One of the issues facing emerging economies as a group is that they are farther ahead in their economic upturns than major developed economies. For instance, China is already into a property price bubble (especially land prices, as discussed in our December 2009 Issues), and its economy is booming. High public confidence, combined with plentiful liquidity (from trade surpluses, capital inflows and lax central bank policies biased toward pro-growth), will ensure buoyant domestic consumption and investments over 2010. The same situation, with some variations, applies to most other emerging economies. In stark contrast, the U.S., western Europe and Japan are still at nascent stages of emerging from their recession/deflation economic cycles, and economic recovery there is likely to remain slow.

At issue is the current, very low interest-rate structure in emerging economies with currencies either pegged or semi linked to the U.S. dollar. They are following, in varying degrees, the interest rate policy of the U.S. Fed. While it is appropriate for interest rates to stay low in the U.S., as the overly indebted system deleverages, the current, low interest rate structure is looking increasingly incompatible in a number of emerging economies, China being one example.

Eoin Treacy's view A number of the countries least affected by the root causes of the credit crisis have already begun to raise interest rates. These countries have either skirted recession or are recovering strongly. They are likely to be some of the first to experience the return of inflation and tighter monetary measures are commensurate with those conditions. The relative strength of commodity related and emerging market currencies last year against those of the USA, Europe and the UK exemplified this point.

High unemployment, excess capacity in the manufacturing sector and the wider deleveraging process are likely to keep broad inflationary pressures under wraps for a while longer in the USA and Europe, Commodity price inflation, particularly energy, is a potential problem just about everywhere but is likely to show up quicker in less developed economies because commodities make up a greater percentage of respective CPI measures. This could widen the respective interest rate differentials between higher yielding emerging market currencies and should help last year's emerging market currency strength to remain an important theme in the coming year.