ING-Financial Markets Research

FINANCIAL MARKETS RESEARCH
January 2012
Global Outlook
Shaking off the Euro 'flu
Contents
DM rates/debt strategy EM rates/debt strategy FX strategy US Eurozone overview UK Asia overview
Japan China India Korea
EMEA overview
Poland Russia Turkey
Latam overview
Brazil Mexico
The global economy is likely to show more symptoms of Euro flu in the next few
months. The Eurozones appetite for imports is waning, and its banks are under pressure to shrink their foreign exposures.
The Eurozones European neighbours are especially exposed to Euro flu, but
Asias exporters are also likely to feel the effects. However, Asia and Latin America are certainly better placed to cope, because they have more scope for countercyclical policy responses. Ripples from last years Arab Spring may also play a role, as a number of emerging markets, not the least China and Russia, face political transitions this year that will place a premium on sustaining economic growth.
For the time being, our financial market strategy remains defensive towards the
euro and Eurozone peripheral and high-beta emerging market debt. In the face of a renewed surge in market and political stress, Eurozone policymakers may be forced to take more aggressive action to get on top of the regions sovereign debt crisis. This may aid a gradual acceleration in global economic activity and a tentative recovery in financial market risk appetite from the middle of this year.
SEE THE DISCLOSURES APPENDIX FOR IMPORTANT DISCLOSURES AND ANALYST CERTIFICATION
Global Economics & Strategy Team
research.ing.com
Global Outlook
January 2012
Contents
Shaking off Euro flu 2 DM Debt/Rates Strategy divergence threat.....................................................................4 EM Debt/Rates Strategy cautious optimism ....................................................................6 Foreign Exchange all down to the Eurozone ...............................................................8 US better than the Eurozone.........................................................................................10 Eurozone Hanging in the balance .................................................................................12 Eurozone ......................................................................................................................14 UK ....................................................................................................................................16 Asia Easier Financial Policies in 2012...........................................................................17 Japan ............................................................................................................................19 China ............................................................................................................................20 India ..............................................................................................................................21 Korea ............................................................................................................................22 EMEA Eurozone calls the tune......................................................................................23 Poland...........................................................................................................................25 Russia...........................................................................................................................26 Turkey...........................................................................................................................27 Latin America Easing away ...........................................................................................28 Brazil.............................................................................................................................30 Mexico ..........................................................................................................................31 ING economic forecasts ...................................................................................................32 Global strategy summary .................................................................................................41 Research analyst contacts ...............................................................................................42 Disclosures Appendix 43
Cover photograph courtesy of Istock Publication date 11 January 2012
Global Outlook
January 2012
Shaking off Euro flu

So far the rest of the world has held up relatively well but worse may come unless the Eurozone acts promptly Can the global economy shake off the Euro flu? So far the answer has been yes. Emerging economies, if not their financial markets, have held up relatively well. Even the US, with its own dysfunctional political process, has recently been outperforming Europe. But the seeming inability of Eurozone policy-makers to get on top of the regions sovereign debt crisis is threatening to exact a toll on economic growth well beyond its peripheral economies. Some further progress was made at the EU Summit late last year, but we suspect that further setbacks in the financial markets in the coming weeks and months may be needed to force more decisive policy responses. So why is the Eurozone underperforming? In part, it reflects more restrictive economic policy settings than elsewhere. On the monetary front, the European Central Bank (ECB) is reluctant to adopt the full-on approach of the Federal Reserve and Bank of England (BOE) towards quantitative easing. Accordingly, the latter has made much more aggressive purchases of assets, including government bonds, and the US and UK economies have benefited from depreciation in their currencies. Meanwhile, the Eurozones emphasis on fiscal austerity points to another, related explanation for the regions underperformance. The failure to agree on the appropriate remedy for its sovereign debt crisis reflects fundamental disagreements over its causes. The resulting disunity and delay have had a corrosive effect on confidence. In the end, the Germanic view that the essence of the crisis is fiscal ill-discipline in the peripheral economies has prevailed. This is at odds with the alternative view that the origins of the crisis stemmed less from excessive government borrowing than from excessive private borrowing, most graphically illustrated by the property booms in Spain and Ireland. The crisis began less as a crisis of fiscal solvency than one of bank solvency. Yet again, the policy approach is pro-cyclical: the regulators emphasis on forcing the banks to rapidly recapitalise is limiting their ability to lend, thereby squeezing the economic recovery. In effect, the attempted remedy for the Euro flu has been to starve the patient. However, the Eurozones restrictive policy bias is as much about politics as economics: Germany and the core country voters are loathe to bankroll the periphery. Yet, as we have argued before, the paradox of Merkelism is that the core countries attempts to limit their exposure have served to increase it1. The grudging acceptance of the need to scale up the support funds for the periphery and the cautious step-by-step approach to fiscal integration designed to put the euro on a surer footing has so far served to undermine it. Hopes for a Grand Bargain are on hold In the near term, the financial markets are looking to the ECB to deliver more palliative care to contain the Euro flu. Hopes for a Grand Bargain at the December EU Summit involving the much more aggressive ECB purchases of government debt in return for firm agreement on German-style fiscal rules were not realised. The markets had to draw comfort from the ECBs willingness to extend the maturity of its lending to the banks out to three years. However, we expect the ECBs hand to be forced soon. The challenging refinancing schedule for Eurozone government debt in the next few weeks is likely to coincide with more evidence of weakness in the real economy. Moreover, with President Sarkozy in grave danger of losing the upcoming election in France in April/May, the pressure to find more growth-friendly remedies for Euro flu is bound to intensify.
The Eurozone is underperforming partly because of relatively restrictive fiscal and monetary policy settings
After damaging disunity and delay, the Germanic prescription of fiscal austerity has prevailed
Yet the origins of the crisis are more about private than government borrowing Rapid bank recapitalisation is a pro-cyclical, starve the patient, remedy The paradox of Merkelism is that attempts to limit the core countries exposure have served to increase it
Sarkozys weakness means pressure to find more growth-friendly remedies is bound to intensify
See EMU Break-up: Pay Now, Pay Later 1 December 2011, pp 4-6.
Global Outlook
January 2012
Fig 1
Index 150 140 130 120 110 100 90 08
GDP profile of BRICs, US, Eurozone, Poland

1Q08=100 China
Fig 2
GDP profile of European countries, Japan

Forecasts Germany Japan UK 105
Forecasts 150 140 130 120 110 100 90
Index 1Q08=100 105
India Brazil Poland US Russia Eurozone
100
Hungary Italy
100
95
95
90 08 09 10 11 12 13
90
09
10
11
12
13
Source: Ecowin, ING
Source: Ecowin, ING
Signs that inflation is waning will give the ECB more leeway to ease
Thankfully, the signs are that inflation, boosted last year by higher oil and energy prices, is waning. The ECB, which has been less tolerant of inflation than the Fed and the BOE, will therefore have more leeway to ease policy this year. In addition to cutting short-term interest rates, we expect it to step up its bond buying (generalised across the whole Eurozone to limit rewarding fiscal sinners) and perhaps signal that it is capping yields. This could be the catalyst for a further downleg in the euros exchange rate, which would give an additional boost to Eurozone competitiveness and growth. The near-term distress that we expect in the Eurozone economy and markets will undoubtedly have knock-on effects elsewhere, notably through trade and financial linkages. The Eurozones European neighbours are especially exposed, but Asias exporters are also likely to feel the effects. However, Asia is certainly better placed to shrug off the Euro flu. Not only does it have more scope for countercyclical policy responses to cushion the blow, it is also benefiting from domestic and regional demand. While the decoupling of the emerging markets from the developed ones is more of a long-term process than an event, the vigour of the emerging markets rebound following the initial drop that followed the collapse of Lehman Brothers in 2008 suggests that they would once again be well-placed to outperform once the Eurozone gets past its problems. Ripples from last years Arab Spring may also play a role, as a number of emerging markets, not the least of which are China and Russia, face political transitions this year that are likely to place a premium on maintaining sustained economic growth to quell popular unrest. Latin America also appears set to benefit from Asias resilience. For the time being, it can also draw comfort from the fact that the US is outperforming Europe. However, we remain concerned that the US economy will fall short of consensus expectations over the next two years. A key reason for this is that fiscal policy is likely as much by accident as design to take a sharply restrictive turn, both before and after the elections at the end of the year. While this will probably not be enough to throw the US back into recession, it suggests that the recovery will continue to be sub-par. Nevertheless, our forecasts continue to call for a gradual acceleration in global economic activity from the middle of this year. The pace of this pickup will depend heavily on how quickly the Eurozone delivers on convincing action for its debt woes. Prompt action could unleash a more sustained wave of investment and job creation from currently cautious, yet cash-rich, corporates in the developed world. That said, there is no shortage of known unknown political and environmental shocks that could blow the recovery off course again. mark.cliffe@uk.ing.com
3
Trade and financial linkages may spread the Euro flu especially to the Eurozones neighbours
but Asia looks relatively resilient, with more scope for countercyclical policies
Latin America is also set to benefit from Asias resilience
although the US may be held back by fiscal tightening Absent political shocks, we expect a gradual acceleration in global activity from midyear
Global Outlook
January 2012
DM Debt/Rates Strategy divergence threat

Yield curves remain steep, anchored by rock bottom official rates We start 2012 with quite steep yield curves being propped up by the maintenance of historically low official rates. With front ends anchored, curves remain very directional, with bullish conditions tending to coincide with curve flattening and steepening with bearish episodes. Our forecasts are dominated by bullish flattening pressures in the next few months as the EMU debt crisis and recession risk dominate macro positives elsewhere. There will likely be tactical bearish steepening episodes along the way, reflecting heightened volatility and outlook uncertainty, but significantly higher yields are not in prospect for 2012. We see the 10yr US Treasury yield at 2% by end-2012 and the 10yr German yield at 2.2%. The forwards show the 10yr US yield at 2.2% and the 10yr German yield at 2.1%, suggesting a benign discount for the rates in the year ahead. Against that backdrop, conditions on the front end of curves remain complicated as core government bills and core short-term bond yields trade significantly through respective Libor rates. This is especially notable on the front end of the Eurozone curve, where, for example, the 2yr German yield is 0.20% versus a 3mth Euribor rate of 1.30%. Very low front end yields reflect safety flows into the likes of German paper, while the elevated Euribor rates reflect money market difficulties. Numerous basis anomalies persist on money markets despite recent help in terms of improved dollar swap lines and more recent ECB help including the 3yr LTRO liquidity windows. There is some mild evidence that fixings have eased lower, and our central view is that that process will continue in the coming months in a slow grind manner, provided the debt crisis does not re-escalate significantly. The following tables summarise our forecasts for the US, Germany (core Eurozone), Japan and the UK (Figure 3, Figure 4, Figure 5 and Figure 6, respectively). One striking feature is that, even by the end of 2013, the level of long-term rates should remain significantly below the long-term averages. For example, the average US 10yr yield is 5%, compared with an end-2013 call for 2.4% and the 10yr forward at 2.45%. The average Japanese 10yr rate during the past 20 years was 2.15%, which is more in sync with current US, German and UK conditions and baseline forwards than with a mean reversion towards normality. Deleveraging is the key theme at play here, a process that is required in order to ease credit rating downgrade risks. The low yield environment is more reflective of the dampening effect on growth and inflation than on credit deterioration.
Both our forecasts and the forwards paint a benign outlook for the level of rates
Anomalies persist on front ends with bills rates on the floor while Libor rates are elevated
The ECBs LTRO is helping, but its a slow grind process
Our forecasts show that US and German rates might remain closer to Japanesestyle conditions than normal ones
Fig 3
US Government yield forecasts

09 Jan 12 1Q12 0.25 0.6 0.4 0.9 1.8 2.9 2Q12 0.25 0.5 0.4 1.0 1.9 2.9 3Q12 0.25 0.4 0.5 1.1 2.0 3.0 4Q12 0.25 0.4 0.6 1.2 2.0 3.0 1Q13 0.25 0.4 0.7 1.3 2.1 3.0 2Q13 0.25 0.4 0.7 1.4 2.2 3.1 3Q13 0.25 0.4 0.8 1.5 2.3 3.1 4Q13 0.25 0.4 0.9 1.7 2.4 3.2
Fed Funds 3mth rate (Libor) 2yr 5yr 10yr 30yr

Source: Bloomberg, ING estimates
0.25 0.6 0.3 0.9 2.0 3.0
Fig 4
German Government yield forecasts

09 Jan 12 1Q12 0.75 1.3 0.3 0.8 1.8 2.4 2Q12 0.75 1.1 0.5 1.1 1.9 2.4 3Q12 0.75 0.9 1.0 1.3 2.0 2.5 4Q12 0.75 0.9 0.9 1.5 2.2 2.6 1Q13 0.75 0.9 1.1 1.6 2.3 2.6 2Q13 0.75 0.9 1.1 1.7 2.3 2.6 3Q13 0.75 0.9 1.2 1.8 2.5 2.7 4Q13 0.75 0.9 1.2 1.9 2.6 2.8
Refi Rate 3mth rate (Libor) 2yr 5yr 10yr 30yr

1.00 1.3 0.2 0.8 1.9 2.4
Global Outlook
January 2012
Fig 5 Japanese Government yield forecasts

09 Jan 12 O/n rate 3mth rate (Libor) 2yr 5yr 10yr 30yr
1Q12 0.05 0.2 0.2 0.5 1.3 2.0
2Q12 0.05 0.2 0.2 0.5 1.1 2.0
3Q12 0.05 0.2 0.2 0.5 1.1 2.0
4Q12 0.05 0.2 0.4 0.6 1.1 1.9
1Q13 0.05 0.2 0.2 0.6 1.2 2.0
2Q13 0.05 0.2 0.2 0.7 1.2 2.0
3Q13 0.05 0.2 0.2 0.7 1.3 2.1
4Q13 0.05 0.2 0.2 0.8 1.4 2.1
0.07 0.2 0.1 0.3 1.0 1.9
Fig 6
UK Government yield forecasts

