The collapse in emerging market inflation will give central banks more scope for easing, which they are under an obligation to do to ease the pain for domestic firms and households. We think emerging markets might see rate cuts in the coming months that, by normal standards, might seem shockingly low. Low inflation also creates space for central banks to conduct more non-conventional policies in the form of asset purchases, but we don’t see near term risks as a result of this.
The bigger long-term worry might be the build-up of public debt. Although the rise in public debt in emerging markets might win an ‘ugly contest’ with developed markets, a key question for emerging markets is whether investors, both domestic and foreign, have any confidence that these countries can grow out of their debt, and on this issue we are pessimistic. Low interest rates in developed markets might help push capital towards emerging markets, but that’s not a reason to be confident about the future of the asset class given the uncertainties that now afflict the global economy.