Developing Economies And Emerging Markets
Key characteristics And Challenges
dr.rana khalid
Executive and Head of Researchers IFPMC-LONDON
September 2020
What MNCs that have managed to broaden their reach into developing economies and emerging markets have learnt to keep in mind that a country’s business potential, represented by its product, labour, and capital markets, is heavily influenced by its political system and institutional arrangements (Acemoglu & Robinson, 2012; Peng & Meyer, 2016). For instance, in socialist states such as North Korea and Cuba, workers are prevented from forming independent trade unions, a factor that affects labour prices. A country’s social environment such as the sensitive relationships between ethnic, regional, and linguistic groups influence the country’s economic environment. In South Africa, for instance, the government’s support for the redistribution of land to historically disadvantaged citizens have affected the pricing of property and the development of the capital market.
It is also important to determine the influence of the power centres in developing economies and emerging markets. These include the bureaucracy (including, in many cases, the military), media, and civil service, and whether bureaucrats and politicians are independent of each other. In China, the state plays a central role, with state-owned enterprises representing a significant proportion of the economy. In India, public sector companies do not feature nearly as prominently in the country’s economy as they do in China, and it is often argued that private sector companies become successful despite the state, not because of it.
Compared to those in developed countries, the capital and financial markets in developing countries are typically characterised by their lack of depth and sophistication (Khanna & Palepu, 2010). Advanced economies generally have a wide variety of experienced market agents and intermediaries, including multiple layers of capital market institutions, credit-rating agencies, investment analysts, and venture capital firms, while developing economies often have little more than a limited stock market. Frequently, international companies do not adequately consider emerging markets’ underdeveloped or absent infrastructures when trying to implement the business models from their home markets. These deficiencies are referred to as institutional voids, and they affect the ability of countries to integrate into the global economy.
Countries with weak institutions and poorly regulated economies tend not to sustain strong economic growth (Acemoglu & Robinson, 2012). Yet China’s growth in the last three to four decades has occurred despite its initially underdeveloped formal institutions (like a lack of effective courts). It is believed that interpersonal networks (called guanxi in Chinese)[1] are so strong and interweaved in the economy that they serve as an informal substitute for formal institutional support, in fact creating macro-relations from micro-relations.
The importance of strong institutions will be covered in an upcoming section of this module.
BRICs and MINTs
When economist Jim O’Neill and his team at Goldman Sachs predicted in 2002 that China would overtake the US economy in size (GDP) before 2050, and that the world’s top ten biggest economies would include four new entrants – China, India, Brazil, and Russia – the announcement was met with widespread disbelief. After all, the list of the world’s ten biggest economies have remained largely consistent over the past century.
These four new economic powerhouses – referred to as the BRICs – have proven O’Neill right by showing tremendous growth in the decade and a half since his original prediction. Some investors even argue that if someone heeded O’Neill’s advice in 2002 and invested in the BRICs alone, the returns would have been unmatched by “virtually anything else conceivable” (Tett, G. 2010). O’Neill now predicts that China could overtake the US as the biggest economy in the world by 2027, and that the BRICs group could eclipse the biggest Western economies by 2032, almost a decade earlier than he initially predicted (Tett,G. 2010).
Now that the BRICs phenomenon has become commonplace, O’Neill has shifted his focus to the MINTs – Mexico, Indonesia, Nigeria, and Turkey. He predicts that, of the next frontier of emerging markets, these four countries will make the most pronounced headway into claiming a stake of the world GDP. It is further predicted that by 2050, the BRICs will represent 45% of the global GDP, while the traditional Western economic powerhouses, the G7, will constitute only about 20% (O’Neill, 2009). The world economy, which has for so many years been dominated by a small group of developed and primarily Western economies, will therefore contain a larger number of players. This process is sometimes referred to as the rebalancing of the world economy.
Key characteristics
- First: Merging
To developing economies and emerging markets, globalisation offers the opportunity of convergence, the notion that with the lowering of restrictions on the flow of goods, labour, and capital, differential rates of economic growth will allow countries to converge to similar levels of income and development. This implies that countries with lower GDP per capita will experience faster growth rates than more developed economies. Emerging markets with sound trade policies will therefore converge towards the same levels of GDP per capita as other growing economies (O’Neill, 2011). A good historical example is the growth of Spain’s economy after joining the European Union, compared to France or Germany.
Convergence is an important factor in MNC strategy because it implies that the growth in companies’ top line will be faster in emerging markets than in more developed economies, which underlies the shift in sales towards emerging markets.
However, this outcome is not guaranteed, and depends on the quality of institutions – an element seriously lacking in some central African countries, for instance.
- Second: Restoring balance of the global economy
The rebalancing of the global economy, viewed as the gradual ceding of the share of global wealth by more developed nations, is partly a result of the eradication of empires – defined as “extensive groups of states or countries ruled by a single monarch, oligarchy, or sovereign state” (Oxford Living Dictionaries). By the end of the 20th century, the empires from a century before were gone, and countries tried to create new empires (Germany, Japan, and the Soviet Union) all failed. This change in the political organisation of the world caused a change in our economic organisation as well. The flow of trade, capital, and people that was channelled through empires a century ago now occur on a more diversified platform. Great Britain’s trade with Commonwealth partners, for instance, has declined heavily compared to that of former rival European powers.
When China overtakes the US as the biggest economy in the world, it is predicted that its GDP per capita will still not be that of a rich developing country; it will likely be less than half that of the US (O’Neill, 2009). This is significant in that, historically, the biggest economies in the world (based on GDP size) have also been among the most developed countries, based on GDP per capita. China overtaking the US will mark a significant change in this regard.
