6
1.7
1.7
2.5
1.5
1.6
Japan
0.1
0.0
-0.2
-0.1
-0.3
0.0
0.4
0.5
0.6
2.2
2.2
2.3
-0.1
0.2
1.8
UK
3.5
2.8
2.4
2.7
2.8
3.0
3.2
2.9
2.9
2.9
2.8
2.7
2.8
3.0
2.8
EM
5.0
4.9
4.6
4.6
5.0
5.0
5.2
5.0
4.7
4.8
4.8
4.5
4.8
5.0
4.7
China
3.8
2.9
1.9
2.1
2.4
3.2
3.8
3.7
3.2
3.4
3.6
3.0
2.6
3.2
3.3
India
7.2
10.1
9.8
10.1
11.5
9.0
8.0
7.3
7.3
7.4
6.9
6.6
9.3
8.9
7.1
Brazil
5.8
5.0
5.2
5.6
6.4
6.3
6.4
5.8
5.5
5.7
5.6
6.1
5.4
6.2
5.7
Russia
3.9
3.8
6.0
6.5
7.1
7.0
6.1
5.5
5.2
5.0
5.1
5.2
5.1
6.7
5.4
3.1
Monetary policy rate (% p.a.)
Global
3.2
3.1
3.0
2.9
2.9
2.9
2.9
2.9
3.0
3.0
3.1
3.1
2.9
2.9
G10
0.6
0.5
0.5
0.5
0.5
0.4
0.4
0.4
0.4
0.4
0.4
0.4
0.5
0.4
0.4
US
0.15
0.15
0.15
0.15
0.15
0.15
0.15
0.15
0.15
0.15
0.15
0.15
0.15
0.15
0.15
Euro Area
1.00
1.00
0.75
0.75
0.75
0.50
0.50
0.50
0.50
0.50
0.50
0.50
0.75
0.50
0.50
Japan
0.05
0.05
0.05
0.05
0.05
0.025
0.025
0.025
0.025
0.025
0.025
0.025
0.05
0.025
0.025
UK
0.50
0.50
0.50
0.50
0.50
0.50
0.50
0.50
0.50
0.50
0.50
0.75
0.50
0.50
0.75
EM
6.1
5.9
5.7
5.6
5.5
5.4
5.5
5.6
5.6
5.7
5.8
5.8
5.6
5.6
5.8
China
6.56
6.31
6.00
6.00
6.00
6.00
6.00
6.25
6.25
6.50
6.75
6.75
6.00
6.25
6.75
India
8.50
8.00
8.00
8.00
7.50
7.25
7.25
7.25
7.00
7.00
7.00
7.00
8.00
7.25
7.00
Brazil
9.75
8.50
7.50
7.25
7.25
7.75
8.25
8.25
8.25
8.25
8.25
8.25
7.25
8.25
8.25
Russia
5.25
5.25
5.50
5.50
5.50
5.50
5.50
5.25
5.00
4.75
4.50
4.50
5.50
5.25
4.50
Note: Global and regional aggregates are GDP-weighted averages, using PPPs. Japan policy rate is a range from 0.00-0.10%, with 0.05% as the midpoint; CPI numbers are period averages. *US
GDP forecast for the current quarter is a tracking estimate. **G10+BRICs+Korea
Source: Morgan Stanley Research forecasts
8
MORGAN STANLEY RESEARCH
April 24, 2013
The Global Macro Analyst
Global Macro Watch
US: What Would Winston Do?
Vincent Reinhart (1 212) 761 3537
The minutes of the Fed meeting got more attention for
their release than their content: There are a few points to
understand about the former, but what will matter over time is
the latter, the substance – or lack thereof – in the FOMC’s
deliberations. First, the unfortunate miscue of hitting the ‘send’
button 19 hours too soon has drawn attention to the way that
sensitive information is handled. Second, and more
consequential for Fed policy, was the dog that did not bark in
the Fed minutes. The minutes tell us that Fed officials made
no obvious progress in bringing their balance-sheet decisions
into their overall communications strategy. Fed officials have
not successfully severed the link between tapering purchases
and tightening the policy rate. As a result, when they do the
former, they will pull forward expectations of the latter.
