Macroscope | Emerging markets face a ‘tightening test’
Gradual ending of United States' monetary easing puts focus back on emerging economies as global investors become more discerning
These are challenging times for emerging markets. First, there was the so-called taper tantrum, in reference to the financial turmoil stemming from the unexpected announcement by the US Federal Reserve in May last year that it planned to start winding down its programme of quantitative easing - a crucial pillar of support for "risk assets".
Now, emerging markets must prepare for a "tightening test".
On Wednesday, the Fed announced new forecasts for interest rates that show a faster-than-expected pace of monetary tightening in 2015 and 2016.
While the US central bank maintained its commitment to keeping rates low for "a considerable time" once it ends its asset purchases next month, it has raised the stakes for "risk assets" by delaying the first rate increase, thereby setting the stage for a swifter - and potentially more disorderly - tightening of monetary policy in the second half of next year.
The market reaction immediately after the Fed's statement was telling. Even though the Fed has pledged not to raise rates earlier than expected, the yield on the rate-sensitive two-year Treasury bond rose to 0.57 per cent - its highest level since 2011.
The latest tweak in the Fed's monetary policy could be a case of "near-term gain, longer-term pain" for emerging markets.