09 Jan 12 1Q12 0.50 1.1 0.8 1.4 2.3 3.2 2Q12 0.50 0.9 0.8 1.4 2.4 3.3 3Q12 0.50 0.7 0.9 1.6 2.5 3.3 4Q12 0.50 0.7 0.9 1.7 2.7 3.4 1Q13 0.50 0.7 1.2 2.0 2.9 3.5 2Q13 0.50 0.8 1.4 2.2 3.1 3.6 3Q13 0.75 1.0 1.5 2.4 3.3 3.7 4Q13 1.00 0.9 1.6 2.5 3.3 3.7
Bank Rate 3mth rate (Libor) 2yr 5yr 10yr 30yr

0.5 1.1 0.4 1.0 2.0 3.1
Eurozone spreads have been under widening pressure in early 2012
Big redemption and coupon payments help for January but there is a dearth of such flows for February
Meanwhile, the Eurozone debt crisis continues to roll on without a clear resolution in sight. Early 2012 price action has been poor, with Austria in particular under pressure from its banking links with Hungary. Countries such as France and Belgium have also seen spreads widen by some 50bp. Also, the ECB has been back in the market buying bonds in its SMP program, especially Italian bonds, which are again trading above 7% and at a spread of over 500bp above German bonds. The big challenge in the coming weeks will be getting peripheral auctions into the market. The good news is that January is lubricated by considerable core redemption and coupon payments. Despite the poor start, we are constructive about events in the coming weeks and expect auctions and syndicated deals to get done. February could be far tougher, though, as there are few redemption and coupon flows.
Fig 7
Selected Eurozone Government 10yr yield spreads vs Germany (bp)

bp 4000 3500 3000 2500 2000 1500 1000 500 0
Dec 2007
Dec 2008
Dec 2009
Dec 2010
Dec 2011
Dec 2012
Dec 2013
Mar 2008
Jun 2008
Sep 2008
Mar 2009
Jun 2009
Sep 2009
Mar 2010
Jun 2010
Sep 2010
Mar 2011
Jun 2011
Sep 2011
Mar 2012
Jun 2012
Sep 2012
Mar 2013
Jun 2013
Sep 2013
Greece
Source: ING estimates
Ireland
Portugal
Spain
Italy
Belgium
Netherlands
Our forecasts point to a tough 1Q eventual convergence, but spreads remain quite wide
Our forecasts point to spread pressure persisting through 1Q as the market continues to struggle with a crisis of confidence in EMU and with the peripheral bond product in general. That said, we ultimately think 2012 presents the opportunity for a turning towards structural convergence, although we think spreads are still liable to remain wide through the forecast horizon as risks remain elevated. padhraic.garvey@ingbank.com
5
Mar 2014
Latest
Global Outlook
January 2012
EM Debt/Rates Strategy cautious optimism

Credit trends are deteriorating We have noted a gradual deterioration of the EM credit ratings trend, with Asia and EMEA seeing more downgrades than upgrades in 4Q11 versus 3Q11 and with Latam seeing only six net upgrades in 4Q11 versus 25 in 3Q11 and 63 in 2Q11. Most of the credit erosion has been concentrated in the EM European, CIS and African banking sectors. Meanwhile, market uncertainty has resulted in the underlying amount of debt trading above 1,000bp rising from US$26bn in March to over US$70bn at the end of 2011. Admittedly, this is lower than the US$119bn reached in early October. Nevertheless, prohibitive borrowing costs pose a threat to the refunding ability of EM credits. Meanwhile, the crisis in Europe has taken a toll on credit risks in the region, with Moodys stating that default rates jumped from 0.86% in September to 1.23% in October. As the bank sector remains under pressure and funding is increasingly difficult for borrowers, there is an increasing risk that the impact of rising Eurozone defaults will contaminate sentiment for corporate debt globally. We forecast the EM default rate to jump quickly from the December 2011 low rate of 0.66% as soon as January, when BTAS is likely to default on its roughly US$3bn of external debt and possibly also on its US$1.5bn worth of local debt. and compounded by the regulatory threat Increasingly, debt investor concerns have turned to the threats posed to market liquidity by new regulations (Dodd-Frank and Basel2.5/3). Indeed, the high levels of distress may be argued to be more tied to the low levels of Street liquidity than credit fundamentals. Structural changes among broker dealers are resulting in a bifurcated market. As capital penalties on debt particularly for speculative grade bonds increase, the willingness of dealers to maintain HY bond inventory is declining, which is driving up market bid/ask spreads in the HY sector. This impact of regulatory reform on the banking industry is presenting speculative grade corporates with permanently increased borrowing costs. As these corporates are also already highly levered, the increased costs may threaten higher default rate trends. But there is reason for cautious optimism Still, examining all the bonds investors currently price to default, we still believe that the EM default rate will peak at less than 2% in October 2012. This means that the level of distress, which is similar to the peak hit in the 2008/09 crisis, is likely unwarranted on fundamental credit-risk grounds. EM borrowers are generally in much better shape than they were in 2007/08, with higher cash positions and lower debt levels, for the most part. That said, we nevertheless maintain our cautious stance on the strategy side, with country recommendations intact. These are long low-beta countries (Chile, El Salv, Mex, Peru, China, Korea, Malaysia) and short or neutral higher-beta countries (Croatia, Hungary Lebanon, Turkey, Ukraine, Philippines, Belize, Argentina). Local debt and rates The local flavour of the decade seems to be losing sweetness in the EM investment world. Portfolio capital flows for 2H11 have revealed an increasing reallocation away from local currency debt towards hard currency bond vehicles as investors reassess the implications of US and European currency dynamics vis--vis those of EM. Barring the most extreme outcome for the European crisis, the prospects for 2012 are likely to be less volatile than were those for 2011. Last year, overheated inflation fears led to sharp bear steepening of local rates in 1H11, only to be followed by bull-flattening in 2H11 (generally) as the implications of the Eurozone crisis took hold. The potential risk in 1H12 is that currency intervention-related reserve depletion will continue, resulting in the need to prop up short-term rates as a defensive measure.
especially for low-beta countries (Chile, El Salv, Mex, Peru, China, Korea, Malaysia)
2011 left local market investors with a sour taste
but 2012 may be less volatile
Reserve depletion may force rates higher in countries like Turkey and Argentina
Global Outlook
January 2012
Turkey and Argentina are among EMs most exposed to this threat at the moment. This dynamic could quickly turn the prevalent stable or rate-cut pricing in the market towards positioning for rate hikes. The Euro flu still threatens some EMEA markets If the negative investor sentiment surrounding the Eurozone crisis does not abate over 2012, we cannot discount the threat of defensive rate risks for countries such as Poland, Hungary, Romania and S Africa. That said, the recent decline of Hungarian reserves bears watching. In terms of strategic positioning, capital outflow pressures typically result in bearish curve steepening effects for local rates as foreign investors unload long-positions. Investors would benefit from paying 10Y IRS and receiving 2Y IRS, if such risks were to mount. The second phase that is typified by bear-flattening as policymakers take action warrants reversing the 2Y arm of this trade. But disinflation trend points to lower rates for most, at least in 1H12 and positive action on the Euro crisis could trigger big rallies especially for Poland, Hungary and Romania Local bond universe might continue to outpace that of hard currency bond markets Given pervasive deflation pressures at the moment, the threat of another EM inflation shock strong enough to warrant a reversal of a generally easing environment for local rates is unlikely to manifest before 2H12, if not 2013, in our view. Perhaps the greater risk at the moment is that European fears could begin to subside as the cumulative actions taken by the IMF, politicians and the ECB begin to affect investors nerves and work to ease bank funding pressures. This could result in many investors moving to cover negative trades and would likely favour overweights among Poland, Hungary and Romania the most, with Turkey and Russia likely to be the second-best performers, followed by Brazil, Thailand and India. Despite the sharp portfolio flight out of EM local markets, the underlying currency liability trend which has seen sovereigns favour matching liabilities with revenues in the domestic sphere is unlikely to change soon, in our view. Consequently, we think that the pace of growth for the local bond universe will continue to outpace that of hard currency bond markets in 2012 and will again attract arbitrage investors back into the local currency space. On the rates front, global FX volatility may stem further policy easing in some cases. The Czech Republic stands out on this front, despite the fact that rates have historically been closely tied with the ECB. The IRS curve is consequently very flat. The peculiar condition makes adopting curve steepeners a dangerous prospect in early 2012, unless CZK volatility drops considerably. For other countries, European and China growth uncertainties seem set to encourage added monetary stimulus. Countries in Asia and Latin America stand out here. Bullish steepening trades may be expected to benefit investors positioned to receive 2Y IRS among most local curves, including in Chile, Brazil, Singapore, Hong Kong, India and Indonesia. Mexico and South Africa are somewhat special cases in EM. These have favoured the improved terms of trade conditions within volatility tolerances. Mexico is expected to remain on hold through 2012, with the possibility of easing greater than that of tightening. S Africa is not expected to tighten rates until 2H12. S Korea is also a special case, as inflation coupled with KRW volatility have limited the ability of the central bank to mirror policy moves seen across the rest of the region, and this has resulted in a flat IRS curve. Deflationary forces should increasingly favour steepeners as 1Q12 progresses, in our view, favouring receiving 2Y and paying 10Y rates. david.spegel@americas.ing.com
Global FX volatility may stem further policy easing in some countries, such as the Czech Republic
European and China growth uncertainties may prompt rate cuts by some
Mexico, South Africa and South Korea are somewhat special cases
Global Outlook
January 2012
Foreign Exchange all down to the Eurozone

The path of currency markets in 2012 will largely be determined by the outcome of the Eurozone debt crisis and the extent to which the credit crunch in Europe weighs on global growth. Clearly, the first half of the year will be problematic. During this period, we look for the EUR to fall further, and we think the USD should enjoy further strength against commodity and EM currencies as the world converges on weak US growth. We look for EUR/USD to trade down to 1.20. Weak or negative economic growth rates in the first half of 2012 are likely to maintain high levels of volatility The structurally higher levels of traded volatility seen since the Global Financial Crisis have tended to encourage a much greater cross correlation of currency pairs (and asset markets in general). The phrases risk on or risk off have become common parlance in the market. Weak or negative economic growth rates in the first half of 2012 are likely to maintain high levels of volatility and therefore cross-correlation. EUR/USD should therefore continue to drive global FX trends.
Fig 9 Will net Eurozone portfolio inflows start to slow?
400 300 60000 10000 -40000 -90000 -140000 Oct-05 Oct-07 Oct-09 Oct-11 Net total Eurozone portfolio inflows (EURbn 12m sum) Net speculative EUR longs (IMM contracts, RHS) EUR/USD EUR Trade Weighted Index (RHS) EUR bn 200 100 0 -100 -200 -300 Jan-99 Jan-01 Jan-03 Jan-05 Jan-07 Jan-09 Jan-11 115 110 105 100 95 90 85 80
Fig 8
1.7 1.6 1.5 1.4 1.3 1.2 1.1
Speculators are now running record EUR shorts
110000
1 Oct-03
Source: Bloomberg, ING
Source: ECB, ING
Short EUR positions now stand at a record
As 2012 begins, the speculative market has already taken a very negative view of the EUR. Speculative short EUR positions doubled after the possibility of a Greek exit from the Eurozone was formally acknowledged in early November. And these short positions now stand at a record. This tells us that if the EUR is to fall further from here, it will require a different community of sellers. Among that group we would place corporates, institutional investors and FX reserve managers, all of whom we expect to be reducing EUR exposure through the first half of this year. So far, there has not been a wholesale exodus from Eurozone asset markets. Certainly there has not been a repeat of the large net selling that took place in 2000 at the height of the eurosclerosis period, when the Eurozone was saddled with structurally high levels of unemployment. However, a breakdown of the ECB data shows that portfolio flows only held up in late 2011 as Eurozone resident repatriation matched the net selling of Eurozone assets by foreigners. Yet, as we see it, repatriation and de-leveraging are never going to be long-term supports for currencies. Irrespective of whether policymakers (including the ECB) reach an agreement to stabilise the government debt crisis or not, we believe the EUR will fall. The Euro area credit crunch is a reality, and the Eurozone requires softer monetary conditions, including a weaker EUR. In all, we see EUR/USD trending down to 1.20 and only accelerating to parity should a peripheral country be forced to exit the Euro area.
So far, there has not been a wholesale exodus from Eurozone asset markets
Re-patriation and deleveraging are never going to be a long term support for the EUR
We see EUR/USD trending down to 1.20 this year
Global Outlook
January 2012
We think the USD revival that started last autumn should extend for another 36 months. It is not as though the USD is benefiting from marginally better activity data; US two-year treasury yields remain locked near all-time lows. Instead, it is the convergence of key trading partners on the weak US growth story. This is actually seeing yield differentials move in favour of the USD. And once again, the safety and liquidity of the dollar and dollar debt markets remain attractive in an environment in which the future of its only reserve currency rival, the EUR, is uncertain.
Fig 10
95
USD Index versus weighted 2-year yield spread