What could or should or may they do to improve their
communication and execution of QE which would sever
that link? For that, we need only consult a dog that does
bark, my basset hound, Winston. In October 2010 I described
one possible rule for balance-sheet expansion in Barron’s
magazine. The idea was to link balance sheet action to
systematic deviations in the Fed’s outlook from its goals. In
the event, more attention was directed to the photo of Winston
that ran in the article than the proposal itself.
What would Winston do? Not over-think: Having ruled out
sales, the balance sheet between now and the first rate hike
will likely move in three stages: Continue QE at its current pace;
taper those purchases to zero; and let the balance sheet shrink
organically. The SEP shows that most policy-makers expect
the first rate move to occur in 2015. If that is planned for midyear, as in our forecast, that is 18 meetings from now. Divide
those three stages evenly through time and the FOMC is on
track to continue QE at its current pace through the end of the
year, spend the first three quarters of 2014 tapering off, and
three quarters after that shrink the balance sheet through
redemptions. The Committee could explain that, given its
thresholds for the unemployment and inflation rates, it
currently expects to keep the policy rate near zero until mid2015. It will use the time before then to begin the process of
balance-sheet renormalisation. As considerable slack remains
and it is appropriate to only adjust purchases gradually, it will
split the time in advance of rate action evenly. If economic
events require adjusting the date of expected tightening, it will
redistribute the sequence of balance-sheet actions
accordingly. Bernanke’s parting gift to his successor might
well be explaining this sequence at Jackson Hole in August.
For full details, see US Macro Dashboard, April 12, 2013.
Japan: BoJ Watch: April Outlook Report
Preview: Changing From Wish Report to
Outlook Report?
Takeshi Yamaguchi (81 3) 5424 5387
We expect no monetary policy changes: The BoJ decided
on large-scale quantitative and qualitative monetary easing on
April 4, and on April 25 we expect unanimous agreement on
maintaining the status quo in terms of monetary policy.
Governor Kuroda stated at the press conference after the last
meeting that all necessary steps had been taken and there
would be no sequential deployment of tools. We anticipate no
change in monetary policy for the time being.
We expect the BoJ to raise F3/15 price outlook to upper
1% level: The next MPM will bring the first announcement
under Governor Kuroda of the outlook for the economy and
prices (The Outlook Report), which the BoJ publishes in April
and October. We expect the board members’ median forecast
for the Japan-style core CPI (excl. fresh food) in F3/15 to be
raised sharply from the last figure released in the January
interim review (+0.9%Y) to around +1.6%Y on a basis that
excludes effects of a consumption tax hike from April 2014.
We expect the median forecast for the annual average CPI
growth for F3/15 to fall short of 2%Y because we think many
board members probably view the target of 2% within two
years as a flexible one allowing a certain amount of latitude,
to be reached at end-F3/15 (March 2015).
BoJ’s dilemma: At the last MPM, the BoJ strengthened its
commitment, by explicitly stating that it will “continue with
quantitative and qualitative monetary easing, aiming to achieve
the price stability target of 2%, as long as it is necessary for
maintaining that target in a stable manner”. For this to work
effectively, we think it is essential that the BoJ indicates its
own long-term outlook for prices and the economy. Unlike the
Fed, the BoJ’s forecasting period is short, covering a maximum
of 2.5 years. We think that extending the forecasting period to
cover around the next five years, and presenting more
realistic forecasts, would be helpful in not only strengthening
the duration effect but also lowering market volatility. That
said, the BoJ now faces a difficult dilemma, as it has already
committed to the two-year period within which the 2% price
target is achieved before it publishes its price outlook.
Aside from the extension of the forecast period, if the BoJ
provides a reference indication for the US-style core CPI,
which excludes energy and food and is more conservative, we
would expect to see a positive effect on asset markets.
For full details, see BoJ Watch: April Outlook Report Preview:
Changing From Wish Report to Outlook Report? April 17,
2013.
9
MORGAN STANLEY RESEARCH
April 24, 2013
The Global Macro Analyst
Global Macro Watch
UK: 1Q GDP: A Negative Print Likely
Jonathan Ashworth (44 20) 7425 1820
Melanie Baker (44 20) 7425 8607
We now forecast that UK GDP will contract by 0.3%Q in
1Q when the preliminary estimate is published tomorrow:
This would imply that the UK has experienced a ‘triple dip’
recession and compares with our previous forecast of a
0.2%Q gain. Another major decline in the volatile construction
sector is the key downward driver. If the GDP print comes in
line with our expectations, our central case scenario would be
for £25 billion QE in May. It will be a very close call, though,
and renewed asset purchases are not a done deal.
