Emerging markets: decoupling is about to be tested

published 19 December 2007

"These markets aren't emerging they're exploding," says Bill Mann on Motleyfool.com. The MSCI Emerging Markets index has more than quadrupled since early 2003 as emerging economies' fundamentals have vastly improved.

And now it is trading at a slightly higher price/earnings ratio than global stocks as a whole. This implies they can withstand a downturn in the US or Europe, says John Authers in the FT. With the world's biggest economy looking set for recession, the decoupling thesis is about to be tested in earnest.

It's interesting to note that some advocates of decoupling have stopped beating the drum so loudly now that the global outlook has darkened. Goldman Sachs, for instance, is less confident now that "what began as a US-specific shock is morphing into a global shock"; analyst Peter Berezin reckons 2008 will therefore be a "year of recoupling".

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Decoupling doesn't bear scrutiny anyway, says Citigroup's Marcus Rosgen. Asian exports to the G3 (America, Japan and Europe) tumbled from 53% in 1985 to 41% by the end of last year. But much of intra-Asian trade consists of goods being assembled in Asia, but eventually consumed outside Asia: ultimately, 61% of Asian exports are consumed in the G3, according to the Asian Development Bank.

Nor can we count on consumption to underpin decoupling, says Rosgen. The proportion of GDP accounted for by consumption in Asia has slid over the past five years, with America's 30% share of the world's domestic demand still 6.1 times bigger than China's.

Finally, stockmarket correlations between Asia and both Europe and the US have hit a 30-year high. The probability of Asia decoupling from the US/G3 is "sadly very low". As America's slowdown worsens, "we'll find the world is not as decoupled as it thinks", says Stephen Roach of Morgan Stanley. Emerging markets, then, seem unlikely to keep exploding next year.