USD Index US-Wgtd 2Y spread (rhs) (bp) 250 200
Fig 11
30 25 20
Deviation from BIS REER 10-year average
Percent of REER index above/below 10-year average
90
150 100 50
15 10 5 0
85
80
0 -50 -100
-5 -10 -15 Mexico UK S Korea US Hungary S Africa Eurozone Turkey Sweden India Malaysia Norway NZ Thailand Japan Canada Indonesia Singapore Switzerland China Russia Australia Brazil
75
70 05 06 07 08 09 10 11 12
-150
Source: EcoWin, ING
Source: BIS Real Effective Exchange Rates (REER), ING
A risk to the dollar later in the year is the November Presidential election. A stronger dollar will not help the US economy fight for exports at a time when global demand is slowing. And there is no knowing whether Congress will seek to move ahead with a bill to impose trade tariffs on China commensurate with perceived Renminbi undervaluation. Gone is the imperative to tolerate faster CNY appreciation as a way to insulate against inflation On that subject, we expect the Chinese authorities to make the Renminbi only about 3% firmer against the dollar in 2012. Gone is the imperative to tolerate faster CNY appreciation as a way to insulate against inflation. Elsewhere amongst the majors, we expect the JPY to stay strong but to occasionally suffer significant bouts of intervention. In October 2011, Japanese authorities undertook a record JPY9tr in selling operations. With USD/JPY near 75 and EUR/JPY under 100, the risk of intervention is high and will probably be delivered with easier BoJ policy as a means to achieve a co-ordinated easing of monetary conditions rather than a mercantilist measure to support Japanese exporters. Elsewhere, GBP remains cheap on a variety of measures and should, we believe, outperform the EUR throughout 2012. Our initial target is 0.80 for EUR/GBP, and we doubt that the SNB will raise the controversial 1.20 floor for EUR/CHF. In the emerging world, we presume EMEA currencies will be relative underperformers in the first half of 2012. Of particular concern as we start the year is the Hungarian Forint; the government looks effectively shut out of debt markets, and we think further erosion of the central banks independence questions a new credit line from the IMF/EU. Even the mighty BRL may underperform the dollar through the first half of the year A difficult risk environment (unless we see another round of QE early in the year from the Fed) suggests that Asia ex Japan currencies are unlikely to repeat some of the large gains seen in 2009 and 2010. And slower growth and easier monetary policy in Brazil suggests that even the mighty Real may underperform the dollar through the first half of the year. christopher.turner@uk.ing.com
9
Global Outlook
January 2012
US better than the Eurozone

The favourable comparison of the US with Europe is unlikely to persist There is a perception that the US is shaking off the Euro flu and that its lesscontractionary fiscal policies are delivering less feeble growth. But we would be very cautious before endorsing this view. Put simply, the US is not immune to Eurozone weakness; the US will shortly have to bite the bullet on fiscal policy itself; and politics is becoming messy President Obama is by no means assured a second term in office, and most political scenarios point to more fiscal contraction. It may not be doing so yet, but the Eurozone crisis will surely weigh on the US, and there may already be some early signs that this is starting (see also our latest US Quarterly, When Europe sneezes...) One of the most important transmission channels is the banking sector. US banks exposure to the Eurozone is not straightforward. US banks like to quote a net exposure to peripheral Europe of about US$50bn about 9% of their common tier 1 capital. However, exposure to sovereign debt in peripheral Europe is the tip of the iceberg. And US banks exposure to the European banking sector is a much bigger source of risk.
Fig 13 Presidential polls Obama vs generic Republican
The US economy is strongly connected to Europe
through banks and trade
Fig 12
US Banks exposure to Europe
EURtr 2 1.8 1.6 1.4 1.2 1 0.8 0.6 0.4 0.2 0 Banking sector Public sector GIIPS Other UK total
50% 49% 48% 47% 46% 45% 44% 43% 42% 41% 40% Other Eurozone May-12 Jun-12 Jul-12 Aug-12 Sep-12 Oct-12 Nov-12 Dec-12 Republican Obama
Source: Federal Reserve, ING
Source: Pollingunit.com
Banking exposure is much more than the US$50bn that US banks routinely suggest
When such considerations are taken into account, gross exposures on an ultimate risk basis soar to a little under US$2tr. But potentially, the true gross exposure on such a basis is even larger when the US$2tr or so of CDS written on Eurozone government debt is taken into consideration. Netting may turn out to be a highly imperfect hedge for this CDS exposure in the event of disaster. But even under our less extreme base scenario of ongoing slow, but ponderous, progress on the Eurozone debt crisis, we can already see the beginnings of mistrust brewing within the US banking industry, manifested by higher interbank rates. This has many of the hallmarks of the subprime crisis. US senior loan officers bank lending attitudes are already beginning to move towards tightening territory as liquidity tightens. With anxiety levels running high, market sentiment is likely to weigh negatively on US equities and other risk assets, possibly even housing in the year ahead. Given this backdrop, US Treasury yields are likely to remain extremely low. The Federal Reserve is in a wait-and-see mode currently, but given a more obvious drag on the US stemming from Europe, a new bout of QE (QE3) remains a real possibility, we believe though perhaps not until 2Q12. A temporary relief rally in equities should follow. We think the Fed funds rate is unlikely to change until 2014 at the earliest.
Even US Banks are not lending to one another
Risk assets are going to be under pressure
10
Global Outlook
January 2012
European weakness will also weigh on US gross exports growth
In addition to bank and financial channels, international trade will also likely weigh on US growth prospects in coming months. The trade weighted dollar has benefited from the Eurozones weakness, rising by more than 10% from its May 2011 low. This is likely to have only a modest impact on the net trade performance of the US this year, but more extreme scenarios of a Eurozone crisis, involving a partial or total break-up, will, according to our FX strategists, result in a much more dramatic appreciation of the US dollar. A new bout of QE could provide an offset to dollar strength, depending on the ECBs stance at the time. But politics is already weighing on the Feds ability to provide more monetary assistance, with some Republican aspirants to the Presidency openly hostile to more QE.
Fig 15 Fiscal drag in US set to exceed that in the Eurozone
Fig 14
Net trade boost to US growth under crisis conditions
QoQ % (saar) 6 4 2 0 -2 -4 -6 -8 -10 2008 q1
GDP % post-Lehman 5 4 3 2 1 0 -1 -2 2008 q3 2009 q1 2009 q3 2010 q1 2010 q3 -3 -4 GDP Net exports (cont to GDP) 2009 2010 2011 2012 2013 US Europe
Source: ING
Source: ING
with little offset from weaker import growth
In the immediate aftermath of the Lehman crisis, one of the factors that helped the US to avoid a bigger contraction was sharply falling imports as domestic demand collapsed. This offset some of the decline in consumer spending and business investment. We do not anticipate such a helpful import decline in the current environment. Weaker domestic demand and softer import growth are likely to be second order compared with 2008. Finally, in comparing the US with the Eurozone, we should not forget that the currently neutral budget stance in the US does not mark a completely different approach to fiscal policy in the US, simply a later adjustment from an expansionary to a contractionary policy stance. Extension of the 1-year payroll tax cut and unemployment insurance in the US are worth roughly US$200bn in 2012. But even if agreement here can be reached and this is by no means certain these programmes will be paid for at least in part with spending cuts elsewhere (likewise the Bush-era tax cuts at the end of 2013). Successful extensions of these policies will not change what we believe will be a switch to a much more fiscally negative environment in the US in 2012 and 2013 compared to 2011. The US fiscal distinction with the Eurozone is about to end. In summary, the external headwinds for the US economy are growing; the policy arsenal is either bare, ineffective, or downright negative; and credit conditions are moving from mildly supportive to mildly, or perhaps even severely, negative. Falling headline inflation should provide some offset by boosting real household incomes and spending, but may be offset by the political pressure to reduce the budget deficit an imperative that may increase in the run-up to Novembers Presidential election. In any case, we believe the current highly favourable comparison of the US economy to that of the Eurozone should fade considerably as the year progresses. rob.carnell@uk.ing.com
11
and a further drag from the USD
In short, the US will not look much better than the Eurozone for long
Global Outlook
January 2012
Eurozone Hanging in the balance

EU17 economic indicators were mixed in 4Q... Eurozone economic indicators were not unequivocally bad in the fourth quarter. As such, the German IFO-indicator managed to stage a second consecutive, albeit small, increase in December, after a steep fall between June and October. But Germany has probably been the exception, as the country is still enjoying the combination of low interest rates and a weak euro, without suffering from tough austerity measures. That said, the growth deterioration elsewhere is unlikely to leave the German economy unscathed, with new orders having dropped for the sixth consecutive month in December. The composite PMI for the whole of the Eurozone ended the year marginally stronger, but remained at 48.3 in contraction territory, making a negative GDP figure for 4Q a certainty. The Eurocoin indicator, a gauge for the underlying pace of growth of the Eurozone economy, held steady at -0.2% in December. With both new orders and employment heading south, little improvement was expected for the first quarter of 2012. By the second quarter, we think most of the inventory adjustment should be completed. Lower inflation might also support consumption in the course of 2012, though austerity is expected to remain a major drag. We therefore expect some improvement from the second half of 2012 onwards, provided that sensible measures are taken to contain the debt crisis. On that front, things continue to look shaky. The December summit brought some progress regarding the long-run sustainability of public finances, with member states promising to enshrine deficit and debt containment into their constitution. But all in all, the summit proved to be a disappointment, as there was little news regarding the means to fight the current crisis. As such, the plan to leverage the EFSF up to 1,000bn was maintained, although it had been decried as not being credible by market participants from the very start. It was also decided to accelerate the implementation of the European Stability Mechanism to July 2012. In addition, the national banks of the member states are to provide the IMF with additional resources of up to 200bn to enable it to provide further assistance to countries in trouble. However, all of this is unlikely to impress markets when tensions mount again, in our view.
Fig 17
%YoY 5 4 1500 3 2 1 0 -1 06 07 08 09 10 11 12 1400 1300 1200 1100 Bank holdings of EU17 government bonds 1000 Jan07 1000 Jul- Jan07 08 Jul- Jan08 09 Jul- Jan09 10 Jul- Jan10 11 Jul11 1500 1400 1300 1200 1100 1700 1600
but a recession seems to be unavoidable
with an upturn unlikely to set in before 2H12
With the emphasis on more austerity...
the last European summit has not been perceived as a success
Fig 16
%YoY 120 100 80 60 40 20 0 -20 -40 -60 -80
EU17 unemployment is rising

chg in oil price chg oil price, with stable oil price in 2012 EU17 inflation (rhs)
EU17 banks have been reducing bond holdings

1700 1600
Source: Datastream
Source: Datastream
Europe risks dragging itself into a debt spiral... with calls for a growth strategy becoming stronger
With the emphasis of the crisis resolution schemes still very much on austerity, Europe risks dragging itself into a debt spiral, with austerity worsening the growth picture, thereby jeopardising the fiscal consolidation. The latest figures dont bode well in that regard, with the Spanish budget deficit likely to have hit 8% of GDP in 2011, while Greece is hardly seeing any improvement at all on the fiscal front (and with the PSI still in the doldrums). The idea from EU president Herman Van Rompuy to hold a special growth summit on 30 January will hardly change the outlook, as it will likely focus on structural measures that
12
Global Outlook
January 2012
only have a long-term impact. That will sit uncomfortably in countries like France, where presidential elections will take place this year. President Sarkozy, who is lagging in the polls, might therefore try to press for a more growth-oriented policy mix in the Eurozone. Some wiggle room in the appreciation of fiscal efforts looks likely... We suspect that, on the back of renewed unrest in European bond markets, some wiggle room will be allowed in the appreciation of short-term consolidation plans, while governments maintain a strong commitment to longer-term fiscal orthodoxy. At the same time, stronger involvement from the ECB is still a possibility. Outgoing board member Bini-Smaghi suggested the possibility of setting caps on bond yields or spreads. Quantitative easing might also take the form of awarding a banking licence to the ESM, which would allow the fund to use ECB liquidity to intervene in the bond markets. Benot Coeur, who will take over the responsibility for the ECBs market operations from March, already stated that the ECB may need to step up its bond-buying if the Eurozone crisis hampers the correct functioning of the monetary policy transmission. This is clearly the case now, as shown in the diverging paths of short-term credit rates in the different member states. But even if a compromise is found between the governments and the ECB, leading to an improvement in sentiment that could bring back growth in the second half of this year, GDP for all of 2012 is likely to contract by 0.4%. With austerity likely to remain the leitmotiv in 2013 as well, we expect only 1.3% growth next year, with the risks still clearly to the downside. Inflation fell to 2.8% in December from 3.0% in November. Barring a sudden increase in oil prices, the energy component is likely to chop off close to 1% from headline inflation in 2012 on the back of a more supportive YoY comparison. In that regard, inflation should not be a worry for the ECB. While the ECB is still not willing to act as the lender of last resort for member states with challenging public finances, it is indeed trying to support the sovereigns by inciting the banks to set up a carry trade using long-term funding from the ECB. The banks snapped up 489bn in the ECBs three-year liquidity offer, but it is far from sure whether this money will serve to increase their holdings of peripheral debt. The take-up in Italy of the three-year liquidity has been substantial, but this might do little more than make up for the deposits that have been fleeing the country over the last few months. There is also some bond refinancing to be done in the banking sector, and long-term liquidity from the ECB might prove to be a welcome substitute. With overnight deposits at the ECB having topped 450bn, it doesnt look as if the European banking system is investing heavily in government bonds (throughout 2011, it instead cut its holdings). That said, we should not underplay the ECBs actions, as it is providing the banks with a liquidity lifeline, which could make the need to restrain credit less pressing. But it still looks as if the deleveraging process is continuing. Loans to the private sector grew by only 1.9% YoY in November, after growing by 3.0% in October. Continuing generous liquidity and a further rate cut thus look likely, in our view. The bond market continues to vacillate between the risk-on and risk-off mode. As we expect concern regarding the solidity of the Eurozone to resurface in the coming months, we think German bonds are likely to remain well supported. Only from the second half of the year is some increase in the 10yr German bond yield expected, with peripheral spreads likely to tighten somewhat from that time onwards.
peter.vandenhoute@ing.be
while the ECB might be forced to step up its game
But even then growth will be negative in 2012...
...while inflation will fall below 2%
The ECB is trying to support the bond markets through the banks...
which might not work
although the banks need the liquidity lifeline
Increased risk aversion should initially continue to support the German bond market
13
Global Outlook
January 2012
Eurozone
German consumers remain confident
6.5 6.0 5.5 5.0 4.5 4.0 3.5 3.0 Jan10 Apr10 Jul10 Oct10 Jan11 Apr11 Jul11 Oct11 Jan12 Consumer confidence Car registrations yoy % (rhs) 30 20 10 0 -10 -20 -30 -40
Germany: Resilient to downward forces The German economy remains resilient in the wake of the ongoing turbulence in the Eurozone. Employers are remarkably upbeat, with a huge order backlog still underpinning current activity. With the unemployment level having fallen to the lowest level since the reunification, the German consumer is not cutting back on spending. A continuing increase in job openings should keep the labour market supported. Meanwhile, German industry is benefiting from a weaker euro, while households will see a small tax cut this year. To be sure, a slowdown in international trade is bound to have an impact on German growth, with perhaps a quarter of negative GDP growth. But all in all, we believe that the German economy will avert recession in 2012, even though average growth may be below 1%.
peter.vandenhoute@ing.be
Source: Datastream
French confidence indicators decrease

