[R-G] Developing Economies Face Reckoning as U.S. Stumbles

[Yoshie Furuhashi]

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PAGE ONE

Developing Economies Face
Reckoning as U.S. Stumbles
By PATRICK BARTA and MARCUS WALKER
January 24, 2008; Page A1

Today's global economic crunch was made in America. But despite hopes
to the contrary, the pain will be shared by developing nations from
Turkey to Thailand.

[Saviors]
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Developing economies -- where 85% of the world's population lives --
are maturing and are far less fragile than they were a decade ago. But
they aren't strong enough to escape the pain of a slowdown in the
industrialized world or self-sufficient enough to hold up global
growth on their own.

Those realities were underscored this week, as stocks in China, India
and other parts of developing Asia swooned amid fears of a global
recession. Hong Kong's Hang Seng Index suffered its biggest point
decline ever on Tuesday, and Indonesian shares dropped more than 7%.
While many Asian markets rebounded strongly yesterday, worries persist
that developing-world markets remain at risk to the gathering economic
storm.

Many emerging markets are reliant on exports to rich countries. And
while local sources of economic growth, including consumer spending,
have taken root in China and elsewhere, they aren't enough to keep
developing countries from slowing if their export engines sputter.

Economists have been debating for years whether the developing world
is robust enough to motor ahead should the mammoth U.S. economy
soften. That theory of "decoupling" now faces a real-world test, and
is a major topic at this week's gathering of the world business and
political elite at Davos, Switzerland.

"No country can decouple from the U.S.," said Kamal Nath, India's
trade minister, at Davos. "The question is the impact."

American consumers hold far greater sway over the world economy's fate
than do their counterparts in the big emerging markets: They spent
about $9.5 trillion last year -- nearly six times as much as Chinese
and Indian consumers between them, said Stephen Roach, chairman of
Morgan Stanley in Asia.

In Thailand, shoe exports are already cooling and some apparel
factories have closed. In China, furniture makers are facing weaker
sales. Hua Chao Art & Furniture in Zhongshan says exports to the U.S.
fell about 17% in 2007 compared with the previous year, in part
because of the U.S. housing bust. "Production may shrink and jobs may
be cut accordingly," said a sales manager at the company.

International brewing giant SABMiller PLC, based in London, says beer
sales have slowed in some emerging markets, including Asia and Africa,
where growth in those two markets slid to 8% in the fourth quarter of
2007 from 30% a year earlier. Remittances -- money sent home by
emigrants working in the U.S. -- have started to slow in Mexico as
construction jobs north of the border disappear.

In Latvia, Kazakhstan and South Africa, the price of insuring debt has
skyrocketed -- an indication that investors see more risk. It now
costs $155,000 to insure $10 million of Latvian debt from default, up
from $15,000 in August, according to Markit Group, a London
credit-information firm.

"One has to remember that the U.S. remains the dominant economy
globally," says Ifzal Ali, chief economist of the Asian Development
Bank in Manila. To argue that emerging-market economic growth can be
sustained without the U.S. is "quite a stretch and can be quite
misleading," he says.

The U.S, after all, accounts for 22.5% of the world economy, according
to the latest World Bank estimates. Japan, along with Germany, France,
Italy, Spain and the United Kingdom, account for an additional 23.6%.

That isn't to say emerging markets are headed for disaster. China, by
far the largest emerging economy, is still on track to grow strongly
in 2008. That could keep commodity prices from collapsing -- despite
the latest fears of a correction. Chinese demand, in turn, should help
sustain resource-rich countries in Latin America, Africa and Southeast
Asia. Economists at Anglo-Australian mining giant Rio Tinto predict
that commodity prices will remain at historically high levels for a
long time to come because of China, which accounted for between 60%
and 90% of the increase in world demand for steel, aluminum and copper
between 2000 and 2006.

Emerging-market spending on infrastructure also is likely to continue.
China's latest five-year plan calls for more than $100 billion in
railway construction, including a $22 billion Beijing-to-Shanghai
high-speed railway. Russia, India and oil-rich Middle Eastern
countries are nearly as ambitious.

