S&P Global Ratings views the recovery in commodity prices worldwide as generally good news for emerging markets. However, a fast rise in commodity prices, in particular oil, brings important challenges for some of these economies. Commodity prices have surged worldwide over the last few months on the back of governments' pandemic-related stimulus policies and supply constraints. Prices for industrial metals, such as iron ore and copper, have reached multiyear highs, owing to strong demand from China and supply bottlenecks. Oil prices have also staged an impressive comeback, with the price for Brent crude returning to pre-pandemic levels (see chart 1). We recently raised our oil price assumptions and now expect Brent to average $60/bbl through the remainder of 2021 and in 2022, up from $50/bbl previously, (see “S&P Global Ratings Revises Oil And AECO Natural Gas Price Assumptions And Introduces Dutch Title Transfer Facility Assumption,” published on March 8, 2021, on RatingsDirect).

Chart 1

Let's first look at some of the positive economic effects for commodity exporters. Out of the key 16 emerging economies we cover, half are net commodity exporters. Exports for Brazil (iron ore), Chile (copper), and South Africa (iron ore)--key industrial metals producers--have performed well in recent months. This has offset some of the weakness in domestic demand and contributed to better current account dynamics in these economies. South Africa ran a large current account surplus in the second half of 2020, in contrast to an average deficit of 3% over 2016-2019. This partly reflects depressed domestic demand and imports, but booming metal prices certainly helped.

For key emerging market oil exporters such as Russia and Saudi Arabia, the situation is more nuanced. The impact of higher oil prices is mainly being felt in improving fiscal and current account balances, rather than growth dynamics. There are several reasons for that. First, the OPEC+ supply deal continues to constrain oil output and exports in Saudi Arabia and Russia. In fact, this is one of the factors behind higher oil prices. Second, for Russia, the fiscal framework in place since 2017 has significantly reduced the economy's sensitivity to oil price movements. Additional fiscal revenues from higher oil prices will be saved in the National Wealth Fund, rather than spent.

What about emerging economies that are net commodity importers? We think there are reasons for them to be optimistic about the recovery in commodity prices. While supply constraints play a role, we believe that these developments are signaling improved global growth prospects and stronger foreign demand, and this bodes well for non-commodity exports for all emerging markets. Mexico will be the key beneficiary of stronger demand from the U.S., its major trading partner, fueled by the US$1.9 trillion fiscal stimulus. And those Central and Eastern European economies that are integrated into Germany's supply chains, like Poland, will continue to benefit from strong demand for Germany's exports, especially from China.

And yet a fast rise in commodity prices, in particular oil, brings important challenges for some emerging economies. First, oil importers, such as India and Turkey (see chart 2) are facing current account pressures. For Turkey in particular, a sharp rise in commodity prices would complicate the progress in reducing a current account deficit that averaged 5.3% of GDP in 2020.

Chart 2

Second, the upturn in international commodity prices is translating into higher domestic energy prices and headline inflation. In some cases, the effect on headline inflation can be significant, especially taking into account the base effect. Brent oil prices rose by a staggering 125% in March, compared with a year ago. And in some emerging economies, including Argentina, Brazil, and Turkey, currencies are still weaker than they were in March 2020, meaning that measured in local currencies, international oil prices have increased even more. At 60$/barrel, the Brent oil price will be three times as high in April as it was a year ago, and twice as high in May. This increase in international energy prices will not be fully passed through to consumers because of the adjustments in taxation and the fact that electricity and gasoline prices are regulated and not always follow the developments in international energy prices. Nevertheless, we are seeing domestic energy prices rising across emerging markets. This comes at a time when sectors are reopening and activity is picking up. What's more, worsening terms-of-trade for oil importers mean that their currencies are facing depreciation pressures--although capital flows dynamics is also at play, influencing the exchange rate trajectories in emerging market economies. Overall, taking into account these factors and base effects from low inflation in second-quarter 2020, we expect both core and headline inflation will jump in the second-quarter 2021 year on year across emerging economies.

What Will Emerging Market Central Banks Think About These Developments?

Generally, central banks in emerging economies would prefer to stay accommodative as long as possible, given still significant economic slack, and the expected phaseout of a fiscal stimulus. In theory, central banks could "see through" the rise in headline inflation caused by commodity prices increases, as the impact of these temporary factors typically fades away. However, some central banks in these countries worry about the second-round effects of such temporary shocks, which can result in inflation expectations becoming unanchored. That said, second-round effects are likely to be weaker in the economies with a wide output gap.

We see notable differences in inflation trends across emerging economies. In emerging Asian economies, core inflation is still low and well below targets (see chart 3). India is an exception, with core inflation sticky above the midpoint of the target. Rising commodity prices are spilling into transportation costs, adding upward pressure on headline inflation. For central banks in Indonesia, Malaysia, and Thailand, faster commodity price inflation is offset by low core prices, so there's a buffer before they need to respond to headline price moves. Central banks in Malaysia and Thailand are more tolerant of inflation swings when they judge that the moves are caused by temporary factors.

Chart 3

In Latin American economies, core inflation has picked up, and headline figures are reflecting rising energy prices, but remain within targets. However, developments in Brazil are those to watch. There, headline inflation reached 5.2% year on year in February, the top of the central bank's target range, and will head higher in the coming months, partly due to higher energy prices. Rising inflation, combined with a challenging fiscal situation, which has lifted risk premium on local debt, has pushed the central bank to start a tightening cycle. It increased its policy rate by 75 basis points (bps) on March 17, from a historical low of 2%, and more hikes are on the horizon.

For Turkey, rising energy prices further complicate the central bank's task to bring down inflation and inflation expectations. The core inflation rate remains elevated in the double digits and accelerated recently, to 16.2% in February, despite the tightening of monetary policy. Transport inflation was more than 20% in February, adding to broader price pressures. The central bank raised its key rate by 200 bps on March 18 to 19%, surpassing market expectations of a 100 bps hike.

In contrast to energy-importing economies, rising oil prices tend to reduce inflationary pressures in Russia because they tend to lead to an appreciation of the Russian ruble, while domestic energy prices are decoupled from international dynamics. Over the past few years, the correlation between oil prices and the ruble exchange rate has weakened, mainly because of government policies but also international sanctions, which have altered the pattern of capital flows (see "Hooked On Oil: Is Russia Breaking Free?", published on March 14, 2019, on RatigsDirect). Still, we expect the ruble to appreciate, provided the geopolitical situation remains stable. Both core and headline inflation in Russia have risen in the past months, exceeding the 4% target, with headline inflation reaching 5.7% in February. Key reasons have been a revival in consumer demand amid a pickup in government spending, the pass-through of currency depreciation to domestic prices, as well as the low base effect. The Central Bank of Russia (CBR) raised its key rate by 25 bps to 4.5% on March 19, surprising most analysts who expected it to remain on hold. In CBR's assessment, a faster recovery in demand, and elevated inflationary pressures call for a return to neutral monetary policy. For Russia, we expect inflation to peak in the first quarter, in contrast to other emerging economies, and gradually decline toward the target by end of this year.

Related Research

• S&P Global Ratings Revises Oil And AECO Natural Gas Price Assumptions And Introduces Dutch Title Transfer Facility Assumption,, March 8, 2021
• Hooked On Oil: Is Russia Breaking Free? March 14, 2019