This would make QE our central case in May: If GDP
comes in line with our expectations in 1Q (or even at -0.2%Q),
we would expect a majority of the MPC to vote for more QE.
It’s not solely the GDP number that makes us think that a
couple of the QE ‘holdouts’ will change their votes: i)
Employment unexpectedly dropped in the three months to
February, which contrasts with robust quarterly gains seen in
2012. The strength of the labour market has been a major
source of comfort to the MPC; ii) According to our US team,
the economy is in a ‘soft patch’ at present and the data are
likely to be weak ahead of the May MPC meeting. One
suspects that this may raise some doubts among the MPC
about the strength of the US upturn; iii) Assuming that the
stabilisation in sterling since early March continues, this
should help to assuage fears about the risk of a pronounced
downward move in the currency; and iv) Average earnings
growth continues to drift lower, which should further reduce
MPC concerns about domestically generated inflation.
QE not a done deal though: While growth is weak at present,
there is little evidence of material downward momentum. In
addition, a modest negative print on GDP is unlikely to be a
major surprise to the MPC. The minutes of the March meeting
suggested: “Business surveys remained consistent with roughly
flat output in the first quarter, with a small increase or decline in
activity equally likely.” Moreover, the data have not been
uniformly poor over the last several weeks. The key PMI
services survey has continued to improve and its forwardlooking components are at their highest level since May 2012.
The improving trend has also continued on the consumer side,
with retail sales increasing by 0.5% in 1Q. Further improvement
in the PMIs in April would likely increase confidence about the
prospects for a 2H recovery, which could persuade the MPC
to overlook the GDP data. In addition, an FLS extension
seems likely to us and now sooner rather than later. Some on
the MPC might see this as a partial substitute for more QE.
New Zealand: Defying the Great Monetary
Easing
Sung Woen Kang (44 20) 7425 8995
Defying GME gravity: The RBNZ left the OCR unchanged at
2.50% at the April 24 announcement, and kept the outlook for
monetary policy consistent with that described in the March
Monetary Policy Statement. We believe that the RBNZ will
continue to defy the Great Monetary Easing theme despite an
uneven domestic recovery and the global economy lingering
in twilight.
Policy dilemma calls for policy mix: The RBNZ again
highlighted housing market pressures as a concern from both
a financial and price stability perspective. However, given the
current economic backdrop, we believe that it will retain easy
monetary conditions by keeping rates on hold and deal with
the upside risk of housing prices and excessive credit growth
via cautious implementation of macro-prudential policies.
On hold until daylight: We see the RBNZ keeping the OCR
on hold at 2.50% through 2013, with an eventual hike likely to
arrive in 1Q14 amid a rebounding global economy and
emerging inflationary pressures. Thereafter, we forecast the
OCR stepping up to reach 3.25% by the end of 2014.
Risks to our call include a sluggish global recovery and
continued undershooting of inflationary pressures, or
persistently negative domestic economic conditions, such as
a worsening drought. In such scenarios, we believe that the
RBNZ would be likely to leave rates anchored at 2.50% and
push back rate hikes further into 2014. On the other hand, an
early rate hike cannot be ruled out, although we do not think
that the RBNZ will do so at this juncture. Housing pressure
spillovers to other regions outside Christchurch and Auckland,
and a reversal in the trend for household deleveraging, would
give the RBNZ reason to consider carefully such action.
For more details and FX implications, see New Zealand:
Defying the Great Monetary Easing, April 23, 2013.
10
MORGAN STANLEY RESEARCH
April 24, 2013
The Global Macro Analyst
Global Macro Watch
China: Too Early to Turn Pessimistic
Korea: Downside Risks to Growth?
Helen Qiao (852) 2848 6511
Yuande Zhu (852) 2239 7820
Jason Liu (852) 2848 6882
Sharon Lam (852) 2848 8927
Our latest policy trip to Beijing showed a mixed picture
regarding the macro backdrop.