95 93 91 89 87 85 83 81 79 77 75 Oct-08 110 105 100 95 90 85 80 75 70 65 60 Oct-11
France: January opens the political campaigns Plunging new orders signal negative growth in 1Q, after a likely GDP contraction in 4Q. Rapidly rising unemployment and implementation of austerity plans threaten to depress consumption, until now the main growth engine. Negative growth this year is likely to lead to the loss of the AAA rating. Meanwhile, in the presidential race, incumbent President Sarkozy is lagging his socialist opponent Franois Hollande (who avoids committing himself to an explicit election platform). At the same time, President Sarkozy is trying to gain momentum by proposing to increase VAT to cut labour costs (unlikely to be popular with households). Ultra-right and antiEuropean Marine Le Pen remains an outsider who could influence the debate in the run-up to the end of April elections.
manuel.maleki@ing.be
Consumer Confidence (left scale) Business Sentiment Apr-09 Oct-09 Apr-10 Oct-10 Apr-11
Source: Datastream
State sector borrowing requirement on target in 2011

20 0 -20 -40 -60 -80 -100 Jan Feb Mar Apr May Jun Source: Ministero dellEconomia 2009 2010 2011 2008 bn bn 20 0 -20 -40 -60 -80 -100 Jul Aug Sep Oct Nov Dec
Italy: Waiting for phase 2 Having reiterated its commitment to fiscal discipline through a third fiscal package late in December, the Monti government will now try to shift gears and tackle the lingering low-growth issue. The strategy will hinge on liberalisation and the acceleration of public works projects already financed with national and EU funds. Concurrently, the Monti government is working on a reform of the labour market, aiming to increase the activity rate. With pro-growth measures mainly structural in nature due to the lack of fresh funds, their impact will show up with a delay, likely beyond 2012. The revenue-biased cumulated fiscal packages instead will be weighing on domestic demand in 1H12, moving the economy into recession. EU meetings will set the pace of Italian government action.
paolo.pizzoli@ing.it
Spanish 10Y government bond yield

500 450 400 350 300 250 200 150 Jan-11 Apr-11 Jul-11 Oct-11 bps (*) bps 500 450 400 350 300 250 200 150 Jan-12
Spain: The pain is about to get worse Spain is on the brink of a new recession. Fiscal consolidation, meanwhile, is falling behind schedule. The new government recently said that last years budget deficit will be around 8% of GDP well above the 6% target. Regional governments apparently accounted for most of the overshoot. If the government stands any chance of meeting the deficit goal for 2012 (4.4% of GDP), it will have to impose further austerity measures on top of the 6bn of tax rises and 8.9bn of spending cuts that were recently announced. The bleak economic outlook, fiscal slippage, and troubled banking system (which faces 50bn in additional provisioning for bad property loans) are a dangerous combination for Spanish sovereign bonds. We expect recent widening pressure to persist in the coming weeks.
martin.van.vliet@ing.nl
spread over German Bunds spread over benchmark index of French, German and Dutch debt Source: Bloomberg (*) threshold triggering additional margin on sovereign risk applied to trades going through RepoClear at LCH Clearnet Ltd
14
Global Outlook
January 2012
Eurozone
Budgetary slippage a possibility
0 Budget balance (% of GDP) -1 -2 -3 -4 -5 -6 2010
Budget 2012 Signal value* ING forecast Timepath coalition agreement
Netherlands: Recipe for a period of low growth

0 -1 -2 -3 -4 -5 -6 2015
2011
2012
2013
2014
While the Eurozone economy managed to squeeze out growth in 3Q, the Netherlands put one foot in a double-dip recession. Exports are stalling and domestic demand has remained in decline. Consumers are likely to scale back spending further in 2012. The combination of tax increases, higher unemployment and persistently low wage growth means disposable incomes will decline for the fifth year in a row. Meanwhile, government tax receipts are trailing projections. Additional measures possibly of 14bn, on top of the already planned 18bn will need to be taken to reduce the deficit to the target level for 2015 originally set out in the coalition agreement. Together with an aging population, this is a recipe for a lengthy period of historically low economic growth.
dmitry.fleming@ing.nl
Source: CPB, Ministry of Finance, ING
Economic barometer signals GDP dip

15 10 5 0 -5 -10 -15 -20 -25 -30 -35 03 04 05 06 07 08 09 10 11 Main economic barometer 4 3 2 1 0 -1 -2 -3 -4 -5 GDP growth (% YoY - Rhs)
Belgium: Stagnation at best in 2012 Belgium technically entered recession in the third quarter of 2011 and its debt sustainability has recently been put in doubt. However, the country still financed itself at low costs and with long maturities in 2011, also proving that it could call upon its significant domestic savings pool (the 2012 financing plan of the Treasury already incorporates additional retail issuance). Since S&Ps downgrade in November, things have improved with the new government drafting an austerity budget and deciding on pension reform. The Belgian economy is very exposed to the German economy, which should prevent it from a deep recession this year. We nevertheless expect real GDP growth to be non-existent in 2012, with a better second half leading to a moderate recovery in 2013.
julien.manceaux@ing.be
Source: Datastream
No reversal in sight on the labour market front

'000s 100 80 60 40 20 0 -20 -40 -60 04 Manuf. Employm. exp. Unemployment next 12M 05 06 07 08 Serv. Employm. exp. 09 10 11 '000s 100 80 60 40 20 0 -20 -40 -60
Greece: Also technocrats can have hard times Working out the magic of fostering fiscal adjustment and returning the country to economic growth is proving very difficult even for technocrats. The current PM, Papademos, is acting on multiple fronts. On the one hand, he is trying to speed up reforms and enforce wage freezes in the public sector, which could help convince the Troika to proceed with talks on a new 130bn loan package. On the other hand, he is trying to draw a line and conclude talks with Greek debt private holders on the details of the private sector involvement plan, also a key part of bailout 2.0. Even if an agreement can be reached, public finance sustainability will not be granted if the country does not return soon to a solid growth path. Poor economic indicator readings do not provide any optimism.
Source: Ecowin
High reliance on ECB funding a sign of distress

% %
Portugal: A crucial year for reforms In its first year under the EU/IMF programme, Portugal has made substantial progress, but has also witnessed slippages on the expenditure and non-tax revenue side. One-off measures taken late in 2011 will help fill the gap, but cannot be relied on for 2012. The fiscal adjustment will proceed this year through an aggressive budget, and an expenditure-cut bias (two-thirds vs one-third from the revenue side) looks encouraging. This mix may not prevent the economic contraction from deepening further, though. In an environment of widespread private deleveraging, where banks are heavily reliant on ECB funding and will need additional capital, implementing pro-growth reforms will be crucial. Having decided against fiscal devaluation, the government will have to find alternative tools.
10 9 8 7 6 5 4 3 2 1 0 Dec-09
Mar-10
10 9 8 7 6 5 ECB borrowing as % of total banking assets 4 3 2 1 0 Jun-10 Sep-10 Dec-10 Mar-11 Jun-11 Sep-11
Source: Bank of Portugal, ECB, ING
15
Global Outlook
January 2012
UK
Forecast summary
Ratings (M/S&P/F): Aaa/AAA/AAA

More medicine please!
2008 2009 2010 2011 2012F 2013F
james.knightley@uk.ing.com
Real GDP (%YoY) GDP ($bn) Household consumption (%YoY) Fixed investment (%YoY) CPI (avg, %YoY) Unemployment rate (%) General budget (% of GDP) Public debt (% of GDP) BoE Bank Rate (%, year-end) BoE APF size (bn) 10Y gilt yield (%, year-end) GBP/USD (avg) Source: Bloomberg, ING forecasts
-1.1 -4.4 2.1 1.0 0.3 2.1 2653 2188 2269 2470 2545 2894 -1.4 -3.5 1.2 -0.7 0.2 2.4 -4.8 -13.4 3.1 -2.3 2.9 5.4 3.6 2.2 3.3 4.4 2.1 1.9 5.6 7.5 7.9 8.0 8.9 8.4 -6.7 -11.2 -10.0 -8.5 -7.0 -5.0 55.4 82.2 88.6 92.5 97.2 98.3 2.00 0.50 0.50 0.50 0.50 1.00 0 200 200 275 425 475 3.02 4.02 3.40 1.98 2.70 3.30 1.85 1.57 1.55 1.60 1.61 1.76
The global financial crisis prompted the deepest UK recession since the Great Depression, with broad swathes of the economy being severely damaged. For example, economic output fell by 7% peakto-trough, unemployment has increased by over a million people and the number of residential property transactions is down 50% from 2007. The outlook for the UK economy is highly uncertain. Given trade and financial linkages with the Eurozone, a resolution to the sovereign debt crisis is crucial. Assuming that this is achieved, we still have an economy that is struggling to find growth. Nonetheless, with the help of ongoing policy stimulus and lower inflation, rising real incomes and wealth should boost confidence and lead to a brighter outlook for the economy in 2013.
GDP & employment growth (YoY%)

7 6 5 4 3 2 1 0 -1 -2 -3 -4 -5 -6 -7 75 (YoY%) (YoY%) 4 3 2 1 0 -1 -2 GDP (lhs) 80 85 90 Employment growth (rhs) 95 00 05 10 -3 -4
Slow progress on growth 2012 growth expectations fell through the second half of last year in response to the Eurozone crisis and weakening consumer and business surveys. Household spending is being constrained by negative real income growth, falling wealth and rising job insecurity. Meanwhile, government spending is being cut because of fiscal austerity measures, and trade is being hurt by weak external demand. In such a poor growth environment, firms are reluctant to invest and hire, resulting in a high probability of technical recession in early 2012. However, households will benefit from tax changes, 7bn worth of bank compensation payments and the first increases in real incomes since 2007. With ongoing BoE stimulus, this should help stabilise sentiment and boost growth prospects from 2H12 onwards.
Source: EcoWin
Real wage growth (YoY%)

6 4 2 0 -2 -4 -6 00 01 02 03 04 05 06 07 08 09 10 11 12 Using CPI Using RPI 6 4 2 0 -2 -4 -6
Inflation set to plunge UK inflation has been above 2% for the past 24 months, peaking at 5.2% in September as a combination of VAT hikes, commodity price rises and lagged effects of sterling weakness contrived to ramp up CPI. However, the January 2011 VAT hike will drop out of the annual comparison this month, and subsequent falls in commodity prices, stronger sterling and weak corporate pricing power mean that inflation should fall well below 2% in 2H12. Given the growing threat of recession, further policy stimulus from the Bank of England looks likely. Indeed, we could see the size of the Asset Purchase Facility increase to nearly 500bn, especially if the sovereign debt crisis is not resolved quickly or if EMU suffers any departures. As a result, interest rate rises look like a distant prospect.
Source: EcoWin, ING
Cumulative fiscal deficit (bn)

160 140 120 100 80 60 40 20 0 Apr May Jun Jul Aug Sep Oct Nov Dec Jan Feb Mar Cumulative bn 2007/08 2008/09 2009/10 2010/11 2011/12 160 140 120 100 80 60 40 20 0
Fiscal credibility could be tested The deep recession and slow recovery have had a strongly detrimental impact on UK public finances. Consequently, the UK has adopted aggressive fiscal austerity measures, including both tax rises (such as VAT) and spending cuts. This is starting to have a positive impact on the official borrowing figures, with the cumulative deficit for the current fiscal year at 86.6bn vs 99.2bn for the same period in 2010/11. However, we are concerned that the rate of improvement may slow and possibly reverse given a deteriorating growth outlook. Indeed, the Eurozone sovereign debt crisis is weighing on activity, and lead indicators for the UK are already suggesting recession is likely. As a result, tax revenue growth could stall while government expenditures rise to cover welfare benefits.
Source: EcoWin, ING
16
Global Outlook
January 2012
Asia Easier Financial Policies in 2012

