Is it different this time?
Around the world the “new normal” is being promoted as an idea whose time has come. It posits a two-speed economy, in which liberalizing, globalizing third-world countries grow through modernization and trade while the developed world remains mired in a debt hangover left behind from the housing bubble. Since housing is debt-financed and mortgages are a major part of bank balance sheets, the bursting bubble has inflicted long-term damage on the levered economies of North America and Europe.
Not so the BRICs. These economies have run on cash; credit is limited. The financial crisis was transmitted to low-income countries mainly via demand shocks. We just didn’t buy as many Embraers from Brazil, oil from Indonesia, or sneakers from Vietnam. But that didn’t damage those economies much, because they hadn’t levered up against external demand. Thus, when exports slowed, it didn’t take down their banks. Instead, they just slowed production. Flexible labor policies in these liberalizing countries have allowed them to adjust to reduced demand as necessary.
So the developing world seems to have come back from the crisis a lot stronger than the developed world. This has led to complacency in the markets. Peruvian or Brazilian debt now trades tighter than Italian or Belgian bonds. This is foolish. While the developing world is newly prosperous, its commitment to rigorous property rights can be measured in years, not decades as in some European countries, or centuries as in the US or England.
Able and willing to pay is still a good starting point for credit analysis. We know the developing world currently is able. Will they always be willing?
Douglas R. Tengdin, CFA
Chief Investment Officer
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