Korea to report 1Q13 GDP; downside risks likely: Korea
will report preliminary 1Q13 GDP data on April 25. We forecast
GDP to expand by 1.8%Y in 1Q, an increase from 1.5%Y in
4Q12, driven by the improving export sector. Exports rose by
0.5%Y in 1Q13 (-0.4%Y in 4Q12), the first positive growth in a
year. However, downside risks are likely as capex investment
and consumption remained weak. Consumption growth could
have eased in 1Q as households front-loaded their spending
in 4Q with the early arrival of a cold winter. Capex investment
is the weakest link of the economy, as business sentiment
remained weak, with lingering uncertainties over the global
economy. Construction investment could still underperform
due to weak property transactions.
Good news: 1Q growth data was likely understated due to
some temporary shocks (e.g., late Lunar New Year and the
leap year) and biased by statistical sampling changes. In
addition, our investigation seems to suggest that the adverse
impact of the recent banking regulation and property policy
tightening measures on liquidity and real estate investment
will likely remain limited.
Bad news: Compared to a year ago, top decision-makers now
have a higher tolerance level for lower growth, which implies
limited room for policy easing (including the anti-extravagance
campaign) in the near term. Furthermore, exchange rate,
energy price and income distribution reforms the government
plans to roll out will likely push up production costs in China
further and add cyclical headwinds to the recovery.
We reckon that there are downside risks to our real GDP
growth forecast of 8.2% this year, with a higher probability
to tip the risk towards our bear case than before. Nevertheless,
we still believe that, with a time lag of around three months,
the credit expansion in 1Q will help growth rebound in 2Q.
We have just spotted some green shoots in upstream
sectors since the last week of March: Bottom-up channel
checks showed higher cement prices, lower steel inventory
and better electricity production in the last few weeks,
possibly influenced by unfavourable seasonality due to the
late LNY this year.
The answers to a number of questions will determine
whether and how fast we return to the recovery track:
These include: Whether the new government implements
reforms to streamline infrastructure financing in the short term;
whether property and infrastructure investment growth could
ultimately motivate the private sector to re-leverage and boost
the income/consumption growth. In our full report, we
summarise the most important questions from clients on our
policy trip to Beijing post the March/1Q data release, and offer
our answers along with policy-makers’ perspectives.
For full details, see China Economics: Too Early To Turn
Pessimistic, April 22, 2013.
1Q is behind us, what about 2Q? While Korea’s GDP in 1Q
could surprise to the downside, we think it could turn slightly
more positive when looking ahead. We think the downside
risks to Korea’s economy could be capped in 2Q due to:
i) Government’s swift stimulus package: The government’s
stimulus package was effective in supporting the economy
during the global financial crisis in 2008-09, and we think that
it will be effective again this time.
ii) Positive consumer sentiment and lower commodity
prices to support consumption recovery from 2Q: While
sentiment may ease in April, we think it may stay in positive
territory and support Korea’s consumption recovery from 2Q.
iii) Fixed investment could begin to recover with
government support: Capex was the weakest link in 1Q as
both export and consumption have bottomed out but capex
dropped further. Capex should recover when we see more
solid signs of export demand.
Our bear case on the Korean economy: What if the global
soft patch is not just temporary? Our bear case for GDP
growth this year is 2.5%Y versus our base case of 3.3%Y. If
the global economy deteriorates, Korea will not be the only
country to suffer. The Korean economy looks more resilient
due to its export competitiveness, lack of overcapacity
problem and also ample room for stimulus because
government debt level is low. As we saw in 2008-09, Korea
did not register any recession during the global financial crisis.
For full details, see Korea Macro Weekly: Downside Risks to
Growth? April 22, 2013.
11
MORGAN STANLEY RESEARCH
April 24, 2013
The Global Macro Analyst
Global Macro Watch
Asia Pacific: Growth Entering a Soft Patch
Brazil: A Dovish Hike?
Chetan Ahya (852) 2239 7812
Derrick Kam (852) 2239 7826
Jenny Zheng (852) 3963 4015
Arthur Carvalho (55 11) 3048 6272
Recent data points indicate a slight deceleration in
growth across the region: External demand has slowed in
March, in line with the weaker data points coming out of the
US, while domestic demand has been impacted by a slightly
tighter fiscal policy stance.
Industrial production: In China, IP growth moderated further
in March, likely reflecting the weaker external demand in the
month. For the region ex China, the underlying trend is likely
to have been softer, due to weaker external demand.
Consumption: Consumer activity in the region ex China has
remained broadly stable. In China, retail sales growth edged
up slightly in March, mainly driven by rural sales.
