Recent weakness in emerging markets may shake investor confidence, but the direct exposure for the Canadian economy is likely to be relatively limited, according to BofA Merrill Lynch Global Research.
In a new report, Merrill says that economic and financial uncertainty in emerging markets has raised concerns about the prospects for global growth, and possible spillover effects on economies such as Canada. Ultimately, it concludes that while turmoil in EMs could hurt investor confidence, “the direct economic impacts on Canada should be limited.”
For one thing, the report notes that, despite efforts to diversify, Canada’s direct trade with emerging markets only represents about 10% of total exports. And, the share is even lower for markets that have seen the steepest slides in their currencies. “Our view is that barring a hard landing, a slowdown in emerging markets such as China should not derail growth for developed markets such as Canada,” it says.
Nevertheless, it notes that the resource sector could be hit, “given the correlation between emerging market growth and Canada’s commodity prices”.
The report also looks back at prior episodes of emerging market turmoil — such as the Asian crisis of 1997-98, the Russian crisis of 1998-99, and the Argentine crisis of 2001-02 — noting that Canadian equity markets proved relatively resilient in these periods, with the TSX only experiencing single-digit declines.
“While there may be some evidence of edginess amongst international investors in Canadian equities during emerging market routs, there’s little indication of broader contagion/confidence impacts,” it finds.
“Financial and economic uncertainty in emerging markets raise challenges for trade dependent economies. Although the risk appetite and confidence of global investors in the Canadian equity market may wane if the current emerging market rout is protracted, the broader economic impacts to Canada appear limited,” the report concludes. “Thus, even if emerging markets disappoint somewhat in the year ahead, our outlook for a stronger U.S. economy still suggests Canada is set up for gradual improvements in growth.”