The economic and credit outlook for emerging market economies has worsened dramatically as the ‘credit crunch’ that originated in the so-called ‘advanced’ economies contaminates the developing and emerging world, says Fitch Ratings.

The negative impact of the recession in the G7 on emerging market economies “is magnified by the sharp curtailment of financing from international banks and investors and, for commodity producers, by falling export prices,” it says.

With even China’s economy slowing and now forecast by Fitch to expand by just 6% next year, its lowest rate since 1990, emerging markets are forecast to grow by just 2.5% in 2009 compared to more than 6% in the first half of this year — only marginally faster than in the aftermath of the Asian and Russian crises in 1998, the rating agency adds.

“The risk of multiple economic and financial crises across emerging markets is now greater than at any time since the Asian Crisis of 1997-98, with the central and Eastern Europe region at most risk,” said David Riley, global head of Sovereign Ratings at Fitch. “Several emerging market economies face outright recession, especially those with large current account deficits that international banks and markets are no longer willing or able to finance. Even for those with current account surpluses, capital outflows will add pressure to the balance of payments as non-sovereign borrowers struggle to refinance more than US$300 billion of foreign borrowing maturing next year.”

Despite the unprecedented scope and scale of intervention in support of banking systems in advanced economies, their banks’ access to medium-term financing remains constrained and pressure to improve capital ratios and reduce risk intense, Fitch says. “Consequently, the ability and willingness of ‘Western’ banks to extend credit to emerging markets, whether directly or via subsidiaries, has fallen sharply,” it notes. “Foreign subsidiaries, like their parents banks, are under pressure to shrink their balance sheets, contributing to a domestic ‘credit crunch’ and exacerbating balance of payments stresses.”

Fitch says that this process is adversely impacting nearly all emerging market economies, but especially in central and Eastern Europe where international banks have been the dominant source of external financing, and where the risk of country crises is greatest. Several sovereign ratings across the region have recently been downgraded and several remain on Negative Outlook.

While central and Eastern Europe is most at risk, risks are also on the rise elsewhere, Fitch adds. In Latin America, countries with weak credit fundamentals that are reliant on commodity exports are especially vulnerable, while growth in the export-orientated Asian economies is now forecast by Fitch to slow to just 3% compared to 8% pa over the last five years.

Nonetheless, Fitch notes that sovereign credit fundamentals across emerging market regions are stronger than during previous episodes of crisis, reflected in reduced government borrowing from international capital markets in recent years and the accumulation of large stocks of foreign exchange reserves that provide a buffer against the current economic and financial turmoil.

IE