Investment: Capex activity in the region ex China has
stabilised at low levels. In China, capital spending moderated
in March. FAI for the real estate and infrastructure sectors has
risen, offsetting the weakness in the services sector.
Government spending: Across the region, moderate fiscal
tightening has taken place in recent months after a period of
fiscal expansion late last year. In particular, India’s government
expenditure (as % of GDP) has declined to a four-year low.
External demand: In March, the region’s exports slipped
MoM on a seasonally adjusted basis. Leading indicators point
towards a somewhat mixed outlook for exports.
Challenges, both domestically and externally, will pose
some headwinds to the growth recovery in the near term:
Domestic demand should show only a small improvement
from here due to the relatively slow pace of policy reforms. On
external demand, the soft patch in the US economy should
mean that support from external demand will be relatively
weaker over the next 2-3 months. However, in 2H13, our DM
economics team believes that the growth recovery will
resume, which should help lift external demand back up then.
We believe that the risks to the growth outlook for the region
will be significantly influenced by external demand. In this
context, we will be watching the exports data coming out of
Korea and Taiwan to assess the pace and strength of the
recovery. For our latest thoughts on the growth outlook, see
Asia Pacific Economics: Gradual Recovery Under Way, but
Near-Term Headwinds Remain, March 13, 2013.
For full details, see Asia Pacific Economics: Growth Entering
a Soft Patch, April 22, 2013.
Despite the move by Brazil’s central bank to hike rates
last week by 25bp to 7.5%, we are concerned that the
authorities are unlikely to tackle the underlying problems
behind the inflationary pressures: While the timing of the
hike was sooner than we had previously expected, we fear
that the central bank’s core message – that only a fine-tuning
of rates may be necessary – remains the same. We believe
that a much more aggressive head-on effort is needed and
would imply putting the brakes on wage growth in the months
leading up to Brazil’s next presidential election scheduled for
just a little over a year from now.
Although most members of the administration now seem
to advocate rate hikes publicly, we suspect that broad
support for a hike has always been under the condition
that tightening would not increase unemployment: The
tone has certainly changed, but actions continue to be quite
dovish, in line with our argument against the new-found
perception of a hawkish central bank. Indeed, until shortly
before this week’s meeting decision, markets were pricing in a
tightening cycle of 170bp, starting with a hawkish 50bp hike,
which would have indeed changed the market’s perception of
the central bank’s reaction function.
Following the modest 25bp hike last week, we are moving
our rates call from no hikes in 2013 to a total of four 25bp
hikes this year: We now expect that rates will be 8.25% by
August 2013 and should then remain unchanged through
December 2014. We had previously expected a modest hiking
cycle in early 2014.
Brazil’s inflation problem is deeply structural, resulting
from the country’s low potential GDP rate and artificially
boosted consumption. Eventually, these problems will have to
be tackled, but now seems not to be the time. Hiking interest
rates aggressively would either add too much pressure on the
currency to strengthen or risk slowing wage growth and
complicating the presidential election process.
Unfortunately, we think that the central bank’s message
is clear – it is only willing to fine-tune interest rates
conditional on the ongoing scenario. Although by not starting
to solve the inflation issue now, the bank does increase the
cost of eventually solving it, we do not expect inflation to spiral
out of control in the next year-and-a-half, after which point the
election will be over.
For full details, see “Brazil: A Dovish Hike?” Week Ahead in
Latin America, April 19, 2013.
12
MORGAN STANLEY RESEARCH
April 24, 2013
The Global Macro Analyst
Inflation Target Monitor & Next Rate Move
Global Economics Team. Contact: Manoj.Pradhan@morganstanley.com
US
Euro Area
Japan
UK
Canada
Switzerland
Sweden
Inflation target
Latest
month
12M MS
fcast
Next rate
decision
Current
rate
Market
expects
(bp)
MS
expects
(bp)
Risks to our call
2.0% PCE Price Index
1.9%
1.7%*
01 May
0.15
0
0
No risks, same through mid-2015
< 2% HICP (u)
1.7%
1.5%
02 May
0.75
0
-25
Risk that ECB waits until June meeting
2% CPI (u)
-0.3%
0.5%
26 Apr
0.05
0
0
-
2%
2.8%
2.8%
09 May
0.50
-2
0
Risk is for unchanged policy
1-3%
1.4%
1.8%
29 May
1.00
0
0
-
<2% CPI (u)
-0.6%
0.2%
20 Jun
0.00
-
0
-
2.0% CPI
0.0%
1.4%
03 Jul
1.00
-12
0
Balanced risks
Balanced risks
2.5% CPI
1.4%
-
08 May
1.50
-7
0
2-3% over the cycle
2.5%
2.2%
07 May
3.00
-10
0
-
1-3% CPI
0.9%
-
13 Jun
2.50
-1
0
Premature tightening due to housing pressures
Russia
5-6% CPI
7.0%
5.2%
01-15 May
5.50
-
0
-
Poland
2.5% (+/- 1%) CPI
1.0%
1.9%
08 May
3.25
-
0
-
Czech Rep.
