Emerging markets take stage

But economic growth may come from unexpected places.
  
By Eric Kulisch
  
   World trade is being reoriented as emerging markets become the epicenter of global economic activity, but a prominent investor says the so-called BRIC nations (Brazil, Russia, India and China) are losing economic steam and will be supplanted by Indonesia, Turkey, the Philippines and other countries as the next high-flying growth markets.
   The BRIC countries constitute four of the seven largest economies in the world. By 2050, based on conservative estimates, the United States will be the only advanced country remaining in the top seven, according to Juggernaut: How Emerging Markets are Reshaping Globalization, a new book by Uri Dadush, director of international economics at the Carnegie Endowment for International Peace, and World Bank economist William Shaw. 
   Mexico, in 2030, and Indonesia, 20 years later, will replace Germany and Japan in the economic top tier.
   Overall, growth in world trade is concentrated in about 30 countries that have Gross Domestic Product in excess of 7 percent per year, while the traditional powers of Western Europe, Japan and the United States have stagnated or grown at low single-digit rates.
   Poorer countries have entered the industrial age in the last quarter century and account for a huge part of the world’s population. 
   Their ascension up the economic ladder is a reflection of demographic, technology and financial trends, Dadush said in a mid-January presentation during the annual Transportation Research Board meeting in Washington. 
   During the next 40 years, developing countries will add almost 1.8 billion people of working age while the labor force actually declines in advanced countries. Many of those workers will migrate to fill jobs in other countries.
   Poorer nations are also experiencing significant productivity increases because they are adopting technology at a faster pace as they try to catch up to the living standards of developed nations. 
   A third factor fueling their economic growth is higher savings and investment rates than in advanced countries, he said. Developing countries will not only become a haven for investors but a source of funds around the world.
   Incomes are rising along with economic growth, creating new middle classes that firms in developed countries covet as potential sales opportunities. There are about 1.6 billion people who fall in the middle class today, about 1.2 billion of them in advanced countries. By 2030, the middle class in developing economies will exceed that in advanced economies and by 2050 there will be about 1.9 billion middle class people living in developing countries compared to about 1.3 billion in developed ones, according to Dadush and Shaw.
   The largest economies, notwithstanding the expansion of their middle classes, will remain relatively poor as measured by per capita income, they wrote.
   The evolution of the global economy means that shares of world trade are poised to be inverted, Dadush said. Advanced countries generate 70 percent of world trade, but by 2050 they will only account for 30 percent of cross-border business. 
   “The emergence of the developing world and weaknesses in advanced economies — the income inequality and political gridlock in the United States, the debt crisis in the eurozone, and the fiscal and demographic crisis in Japan — will lead to a very different economic order, one in which huge new markets and new sources of competition will arise, and one in which power and influence are more widely distributed. For the first time, the world’s largest and most powerful economies will be relatively poor countries — ones whose worldviews may differ from those of advanced countries and from each other in ways that are presently difficult to discern,” Dadush and colleague Shimelse Ali wrote in an a March 8 commentary on the Carnegie Endowment Website.

“At the near double- digit growth rate of the last 15 years, China was the equivalent of a company with disruptive technology — destroying competitors, lifting suppliers, sucking in capital, stealing jobs and moving so fast that rivals couldn’t keep up. A smooth downshift to 6 or 7 percent makes China a more normal rival.” — Ruchir Sharma, head of global emerging markets, Morgan Stanley Investment Management

   Dadush conservatively estimated that China will control 24 percent of global trade by 2050 (up from about 10 percent today), while the export shares for the United States and India will be 7 percent and 6.2 percent, respectively. Japan’s export share (2.4 percent) will be one-tenth the size of China’s – a big change considering Japan’s historical strength as an exporter – because China’s population is eight- to nine-times larger, exports represent a larger share of the country’s GDP and Japanese manufacturers are outsourcing production to China to take advantage of cheaper labor.
   A lot of that trade will occur among developing nations in a South-South pattern versus the traditional East-to-West or North-South commercial flows, Dadush said at the TRB. South-South trade – such as China and Latin America — as a share of Southern hemisphere exports is expected to double from 31 percent today and will grow from 10 percent to 40 percent of world trade in 2050, he said.   
   As incomes rise, China and other emerging economies will increasingly devote more productive capacity towards domestic markets, he added.  
   In the middle of the century, China will be the dominant trading partner for all major countries or economic blocs. The United States currently is the European Union’s largest trade partner, doing about twice as much business with the region as China, but in 40 years the European Union will have four times as much trade with China than with the United States, according to Juggernaut.
   The United States, within a generation, will be trading much more with China and with Latin America than it does with Western Europe, while Western Europe will be trading more with China and India than with the United States, Dadush said in a video on the Carnegie Endowment Website. 
   Geopolitical tensions, a financial crisis and climate change are the primary risks to rapid economic progress around the world, Dadush said.
   Emerging and established economic powers could fail to adjust to a new world economic order and hyper-competition. In that context, historical rivalries within Asia, including between China and Japan and India, have to be carefully managed to prevent disputes that lead to protectionism or other actions that disrupt an open-world trading system, he said. As developing countries become the world’s largest economies, the chance of a major financial crisis originating in that part of the world increases because those nations lack strong institutional frameworks and the capacity to contain the situation. Their vulnerability underscores the importance of fully including them in the international regulatory system, he added.
   Developing countries are also emitting more greenhouse gases because of greater fuel consumption required to support their growing economies and populations. By 2050, most of the carbon emitted into the atmosphere will come from developing countries, which will further escalate tensions with developed countries keen on mitigating human impact on global warming.
   “That could undermine the consensus for international trade,” Dadush said.
      
