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Emerging markets stumble as US-China tensions return

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Police fire tear gas on protesters during protests against a proposal to enact a new security legislation in Hong Kong on Sunday. (AFP photo)

Just as early bets on an emerging-market recovery start fuelling appetite for stocks and currencies, an old bugbear is reappearing to haunt investors: US-China tensions.

MSCI’s emerging-markets stock gauge moved into the red last week as China announced plans to impose a national security law on Hong Kong, deepening the friction between Washington and Beijing. Signs are mounting that President Donald Trump will make his tough-on-China stance a key element of his re-election bid. China’s Foreign Minister Wang Yi said Sunday some Americans are pushing the two countries toward a “new Cold War”.

“The market mood had been rather constructive until recently,” said Sebastien Barbe, the Paris-based head of emerging-market research at Credit Agricole CIB. “However, more clouds have been accumulating in the emerging-market sky over the past few days, particularly as US-China tensions have been re-emerging. The issue of the degree of independence of Hong Kong vis-à-vis Beijing is now reappearing, and this could fuel these tensions further, in a way the markets may not like.”

Hong Kong protesters battled with riot police on Sunday in the biggest demonstration since the coronavirus swept through the city in January. China’s National People’s Congress continues this week, after starting proceedings by abandoning the usual practice of setting a target for GDP growth.

With last week’s flurry of rate cuts now in the past, investors expect a more sedate policy landscape. Hungary, Nigeria and Poland are forecast to leave rates unchanged. Many countries have public holidays next week to mark the end of Ramadan, while Monday is also a holiday in the US and UK.

China’s National People’s Congress

The main economic news from China’s National People’s Congress (NPC) is out following the Premier’s work report, although meetings continue until May 28. China said it has abandoned its usual practice of setting a numerical target for economic growth this year due to the turmoil caused by the pandemic. There is no news so far on whether the People’s Bank of China Governor will speak, but easing expectations are likely to have been raised by the flagging of reserve requirement cuts in Li Keqiang’s work report.

The most surprising news has been around the new national security law on Hong Kong, which is likely to be voted on at the end of the NPC on May 28. This law seems to reduce the chance of Hong Kong being judged as sufficiently autonomous under the US Human Rights and Democracy Act, according to Jude Blanchette, Freeman Chair in China Studies at the Center for Strategic and International Studies (CSIS) in Washington. Hong Kong could therefore be subject to the same tariff regime as China.

This also adds to the plethora of negativity around US-China relations. Bonnie Glaser, senior adviser for Asia and the director of the China Power Project at CSIS, has argued that China will have some “tough” statements about Taiwan during the NPC, and this may come from Xi Jinping himself.

The Chinese currency’s relative calm during the NPC period may be tested this time given the deterioration in US-China relations. The past seven annual sessions saw the offshore yuan rise on five occasions, while the official fixing was kept stable. The fixing was generally below the Bloomberg survey so last week.

Asia

Taiwan’s industrial production for April is due on Monday, while its final first-quarter GDP data come out on Thursday. The preliminary release had shown the economy expanding 1.54% year-on-year. The Taiwan dollar has been little moved by the deterioration in the US-China relations, though that could change should the tension escalate rapidly

South Korea’s May consumer confidence data due Tuesday should show a recovery from the post financial crisis lows — although the modest second-wave of Covid-19 cases might have a limiting impact. The country’s April department store sales should also show an improvement from the very steep contraction in March –- at least judging from the Google mobility report relating to retail. On Friday, industrial production is also scheduled to be released.

The Bank of Korea is expected to cut rates on Thursday by a further 25 basis points. That said, both dovish dissenters at the previous meeting have left the policy board

India’s first-quarter GDP, which is due next Friday, is expected to remain in marginally positive year-over-year territory. The market is likely to look beyond this number, as the lockdown in India only started to bite late in the quarter. The situation worsened significantly in April when the historic collapse in services PMI occurred.

The RBI acknowledged this when announcing a surprise 40 basis-point cut in interest rates on May 22, saying that it expected growth to be negative for the current fiscal year ending March 2021. The reduction caused immediate depreciation in the rupee — which had been in a holding pattern since the end of the quarter, already underperforming the Indonesian rupiah, another high-yielder in the region.

Thailand’s trade and current account numbers are due for release next Friday. These will help gauge the impact of the collapse in tourism, versus that of oil prices. March saw a plunge in the surplus — although, as that number showed — the market needs to see very major or persistent weakness to move the Thai baht, which has appreciated almost 2% against the dollar in the month since the last current-account data was released.

Philippines March remittances may also be released. The peso remains one of the top performers among emerging-market currencies since the pandemic spread globally in late January

EMEA

Poland has a busy week ahead. The central bank will hold its seventh bond-buying auction on Wednesday, followed the next day by its May rates decision. Investors are on the lookout for any new comments and are pricing in 33 basis points of further rate cuts over the next three months. The key rate is already at a record low at 0.5% after two 50 basis-point cuts in the past two months.

Hungary holds a rates meeting on May 26. Policy makers will probably confirm their policy of adding liquidity at longer maturities to cut borrowing costs, while draining it at the short end at elevated levels to support the forint.

Russia is due to hold a one-month repo auction on Monday, an emergency tool introduced by the central bank to shore up lenders’ finances amid the Covid-19 crisis.

Nigeria decides on interest rates on Thursday, with the key rate currently at 13.5%. Data due next week may show economic growth slowing to 0.8% year-on-year in the first quarter, from 2.55%.

Turkey’s GDP growth likely slowed to 5.3% in the first quarter, from 6%, data may show on Friday. Earlier in the week, reports on economic confidence, tourist arrivals and portfolio flows may give an indication on the effect of lockdown measures that started toward the end of the quarter.

Latin America

The coming week will be key for Argentina. The government said Friday it will improve the terms of its offer to restructure $65 billion of overseas bonds after missing the final deadline for $500 million of interest payments. Argentina extended the deadline for creditors to consider its debt restructuring offer until June 2. On Wednesday, the nation will report trade balance data for April, which Argentines spent in a virus-induced lockdown

In Mexico, traders will eye first-quarter gross domestic product figures on Tuesday for a better understanding of the pandemic’s impact. The central bank, which cut rates by 50 basis points this month, will release an inflation report on Wednesday and its latest meeting minutes on Thursday.

Investors will also watch Brazilian politics as President Jair Bolsonaro’s administration feuds with health experts and governors about the Covid-19 crisis. Brazilian inflation data for the first part of May and current account balance for April are due on Tuesday. Gross domestic product data for the first quarter, to be released Friday, may show the early impact of the virus.

Chile’s April copper production data, to be posted on Friday, will be key for investors hoping for signs of a recovery in Asian demand. The nation’s unemployment rate for April, expected on the same day, will be closely watched after four straight months of increases. Chile’s nation’s peso has outperformed all of its regional currency peers tracked by Bloomberg during the past three months.

Colombia is expected to reduce its key interest rate on Friday to 2.75% from 3.25%, according to economists surveyed by Bloomberg. The nation is enforcing some of the strictest lockdown measures in the region, sealing its borders through at least the end of August.

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