The Pandemic and emerging economies: Pros and Cons
A few months ago, the coronavirus shock wave seemed economically fatal. However emerging-market bonds, currencies, and stocks have recovered strongly since plumbing dramatic depths in March (The Economist .2020), thanks to a determined effort by the Federal Reserve, America’s central bank, to allay financial stress at home by relieving a shortage of dollars worldwide.
In China, the greatest emerging economy of all, the recovery of activity has been remarkable. Its GDP increased by 11.5% in the second quarter, compared with the first, an annual pace of 59%, according to UBS, a bank. That left it 3.2% higher than in the prelapsarian era of April-June 2019. Capital Economics, a consultancy, now expects that by the end of this year China’s output will have caught up to where it would have been without the pandemic (The Economist .2020).
China’s growth has helped lift commodity prices, benefiting the roughly two-thirds of developing countries that export oil, metals and other primary products. The dollar value of Indonesia’s goods exports in June was 2.3% above that of a year earlier, defying expectations of a 12.3% fall. Other big emerging economies have also reported pockets of resilience or piecemeal recovery. In Mexico remittances were over 3% higher in May than a year earlier, perhaps because its emigrants took the opportunity to send money home while the peso was cheap. India in May and June regained over 90m of the 114m jobs lost in April, according to the Centre for Monitoring Indian Economy, a research firm.
But the Pandemic has disadvantages for the emerging economies. Former stars among emerging economies such as Brazil and South Africa, which as members of the so-called BRICS countries have been in the financial spotlight for many years, were already suffering economically before the corona crisis. The fact that the COVID-19 pandemic is raging there is just exacerbating the situation.
So far, the pandemic has claimed fewer lives in the poorer countries of Southeast Asia, Latin America and Africa than in the heavily affected industrialized countries. However, Raghuram Rajan, a former IMF chief economist, says the economic damage will be considerably higher for poorer countries.
Rajan, who now teaches at the University of Chicago, is especially worried about the high level of debt companies in emerging economies have amassed. Many of these countries’ currencies have already lost significant value against the dollar and euro. That means companies that have their debt in euros or dollars must raise more and more money in their local currency to service their loans.
International trade in goods, foreign direct investment and tourism have been slumping for months. For many emerging economies severely affected by the pandemic, this can hardly be compensated for, wrote Rajan in an article in the Financial Times in early July.
They hardly have the means to stabilize their economy through billion-dollar stimulus packages for consumers and companies. In addition, in many emerging countries there is hardly anything close to a nationwide health care system that can respond to a major coronavirus outbreak.
“The longer this persists — and rising infections suggest that worse is still to come — the more that even viable, large domestic corporations will have to borrow to stay afloat. If lenders do not write down corporate loans, many of these over-indebted firms will then be unable to finance their recoveries when demand improves. Yet lenders may also lack the capital to absorb accumulating loan losses,” according to Rajan (DW TV,2020) .
The pandemic has also disrupted trade. For developing economies, business and foreign investment are sources of both hard currency and expertise. Businesses learn about the world by selling to it; countries learn by hosting businesses from elsewhere. By damaging global supply chains and denting international collaboration, “the pandemic could alter the very structures upon which the growth of recent decades was built”, warn Mr Kose and his co-authors in the bank’s latest “Global Economic Prospects” report.
if that is true, some industries in emerging economies will need reinvention. But contrary to folk wisdom, a crisis is not a good time for such a makeover. Research by Lucia Foster and Cheryl Grim of America’s Census Bureau and John Haltiwanger of the University of Maryland found that the reallocation of workers across firms slowed in America during its last recession. The crisis winnowed out productive firms as well as weaker rivals. Job destruction increased. But job creation fell just as much. In better times, workers can leave sunset industries for promising, sunrise sectors. But in a crisis, ousted workers simply get lost in the gloaming (the economist 2020 ).
Reference
- Acemoglu, D. & Robinson, J. 2012. Why nations fail: The origins of power, prosperity, and poverty. New York: Crown Publishers.
- DW TV,2020. Will coronavirus pandemic finally push emerging economies into crisis?. Available in : https://www.dw.com/en/coronavirus-economy/a-54168639
- Peng, M & Meyer, K. 2016. International Business. UK: Cengage Learning.
- Khanna, T., & Palepu, K. 2010. Winning in emerging markets: A road map for strategy and execution.Boston Mass.: Harvard Business Press.
- The Economist 2020,In Emerging Markets ,Short-term Panic Gives Way To Long _term worry, Available In:https://www.economist.com/finance-and-economics/2020/08/01/in-emerging-markets-short-term-panic-gives-way-to-long-term-worry .
- Tett, G. 2010. The story of the Brics. Available: https://www.ft.com/content/112ca932-00ab-11df-ae8d-00144feabdc0?mhq5j=e7.
- O’Neill, J. & Stupnytska, A. 2009. The long-term outlook for the BRICs and N-11 post crisis. Goldman Sachs Global Economics, Commodities and Strategy Research. Available: http://www.goldmansachs.com/our-thinking/archive/brics-at-8/brics-the-long-term-outlook.pdf.
- O’Neill, J. 2011. The Growth Map. London: Penguin.
[1] Guanxi” (pronounced (jwan-see) is one of the most powerful forces in Chinese culture.“Guanxi” does express the relationship of one person to another, or one party to another. However, more importantly the term also expresses an obligation of one party to another, built over time by the reciprocation of social exchanges and favours.If one has “guanxi” with another, one will be quick to do a favour, act on another’s behalf and depending on the depth of the relationship, do anything necessary for the other party.