2011 was a bad year for Asian risk assets 2011 was a miserable year for investors in most Asian risk assets, particularly those of the giants, India and China, due to policy tightening. In China, the authorities began tightening policy in a concerted way in October 2010. 2011 saw a continued tightening and efforts to ensure the stresses that emerged didnt become a macro problem. By the end of the year, the authorities had adopted fine-tuning to provide selective relief. In early December, the PBOC cut the RRR for banks by 50bp. Economics and politics argue for further easing in 2012. CPI inflation is falling and house price inflation is slowing. We also think that with the transition to the fifth generation those born in the 1950s political leadership will reinforce policymakers fear of overtightening. The outcome of the leadership shuffle at the very top is clear: Vice President Xi Jinping is set to succeed President Hu Jintao, and Vice Premier Li Keqiang is set to succeed Premier Wen Jiabao. However, seven of the nine members of the Politburo Standing Committee, the foremost decision-making body in China, will need to be named. Jockeying among prospective candidates is intense. Beyond the short-term consideration of maintaining stability in the transition year, the importance of the political transition for investors lies in what it means for the economic reform agenda. President Hus ten-year presidency has been devoid of pro-market economic reforms. The authorities may have believed the WTO windfall was a permanent shock that obviated the need for further pro-market reforms. The GFC reinforced this view, as Chinas capitalism, with command and control, delivered a seemingly superior outcome compared with free-market capitalism. Development of the offshore yuan market That said, in 2010, the authorities embarked on an economic experiment without historical precedent: the creation of an offshore market in their currency. The timing, during a period of high volatility in financial markets, makes it even more impressive. The consensus view is that the development of the offshore yuan market is a step toward full yuan convertibility, which would make it the most significant pro-market economic reform since WTO accession.
Fig 19
% 22 21 20 19 18 17 16 15 6.90 6.80 6.70 6.60 6.50 6.40 6.30
2012 should deliver some easing
Market stability depends on a smooth handover of power in China
Fig 18
4.0 3.5 3.0 2.5 2.0 1.5 1.0 0.5 %
China: Monetary policy instruments
China: One country, two exchange rates

6.90 6.80 6.70 6.60 6.50 6.40 6.30
PBOC 1-year bill rate Benchmark 1-year deposit rate RRR for major banks - right
USD/CNH
USD/CNY
0.0 Jan-10 Apr-10 Jul-10 Oct-10 Jan-11 Apr-11 Jul-11 Oct-11 Source: Bloomberg
6.20 6.20 Aug-10 Oct-10 Dec-10 Feb-11 Apr-11 Jun-11 Aug-11 Oct-11 Dec-11 Source: Bloomberg
does not mean that reserve currency status is yet a priority
However, yuan internationalization is an orphan reform in that it has not been endorsed as a political priority. For investors, a litmus test of the fifth generations reform credentials will be whether they make achieving reserve currency status for the yuan a political priority. The political transition occasioned by the sudden death of North Korean Dear Leader Kim Il-sung in late 2011 underscored that a disorderly denouement of the North Korean
17
Global Outlook
January 2012
regime is Asias biggest event risk. At this point, it appears that the transition has gone smoothly, which is good because there is little investors can do to hedge. There is comfort in knowing that China has a powerful interest in a stable North Korea because the alternative risks an outcome where US troops are stationed on its border. Policy looks to be shifting in India too Investors in India also endured an anno horribilis in 2011, with the Sensex losing 36% in US dollar terms. Policy easing should make 2012 better. The RBI signalled in October that its assessment of the balance of risks had shifted to growth from inflation. It kept its policy rates unchanged when it met in December, and the consensus, including ING, forecasts 75bp of cumulative easing in 2012. Caution is warranted, however. Inflation has been surprisingly sticky above 9%. We expect the RBI to proceed cautiously with an eye on oil prices and the pass-through of higher import costs from the depreciation of the rupee. Growth has slowed sharply. Monetary tightening is largely responsible. But increased corruption-related scrutiny has slowed project implementation and key economic reforms have been delayed. The bull case for India in 2012, we believe, depends on monetary easing and unblocking the logjams.
Fig 21
% 11 10 9 8 7 WPI Inflation Forecast 5 4 Nov10 5 4 Feb- May- Aug11 11 11 Nov11 Feb- May- Aug12 12 12 Nov12 Feb13 0.50 04 05 06 07 08 09 10 11 12 0.75 6 1.25 1.00 10Y JGB yield Pre-GFC average Post-GFC average Japan CDS - right 25 0 75 50 2.00 1.75 1.50
though high rates of inflation suggest caution is warranted
Fig 20
India: WPI inflation
Japan: 10Y JGB yield vs Japan CDS

Basis points 175 150 125 100
(% YoY) 11 10 9 8 7 6
Source: CEIC, ING
Japans debt ratios are causing concern
Will 2012 be the year that Japans deteriorating public finances reverse the never sell JGBs mindset? Government long-term debt may approach 200% of GDP this year. Japans MOF projects that 49% of government spending will be funded by debt issuance and that debt service will absorb over half of tax revenue. The aging population and Japanese companies reduced competitiveness a byproduct of the strong yen are slowing the growth of domestic saving. If it fails to keep up with increased debt issuance, Japans fiscal situation could present an uncomfortable parallel with that of Greece. There is no political constituency for fiscal austerity or economic reform. PM Nodas government, trying to head off a credit rating downgrade, has proposed raising the sales tax to 10% in October 2015 from 5% today. The bill will almost certainly be defeated in the upper house and opposition parties will likely call for a general election. We expect this to trigger the next credit rating downgrade in Japans downgrade cycle. Japans fiscal woes are minor matters to investors in JGBs. The yield on the 10-year has actually fallen since the GFC. Investor nervousness is evident in the CDS market, where the cost of insuring against a JGB default has increased more than for most other noncrisis G10 countries. We believe the divergence in these markets is unsustainable, but that until Japan actually has to rely on foreigners to buy JGBs, the safe strategy is to never sell JGBs. tim.condon@asia.ing.com
18
and efforts at fiscal consolidation look ill-fated
But until JGBs require foreigners to buy them, they will remain supported
Global Outlook
January 2012
Japan
Forecast summary
Ratings (M/S&P/F): Aa3/AA-/AACountry strategy

2008 2009 2010 2011F 2012F 2013F
Lindsay Coburn
Real GDP (%YoY) GDP (USD bn) Household consumption (%YoY) Fixed investment (%YoY) CPI (avg, %YoY) General budget (% of GDP) Current account (% of GDP) Net FDI (Outflow>Inflow;% of GDP) FX reserves (% of GDP, yr-end) Ext debt (Gross, % of GDP, yrend) Source: ING forecasts
-1.1 -5.5 4.5 -0.7 1.9 1.5 4885 5035 5522 5896 6356 6300 -0.9 -0.7 2.6 -0.2 0.8 0.8 -2.9 -14.2 0.8 -0.9 2.2 5.3 1.4 -1.3 -0.7 -0.3 -0.1 0.0 -2.2 -8.7 -7.8 -8.9 -8.9 -9.5 3.3 2.8 3.6 2.0 2.5 2.5 2.1 1.2 1.0 2.0 1.7 1.7 18.6 34.4 20.7 34.0 18.5 36.6 21.6 37 24 40 25 40
Conditions in Japan make it difficult for investors to achieve reasonable returns from productive assets. The post quake recovery appears to have stalled in 4Q due to weaker demand from trading partners, along with the lagged effects of the strong yen. Profitability of large manufacturers is in trend decline, due to falling export prices and improved industrial capability of lower-cost Asian rivals. There is little scope for meaningful countercyclical policy given the BoJ has hit a zero bound? on nominal policy rates, while burgeoning public debt limits fiscal stimulus. Weaker global growth and elevated risk aversion, expected in the first half of 2012, should underpin JGBs and the yen. In 2012, we expect political obstruction, a general election, and at least one sovereign credit downgrade.
Real GDP indicators, growth contributions

6% 4% 2% 0% -2% -4% -6% -8% 2007 Real GDP 2008 2009 2010 2011 2012 2013
Post-quake recovery stalls ING estimates that the economy contracted -0.7% in CY11, down from -0.5% forecast in Dec. Last month, the ESRI reduced real GDP for 1H11, suggesting that the quake/tsunami event had a bigger impact than previously thought. De-stocking and a sharp downturn in exports contributed the bulk of the downturn in CY11. Their turnaround in CY12 features in the 1.9% recovery forecast. In recent months, ING reduced growth forecasts for CY12 to reflect the tightening of monetary conditions as well as weaker expectations for the global economy. The devastating impact of the quake continues to distort unemployment readings, which hover around 4.5%. Conditions of excess supply continue to prevail; we estimate a negative output gap at around 3% of potential output.
Pvte Consumption
Bus. Investment
Net Exports
Source: Cabinet Office (ESRI), ING
Inflation and interest rates

4% 3% 2% 1% 0% -1% -2% -3% Jan-07 Headline CPI Core CPI Real Rates (12M Tibor less 12M Ahead CPI/Forecast) Jan-08 Jan-09 Jan-10 Jan-11 4% 3% 2% 1% 0% -1% -2% -3%
Return of deflation Measures of consumer prices indicate deflation is returning. The strength of the yen is coinciding with weaker commodity prices the prices of tradables are tumbling. In October, the BoJ reduced its central forecast of core CPI inflation for FY11 to 0.0% YoY from +0.7% YoY. This mostly reflected negative revisions to consumer prices due to a rebasing of the index. If we assume no change in consumer prices for the rest of the fiscal year (that is, to end March), the average of core CPI could register deflation of -0.2% (or -0.3% over the 12 months to March). To us, that outcome appears optimistic given that tradable prices are falling and demand is weakening.
Source: BoJ, Bloomberg
Balance of payments (JPYbn)

3000 2000 1000 0 -1000 -2000 -3000 -4000 -5000 -6000 bn bn 3000 2000 1000 0 -1000 -2000 -3000 -4000 -5000 -6000
Public finances deteriorate; investors stay at home Government long-term debt may approach 200% of GDP in FY12, and may exceed 1 quadrillion yen in the coming year. Some 49% of government spending in the FY12 budget is projected by the MoF to be funded by debt issuance. Debt servicing costs absorb over onehalf of total tax revenues. Meanwhile, the rate at which domestic savings are rising will soon be outstripped by debt issuance, due to the aging population and a loss of competitiveness of Japanese companies. The recovery in exports following the devastating earthquake in March appears to have stalled. While growth in domestic savings has slowed, Japanese investors have been reluctant to invest abroad due to uncertainty in Europe, weaker expectations of global growth and thin interest rate margins.
05 06 07 Curr Acct Surplus Source: MoF
08 09 Net FDI
10 11 Net Portf. Inv. (Smoothed)
19
Global Outlook
January 2012
China
Forecast summary
Ratings (M/S&P/F): Aa3/AA-/A+
tim.condon@asia.ing.com
The big picture: endogenous rebalancing
2008 2009 Real GDP (%YoY) Nominal GDP (US$bn) Private consumption (nom %YoY) Fixed Investment (nominal %YoY) CPI (average %YoY) General budget (% of GDP) Current account (% of GDP) FDI (% of GDP) FX reserves (% of GDP) Gross external debt (% of GDP) CB key rate, 1Y depo (%, yr-end) USD/CNY (avg). Source: CEIC, ING forecasts
2010 2011F 2012F 2013F
9.6 9.2 10.4 9.3 8.7 8.7 4545 5070 6021 7270 8416 9816 21.7 15.5 18.4 16.8 16.5 16 25.5 30.1 23.8 24.5 23 23 5.9 -0.7 3.3 5.5 3.5 3.5 -0.4 -2.3 -1.7 -1.6 -2.2 -2.1 9.1 5.2 5.2 4.0 3.4 2.9 2.7 1.4 2.1 1.5 1.2 1.0 42.4 48.0 47.2 45.0 43.0 42.0 8.2 8.6 9.3 9.7 10.5 10.3 6.93 6.83 6.77 6.44 6.24 6.08 4.2 4.3 4.1 4.1 4.1 4.1
WTO accession in 2001 constituted a productivity shock. GDP growth accelerated to 11.3% in 2002-07 from 9.4% in 1992-01. As theory teaches, most of the WTO dividend was saved, producing wide economic saving-investment imbalances. A variety of indicators the peaking of the saving surplus, changes in the composition of imports, changes in the composition of FDI tell us the WTO dividend peaked in 2007. Endogenous re-balancing should drive the economy in the medium term. However, the period since WTO accession has been devoid of pro-market economic reforms. To the extent such reforms supported the 9.4% growth of the preWTO accession period, medium-term growth will be slower. Our forecast of the new normal GDP growth is 8.7%.
Real GDP (seas. adj.)

