The developed world faces tough times ahead while emerging markets will likely lead the world economy, says economists at HSBC Bank plc.

In a new report, HSBC economists suggest that in the Western world, “we’re likely to face years of austerity with enhanced financial-market volatility.” HSBC foresees GDP growth of only about 2% in the developed world in 2010 and 2011, but emerging market GDP growth in excess of 6%.

The bank also expects government action will become increasingly significant. “Financial markets will become more and more dependent on the actions of politicians, central bankers and regulators. Economic outcomes will be heavily influenced not just by interest rate decisions but also by pronouncements regarding the regulation of credit, which will affect the quantity rather than price of credit,” the report says.

“As nations attempt to rebuild their financial systems, enthusiasm for a properly functioning global capital market is likely to dim, leading to a new nationally focused financial architecture,” the report notes.

Moreover HSBC economists see growing strains between debtor and creditor nations in the years ahead. “If western nations are unable to deliver the austerity required of them, the danger is that they look to default to their creditors, most obviously by forcing their exchange rates lower as part of a move away from the ‘hard currency’ regimes seen over the last 20 years. As we have noted elsewhere, high levels of public debt often lead to monetary shenanigans, simply because austerity is so difficult to deliver politically.”

The implications for asset markets, HSBC says, is that it favours emerging-market currencies over developed nations’ currencies. Moreover, while equities may still make gains, the report says, “the coming austerity suggests that revenues will struggle to make much progress in the coming quarters. We think emerging-market angles offer the more interesting opportunities.”

IE