2.0% (+/-1%) CPI
1.7%
1.8%
02 May
0.05
-
0
-
Hungary
3.0% CPI
2.2%
3.6%
28 May
4.75
-
-25
-
Romania
3.0% (+/-1%) CPI
5.3%
4.0%
02 May
5.25
-
0
-
5%
7.3%
5.8%
16 May
5.00
0
0
-
Israel
1-3%
1.3%
2.0%
27 May
1.75
-
-25
-
S. Africa
Norway
Australia
New Zealand
Turkey
3-6%
5.9%
5.8%
23 May
5.00
-
0
SARB GDP downgrade ushers in rate cut
Nigeria
-
8.6%
10.0%
21 May
12.00
-
0
CPI decline seen as sustainable, easing starts in 1H13
Ghana
9% +/-2%
10.0%
9.7%
08 May
15.00
-
0
-
China
-
2.1%
3.2%
N/A
6.00
-
0
Premature policy tightening and external demand weakening
India
-
6.0%
6.2%
03 May
7.50
-25
0
Faster-than-expected moderation in CPI inflation
Hong Kong
-
3.6%
4.5%
01 May
0.50
-
-
-
2.5-3.5%
1.3%
2.7%
09 May
2.75
-
0
Rate cut due to weak domestic demand
S. Korea
Taiwan
-
1.4%
1.5%
20 Jun
1.875
-
0
Rate cut due to weak business and consumer sentiment
Indonesia
4.5% +/- 1.0%
5.9%
5.4%
14 May
5.75
-
0
Evenly balanced
Malaysia
-
1.6%
2.7%
09 May
3.00
-
0
Downside risks
Thailand
0.5-3.0% core CPI
2.7%
3.4%
29 May
2.75
-
0
Downside risks
Brazil
4.5% +/-2.0% IPCA
6.6%
5.6%
29 May
7.50
-
25
A double dip recession
Further FX strength could lead to rate cut
Mexico
Argentina
Chile
3% +/-1% CPI
4.3%
4.1%
26 Apr
4.00
0
0
15.5-24.2% M2 growth
10.6%
10.4%
NA
15.19
-
-
-
3% +/-1% CPI
1.5%
3.3%
16 May
5.00
0
0
Buoyant domestic demand pressuring inflation
Peru
2% +/-1% CPI
2.6%
2.2%
09 May
4.25
0
0
-
Colombia
3% +/-1% CPI
1.9%
2.5%
26 Apr
3.25
0
-25
-
(u) = unofficial
Notes: Inflation numbers in red indicate values above target; MS expectations in red (green) indicate our rate forecasts are above (below) market expectations. Japan policy rate is an interval of
0.00-0.10%; *Core measure.
