Emerging markets are sitting on a $5.8-trillion pile of debt to foreign lenders. Yet, they are far less vulnerable to sudden capital flight than two decades ago.
At about 20 per cent of these countries' combined GDP, the debt is large. Besides, it has grown 48 per cent in only four years, according to recently released data from the Bank for International Settlements. Some investors worry about a repeat of the balance of payment crises of the 1990s, when foreign lenders rushed headlong into Mexico and southeast Asian countries, and then turned tail.
This time could be different, and not just because emerging markets now own $7.5 trillion in foreign-exchange reserves. While rising US interest rates are again pressuring emerging market currencies, international banks are unlikely to exacerbate the funding stress with the same viciousness as before. That's because 40 per cent of their exposure to developing countries - equivalent to $3.45 trillion - consists of local-currency loans given out by their units abroad. Before the 1997 Asian crisis, this figure was less than 20 per cent.
Even among foreign lenders, local-currency loans are more stable than debt denominated in other currencies. In the two years to June 1999, foreign-currency loans by US, UK, German, French, Swiss and Japanese banks to developing Asian economies fell 24 per cent. The little local-currency business these lenders did in Asia back then grew by 1.4 per cent. More recently, Eastern Europe saw foreign-currency borrowings from the same club of foreign lenders drop 30 per cent in the two years following the 2008 crisis. The cutback in the lenders' domestic-currency exposure was less than half as severe.
In the bond market - the other route through which emerging markets load up on foreign-currency debt - borrowers including governments have shown a growing preference to borrow in their home currencies.
When it comes to contagion risk, the national identity of moneylenders is not as important as the colour of their money. As long as emerging markets owe debts to foreigners in currencies their central banks can freely print, they are less likely to experience a debilitating crisis.
