Salient to Investors:

Stretched budgets and sluggish growth are putting emerging-market governments on a collision course with rising pressures from recently empowered middle classes for more spending and better services. Policy makers face the end to an era of abundant global liquidity that helped fuel the fastest expansion in three decades. The BRICs have been slowing since 2010.

EPFR Global said investors pulled $40.3 billion from emerging-market bond and equity funds in the 8 weeks through July 17 versus inflows of $111 billion in 2012.

Angel Gurria at OECD said developing nations are punished more during downturns than their European counterparts because they depend on growth to mitigate social tensions. Gurria said Indonesia is a very good example of how you do not need to spend more money to reallocate resources better. Gurria said developing nations’ needs are much more elementary and brutal: e.g. families live with vermin because they don’t have cement on the floor, while big winds blow off roofs.

Nomura said 11 countries, including China, India, Russia, Argentina and Venezuela face the risk of market-moving civil unrest in the short to medium term, partly fueled by frustration with corruption by a middle class that swelled during the past decade.

Jim Yong Kim at the World Bank said people lifted out of extreme poverty are naturally going to want more. The World Bank said 50 million people in Latin America rose out of poverty during the past decade.

Ruchir Sharma at Morgan Stanley Investment Mgmt said investors can ride out the volatility by betting on governments that resist populist pressures for more spending and instead shore up long-term financial stability. Sharma said the same incumbents who benefited from the boom now face the wrath of the electorate, as they did not fully realize how much success was due to global factors and not their governance. Sharma said there are positive stories and while the selloff has been indiscriminate, attention will come back once the dust settles: he is underweight China, Brazil and Russia and overweight Mexico and the Philippines. Economists expect the Philippines to grow 6.2 percent in 2013.

Alastair Newton at Nomura said officials have the ability to defuse underlying social tensions, having strengthened their finances since the last round of emerging-markets crises toppled governments starting in the late 1990s, only now they will need to balance the mood in the streets with the discipline demanded by markets in the context of slowing expansions and tighter budgets. Newton said China’s slowdown is being domestically engineered but if the clean-up of speculative lending and real-estate prices fails, jobs will be lost, adding to social tensions that are increasingly apparent online where dissent is widespread. Sun Liping at Tsinghua University said the number of mass disturbances to social order doubled to 180,000 a year in 2010 from 2006 levels – China no longer makes such figures public.

The IMF cut its global growth forecast on a leveling off in China and the risk of capital outflows in countries that propelled the world economy. The IMF expects developing countries to expand 5 percent in 2013 versus the annual average of 6.6 percent over the past decade. Emerging markets account for nearly half the world’s economic output.

John Williamson at the Peterson Institute for Intl Economics said emerging markets are not heading toward another 90s-style balance-of-payments crisis. Governments have reduced their external vulnerabilities by building up record currency reserves and issuing more debt locally, while most countries have embraced free-floating exchange rates, and the IMF says inflation averages 5.9 percent, less than half 1995-2004’s 13.1 percent. Williamson said the buffers are extremely important, market reaction has been exaggerated, and does not see a slowdown in growth in the long run.

George Friedman at Stratfor said a number of regimes built their legitimacy on fast growth: when they can no longer deliver, they are set for a huge fall.

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