Source: National central banks, Morgan Stanley Research forecasts
13
MORGAN STANLEY RESEARCH
April 24, 2013
The Global Macro Analyst
Global Monetary Policy Rate Forecasts
Current
2Q13
3Q13
4Q13
1Q14
2Q14
3Q14
4Q14
Expected unconventional measures
United States
0.15
0.15
0.15
0.15
0.15
0.15
0.15
0.15
Outright purchases of Treasuries/MBS at $85bn/month in 2013
Euro Area
0.75
0.50
0.50
0.50
0.50
0.50
0.50
0.50
No credit easing expected yet
Japan
0.05
0.025
0.025
0.025
0.025
0.025
0.025
0.025
BoJ’s CPI forecast will be revised up in the Outlook Report
United Kingdom
0.50
0.50
0.50
0.50
0.50
0.50
0.50
0.75
£25bn QE
Canada
1.00
1.00
1.00
1.00
1.00
1.00
1.00
1.00
-
Switzerland
0.00
0.00
0.00
0.00
0.00
0.00
0.25
0.50
-
Sweden
1.00
1.00
1.00
1.00
1.00
1.00
1.25
1.50
-
Norway
1.50
1.50
1.75
1.75
2.00
2.25
2.25
2.50
-
Australia
3.00
3.00
3.00
3.00
3.00
3.00
3.00
3.00
-
New Zealand
2.50
2.50
2.50
2.50
2.75
3.00
3.25
3.25
-
Russia
5.50
5.50
5.50
5.25
5.00
4.75
4.50
4.50
-
Poland
3.25
3.25
3.25
3.25
3.25
3.25
3.50
3.75
-
Czech Republic
0.05
0.05
0.05
0.05
0.25
0.50
0.75
1.00
-
Hungary
4.75
4.50
4.50
4.50
4.50
4.50
4.50
4.50
-
Romania
5.25
5.25
5.25
5.25
5.25
5.25
5.25
5.25
-
Turkey
5.00
5.00
5.00
5.00
5.00
5.50
5.75
5.75
O/N rate might be cut, RRR and ROC to rise
Israel
1.75
1.50
1.50
1.50
2.00
2.50
2.50
2.50
-
South Africa
5.00
5.00
5.00
5.00
5.00
5.00
5.00
5.00
-
Nigeria
12.00
12.00
12.00
11.00
9.50
9.50
9.50
9.50
Possible tweaks to liquidity requirements
Ghana
15.00
15.00
15.00
15.00
15.00
15.00
15.00
15.00
Reserve ratios, liquidity requirements
China
6.00
6.00
6.00
6.25
6.25
6.50
6.75
6.75
-
India
7.50
7.25
7.25
7.25
7.00
7.00
7.00
7.00
-
Hong Kong
0.50
0.50
0.50
0.50
0.50
0.50
0.50
0.50
-
S. Korea
2.75
2.75
2.75
2.75
3.00
3.25
3.50
3.50
-
Taiwan
1.875
1.875
1.875
2.00
2.125
2.25
2.375
2.375
-
Indonesia
5.75
5.75
5.75
5.75
5.75
5.75
5.75
5.75
-
Malaysia
3.00
3.00
3.00
3.00
3.00
3.00
3.00
3.00
-
Thailand
2.75
2.75
2.75
3.25
3.50
3.50
3.50
3.50
-
Brazil
7.50
7.75
8.25
8.25
8.25
8.25
8.25
8.25
-
Mexico
4.00
4.00
4.00
4.00
4.00
4.00
4.00
4.00
-
Chile
5.00
5.00
5.00
5.00
5.50
5.50
5.50
5.50
FX intervention cannot be ruled out
Peru
4.25
4.25
4.25
4.25
4.50
4.75
4.75
4.75
-
Colombia
3.25
2.50
2.50
2.50
3.25
4.00
4.75
5.00
-
Source: National Central Banks, Morgan Stanley Research forecasts; Note: Japan policy rate is an interval of 0.00-0.10%.
