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ECB tightening to further curb emerging-market capital inflows, S&P says

S&P Global Ratings expects that foreign capital flows into emerging markets will remain under pressure over the next two years with the European Central Bank poised to join the U.S. Federal Reserve in tightening monetary policy.

The ECB reconfirmed in September its plan to taper its net asset purchasing program starting this month, and it continued to advise that rate hikes will not occur until after the summer of 2019.

S&P expects the central bank to end its asset purchases in December and start raising rates in the third quarter of 2019. The rating agency expects two rate hikes each in 2020 and 2021.

"This would increase returns on euro assets and make riskier emerging-market assets relatively less attractive," S&P Global Ratings analysts wrote in a new report.

Advanced European economies outside the eurozone, where the ECB operates, are also projected to tighten monetary policy over the next 12 months following the ECB and in response to domestic economic conditions, according to S&P.

The rating agency said emerging economies in Europe are more exposed to the risk of the ECB tightening since they are more dependent on European funding compared with emerging-market economies in other regions.

Citing estimates by the Institute of International Finance, S&P said foreign capital flows to emerging markets excluding China slowed in the second and third quarters this year, with nonresident portfolio investors pulling $25 billion out of equities over the period.

"The global environment for emerging-market economies has become more challenging in recent months, with rising U.S. interest rates, a strong U.S. dollar, and global trade tensions weighing on investor sentiment," S&P said.

The Fed raised its benchmark interest rate by 25 basis points at its September meeting and signaled a stronger consensus among policymakers for another increase this year. The Fed also removed language describing its policy stance as "accommodative."

S&P also expects another Fed rate hike this year and three more in 2019.

This S&P Global Market Intelligence news article may contain information about credit ratings issued by S&P Global Ratings, a separately managed division of S&P Global. Descriptions in this news article were not prepared by S&P Global Ratings. The original S&P Global Ratings documents referred to in this news brief can be found here.