Billions of 1992 Yuan 2,500 Actual 2,000 1,500 1,000 500 1Q92-4Q01 Trend (9.4% p.a. growth) 1Q02-4Q07 Trend (11.3% p.a. growth) Forecast (8.7% p.a. growth)
Soft landing for the economy in 2012 Activity ended 2011 on a soft note. The official manufacturing PMI declined steadily in 2011 and by the fourth quarter hovered near the 50 breakeven level. Industrial production growth slowed from near 15% at the beginning of the year to near 12%. We believe the manufacturing softness is export-led, in particular electronics exports, which are 39% of the total. In AugustNovember, electronics exports growth slowed to 8.7% YoY from 15.8% in January-July (non-electronics exports growth slowed to 23.7% from 28.1%). Imports, retail sales and investment are holding up, which we view as evidence that the export-led manufacturing softness has not spread to domestic spending.
2,500 2,000 1,500 1,000 500
0 0 1Q92 3Q94 1Q97 3Q99 1Q02 3Q04 1Q07 3Q09 1Q12F
Source: CEIC, ING
PBOC policy instruments

% 4.0 3.5 3.0 2.5 2.0 1.5 1.0 0.5 0.0 Jan-10 18 PBOC 1-year bill rate Benchmark 1-year deposit rate RRR for major banks - right 17 16 15 Apr-10 Jul-10 Oct-10 Jan-11 Apr-11 Jul-11 Oct-11 % 22 21 20 19
Inflation is off policymakers radar screens An inflation spike complicated policymaking in 2011. All inflation spikes in China are food price spikes. However, the 2010-11 shock may be the first to be caused by strong spending rather than a supply failure. It took time for the supply response to kick-in, but by year-end, food inflation was falling sharply. Food inflation spikes resemble an inverted V, and we expect the food component to be a source of disinflation until the first half of 2013. Slowing economic activity and inflation signal the end of the PBOCs monetary tightening cycle. Stubborn house price inflation precludes a shift toward monetary easing, in our view. Instead, we forecast significant RRR cuts due to reduced hot money inflows and by mid-year some scaling back of the property-cooling measures.
Source: Bloomberg
Trade balance (12-month rolling sum)

Billions of US$ 350 300 250 200 Actual 150 100 50 0 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 ING Forecast 150 100 50 0 350 300 250 200
Cleaning up the excesses from the 2009-10 stimulus The WTO dividend turned China into the worlds largest capital exporter, and by 2007, the current account surplus was more than 10% of GDP. We expect endogenous rebalancing to be associated with a regression to the pre-WTO accession average of 1-2% of GDP in the medium term. The extreme monetary accommodation of 2009-10 resulted in a surge in local government debt. Estimates based on official data put it over 50% of GDP in 2010. The central authorities recognized the problem and took steps to curb borrowing. The task for 2012 is managing a soft landing for heavily indebted local governments. We believe this is a micro, not a macro, problem. We expect banks to finance some of the losses from bad loans to local governments.
Source: CEIC
20
Global Outlook
January 2012
India
Forecast summary
Ratings (S&P): BBB-
upasna.bhardwaj@ingvysyabank.com Growth slowing, policy options limited
2008 2009 Real GDP (%YoY) GDP (US$bn) Household consumption (%YoY) Fixed investment (%YoY) CPI (avg, %YoY) General budget (% of GDP) Current account (% of GDP) Net FDI (% of GDP) FX reserves (% of GDP) External debt (% of GDP) CB key rate, 1W repo (%, yr-end) USD/INR(avg) Source: GUS, ING forecasts 6.2 1027 8.4 4.7 8.3 -8.5 -2.3 2.5 26 23 6.5 43
2010 2011F 2012F 2013F
6.8 9.9 7.2 6.5 8.0 977 1127 1183 1161 1390 7.0 8.4 6.3 7.2 8.5 2.6 12.2 0.7 2.9 7.9 10.8 12.1 9.1 8.5 7.5 -9.5 -7.3 -8.5 -8.5 -7.5 -2.8 -2.6 -3.6 -4 -3.2 2.1 0.9 1.4 1.6 2.0 29 26 27 29 26 23 26 28 31 29 4.75 6.25 8.5 7.75 7.25 48 46 47 51 46
As 2012 begins, the Indian economy faces significant headwinds, led by a sharp slowdown in growth, strong linkages with the Eurozone, and significantly less fiscal ammunition to aid growth than it had during the crisis in 2008. On the domestic front, the slowdown has been a combination of many factors, led by the lagged impact of aggressive policy tightening, persistently high inflation and a lack of clarity on economic policies amidst continuous policy inaction. We think GDP growth slowed to 7.2% YoY in 2011 and will slow to 6.5% YoY this year compared with 9.9% YoY growth in 2010.
Growth momentum deteriorates

(% YoY) 12 9 6 3 0 Mar-10 Contribution to GDP growth (%YoY ) Consumption Fixed Capital Formation 14 GDP growth-rhs 12 10 8 6 Sep-11
Investment outlook bleak Consumption, the largest component of GDP, has remained robust during this downturn, led primarily by improved job prospects and rising wages. Even so, its pace of growth has declined. Government job guarantee initiatives for the underprivileged, inflation-indexed wages and rising minimum support prices have provided additional purchasing power to the rural population at a time when high interest rates and inflation have curbed urban demand. Investment activity has come to a halt, as weak global sentiment, delays in project approvals and high interest costs have led to a decline in new project announcements. We expect activity to pick up towards the second half of the year as easing inflation and a reversal in the interest rate cycle boost economic sentiment.
Jun-10
Sep-10
Dec-10
Mar-11
Jun-11
Source: GUS, ING
Inflation to ease going forward

(% YoY) 11 10 9 8 7 6 5 4 Nov-10 Nov-11 May-11 May-12 Sep-11 Sep-12 Nov-12 Jan-11 Mar-11 Jan-12 Mar-12 Jan-13 Jul-11 Jul-12 Mar-13 Forecast WPI Inflation
RBI to reverse its policy stance soon Inflation has remained sticky and elevated for the last two years, prompting the Reserve Bank of India (RBI) to aggressively hike rates over 18 months. However, deteriorating macroeconomic fundamentals are expected to force the RBI to cut policy rates soon. We expect the inflation trajectory to ease going forward as weak demand and favourable base effects take effect. However, high oil prices and the weak Rupee continue to pose upside risks to inflation. Also, we expect fuel price deregulation by June 2012, which would further add to price pressures.
Source: GUS, EC
Balance of payments
(%YoY) 80 60 40 20 0 Nov-10 ($bn) -24 -20 -16 -12 -8 -4 Jan-11 Mar-11 Trade deficit (rhs) May-11 Jul-11 Exports growth 0 Sep-11 Nov-11 Import growth
Under pressure We expect the trade deficit to widen to 10% of GDP this year amidst the slowdown in exports and rising oil, gold and coal imports. A high current account deficit would continue to keep the overall balance of payments under pressure, especially in the next two quarters, when capital flows will be subject to the trends in global sentiment. On the fiscal front, lower tax revenues, higher subsidies and lower disinvestment proceeds are expected to keep public finances weak. Higher oil prices could continue to result in increasing underrecoveries of the oil marketing companies, adding to the pressure on the fiscal balance. Even so, de-regulation of fuel prices could reduce the fiscal burden to some extent.
21
Global Outlook
January 2012
Korea
Forecast summary
Ratings (M/S&P/F): A1/A/A+
tim.condon@asia.ing.com
The GFC slowed potential Real GDP growth
2008
2009
2010 2011F 2012F 2013F
Real GDP (%YoY) 2.3 0.3 6.2 3.9 3.9 3.9 Nominal GDP (US$bn) 933.0 833.9 1015.6 1123.0 1211.4 1311.1 Private consumption (%YoY) 1.3 0.0 4.1 2.7 2.7 3.0 Fixed Investment (%YoY) -1.9 -1.0 7.0 -0.6 2.8 4.0 CPI (average %YoY) 4.7 3.0 3.2 2.8 3.8 4.8 General budget (% of GDP) 1.2 -1.7 1.4 1.6 1.4 1.7 Current account (% of GDP) 0.3 3.9 2.9 2.0 1.5 1.5 Net FDI (% of GDP) -1.8 -1.8 -2.2 -1.3 -1.2 -1.1 FX reserves (% of GDP) 21.6 32.4 28.7 27.6 26.8 25.9 Gross external debt (% of GDP) 34.0 41.5 35.4 35.2 34.3 33.0 CB policy rate (%, year-end) 3.00 2.00 2.50 3.25 3.25 3.25 Exchange rate (KRW/US$) yr-end 1100 1277 1156 1121 1113 1100 Source: GUS, ING forecasts
Korea is one of the few Asian economies where the output gap that opened during the Global Financial Crisis (GFC) has not closed. Real GDP growth has averaged 3.9% since the initial snapback from the GFC, well short of its 4.7% pre-GFC average. There is no reason to think that trend inflation has accelerated to offset the impact of slower real GDP growth on nominal GDP growth, which implies trend nominal GDP growth has slowed. Slower trend nominal GDP growth also is the message from the bond market. The average yield on the 3-year KTB has fallen to 3.8% since the GFC from 4.7% before. We consider 3.9% the new normal for real GDP growth, which is where we forecast it to be for the medium term.
Contributions to GDP growth

Percentage points 10 8 6 4 2 0 -2 -4 -6 Pri. Cons. Fixed Invest. Net Trade Govt. Cons. Inventories GDP (%YoY) Percentage points 10 8 6 4 2 0 -2 -4 -6
Exports and deleveraging slow 2012 growth Industrial production (IP) consolidated throughout 2011. As elsewhere, consolidating exports, especially electronics (33.5% of the total) explain the flat IP. Electronics exports grew 3.4% YoY in the first ten months of 2011 vs. 31.5% for non-electronics exports. Private consumption and fixed investment have been the expenditure-side drags on growth. The weakness of private consumption is at odds with the robust jobs recovery from the GFC. At 3.1% in November, the unemployment rate was close to an alltime low. We believe deleveraging explains why strong job growth has failed to translate into strong consumption growth. The slowdown in growth in the post-GFC period with strong job growth is evidence of a slowdown in the growth of output per worker.
1Q09 2Q09 3Q09 4Q09 1Q10 2Q10 3Q10 4Q10 1Q11 2Q11 3Q11
a/ Components sum to GDP growth. Source: CEIC, ING
CPI and components vs oil price

YoY 7% 6% 5% 4% 3% 2% 1% 0% 06 07 08 09 10 11 CPI Core CPI Oil price -rhs
The BOK is focused on growth The balance of risks for the BOK shifted to growth from inflation despite elevated headline and core inflation. The BOK has more trouble than most Asian central banks keeping supply shocks oil and food prices spikes from being transmitted to headline inflation. We blame poorly anchored inflation expectations, a by-product of the BOKs large-scale smoothing/sterilization operations. Slower nominal GDP growth means a lower neutral level of the BOK policy rate, where neutral means the level that would prevail when the risks to the economy are evenly balanced between growth and inflation. We think the prevailing level of the policy rate, 3.25%, is a reasonable estimate of the new neutral rate, and we forecast the BOK will remain on hold through 2012.
150 130 110 90 70 50 30
Source: CEIC, Bloomberg
Short-term external debt in relation to FX reserves

80% 70% 60% 50% 40% 30% 20% 10% 0% 99 Source: CEIC 00 01 02 03 04 05 06 07 08 09 10 11E
USD/KRW profile flat for year ahead Short-term external borrowing by banks is the main balance of payments label where hot money flows are recorded. The high level of short-term external debt in relation to foreign reserves (45% in 2011, the highest in Asia) makes KRW Asias VIX currency; it depreciates most during risk-off and vice versa. The BOKs main instruments for handling hot money are exchange market smoothing/sterilisation and capital controls like the levy on banks offshore debt introduced in August 2011. If ING's forecast of no further significant Fed easing materialises (another round of QE is not a game changer), 2012 should resemble 2011 in being a predominantly risk-off year. We forecast a flat profile for USD/KRW.
22
Global Outlook
January 2012
EMEA Eurozone calls the tune

2012 should be a year of catching up for emerging Europe Emerging Europe had its fair share of burdens in 2011 and, as such, saw considerable underperformance vs EM & DM peers. Either 2012 is going to be a year of catching up (especially for equities Figure 22) or the backdrop will get worse, essentially a function of Eurozone group action. Our assumption is that the EZ countries will continue to move towards a more coherent policy and solution, meaning that 1Q12 will still be a challenge from a timing and volatility point of view (event dateline Figure 23), but that thereafter, Emerging European economies/assets should be better placed to recover, albeit at differing degrees (a function of FX loan exposure and export/GDP ratios Figure 26).
Fig 23 Eurozone woes are a risk for EME politics
End-Apr Serbia Parl. 06-May France Pres. 2nd Round 10-Jun France Parl. 1st round 17-Jun France Parl. 2nd round 28-Jun Europ. Council Summit 01-Jul Cyprus EU Presidency 07-Oct Venz. Pres. 18-Oct Europ. Council Summit 28-Oct Ukraine Parl. 03-Nov Romania Pres. 06-Nov US Pres.
Fig 22
20% 15% 10% 5% 0% -5% -10% -15% -20% -25% -30%
Emerging Europe needs to catch up again
2011 Total Returns in USD
09-Jan Sakozy-Merkel Meet 14-Jan Kazakhstan Parl. 20-Jan Merkel-Sarkozy-Monti Meet 22-Jan Croatia Refer. on EU entry 30-Jan Europ. Council Summit 01-Mar Europ. Council Summit 02-Mar Iran Parl. 04-Mar Russia Pres. 10-Mar Slovakia Parl. 15-Apr Greece Parl. poss. 22-Apr France Pres. 1st round
U BR S Z LCB $ G 202 ER 0 Ph L C U il. $ B S Hi 202 g TU h Y 0 R ie $ ld 2 S& 020 P5 P L 00 L SA CB LC B D H AX U M LC SC B I M As M SC i a SC I E M I M Lat SC am IE M E
Source: National Parliaments, Reuters, EC, ING
2012 does look better than 2009, with Germany growing
Fortunately, there are a number of positive differences to 2009: 1) The German economy is growing (as are the other G3 countries), a far cry from the 5.1% GDP drop in 2009 (Figure 24); 2) German inventories have fallen since early 2009, providing not only a healthier base-effect, but also relief for countries like Poland and Czech Rep (whose inventory build-up can be consumed by the main German export market Figure 25); 3) corporates globally hold record cash levels (also reflected in deposits at Turkish banks, where depositors receive 350bp more on USD or EUR deposits); and 4) there is a generally higher level of preparedness, given the last crisis is only a few years back (an advantage previously seen in Turkey, where the pickup after 2009 has been quicker).
Fig 25 ...with much lower German stocks helping
Trend in Cumulated Inventories
Q106=100 (Nominal unadj. stocks in local currency)
Fig 24
Downside economic risks, but far cry from 2009...

