By James Saft
Jan 29 Ben Bernanke's parting gift to emerging
markets was some tacit advice they should have understood all
along: you are on your own.
The Fed carried on with its tapering campaign at the
conclusion of the Federal Open Market Committee meeting on
Wednesday, slicing another $10 billion off of monthly purchases,
and making no mention of the impact of a nascent crisis in
The statement accompanying the decision was reasonably
upbeat, and carried no mention of recent upsets in emerging
markets as a possible factor in their thinking. The Fed said
the economy "picked up", that the labor market indicators were
"mixed" but showing "further improvement" and that household
spending and business investment had advanced "more quickly".
All in, this was somewhere between a gentle upgrade and on
par with their December statement.
Combine that with no dissenting votes and you have the Fed
sending out terrible signals not just for emerging markets, but
for riskier investments generally. The Fed is apparently not
made afraid by what it sees in emerging markets, and seems
comfortable with the negative knock-on consequences for markets
That is the right call, but not what you want to hear if you
are long riskier equities. And indeed not only did emerging
market currencies and other assets fall after the announcement,
but U.S. shares accelerated an earlier slide.
The Fed's moves today are negative for equities and riskier
assets like emerging markets in two ways.
First, on a fundamental basis, buying fewer bonds means
there are fewer bond investors who now have cash and face a
decision on where to put it. That tightens conditions generally,
and should, all else being equal, hurt investments in growing
proportion to their riskiness.
Secondly, the fact that the Fed has finally met a selloff it
doesn't mind is significant. Not only did it pay attention to
the market volatility caused by the euro zone crisis, it delayed
the taper after a run-up in bond interest rates over the summer.
Now, having started the taper, and seeing mixed but what it sees
as update data, it seems resolved to carry on even if markets
don't like it.
OF GORILLAS AND MONKEYS
Specifically, a Federal Reserve that is buying less is
creating tougher conditions for emerging markets, particularly
those like Russia, South Africa and Turkey which haven't used
the QE years to get their houses in order. So far, most of the
damage has been concentrated on those which need to attract
capital, but in recent days virtually all have been under
pressure, with the notable exception of debt from some thinly
traded frontier emerging markets.
More expensive capital is bad news for emerging markets, but
not bad enough for the global economy, at least yet, to force a
re-think about the pace or appropriateness of the taper.
For their part, targeted emerging market central banks have
shown a willingness to use monetary policy to defend their
currencies, but with decidedly mixed results. Turkey on Tuesday
hiked key rates by 4.5-5.5 percentage points, taking its
overnight rate to 12 percent, only to see selling pressure
resume just hours later. India's central bank hiked by 25 basis
points, the South African Reserve Bank raised by 50.
Those moves proved far less important than what the Fed did,
and what it appears to believe.
The hope had been, among some investors at least, that a
downdraft in emerging markets would be disruptive enough, like
the euro zone crisis was, to merit a nod from the Fed.
You'll remember back in 2011 and for some time afterwards
that the Fed statement went with standard language that "strains
in global financial markets continue to pose significant
downside risks to the economic outlook."
That helped matters in the euro zone, easing by a small
amount the selling pressure on weak sovereigns. It also helped
to minimize a feedback loop in which euro zone selloffs were
causing U.S. ones. No such luck this time.
Europe was a 400-lb gorilla - big, ugly and scary enough to
influence policy. Emerging markets right about now are more like
a 40-lb monkey, noisy and capable of flinging some unpleasant
stuff around but not of prime importance for the Fed.
That's bad news for U.S. equities because it sends the
message that this week's selloff is acceptable.
Look for more of the same.