Fed and Eurosystem Balance Sheet Monitor
3,500
3,500
Federal Reserve (Bil.$)
3,000
3,000
2,500
2,500
Eurosystem (Bil.€)
2,000
2,000
1,500
1,500
Size of B/S
1,000
Total Reserves
1,000
Size of B/S
500
Excess Reserves
0
Jan-08 Jul-08 Jan-09 Jul-09 Jan-10 Jul-10 Jan-11 Jul-11 Jan-12 Jul-12 Jan-13
Source: Haver Analytics
500
0
Jan08
Jul08
Jan09
Jul09
Jan10
Jul10
Jan11
Jul11
Jan12
Jul12
Jan13
Source: Haver Analytics
14
MORGAN STANLEY RESEARCH
April 24, 2013
The Global Macro Analyst
Global GDP and Inflation Forecasts
Real GDP (%)
CPI inflation (%)
2011
2012E
2013E
2014E
2011
2012E
2013E
Global Economy
3.9
3.1
3.2
3.9
4.4
3.3
3.3
2014E
3.3
G10
1.4
1.3
0.9
1.8
2.7
1.9
1.6
1.7
1.5
US
1.8
2.2
1.6
2.5
3.1
2.1
1.8
Euro Area
1.5
-0.5
-0.7
0.9
2.7
2.5
1.5
1.6
3.0
0.7
0.5
1.6
2.0
2.0
1.6
1.6
Germany
France
1.7
0.0
-0.3
0.6
2.1
2.0
1.2
1.6
Italy
0.6
-2.2
-1.7
0.4
2.8
3.0
1.7
2.0
0.4
-1.4
-1.5
0.8
3.2
2.4
2.2
1.1
Japan
Spain
-0.6
2.0
1.6
1.3
-0.3
-0.1
0.2
1.8
UK
1.0
0.3
0.7
1.3
4.5
2.8
3.0
2.8
Canada
2.4
2.0
1.8
2.4
2.9
1.5
1.5
1.8
Sweden
3.8
0.8
1.3
2.1
3.0
0.9
0.5
1.5
Australia
2.4
3.6
3.0
3.1
3.3
1.8
2.5
2.4
6.5
4.9
5.4
5.8
6.2
4.8
5.0
4.7
5.1
2.7
3.0
3.9
6.9
5.7
5.7
5.3
Emerging Markets
CEEMEA
Russia
4.3
3.4
2.9
3.4
8.5
5.1
6.7
5.4
Poland
4.3
2.1
1.3
3.0
4.3
3.7
1.4
1.8
Czech Rep
1.9
-1.2
-0.1
2.3
1.9
3.3
2.0
1.7
Hungary
1.7
-1.7
-0.5
1.3
3.9
5.7
2.9
3.6
Ukraine
5.2
0.2
0.8
4.0
8.0
0.6
2.8
7.4
Kazakhstan
7.5
5.0
5.3
6.2
8.4
5.1
7.1
7.4
Turkey
8.5
2.2
4.4
4.8
6.5
8.9
7.0
6.2
Israel
4.7
3.2
3.0
3.4
3.5
1.7
1.6
2.2
South Africa
3.1
2.5
2.5
3.3
5.0
5.7
5.9
5.4
Nigeria
7.4
6.5
7.2
8.0
10.9
12.2
10.5
10.5
Ghana
14.4
7.0
7.5
7.0
8.7
9.2
9.9
10.1
Asia ex-Japan
7.6
6.2
6.7
6.9
5.8
4.1
4.4
4.1
China
9.3
7.8
8.2
7.9
5.4
2.6
3.2
3.3
India
7.3
5.1
5.9
6.8
8.9
9.3
8.9
7.1
Hong Kong
4.8
1.4
3.8
4.5
5.3
4.1
4.5
4.0
Korea
3.6
2.0
3.3
4.1
4.0
2.2
2.7
3.0
Taiwan
4.1
1.3
2.9
4.0
1.4
1.9
1.5
1.8
Singapore
5.2
1.3
2.3
4.0
5.2
4.6
3.6
3.3
Indonesia
6.5
6.2
5.6
5.9
5.4
4.3
5.4
5.4
Malaysia
5.1
5.6
4.8
4.8
3.2
1.7
2.3
2.5
0.1
6.4
4.7
5.3
3.8
3.0
3.4
3.4
Latin America
Thailand
4.5
2.8
3.1
3.8
6.7
6.2
6.7
6.5
Brazil
2.7
0.9
2.8
3.4
6.6
5.4
6.2
5.7
Mexico
3.9
3.9
3.2
4.2
3.4
4.1
3.7
3.8
Chile
6.0
5.6
4.5
4.7
3.3
3.0
2.6
3.2
Peru
6.9
6.3
5.8
6.5
3.4
3.7
2.1
2.6
Colombia
5.9
3.4
3.9
5.2
3.4
3.2
2.2
3.1
Argentina
8.9
1.9
1.8
2.4
9.8
10.0
10.9
10.0
Venezuela
4.2
5.6
1.9
2.5
26.1
21.3
27.6
26.4
Source: IMF, Morgan Stanley Research forecasts
15
MORGAN STANLEY RESEARCH
April 24, 2013
The Global Macro Analyst
Global Economics Team
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16
MORGAN STANLEY RESEARCH
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The Global Macro Analyst
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MORGAN STANLEY RESEARCH
April 24, 2013
The Global Macro Analyst
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