% Real GDP Growth 2009 2012 INGF
8 6 4 2 0 -2 -4 -6 -8
Ka za kh s. R us si a Tu rk e Po y la nd
2,500 2,000 1,500 1,000 500
300 250 Poland 200 Czech 150 100
Germany (RHS)
U Bu S lg ar i R om a an i G er a m an C ze y ch H R. un ga r C y ro at Eu ia ro zo ne
0 q106 q306 q107 q307 q108 q308 q109 q309 q110 q310 -500 q111
50 0
Source: NatStats Insitutes, INGF
Source: Eurostat, ING
Eurozone action delay has led to political vacuum
Politics will be the greater challenge While the economic picture should be clearer by now, there is more concern about the political fallout from the slow Eurozone progress, and the impression of an ensuing political vacuum. This has been reflected in: 1) the limbo situation with regard to Eurozone convergence, originally sold to the new EU members as one of the most important aspects of EU accession; 2) the events in Hungary, which began a year or so
23
Global Outlook
January 2012
ago when pension funds started to be nationalised and the private sector was heavily taxed; 3) the more difficult environment in Ukraine, which has always been a balance between EU/US and Russian politics; and 4) the complete stop to EU accession talks with Turkey, reflecting the multi-faceted EU foreign policy. Some are moving exports away to other regions Another development in those areas farther away from the Eurozone (particularly Turkey and S. Africa) is that trade with the bloc is becoming less important (Figure 27) as countries diversify towards Latam and/or Asia (in particular China). Turkish exports to the EUR15 countries fell from 47% in 2007 to 39% in 2011, yet another result of the Eurozone woes and the political messages being sent to the country. Domestic politics remains a challenge in Russia and Kazakhstan, with the former still in the process of finding its position within the context of an evermore informed new Global Electorate, and the latter facing questions on leadership succession against a fledgling democracy backdrop. While both countries can continue relying on energy revenues, a turn in policy will be needed especially in Russia in order to secure net capital inflows to fuel infrastructure spending and higher growth rates, and allow the state to maintain its substantial 13%/GDP non-energy budget deficit. FX Loan and Export exposure determine mid-term growth Although the Emerging Europe 2012 growth story is a far cry from the experience in 2009, it will remain driven by the exposure to FX loans and export performance (Figure 26). With 70-90% of banking sector assets in many Emerging European countries in foreign hands, the other issue is how prepared banks will be to continue lending. Up to now, news has been limited to Austria introducing limits on further exposure of its banks and media speculation about banks pulling out completely but asset sell-offs havent materialised yet.
Fig 27
70
Most Vulnerable Hungary Czech Rep. Kazakh. Russia Turkey Poland Bulgaria Ukraine Romania Latvia
Domestic politics a challenge in Russia and Kazakhstan
FX Loan exposure remains a major drag on growth in some countries
Fig 26
100% 90% Exports/GDP (2010) 80% 70% 60% 50% 40% 30% 20% 10% 0%
FX Loan & Export exposure still the story
while some are moving away from the EZ
60 50 40 30 20 10 0
U
Exports to EU15 (as % of total)

2007 2011
R U SO AF
Ph il
TR
A U
PL
BG
0%
20%
40%
60%
80%
100%
Source: Central Banks, ING
Source: Eurostat, NatStat Institutes, ING
The baseline scenario would thus be a continued stagnation of loan books in those countries that have more foreign bank and FX loan exposure, making them more dependent on export growth. The most open economies, in turn, are exposed to any further Eurozone slowdown, with Germany (which accounts for up to 32% of exports from Czech Rep, Hungary and Poland) being the one partner to focus on, in our view. Room for surprises The biggest surprise can of course come from the Eurozone (in either direction). Markets seem quite geared up for a further drop in inflation in 2012, which (perhaps paradoxically) we think could end up being restricted to Turkey. While 2011 was an excellent harvest year across the region, bringing food prices down, Ukraine faced a disappointing November sowing, due to a very dry season. With 3Q11 food price base effects being so low, the risk is clearly to the upside in YoY readings as we move into 2H12. Also, any strong move away from the average USD 110pb oil price, in place since Nov-2011, could highlight the relative Russia vs Turkey investment story. simon.quijano.evans@uk.ing.com
24
Still room for upside surprises on the inflation front
Global Outlook
January 2012
Poland
Forecast summary
Ratings (M/S&P/F): A2/A-/A-
Mateusz Szczurek, Rafal Benecki, Grzegorz Ogonek Country strategy
2008 2009 Real GDP (%YoY) GDP (bn) Household consumption (%YoY) Fixed investment (%YoY) CPI (avg, %YoY) General budget (% of GDP) Current account (% of GDP) Net FDI (% of GDP) FX reserves (% of GDP) External debt (% of GDP) CB key rate, 1W repo (%, yearend) PLN/EUR (avg) Source: GUS, ING forecasts 5.1 524 5.8 9.6 4.2 -3.7 -6.6 2.0 11.3 48.4 5.00 3.53 1.7 430 2.0 -1.1 3.5 -7.1 -3.9 1.9 17.6 62.7 3.50 4.33
2010 2011F 2012F 2013F 3.8 469 3.2 -1.0 2.6 -7.9 -4.5 0.7 18.9 66.5 3.50 4.00 4.2 517 3.4 7.5 4.2 -5.6 -4.3 1.7 17.9 71.7 4.50 4.12 2.3 470 2.8 2.9 3.6 -3.6 -3.4 1.6 21.9 81.4 4.00 4.35 3.7 595 3.5 6.0 2.8 -2.7 -3.4 2.0 19.6 69.0 4.00 4.03
We are bearish on PLN, due to its vulnerability to external financing disturbances and our expectations of falling EUR/USD in 1Q12. Still, over the course of 2012, the slowing domestic demand and weaker zloty should rebalance the current account, providing for stabilisation and then strengthening of the Polish currency. The government should not face serious problems with public debt financing, given the significant front-loading of issues and the MinFins ability to tap into the short end of the curve. Strong growth, high inflation and weak PLN need to reverse before the NBP starts easing. This seems unlikely before 2Q12. We still expect 50bp of cuts in 2012, but a stable PLN is key for a change in MPC bias.
GDP components
20% 1 5% 1 0% 5% 0% -5% -1 0% -1 5% 1 Q08 3Q08 GDP 1 Q09 3Q09 1 0 Q1 3Q1 0 1 1 Q1 3Q1 1
Slowdown on a par with Eurozone In 2008/09, the strong anti-cyclical fiscal stimulus helped the Polish economy outperform the Eurozone, which experienced a 4% recession, but in 2012, fiscal policy may stay in a countercyclical tightening mode, thus Poland should perform on par with the EMU and slow accordingly. The resilient domestic demand and weak PLN should help to limit pass-through. We expect consumption to weaken to 2.7% YoY from 3.4% YoY in 2011, but cross-border trade (activated by the weak PLN) and UEFA Euro 2012 tourist spending should ease the drop in consumption associated with the income slowdown. Public investment, the important growth driver, should drop sharply in 2H12, though private outlays could offset some of that. Net exports can again be very supportive.
Ho useho ld co nsumptio n
Fixed investment
Source: GUS, ING
CPI/Core CPI/Real interest rates

6.0% 5.0% 4.0% 3.0% 2.0% 1.0% 0.0% -1.0%
4/ 07 8/ 07 12 /0 7 4/ 08 8/ 08 12 /0 8 4/ 09 8/ 09 12 /0 9 4/ 10 8/ 10 12 /1 0 4/ 11 8/ 11
FX interventions changed the NBP reaction function MPC warnings about a hike are nothing more than verbal intervention to support NBP actions on the FX market. However, the real choice is between no change or cuts. The elevated CPI is due to exogenous factors, ie, fuel, food and the weak PLN (on Eurozone pressure), while signs of demand-pulled inflation are very limited. The reaction function changed significantly with the active FX policy, and recent comments signal a stable PLN is key for the initiation of an easing bias. We expect CPI to return to the target range (2.5% YoY+/-1) in 1Q/2Q12. Meanwhile, Poland presses on with steady fiscal tightening. The new version of the budget has more realistic macro assumptions. We expect the ESA-95 budget gap to fall from 5.6% in 2011 to about 3.5% of GDP in 2012.
CPI inflation Real interest rate (12M interbank vs 12M-ahead CPI/Forecast) Core CPI
Source: GUS, NBP
Current account vs FDI (m, 12M)

-10 -12 25 -14 -16 15 -18 5 -20 -22 -5 -24 -15 -26 4/07 10/07 4/08 10/08 4/09 10/09 4/10 10/10 4/11 10/11 Net FDI Current account (rhs) Net portfolio investment 35
Deteriorating financing: low FDI, high bond & EU flows The current account deficit adjusted with the capital accounts surplus remains at a safe level of 3% of GDP. However, net FDI deteriorated in 2011 due to outflows of foreign capital (e.g. Vodafone sold a phone operator to a local media group) and higher foreign investment by domestic companies. Incoming FDIs are growing 15% YoY, and the number of projects in the pipeline signals that growth is sustainable, but C/A coverage with net FDI has deteriorated, while the reliance on portfolio capital has increased. The structure of the BoP is PLN-negative, and portfolio flows went through the MM, not FX, market. The weak PLN facilitates the adjustment of the C/A deficit, and we expect it to contract to 3.5% of GDP from 4.3% in 2011.
Source: NBP
25
Global Outlook
January 2012
Russia
Forecast summary
Ratings (M/S&P/F): Baa1/BBB/BBB

Country overview
2008 2009 2010 2011F 2012F 2013F
dmitry.polevoy@ingbank.com
Real GDP (%YoY) GDP (bn or US$bn) Household consumption (%YoY) Fixed investment (%YoY) CPI (avg, %YoY) General budget (% of GDP) Current account (% of GDP) Net FDI (% of GDP) FX reserves (% of GDP) External debt (% of GDP) CB refi rate (%, year-end) USD/RUB (avg) Source: GUS, ING forecasts
5.2 -7.8 4.0 4.3 3.3 4.1 1661 1221 1480 1814 1834 2145 10.6 -4.8 3.0 7.2 5.0 5.2 10.6 -14.4 5.7 5.0 6.5 7.2 14.1 11.8 7.0 8.1 5.7 6.8 4.9 -6.3 -3.5 2.0 -0.8 1.0 6.2 4.0 4.7 5.1 3.2 1.9 19.4 -7.2 -9.6 -9.2 -8.2 -2.9 24.8 34.1 29.9 25.9 27.9 25.7 28.9 38.6 33.0 28.7 30.0 27.6 13.00 8.75 7.75 8.00 7.75 7.50 24.8 31.8 30.4 29.5 31.8 30.6
With an expected skew to the former in the balance of growth/inflation risks in 2012 and with a rise in real interest rates on tighter liquidity conditions, we see a clear rationale for a more accommodative monetary policy in 2012. Thus we expect an extra 25-50bp cut in key lending rates, likely in 1Q12. However, this is not strong enough, in our view, to recommend buying OFZ at this stage since the liquidity outlook remains cloudy and the MinFin plans to cover the envisaged budget gap with local borrowing. Unless the planned RUB1-1.2tr net debt pipeline and/or RUB500bn transfer to the Reserve Fund are reduced, the crowding out risks will be significant, dampening the positive effect of lower policy rates. Overall, MinFin-CBR collaboration will again be crucial for the MM/FI market outlook in 2012.
GDP components
real, %YoY 30% 25% 20% 15% 10% 5% 0% -5% -10% -15% -20%
GDP in 2012: tainted by the global slowdown Robust domestic demand (DD) and a low base effect inflated GDP growth in 2H11 to 4.7% YoY vs 3.8% in 1H11, in line with our 4.3% full-year call. In 2012, DD should drive GDP again, but in a lower gear at 3.3%. Lower global growth threatens demand for exports and/or oil prices. We forecast export-weighted average growth for Russias trade partners at 1.2-1.4% in 2012 vs 2.5% in 2011, ie, not a drastic slowdown. With energys weight at 65% of exports, we see a fall in oil prices as the key risk for Russia. ING expects US$95100/bbl (lower by 10-15% vs 2011). After decoupling from DD in 2011, imports should become more aligned in 2012, improving the effect of net exports on headline growth. Key concerns are the wider spillover effects of the Eurozone crisis and tighter access to funding/higher borrowing costs.
GDP
Household consumption
Fixed investment
Source: Rosstat
Inflation & interest rates

20% 15% 10% 5% 0% -5% -10% 07 20% 15% 10% 5% 0% -5% -10% 08 09 10 11 Core inflation (CPI, %YoY) Real Interest rate (6M Mosprime vs 12M ahead CPI/Forecast) Headline inflation (CPI, %YoY)
1Q 08 2Q 08 3Q 08 4Q 08 1Q 09 2Q 09 3Q 09 4Q 09 1Q 10 2Q 10 3Q 10 4Q 10 1Q 11 2Q 11 3Q 11
Inflation roller-coaster likely in 2012 CPI inflation ended 2011 at 6.1% YoY, ie, in line with the official forecast and below INGF of 7% YoY. The 1H12 inflation outlook remains benign due to: 1) expected lower commodity (and local energy) prices; 2) manufacturing inflation easing as flagged in PMI surveys; 3) a (political) shift in the utilities tariff hike (10% of the CPI basket) to July 2012; 4) the c.50% increase in the grain harvest coupled with more stable global food prices (c.40% weight in CPI); 5) few risks from core price pressures, given 20-25% growth in M2 in 2011 and a 12-15 month lagged impact; and 6) high base effects. This should secure 4.5-5.0% YoY CPI in 1H12. However, utilities tariff hikes could push CPI to 6.8% in 3Q12 and then to around 7% by end-2012. So, with no big inflation threat in sight, CBR policy easing in 2012 is our base-line scenario.
Source: Rosstat, CBR, ING
Balance of payments
120 90 60 30 0 -30 -60 US$bn US$bn 120 90 60 30 0 -30 -60
Limited upside to RUB without capital inflows In 2011, the RUB pace was driven by a current account (C/A) surplus (INGF US$90-95bn) and sizable capital outflows (US$8085bn). We see the break-even Urals price for the C/A balance in 2012 at US$70-80/bbl, so the C/A may stay in surplus in 2012. We see room for lower capital outflows (US$15-20bn) in 2012 due to less external debt due, state FX-debt placements and Russias solid public deficit/debt profile, which may attract investors from struggling developed markets. However, we think only a better capital flows surplus can produce sizable RUB upside in 2012. Oil is key for fiscal balance (every US$10/bbl adds nearly RUB500bn to the coffers), which could be balanced at c.US$110/bbl. In 2012, we see a fiscal gap (0.8-1% of GDP), but sovereign funds/2011 surplus leave the MinFin room to manoeuvre.
Source: CBR
1Q 0 2Q 7 0 3Q 7 0 4Q 7 07 1Q 0 2Q 8 08 3Q 0 4Q 8 08 1Q 0 2Q 9 0 3Q 9 0 4Q 9 0 1Q 9 1 2Q 0 10 3Q 1 4Q 0 10 1Q 1 2Q 1 1 3Q 1 11
Net FDI (4Q rolling) Net portfolio investments (4Q rolling) Current account surplus (4Q rolling)
26
Global Outlook
January 2012
Turkey
Forecast summary
Ratings (M/S&P/F): Ba2/BB/BB+

