Developing countries stranded by rising interest rates and COVID

The more closely a country is linked to the global economy – whether through industry, commerce or tourism – the greater the potential damage from the COVID-19 pandemic. Germany and other rich countries have tried to mitigate this damage with huge aid and economic stimulus packages.

But most emerging economies around the world are unable to mobilize the same amount of resources. “They are under-resourced,” said Klaus-Jürgen Gern, expert on business cycles and growth at the Kiel Institute for the World Economy (IfW). “Measured against overall economic output, their public revenues are generally lower. Nor can they borrow in international capital markets to the same extent as industrialized countries. “

Fear rises

As the COVID-19 pandemic spread in the spring of 2020, many feared a major economic disaster. But so far it has not materialized. At that time, investors withdrew their capital from emerging markets at record speed, threatening to drain countries financially. But after the initial shock, the situation returned to normal.

Global financial institutions like the International Monetary Fund (IMF) and the World Bank have provided a lot of money and played an important role in stabilizing markets. “In this way, they allayed investor fears that sovereign bankruptcies could arise as a result of the crisis,” Gern said. DW.

In the meantime, however, fear is on the rise again. As inflation rises in the United States, the Federal Reserve may raise interest rates for the foreseeable future. “For emerging markets then there is a risk of a sharp rise in the cost of capital and capital flight,” said Clemens Fuest, director of the Munich-based Ifo Institute. DW.

Interest rate issues

This has happened on several occasions in the years following the financial crisis of 2007-08, for example in 2012-13 or 2015-16. When capital is withdrawn from emerging markets, it causes their currencies to collapse and there is a lack of money for investment.

Overall, however, those risks are lower today than in the past, in part because emerging markets now have more experience in dealing with the problem, Fuest said.

Nonetheless, IfW researcher Gern points out that emerging economies have “significantly increased” their debt over the past decade. “Before the 2007-08 financial crisis, emerging market government debt averaged around 30 percent of economic output. Today, it is closer to 65 percent,” he said.

Thus, as interest rates rise, an ever increasing share of government revenue must be used to repay debt.

Some emerging market economies are already facing serious challenges. The Argentine peso, for example, has lost about a third of its value against the US dollar since the start of the pandemic, and inflation is hovering around 50%.

A big minus

The economies of major emerging markets such as India, Mexico and South Africa also contracted by around 7-8% in 2020. Unlike in the past, most of these countries have not been able to to decouple from the global trend and have failed to play the role of growth engine. engines. According to IMF estimates, the economic slump in emerging economies outside China has been even more severe than in industrialized countries.

The crisis has also shown that the once famous group of BRICS countries (Brazil, Russia, India, China and South Africa) have almost nothing in common. Of the group, only the Chinese economy was able to grow last year.

In Russia, the economy shrank by 3%, while in Brazil a 4% drop was compounded by high infection and death rates from COVID and a populist president, Jair Bolsonaro, who puts democratic institutions in the country under pressure.

The BRICS star fades

Next year, the IMF estimates that the Brazilian economy will grow below 2%. This is a devastating number for a country once considered on the verge of becoming an industrialized nation.

A lack of political stability and often a lack of legal certainty are the reasons the BRICS star has faded, said Michael Hüther, director of the Institute of German Economics (IW). Handelsblatt newspaper. Gone are the days when “you just screamed BRIC and investors jumped in”, he said.

Forecasts are similar for South Africa, whose problems have been compounded by political unrest and severe lockdowns. “South Africa is deeply integrated into global value chains and therefore its economy is vulnerable in the same way as European economies,” said Christoph Kannengiesser, director of the Association of German Businesses in Africa.

Nevertheless, for German companies operating in the country, there is no reason to withdraw, stressed the expert. “The German industry, which is heavily invested in it, is attached to South Africa as a business location and is fundamentally optimistic,” Kannengiesser said. DW.

Cure depends on vaccines

How quickly these economies can recover depends on the ability of authorities to control the COVID health crisis. But due to a lack of vaccines, vaccination rates in Africa have so far been extremely low, while at the same time the US and EU are considering booster vaccines for their populations. Kannengiesser thinks there is no point in arguing whether this is fair.

On the contrary, he said, the goal must be to make the African continent less dependent on help from others. “Africa must be enabled to produce the vaccines it needs on its own. It is not a question of patents, but of production capacities.

However, increasing production capacity cannot happen overnight. In the meantime, Germany should consider donating surplus vaccines not only as part of the international COVAX initiative, but also bilaterally, the expert stressed, adding that COVAX has encountered great difficulties in rapidly delivering vaccine. vaccines to countries in urgent need.

This article was translated from German.

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