Emerging markets could hold the key to growth in the face of macroeconomic storms

Businesses everywhere are facing a combination of domestic recessions, rising interest rates, high inflation and geopolitical uncertainty. Rarely do so many volatile business conditions descend at once on the world.

While pandemic-induced supply chain disruption has eased, COVID-19’s economic aftershocks will continue to be felt for some time. Add to this mix the first war in Europe in decades and its resulting energy crisis, and it is clear that businesses find themselves in a perfect storm of economic headwinds.

An understandable reaction would be to batten down the hatches: a focus from companies on shoring up capital and pausing growth plans and a move from governments to more protectionist policies. But retrenchment and protectionism would be a mistake.

On the contrary, bold growth strategies focused on digitisation, international trade, expansion and the opening of new supply chains will be how corporates and small and medium-sized enterprises (SMEs) put themselves on a stronger footing in the coming years. Business leaders themselves are saying this.

HSBC polled more than 2,000 mid-market enterprises (MMEs) across 14 different markets in late 2022, and 93% said they are targeting growth in 2023. Indeed, 76% expected double-digit growth next year.

Importantly, their bullish outlook is underpinned by an intention to grow beyond domestic markets: two-thirds of MMEs say they plan to expand internationally in the next 12 months.

Despite the worrying macroeconomic and geopolitical trends, this optimism is not unreasonable.

It is western economies where many of the macro headwinds are being felt most acutely. Smart businesses seeing recession at home are eyeing exports to markets that continue to grow, and are sourcing supplies from markets where price rises are less pronounced.

These near-term factors are drawing firms to emerging markets, but more fundamental economic and demographic shifts should see new trade links between developed and emerging markets solidify, embed and expand.

The traditional perception of the role of emerging markets in global economics — one of efficient manufacturing hubs and sources of inexpensive labour — is giving way to a new, more multi-faceted reality. The globalisation of trade in the twentieth century has created conditions for a new dynamic in the twenty-first. That is to say, the transformation of agriculture-led economies into global production and supply chain centres has afforded vast numbers of people the chance to climb out of poverty. In Vietnam, for instance, average income rose from $95 in 1990 to $2,785 in 2020, giving millions of people there the opportunity to start saving and spending on goods and services that might previously have been out of reach.

The growth of middle-class populations in emerging markets is a major shift and should be of huge relevance to western corporates looking for growth. Already, spending by the Asian middle class exceeds that in Europe and North America combined, and new consumer mega markets will grow further as young, more affluent populations seek western goods and services.

The IMF forecasts that emerging markets will grow by more than twice the speed of developed markets in 2023, and it is estimated that Asia alone will add $22 trillion in new wealth between 2020 and 2025.

Beyond new consumer markets, the case for continuing to diversify supply chains into emerging markets remains strong.

The argument has been made for securing strategically important supply chains by ensuring domestic production where possible, and almost half of the MMEs HSBC surveyed said better supply chain resiliency is a priority. But for most goods and services, supply chain vulnerabilities tend to lie in concentration rather than distance, and reshoring would come with significant economic costs. For instance, an extensive attempt by Germany to re-shore production would cost the country’s economy 10% of GDP.

Companies have made their supply chains less vulnerable to natural disasters, pandemics and geopolitical shifts by reducing their dependence on single suppliers or single countries rather than re-shoring. Much of the cost advantage of emerging markets now lies in economies of scale rather than labour costs, and, in the current global downturn, emerging markets remain resilient compared to their developed peers.

While this can largely be credited to competent economic management by policymakers, to maintain an upward trajectory they will need to handle their debt burdens and manage the threat of protectionism while focusing on realising sustainable development. Free trade should be viewed as a means to foster cross-border collaboration and reduce inflationary pressures.

Companies in developed markets looking to grow should be encouraged by the near-term resilience of emerging markets and given confidence by longer term economic and demographic trends. Throw in the digital innovation and regional free trade agreements that are making developing economies more internationally accessible and transparent, and there is a strong case for businesses to be bold when putting growth plans together.

Greater trade and cooperation between developed and emerging market businesses will also help to address the many macro challenges facing markets everywhere.

By embracing global and distributed trade, businesses — and governments, too — can help drive down inflation, strengthen supply chains and stimulate growth at home and abroad.