As vaccine rollouts marched on in the United States, China and the United Kingdom and finally found their footing in Canada and across Europe, in much of the developed world discussions have turned towards when things will “return to normal.” With scenes of revellers returning to British High Street pubs and fans snagging foul balls at baseball games across the U.S., normal doesn’t seem far away.
Yet, in India, Brazil, Argentina and many other emerging markets, the prospect of “normal” remains far off as COVID-19 continues to cause devastation to people and economic outlooks. While this suffering is being reported and covered in industrialized economies, it hasn’t dampened the growing optimism in those countries. Awkwardly, as the outlook improves in the U.S. and Europe, it has the potential to increase the problems facing emerging countries as they struggle to contain the virus.
The root of this issue can be traced back to the 2008 financial crisis when many emerging market governments and corporations took advantage of historically low interest rates and issued new debt, feeding demand from investors across global capital markets starving for yield. While this marriage increased the integration of emerging markets with global markets, it was part of a wave of new debts being issued globally as global debt issuance skyrocketed by more than US$52 trillion between 2016 and 2020, according to estimates from the International Institute of Finance (IIF).
Although at least $15 trillion of that was recorded because of COVID-19 in 2020, the remaining $37 trillion surpassed the $6 trillion increase between 2012-2016. At the same time, while emerging market governments were offering to pay higher interest rates on their debt than governments in industrialized economies, the average share of government revenues consumed by interest costs was around 7%, or roughly the same level as in 2005-2006.
While this fit between investors and emerging markets helped both, for emerging market governments this tidal wave of debt—often issued in foreign currencies—ratcheted up their exposure to global interest rates and most importantly, the U.S. economic outlook. The consequence of this unintended connection to the U.S. outlook became apparent as the Federal Reserve shook off its inertia and began to march U.S. interest rates higher at the end of 2015. As the decision rippled around the globe and increased rates, Egypt, Turkey, Argentina, South Africa, and Pakistan began to find their expanded debt loads unsustainable.
