Emerging Market Credit Crunch Could Haunt 2016

A world getting comfortable again with high debt but few defaults looks set for a rude awakening next year, and not just in the United States.

As the Federal Reserve prepares to jack up interest rates next month and the dollar climbs again, anxiety over an alarming accumulation of corporate and household debt in emerging economies from China to Malaysia, Russia to Turkey, Mexico and Brazil has been building for the past five years.

Characterised by Goldman Sachs as a possible third wave of the credit crash – the first being a sub-prime housing bust and serial banking collapse of 2007/08 and the second the euro sovereign debt crisis of 2011/12 – emerging market borrowing is now vulnerable to any reversal of the easy money policies the rich world adopted to cope with the first two waves.

And the reality of default and debt repayment stress will be a stark reminder of just how little deleveraging, or paying down of debt, has actually happened worldwide since 2007.

According to Barclays research, default rates among sub-investment grade firms in emerging markets will almost double next year to as high as 7 percent from virtually zero just five years ago and well above 20-year averages of about 4 percent.

High-yield emerging market default rates are already above U.S. corporate “junk” equivalents – also likely to double next year to more than 5 percent. And the gap is rising.

Barclays points out this phenomenon is pretty rare without sovereign debt crises, notably absent in developing countries right now. But the unusual confluence of a China-led slowdown just as the West picks up is creating all sorts of currency and interest rates tremors that have sunk commodity prices and exaggerated local currency slumps alongside creeping dollar interest rates.

That sort of default horizon is jarring given the scale of debt built up and the concern of an emerging credit crunch related to capital outflows over the past two quarters, estimated by JPMorgan to be unprecedented $570 billion. Almost two thirds of that came from China.


This article is for general information purposes only. It is not investment advice or a solution to buy or sell securities. Opinions are the authors; not necessarily that of OANDA Corporation or any of its affiliates, subsidiaries, officers or directors. Leveraged trading is high risk and not suitable for all. You could lose all of your deposited funds.

Craig Erlam

Craig Erlam

Senior Market Analyst, UK & EMEA at OANDA
Based in London, Craig Erlam joined OANDA in 2015 as a market analyst. With many years of experience as a financial market analyst and trader, he focuses on both fundamental and technical analysis while producing macroeconomic commentary. His views have been published in the Financial Times, Reuters, The Telegraph and the International Business Times, and he also appears as a regular guest commentator on the BBC, Bloomberg TV, FOX Business and SKY News. Craig holds a full membership to the Society of Technical Analysts and is recognised as a Certified Financial Technician by the International Federation of Technical Analysts.
Craig Erlam
Craig Erlam

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