The trend benefits multinational companies such as Caterpillar Inc.
and General Electric Co. Emerging markets "never totally decoupled"
from the economies of richer countries, GE Chairman Jeff Immelt said
in a conference call with analysts last week, but are "becoming
increasingly decoupled." GE is betting on continued strong demand for
its aircraft engines from Latin American airlines, and for its
generation equipment in India, South Africa and other places with
"power shortages everywhere," he said.

War Chests

In the late 1990s, several emerging markets ran out of foreign
reserves and defaulted on debts. In the decade since, some have built
huge war chests. Brazil sits on a cushion of $185 billion. Russia has
stored some of the country's oil revenues in a fund valued at $160
billion. In all, emerging markets have an estimated $4.1 trillion in
central-bank reserves.

"This time we have something of a vaccine when the U.S. sneezes," says
Claudio X. Gonzalez, chairman of Kimberly-Clark de Mexico SA,
referring to Mexico's estimated $7 billion on hand from oil-export
revenues, a recent sale of toll roads, and other sources. "This extra
money won't entirely free us from the effects of a U.S. slowdown, but
it should help."

In the unlikely event that growth in industrialized countries as a
group fell to zero -- which last occurred in the early 1980s -- growth
in Asia outside Japan would be halved from last year's 8.7%,
economists at Lehman Brothers calculate. Their current forecast calls
for a more modest slowdown, to about 7.6%, but they warn that a
"serious downturn" is now "plausible."

[Chart]
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Emerging markets -- the term applies to what once were known as
developing countries or the Third World -- historically have been the
weak links of the global economy. Many suffered from poverty, economic
mismanagement, corruption and the fickleness of international
investors.

But a lot has changed. Living standards in a handful of Asian
economies -- South Korea, Singapore, Hong Kong -- have risen to the
level of some European countries. Even excluding those success
stories, emerging markets have been growing at better than a 7% pace
over the past few years, double the rate of big industrialized
countries, according to the International Monetary Fund.

But emerging markets aren't immune if demand for imports falters in
the U.S. and Europe and fails to revive in Japan.

Many emerging markets depend more than ever on exports. In Asia
excluding Japan, exports were the equivalent of about 55% of gross
domestic product in 2007, compared with slightly less than 40% in the
recessionary year of 2001, according to Lehman Brothers. "The set of
countries that is trying to grow on exports is still quite large, and
they're not all going to be able to," says Simon Johnson, chief
economist at the International Monetary Fund.

Taiwan, Singapore and South Korea are particularly exposed to U.S.
consumers, because they are major suppliers of semiconductors and
high-tech goods Americans snap up. Singapore's economy contracted for
the first time in four years during the fourth quarter of 2007,
largely because of slowing exports.

In Thailand, several apparel-related businesses have closed. Shoe
exporters say demand growth, running at double-digit-percentage
increases in early 2007, has been cut in half, in part because of a
strengthening baht.

'Still Buying Shoes'

"It's been a bit slow" lately, says Thamrong Tritiprasert, chairman of
the footwear committee of the Federation of Thai Industries, a
manufacturing association. But 2008 should be strong, he says, in part
because Thailand is expanding to other markets, including Europe.
"Even when there's a recession, people are still buying shoes," he
says.

The most-successful economies in Europe's former communist bloc have
likewise staked their futures on trade with rich countries.

Slovakia has become the Detroit of Europe, thanks to massive factory
building in recent years by foreign car makers, including Volkswagen
AG of Germany and South Korea's Kia Motor Corp. Slovakia's exports,
dominated by cars, are equivalent to 70% of GDP, and surging car
production has pushed economic growth above 8% in the past two years.
But most customers are in Western Europe, where consumer spending was
already in retreat late last year.

Turkish makers of refrigerators, washing machines and televisions also
are looking to Western Europe. Vestel Group, based in Istanbul, gets
three-quarters of its $3.6 billion in annual revenue from exports, and
more than 90% of those exports go to the European Union. The company
is benefiting from Europeans' shift from old-fashioned TVs to
flat-screen models. But, as Vestel's corporate-finance director, Figen
Cevik, says: "If consumer confidence deteriorates, people might
postpone their purchases" of flat-screen TVs.

Mexico is particularly vulnerable to a U.S. slowdown, because some 23%
of its annual economic output comes from exports to the U.S. Shipments
of finished cars to the U.S. last year fell 60,000 units to 1.2
million, though to date Mexico has offset those declines with
increased sales to other parts of the world.

