Emerging markets rebounded strongly after the fall; why was the oil shock different from the past?

The US-Iran agreement and market expectations of the Strait of Hormuz reopening sent oil prices tumbling. This market reaction to the recent surge in oil prices mirrors the pattern of the past 50 years: rising oil prices worsen trade terms for importing countries, push up inflation, erode real income, and ultimately drag down economic growth. Central banks become more cautious, risk assets come under pressure, and emerging markets are often the first to be affected.

However, this year's actual situation is quite different. The MSCI World Index initially fell by about 9%, then rebounded by nearly 17%. Emerging markets experienced even greater volatility, with the MSCI Emerging Markets Index falling by as much as 13% before rebounding by more than 26%. The South Korean stock market performed particularly extreme, initially falling by 19% before rebounding sharply by 66%.

Why did the anticipated negative consequences not materialize? The reason lies in the fact that the oil shock cannot be interpreted from a single perspective. The influence of oil prices on the global economy is significantly less than before. Taking the United States as an example, oil intensity has decreased by nearly 70% since the 1970s. Oil intensity is an indicator of the amount of oil required to produce a unit of GDP. In Europe, natural gas consumption has decreased by nearly 20% since 2022, while renewable energy and nuclear power are gradually replacing some of the natural gas demand. Oil may still trigger shocks, but it is no longer the decisive variable.

In the United States, the traditional transmission mechanism remains in place: rising inflation, pressure on real disposable income, and weak consumption. However, unlike in the past, investment spending continues to grow at a high rate. Despite sluggish consumption, investment related to artificial intelligence (AI) is still growing at nearly 25% year-on-year, and US capital goods imports are also growing by more than 20%.

China, which is also deeply involved in the AI ​​sector, continues to expand its imports. These trends may not benefit the same region or sector, but they have one thing in common: they create strong demand for emerging market economies.

South Korea is perhaps the most representative example. Traditionally, rising oil prices have significantly worsened South Korea's terms of trade and trade balance. In 2022, its trade balance deteriorated by nearly 2.5% of GDP in a comparable period. But this year, the situation is quite different; in just two months, the trade balance has improved to more than 5% of GDP.

For South Korea today, semiconductor prices have a far greater impact than oil prices. Global semiconductor demand, driven by data centers and AI infrastructure, has been sufficient to offset rising energy costs. South Korea's terms of trade have improved by more than 17%, compared to a nearly 10% decline during the energy shock of the Ukraine crisis. Taiwan is showing a similar trend; its trade balance worsened during the last oil shock but has now improved to over 2% of GDP.

More broadly, nine of the 13 emerging economies that have released their April trade data outperformed the same period in 2022. A few countries, such as Thailand and Vietnam, remain vulnerable to the traditional transmission mechanisms of oil shocks.

Of course, AI is only part of the reason. Another structural force is playing an equally important role: the energy transition. Industrial metal prices have risen by more than 40% in the past year, comparable to the increase in oil prices. Copper, aluminum, nickel, uranium, and silver have all benefited from economic electrification and the expansion of digital infrastructure.

Chile, Peru, Mongolia, and Zambia benefited from rising copper prices. Kazakhstan benefited from rising uranium prices, and Indonesia benefited from rising nickel prices. Brazil, Malaysia, and India also benefited from stronger industrial commodity prices.

In the past, rising oil prices almost always meant a deterioration in terms of trade. Now, many emerging economies are facing rising oil prices while their own export prices are also rising.

This improvement is reflected not only in the real economy but also in the financial sector. In the past, a sharp appreciation of the US dollar amplified the impact of the oil shock. However, during this current shock, the US dollar index appreciated by only 1.2% from February to May, compared to nearly 6% in the same period in 2022. Emerging market currencies depreciated by an average of only 1.4%, compared to nearly 5% in the last instance.

This contrast is particularly stark for emerging market debtor nations, traditionally most vulnerable to a strong dollar. In 2022, their currencies depreciated by nearly 10% against the dollar. Now, the depreciation is only 2.3%, less than a quarter of the previous rate.

This does not mean that the importance of the US dollar is disappearing. As the global currency for payments and savings, the US dollar remains absolutely dominant. However, as global central bank reserve assets become more diversified and local financing markets mature, the amplifying effect of the US dollar on shocks is gradually weakening.

Emerging market fundamentals are far better than before. At the same time, emerging markets themselves have undergone profound changes. In the 1990s and early 2000s, emerging markets often faced huge current account deficits, large amounts of dollar debt, and limited foreign exchange reserves. A single oil shock was enough to trigger a severe financing crisis. Today, emerging markets have more abundant foreign exchange reserves, lower external debt, more robust current account conditions, and stronger central bank credibility. While the risks have not been completely eliminated, they have been greatly mitigated compared to the past.

Therefore, while the oil shock continues to exert inflationary pressures and impact global economic growth, its effects have been offset by stronger structural forces. Today, the forces truly shaping the global economic landscape—AI, electrification, reindustrialization, and currency diversification—are all significantly benefiting emerging markets. It is the combined effect of these factors that explains why, despite high oil prices, emerging market assets are in one of the most favorable environments since the early 2000s.

(The author is Weber, Chief Economist at Pictet Asset Management, Switzerland) Source: [Lianhe Zaobao] (https://www.zaobao.com/finance/world/story20260621-9222188)