90014 WEEKLY ECONOMIC BRIEF For more information, see our website www.worldbank.org/globaloutlook To counteract inflation risks, more developing-country central banks tightened policy than loosened it in July. While external price pressures associated with past currency depreciations remain significant in some countries, the recent decline of domestic food price inflation in most developing regions should have a moderating effect. Market concerns about financial troubles in the second largest bank in Portugal have had limited international spillover effects, partly reflecting a general climate of low risk aversion. Five developing-country central banks increased policy rates in July, More developing-country central banks tightened policy than outweighing rate cuts in other countries. Among these five countries, three loosened it in July Number of policy rate changes (South Africa, Ghana and Ukraine) acted to mitigate inflation pressures linked to past across developing countries Rate hikes currency depreciations, whereas in Egypt policy rates were hiked to pre-empt an 17 Rate cuts Net changes expected rise in fuel costs in August (due to a cut in fuel subsidies), and in Malaysia 12 to remove policy accommodation following signs of more self-sustained recovery. In 7 contrast, central banks in Peru, Turkey and Hungary cut rates this month. In Hungary, the decision to ease policy appeared to signal an end to a 2-year cycle of 2 interest rate cuts aimed at lifting demand and inflation from current low levels. -3 Central banks in Peru and especially in Turkey lowered rates despite above target -8 inflation, reflecting economic slack, expectations of more moderate inflation ahead and benign external financing conditions. The room for monetary policy -13 accommodation is expected to gradually diminish for most developing countries as -18 Sep-11 Sep-12 Sep-13 May-11 Jul-11 Nov-11 May-12 Jul-12 Nov-12 May-13 Jul-13 Nov-13 May-14 Jul-14 Mar-11 Jan-12 Mar-12 Jan-13 Mar-13 Jan-14 Mar-14 the U.S. Federal Reserve moves closer to its own tightening cycle (expected to start around mid-2015). Source: World Bank. Consumers are experiencing lower domestic food price inflation across most Domestic food price inflation moderated in recent months across most developing regions developing regions since the start of the year. The recent slowdown was Domestic food prices, International food prices, particularly marked in South Asia and Latin America, albeit from a higher level, as y-o-y % Change y-o-y % Change 35 both regions saw double digit increases in domestic food prices throughout 2013. In International (RHS) Africa - domestic 30 Latin America - domestic East Asia - domestic 60 Africa and East Asia, the deceleration was less pronounced, with food price inflation South Asia - domestic East Europe - domestic 25 stabilizing during the first four months of 2014 around 6 and 3 percent respectively. 20 40 In contrast, prices recently accelerated in Eastern Europe, mainly reflecting 15 developments in Ukraine. Notwithstanding risks associated with a potential El Niño 10 20 phenomenon later this year, further moderation in food price inflation would support 5 0 0 domestic demand and contribute to restoring price stability in a number of middle -5 income countries (such as Brazil or India). The slow pass-through of declining -10 -20 international food prices into domestic prices observed in many developing regions -15 over the last two years notably reflect specific weather, currency developments, -20 -40 Jul-07 Jul-08 Jan-09 Jul-09 Jul-10 Jul-11 Jul-12 Jul-13 Jan-14 Jul-14 Jan-07 Jan-08 Jan-10 Jan-11 Jan-12 Jan-13 domestic cost pressures or trade policies. Source: World Bank, FAO. Concerns about the second largest bank in Portugal did not change global risk perceptions. Banco Espirito Santo (BES), the only large Portuguese bank that Bank troubles hit Portugal’s stockmarket and CDS spreads but had limited cross-border spillover effects did not receive capital injection during the country’s three-year bailout program, Portugal vs European stockmarkets: relative perf. found itself exposed to escalating default risk of its parent holding company since European Financial vs All European stocks: relative perf. Sovereign CDS spreads: Portugal (RHS) early July. Market repercussions were significant in Portugal, with sovereign Credit Index, Sovereign CDS spreads: Spain & Italy (RHS) Basis Point, Feb. 3 = 100 Feb. 3 = 0 Sovereign CDS spreads: Panama (RHS) Default Swap (CDS) spreads increasing by up to 80 basis points and the 110 120 Portuguese stock-market initially losing 6 percent relative to other European 105 80 markets. However, cross-border contagion effects were limited, as reflected in 100 40 stable CDS spreads and bank stock valuations in other euro-area economies. Fears 95 0 of broader spillovers were contained by the fact that BES’s difficulties were 90 -40 unrelated to the bank’s own operations, that capital buffers were available and fresh 85 -80 80 private capital was eventually injected (on July 23). It also reflected an overall 75 -120 climate of low risk aversion and continued search for yields, benefiting the demand 70 -160 for riskier assets from other euro-area economies. Beyond Europe, affiliate banks in 2/3/14 2/13/14 2/23/14 6/23/14 3/5/14 3/15/14 3/25/14 4/4/14 4/14/14 4/24/14 5/4/14 5/14/14 5/24/14 6/3/14 6/13/14 7/3/14 7/13/14 7/23/14 Angola and Panama were affected through loan and capital exposures but confidence was so far maintained, as reflected in relatively stable currencies and Source: World Bank, Bloomberg, Deutsche Bank Research. sovereign spreads. Number 230 | July 25, 2014. Number 230 | July 25, 2014. Number 230 | July 25, 2014.