Mexico's exports of manpower are also under threat. The U.S. housing
slump has led to the loss of some 100,000 construction jobs, many
filled by illegal immigrants. That has dramatically slowed the growth
of money sent back home by migrants. After nearly quadrupling to $24
billion in 2006 from $6.6 billion in 2000, remittances sent back to
Mexico grew perhaps 3% last year, according to the Inter-American
Development Bank. That is the slowest rate of growth in more than 20
years.

Many emerging markets had hoped to reduce reliance on U.S. and
European consumers by boosting domestic spending. Yet while consumer
expenditures have increased in many places, they haven't kept pace
with other sources of growth.

Consumer spending now makes up a smaller percentage of economic
activity in China, Brazil and India than in the early 1990s, according
to data from forecasting firm Global Insight. In China, consumer
spending now accounts for about 35% of the economy, compared with 46%
in 1990 -- and more than 70% currently in the U.S.

Thailand's Ferrari Showroom

In Thailand, hopeful developers have built or renovated ultra-high-end
malls throughout the central business district. One, called "Siam
Paragon," includes a Ferrari showroom and luxury fashion boutiques.

Yet staff say most big-ticket items are purchased by foreign tourists
or expatriates. At an Adidas boutique in one of the malls, sales agent
Jiraporn Duangchisin says sales are down some 70% over the past few
months. "I don't know where all the people have gone," she says.
Financial problems in the U.S. and Europe also pose a risk to emerging
economies, thanks to the unifying force of globalization. In the year
to October 2007, Brazilian stocks moved in the same direction as the
S&P 500 more than 90% of the time, according to data from Citigroup.
For India, the figure was 70%.

In China and India, analysts warned that share prices had by early
2008 reached bubble-like levels and could be vulnerable to serious
corrections.

Investors have dumped some stocks because they're looking for
companies that could get whacked if the U.S. slowdown worsens. Shares
of Warsaw-based GTC, one of Eastern Europe's largest property
developers, have fallen around 30% in the past two months, even though
the company is doing well and has a large cash reserve.

"The market has taken a pessimistic view of the company because it
thinks times are going to be harder" for the property sector as a
whole, says Mariusz Grendowicz, a Polish banker who sits on GTC's
board.

Marian Owerko, president of Polish dried-fruit company Bakalland, is
confident about his exports, but says raising finance is getting
harder due to global investors' increasing skittishness about risk.
The banks he uses -- mostly local subsidiaries of international
lenders that incurred losses on U.S. mortgages -- are demanding as
much as 0.4 percentage point extra interest for loans. "We are looking
for new banks," he says.

Some fast-growing economies at Europe's periphery run the risk of
turmoil thanks to their own imbalances. Romania, Bulgaria and Hungary
have large trade deficits that could trigger currency slides and
defaults on foreign-currency debts. In Hungary, taking out mortgages
in euros or Swiss francs is all the rage -- and could bring trouble if
the forint, the Hungarian currency, weakens, economists say.

Current-Account Deficit

Hungary's current-account deficit -- a measure of the difference
between what a nation invests and what it saves -- is large by
international standards, at more than 7% of GDP. Romania's is above
13%, and Latvia's and Bulgaria's are at more than 20% of GDP. That
means these economies must attract a huge amount of foreign capital
each year, relative to the size of their economies -- something many
analysts doubt they can sustain.

Africa's key financial center, South Africa, is also running a
current-account deficit that's expected to swell to 7.5% in 2008,
according to Credit Suisse.

Among ex-Soviet bloc countries, Russia appears to be in a relatively
strong position because of its large currency reserves, and because
high commodity prices have helped boost incomes and spending. Retail
groups such as Germany's Metro AG are building giant stores in Russia
and see the Russian consumer market as one of their brightest
prospects.

But even in Russia, there are signs of possible financial-market
trouble. Interest rates at which Russian banks lend money to each
other for between a week and a month have doubled since last July. If
commodity prices head lower, Russia could come under greater pressure.

--Joanna Slater in New York, David Luhnow in Mexico City, Antonio
Regalado in São Paulo, Brazil, and Wilawan Watcharasakwet in Bangkok,
Thailand, contributed to this article.

Write to Patrick Barta at patrick.barta at wsj.com and Marcus Walker at
marcus.walker at wsj.com


--
Yoshie
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