After years of powering the global economy, emerging markets are caught between fading growth and tighter lending conditions, squeezing their private sectors, which had borrowed heavily during an era of low rates.
The fallout from any debt defaults can spread fast: Foreign banks have lent $3.6 trillion to companies in emerging markets, and foreign investors hold, on average, 25% of local debt in developing economies.
Standard & Poor’s Ratings Services said corporate defaults in emerging markets rose in 2015 to their highest levels since 2004. Corporate-debt downgrades in the five largest emerging economies outside of China increased sixfold over the past two years, to 154.
Companies borrowed heavily in recent years, betting on stronger consumption, higher commodity prices and faster economic growth. Instead, growth in developing nations averaged less than 4% last year, nearly three percentage points below the International Monetary Fund’s 2011 forecasts for 2015, and commodity prices have plummeted.
Indonesian corporations increased their debt by 41% from 2010 to 2014. Globally, emerging-market corporate debt has risen 30 percentage points since 2008 to 88% of developing economies’ GDP. China’s corporate debt is 130% of GDP. In the U.S., it is 70%.
On Tuesday, the IMF cut its outlook for global growth this year by 0.2 percentage point, to 3.4%, a small improvement from 2015’s 3.1% rate. It warned that economic turmoil in China and financial contagion throughout emerging markets could pose problems for global growth.
Unlike the past crisis in those emerging markets, many nations have a better bulwark against contagion. Many have since boosted currency reserves, giving them firepower to stem market runs and bolster the financial system. Brazil ramped up its reserves from about 5% of GDP in 2000 to roughly 20% now. China’s stockpile of over $3.3 trillion has helped Beijing avoid a sharply damaging depreciation of its currency. But whether those actions can convince the market to hold a strong belief in global economy will depend on the level of crashing oil price and how fast will the fed increase the rate in the future.