What Are the Potential Implications of the U.S. Election for Emerging Markets?

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Written by: Mary Park Durham

Emerging Market (EM) equities are up 8% year to date, fueled by a rebound in Chinese stocks and structural narratives in Taiwan, India, and Korea. With the U.S. election approaching, potential U.S. policy changes are a key concern for global investors. After most U.S. elections, the MSCI EM Index has had positive performance in the 100 days following. This is because markets don’t like uncertainty, and elections almost always reduce it. However, while EM equities typically don’t react negatively to U.S. elections, they may respond more to policy changes over the longer term.

Key policy areas for EMs include:

  1. Trade: The Trump administration’s 2018-19 tariffs on $370 billion of Chinese goods were largely upheld under Biden/Harris, signaling bipartisan consensus on a tough stance toward China. Recently, the U.S. imposed more tariffs on certain Chinese goods, including EVs. In his campaign documents, Trump is considering a baseline tariff and up to 60% tariffs on Chinese imports. Overall, protectionist policies against China and supply chain diversification are likely to persist, regardless of the election outcome. For EM equities, this will likely translate into increased currency and market volatility, especially for China and Mexico. From 2018-19, the yuan depreciated 7%, 2/3rds of which was attributable to the Trade War according to the NBER1. Overall, low-cost EM producers with strong U.S. ties could benefit from production shifts in the long run. For Mexico, short-term volatility could increase if Trump begins pressuring to curtail Chinese investments. However, "nearshoring" remains a powerful theme for Mexico.
     
  2. Immigration: The Trump administration enforced strict controls, and his 2024 campaign promises even tougher measures. Biden/Harris reversed many of Trump’s deterrence policies but have become stricter recently, as immigration to the U.S. has surged. While tighter immigration policy should have a limited impact on EM equities, it could reduce remittance flows. EMs received 78% of the world’s remittance flows in 2022. This could impact Mexico that received a record $63 billion in remittances in 2023, which led to a stronger peso and domestic consumption.
     
  3. Industrial policy: Laws like the CHIPS and Science, IRA, and IIJA Acts have channeled over $135B into domestic research and manufacturing of semiconductors into the U.S. Both parties aim to boost domestic semiconductor production and reduce China’s dominance although some policies could be altered if the Republicans sweep. By relying less on China, the U.S. will likely need to strengthen ties with allies like Taiwan and Korea (22% and 21% of global semiconductor production, respectively, in 2020) as well as South American countries (56% of the global lithium production and 30% of copper in 2022) to satisfy its demand and source critical minerals to fuel new production. However, if the U.S. ramps up semiconductor production at home, the demand for EM goods could shrink over time, hurting EM companies.
     
  4. Fiscal/monetary policy: The Fed’s expected rate cuts starting in Sep. 2024 will likely benefit EM equities. Regarding fiscal policy, both administrations significantly increased the deficit, even when excluding COVID spending. It is uncertain if the new Democratic nominee will deviate from Biden’s attitude on the fiscal issues, but the deficit’s trajectory will likely remain upward. Extending the 2017 Tax Cuts could add $4 trillion to the debt over the next 10 years. Higher U.S. debt and the resulting pressure on long-term rates may contribute to further dollar strength, which could act as a headwind for EM equities.
     

U.S. election results often have short-term impacts on EM equities, but policy changes are typically more significant, especially if they cause more USD strength. While the currency effect explains 20% of ann. EM equity returns over the past 15 years, earnings and dividends are what ultimately drive long-term returns, each explaining 47% and 28%, respectively. Therefore, while managing policy and currency risk is key, EM investors benefit from having a long-term perspective, focusing on structural trends like middle-class growth and technological innovation, which are more likely to drive long-term performance.

MSCI EM Price Index 100 days prior to and following past U.S. presidential elections

Election Day equals 100, 1980-2020, local currency

Source: Congressional Budget Office, FactSet, MSCI, National Bureau of Economic Research (NBER), World Bank - World Development Indicators, U.S. Geological Survey - Mineral Commodity Summaries 2023, J.P. Morgan Asset Management. Data are as of July 15, 2024.

1To What Extent are Tariffs Offset by Exchange Rates? by Olivier Jeanne and Jeongwon Son, National Bureau of Economic Research.

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