So how exactly to you advance from a frontier market to an emerging market? Some people classify frontier markets as a subset of emerging markets, but there is a clear distinction. We’ve talked in previous posts about systematic risk and political instability as huge factors to impeding growth. Once a country can overcome many of these risks, and grow a more stable infrastructure, it is well on its way to becoming a developed economy.
What exactly is an emerging market? The FTSE Group actually classifies these markets into two categories. They distinguish between Advanced and Secondary Emerging markets on the basis of their national income and the development of their market infrastructure. Some examples of Advanced Emerging markets are Brazil, Hungary, Mexico, Poland, and South Africa. Some examples of Secondary Emerging markets are Peru, China, Egypt, India, Pakistan, Philippines, Russia, and Turkey. Now that you have a distinction and how a country might become an emerging market, I’ll look at a specific example of how one country overcame their risks and are now well on their way to becoming an advanced emerging market.
Peru is my great example. In the span of two decades, Peru has graduated from a nearly failed state to a stable democracy with an investment-grade credit rating and some of the most consistent economic growth in the world. In 1980 a guerilla movement called the Shining Path created terror by having a campaign marked by executions, kidnappings, and bombings. The army and paramilitaries finally clamped down on the violence in the early 1990s. After that point the economy boomed. Apartments are now springing up everywhere, along with shopping malls and extravagant hotels.
How did this happen? The key to any frontier market is macroeconomic stability, microeconomic reform, and consumer growth led by a rapidly growing lower middle class. Long-term capital is a key investment for these economies to be able to sustain such growth. Interesting enough, many developing markets have been helped by the boom of China and its imports of food and raw materials. Peru is one of those economies.
Recently a group of Goldman Sachs strategists predicted that in the next 20 years, we will see the total equity capitalization of emerging markets soar from $14 trillion today to $80 trillion. Failing economies have the chance to become frontier ones before moving on to the emerging status. By then we will most likely see the economies of Brazil and China as fully developed. All of this shows that a little clampdown by the government and smart investments in long-term capital and infrastructure can go a long way for a country's future.