Over recent weeks, we have noted a hawkish shift at most emerging market (EM) central banks in response to supply-side driven inflation working through the system. Many central banks have front loaded their rate hikes, which is hardly surprising; historically, emerging markets have had a mixed experience with inflation, with less frequent periods of well anchored inflation expectations and in many cases, uncomfortable overshoots.
Inflation pressure has been most prevalent in Brazil and Russia this year and has now outstripped both central bank inflation targets; as such Brazil's Monetary Policy Committee (COPOM) and the Central Bank of Russia have been at the leading edge of the EM tightening cycle. At the same time, there is increasing evidence of similar inflation pressures in LATAM (Chile, Colombia and Mexico) where the local central banks have joined the hiking party over recent months.
Arguably, the biggest hawkish push is taking place in the CE3 (Czech Republic, Hungary and Poland) with policymakers in catch-up mode against a backdrop of spiralling price pressures (Figure 1 & Figure 2). This week, we were on the lookout for further clues on the progression of monetary policy within this hawkish contingent, with interest rate decisions due from the National Bank of Poland (NBP) and Czech National Bank (CNB). Likewise, the minutes from National Bank of Hungary (NBH) meeting from October were published this week.
The NBP vowed to do “whatever it takes” in the fight against inflation, tightening rates by 75bps relative to market expectations of a 25bp hike. This week’s decision, the largest since 2000, follows a 40bp hike in October and marks an incredible about-face by the NBP; casting our minds back, just a few weeks ago, the governor was insistent that rates would be held until next year. The accompanying press conference added to the confusion; the governor declined to confirm if Poland is in a tightening cycle, offering little forward rate guidance, only to later suggest another rate hike is likely in December. Cutting through the clumsy communication, in our view, the forward-looking data suggests inflation pressure is likely to continue; the NBP is likely to accelerate the tightening cycle, despite the noncommittal governor. As a result, we remain underweight Polish rates in the portfolio.
The CNB also surprised market participants this week by raising the policy rate by 125bps, relative to the market consensus of a 75bp move. This week’s decision is the largest move in nearly a quarter of a century, the fourth straight hike this year and follows a 75bps move in September. The accompanying projections reflected the increasing concern over rising domestic price pressure, with the FY22 inflation forecast raised to 5.6%, from the 2.8% forecast in August. Likewise, the governor was undoubtably hawkish in his accompanying comments, suggesting that a “forceful” rate move is needed to bring inflation back to target next year. While, the governor did say this weeks move covered off a “large” part of the required move, where future hikes are likely to be smaller in magnitude, we still believe that the skew of inflation risks will keep the CNB on a firm hawkish footing. Therefore, we remain underweight Czech rates in the portfolio.
Rounding off a busy week for CE3, the NBH published a hawkish set of minutes for their October meeting, where rates were raised by 15bps. The members of the monetary council judged that “the outlook for inflation and the risks surrounding it, which remained on the upside, clearly warranted the continuation of the monthly interest rate tightening cycle started in June”. Likewise, the council went a step further, suggesting the inflation path has shifted from the central to the risk scenario, where a “longer series of monetary policy steps might have to be taken than previously planned”. In line with their contemporaries at the NBP and CNB, we believe that policymakers in Hungary are likely to continue with their hawkish push in light of accelerating domestic inflation. As such, we remain underweight Hungarian rates in the book.
While monetary policy has undoubtably peaked in both developed and emerging economies, we believe that alpha can be generated within the tightening cycle. The hawkish push is clear across CEEMEA and LATAM, however, all things are not made equal when it comes to EM; while many factors driving the near-term price pressure are global in nature, the pass through to domestic inflation can be different. We note muted price pressures in Asia, where inflation is comfortably below target in China, Indonesia, Malaysia and Thailand; the central banks in this region can maintain policy stimulus in the face of the delta variant. As noted in our hot off the press Roadmap for Q4, in our view, there are selective cross market opportunities on offer, particularly when the normalisation paths are diverging across countries and regions. Particularly in cases where front loaded hiking cycles are maturing, relative to those where the cycles have barely begun.
Emerging Markets Roadmap – Q4 and Beyond
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