Emerging Market Shift. Although the BRIC nations have established themselves as economic powers, the pecking order among emerging economies is not destined to stay the same, said Ruchir Sharma, head of global emerging markets at Morgan Stanley Investment Management and the author of a new book, Breakout Nations: In Pursuit of the Next Economic Miracles.
   An unusual confluence of circumstances last decade enabled virtually every emerging market to prosper, with an average growth rate of almost 8 percent at the peak in 2007, Sharma said in an April 22 interview on CNN’s “Fareed Zakaria GPS.” In that year, more than half the world’s economies grew at more than 5 percent, compared to a typical year in which 20 percent of economies grow at about 5 percent, because of cheap capital, low interest rates, and political calm.
   Following the global financial crisis, emerging markets will return to a “more normalized” annual growth rate of about 5 percent for the next 50 years, he said.
   China, for example, achieved GDP growth of 8.1 percent in the first quarter, its slowest growth in two years. Industrial production, housing and domestic spending were all down. A big reason the growth rate is cooling is that China is spending less on infrastructure having already built out much of its supporting structures in the recent past, other economists say.
   The International Monetary Fund predicts China’s GDP will continue to annually grow at about 8 percent for the next five years, while others believe productivity will be worse because of labor unrest, a housing bubble and excessive investment.
   The slowdown in economic activity is not surprising because China has matured into a true middle income economy with per capita income of $6,000, and is bumping up against the growth ceiling, he said.
   “Neither side has got it right. In fact, China has reached a stage at which all ‘miracle economies’ have slowed significantly, but not disastrously,” Sharma said in a New York Times op-ed.
   “China’s growth model is similar to Japan’s in the 1970s, and the most likely scenario is that China will follow the path of Japan in that decade, when its growth rate slowed to 5 percent. China will continue to catch up to the United States, but its growth will slow to a pace of around 6 to 7 percent over the next 5 to 10 years. At that point, China’s economy will be even larger, and may decelerate again,” he wrote.
   “This process is under way, and it signals a basic power shift in the global economy. China became the biggest contributor to global G.D.P. growth in 2007, and it has held the lead ever since. But if the United States continues to grow at its current pace of about 2.5 percent, and China slows to 6.5 percent, then the United States will regain the lead this year — contributing 23 percent of global growth in 2012, compared to 18 percent for China — and it will hold that lead at least through 2015, according to Morgan Stanley research.
   “Investors who have bet big on near-double-digit growth in China will be troubled by this slowdown and will start looking for a safer destination. With Europe and Japan both growing at less than 2 percent, the focus of global attention will shift to the improving competitive position of the United States, and capital flows will follow,” Sharma said, making the case for further resurgence of the U.S. manufacturing sector and for lower oil prices.
   The downshift in China growth is positive for the global economy, he added.
   “At the near double-digit growth rate of the last 15 years, China was the equivalent of a company with disruptive technology — destroying competitors, lifting suppliers, sucking in capital, stealing jobs and moving so fast that rivals couldn’t keep up. A smooth downshift to 6 or 7 percent makes China a more normal rival, one the world can do business with and compete head to head against — one that should generate a lot less worry.”
   On CNN, Sharma said a simple analysis of rates charged by high-end hotels – what he calls the Four Seasons Index – indicates that the most expensive places to stay in emerging markets, and therefore to conduct business, are Brazil and Russia, while Indonesia, Thailand and Poland are relatively cheap.
   “I think what this tells you is that the currencies in places such as Brazil and Russia are extremely uncompetitive today because they benefitted a lot from commodity flows, but that has really done a lot of damage to the manufacturing sector,” he said. 
   Sharma’s Billionaire’s Index indicates that the net worth of billionaires as a share of the total economy is “fairly reasonable” in places like Korea and Taiwan compared to Russia, which has the highest number of billionaires in the world despite having an economy that is much smaller than that of the United States or China. The implication is that people in countries where wealth is concentrated in a few hands do not believe the economy is open and oppose economic reforms.
   Countries that Sharma predicted will exceed expectations in the coming years include South Korea, Taiwan, Indonesia, Turkey, the Philippines, and possibly Thailand. (South Korea has had an amazing run as the only economy to have grown at 5 percent or more for five decades in a row.)
   Other places that could economically take off include Nigeria, Sri Lanka, the Czech Republic and Poland, according to Sharma.
   “I think there are a whole bunch of countries out there which can be break-out nations, which can be the countries that emerge as the new economic stars,” Sharma said.