Country overview
2008 2009 2010 2011F 2012F 2013F 9.0 736 6.7 29.9 8.6 -3.6 -6.4 1.0 11.0 39.4 6.50 8.3 775 7.6 19.2 6.5 -1.5 -9.8 1.5 10.6 41.9 5.75 2.6 788 0.8 6.8 9.4 -1.9 -7.4 1.5 11.7 42.8 5.75 4.6 936 5.0 7.4 6.5 -1.9 -7.7 1.4 11.2 41.6 6.75
sengul.dagdeviren@ingbank.com.tr
Real GDP (%YoY) GDP (US$bn) Household consumption (%YoY) Fixed investment (%YoY) CPI (avg, %YoY) General budget (% of GDP) Current account (% of GDP) Net FDI (% of GDP) FX reserves (% of GDP) External debt (% of GDP) CB key rate, 1W repo (%, yearend)
0.7 -4.8 735 616 0.5 -2.3 -8.2 -19.0 10.4 6.3 -1.8 -5.5 -5.7 -2.3 2.3 1.1 9.5 11.4 38.1 43.6 15.00 6.50
Although 2011 domestic growth was very strong, net exports positive contribution and the continuing slowdown in loan growth suggest C/A deficit worries should ease. Double-digit inflation in 1Q and 2Q12 remains a key challenge for policy credibility, but we see headline CPI falling thereafter, ending the year below 7% YoY. As elsewhere, 1Q will remain a challenge for positioning but we see Turkish assets better placed to recover thereafter, given the relatively high reliance on the domestic story rather than Eurozone demand. The one main risk remains the lack of simplicity in CBT policy, which has brought about an over-tightening in rates, in our view, combined with a strong drop in FX reserves. But we continue to see the CBT doing what it takes to protect the TRY, even if this means returning to a simpler policy setting.
Source: Turkstat, CBT, Ministry of Finance, Treasury, ING
GDP components
45% 30% 15% 0% -15% -30% -45% GDP Household consumption Fixed investment
Investment demand slows faster than consumption GDP grew by 8.2% YoY and 9.6% in 3Q and the first nine months of 2011, respectively. Private consumption and investment were the main drivers, contributing 6.4ppt and 5.5ppt, respectively, to 10.2% YoY GDP growth in Jan-Sep. More positively, in 3Q, along with the slowdown in investment demand and stock depletion, net exports contributed 0.6ppt to growth, pulling down its negative contribution to 3.1ppt in Jan-Sep. Early indicators suggest 4Q growth remained strong too, with GDP growth closing 2011 most probably above 8%. The public sectors contribution was also strong at 1.2ppt of the 9.6% GDP growth in Jan-Sep. Overall, we see the improvement in net exports and stock depletion in such a strong growth period supportive of our 2.6% 2012 call.
Source: Turkstat, ING

20% 15% 10% 5% 0%
Core CPI (CBT I definition)
1Q 0 2Q 8 0 3Q 8 0 4Q 8 0 1Q 8 0 2Q 9 09 3Q 0 4Q 9 09 1Q 1 2Q 0 10 3Q 1 4Q 0 1 1Q 0 2Q 11 1 3Q 1F 1 4Q 1F 1 1Q 1F 1 2Q 2F 1 3Q 2F 1 4Q 2F 12 F
Inflation surprises matter more than double digits

20% 15% 10% 5% 0%
-5% -10% 07
Real interest rate (12M t-bill vs 12M ahead CPI/Forecast) Headline CPI inflation
-5% -10%
08
09
10
11
12
Inflation has been rising since Marchs historical low at 3.99%. Food price volatility, high commodity prices, TRYs strong YTD depreciation and aggressive hikes in administered prices/tobacco taxes were the main factors that pulled annual inflation as high as 10.45% at end-Dec. As seen in the Dec data, food prices remain the key risk, with local agricultural production estimates signalling no easing in prices and countering the easing in global food prices. Also, a methodology change to smooth food price volatility might be on the agenda next year. Dec data did, however, show a stabilisation of core CPI (probably on CBT action supporting the TRY), a help as inflation expectations remain high (7.15% for end- 2012 vs. the CBT 5% mid-target). Although 1Q will be a testing time for policy, we see CPI falling below 7% by end-2012.
Source: Turkstat, Thomson Reuters, ING
Balance of payments
100 80 60 40 20 0 -20 Jan07 Jul07 Jan08 Jul08 Jan09 Jul09 Jan10 Jul10 Jan11 Jul11 Net FDI Net Portfolio Investments Current account deficit 100 80 60 40 20 0 -20
The C/A adjustment already started in 4Q11 After two years of uninterrupted weakening, the Oct-11 C/A deficit of US$4.1bn pulled the 12M deficit to US$78.6bn, a likely peak, in our view. Deficit financing remains vulnerable, with still weak FDI coverage of around 16% (12M rolling) in Oct-2011, while 11% is covered by net security purchases of non-residents in local markets and another 16% by short-term borrowing by banks. But net errors and omissions reached 20% of the deficit (probably reflecting Mid East flows and private sector fund repatriation), and 12M short-term inflows fell to US$29bn, the lowest level since Aug-10. If loan growth continues to slow and policy remains tight, an even faster adjustment of the C/A deficit is likely. We forecast the C/A deficit to GDP at 9.8% for 2011 and 7.4% in 2012.
Source: CBT
27
Global Outlook
January 2012
Latin America Easing away

Economic activity is slowing as signs of contagion emerge Most Latin American economies are already showing signs of contagion from abroad, as reflected in the collapse in the regions terms of trade, a more subdued business confidence, and heightened local market volatility. This, together with the policy tightening that took place earlier last year, has led to a significant moderation in economic activity, particularly in Brazil. It is not especially surprising then that Brazil has led the region in embarking on an aggressive monetary policy easing effort. The ability to deploy countercyclical policies is not unique to Brazil, however. In fact, we believe that most of the region's stronger credits like Brazil, Chile, Peru, Mexico and Colombia, stand out for their ability to offset, to a substantial degree, the headwinds coming from abroad. And even though the reduced countercyclical policy alternatives left to be deployed in the developed space suggest that we are heading for a particularly slow recovery, our view is that there are strong factors to presume that, compared with 2008, Latin America is likely to fare substantially better this time around. There are persuasive reasons to expect that both: 1) the degree of contagion from abroad would be more limited this time than it was in 2008; and that 2) the domestic policy response would be more effective. In other words, while the 2008 crisis produced a widespread dip into negative growth territory, we think similar contractions are unlikely this time around.
Fig 29 Inflation increased throughout 2011, but the trend is down for 2012 (CPI)
YoY% 12 10 8 6 4 2 0 Chile Peru Brazil Colombia Mexico -2 -4
Abundant countercyclical policy tools should limit the downside, however
Widespread economic contraction is unlikely
Fig 28
Most economies are now decelerating, but a sustained contraction is unlikely (GDP)
3mma, YoY% 14 12 10 8 6 4 2 0 -2 -4 -6
3mma, YoY% 14 12 10 8 6 4 2 0 -2 -4
12 10 8 6 4 2 0 -2
YoY%
Brazil Chile Mexico Peru -6 Jan-08 Jul-08 Jan-09 Jul-09 Jan-10 Jul-10 Jan-11 Jul-11 Source: Central Banks
-4 Jan-08 Jul-08 Jan-09 Jul-09 Jan-10 Jul-10 Jan-11 Jul-11 Source: Central Banks
Financial market volatility is likely to be more limited
FX volatility, for instance, is unlikely to reach 2008 levels, in our view, which should materially help limit the contagion in consumer and business confidence levels. Even though LATAM currencies may continue to suffer from fluctuations in risk aversion abroad, local governments have now accumulated substantially higher amounts of international reserves, adding considerable firepower to face any bout of USD-liquidity needs. More important, central banks in the region have accumulated unprecedented knowhow on how to effectively deploy such assets when necessary. An impressive arsenal of countercyclical policy tools, thanks to relatively high policy rates and generally sound fiscal policy stances, should also help prevent a more significant correction. On the monetary policy front, inflation has trended higher than expected in recent months and currently represents an impediment for aggressive monetary easing in some countries, particularly Chile and Peru. But price pressures are likely to dissipate throughout the first half of the year, opening the door for robust monetary easing if
Arsenal of countercyclical policy tools remains impressive
28
Global Outlook
January 2012
needed. As for fiscal policy, fiscal ratios generally are slightly worse than they were preLehman, but they do not represent a serious impediment to fiscal stimulus, in our opinion. Links to European financial sector are strong, but ability to produce damage is limited European banks maintain a sizable presence in some local financial markets, particularly in Chile, Mexico and Peru. Stricter regulation and a reliance on local funding sources suggest, however, that LATAM credit markets are unlikely to suffer dramatically from a deleveraging in the European financial sector. Overall, despite some constraints to moving aggressively into fiscal and monetary easing territory, most LATAM economies retain ample room to accommodate a financial crisis abroad. As a result, we maintain a relatively benign outlook for the region. GDP growth may decelerate in most places, but it should accelerate slightly in the case of Brazil, we think, thanks to Brazils more aggressive countercyclical effort.
Fig 31 Rise in international reserves has helped shield the region from FX liquidity issues (Jan 05 = 100)
Chile Peru Mexico 500 400 300 200 100 0 05 06 07 08 09 10 11 Brazil 500 400 300 200 100 0 700 600
We retain a relatively benign outlook for LATAM economies this year
Fig 30
Most countries still have significant room for monetary easing (policy rate)
12 10 8 6 4 2 0
% 15 14 13 12 11 10 9 8 7 6 5
700 600
07
08 Chile Mexico
09
10 Colombia Brazil (RHS)
11 Peru
Source: Central Banks
Source: Central Banks
External accounts may suffer and the drop in the terms of trade should hurt activity in the more open economies
We expect the biggest impact of an external crisis to take place through the regions external accounts. The level of external financing provided to the region should suffer, as Europe accounts for a large share of that external financing, including FDI. External trade is also likely to suffer as Europe remains an important trading partner, and, as net commodity exporters, external accounts of most of these economies should suffer from a collapse in the terms of trade. The correlation between the terms of trade and the economic cycle varies greatly within the region, however. As a relatively closed economy, Brazil is likely to be the least affected, while Peru and Chile could experience a more pronounced impact. Balance of payments may deteriorate but, as the 2008 crisis proved, external accounts are no longer the Achilles heel they used to be for LATAM. The regions robust stock of international reserves together with a flexible exchange rate regime suggest that most countries in the region can comfortably weather the storm, facing up to any bout of USDliquidity needs with considerable firepower. Argentina and Venezuela stand clearly as cases apart, where the insistence on wrongheaded economic policies produced even deeper economic imbalances in recent years, which suggest that these countries are now more limited in their ability to employ countercyclical policies and, as a result, are more vulnerable than before to external headwinds. But these are the exceptions to the rule. gustavo.rangel@americas.ing.com
But balance of payment problems are hard to envision
Argentina and Venezuela stand clearly as cases apart
29
Global Outlook
January 2012
Brazil
Forecast summary
Ratings (M/S&P/F): Baa2/BBB/BBB-
gustavo.rangel@americas.ing.com
Growth to hold up ,but inflation too

2008 2009 2010 2011F 2012F 2013F
Real GDP (%YoY) GDP ($bn) Household consumption (%YoY) Fixed investment (%YoY) CPI (avg, %YoY) General budget (% of GDP) Current account (% of GDP) Net FDI (% of GDP) FX reserves (% of GDP) External debt (% of GDP) CB key rate (%, year-end) USD/BRL (avg)
5.2 -0.3 7.5 2.8 3.5 4.4 1,125 1,163 1,615 1,761 2,021 2,042 5.7 4.4 6.9 4.5 5.0 5.1 13.6 -6.7 21.3 6.0 7.0 7.0 5.7 4.9 5.0 6.6 6.0 5.2 -2.0 -3.3 -2.6 -2.4 -2.1 -1.9 -1.7 -1.5 -2.2 -2.1 -2.7 -2.9 1.5 2.2 1.7 2.7 1.9 2.4 11.7 14.7 13.5 14.7 15.2 14.9 12.0 12.2 12.0 12.3 12.4 12.5 13.75 8.75 10.75 11.00 9.00 9.00 1.83 2.00 1.76 1.68 1.85 1.75
Brazil continues to grapple with persistently high inflation, but evidence that GDP decelerated sharply in 3Q11 has placed Brazilian policymakers in a delicate predicament: how to preserve market credibility in their commitment to fight inflation while actively preparing for further, potentially negative developments in Europe. A weaker economy calls for some reversal of the policy contraction that took place during 1H11, but Brazilian authorities have seemed much too eager to pre-emptively fight the effects of a global contraction. Right or wrong, the administration's bold countercyclical effort has been clearly ahead of the curve among EM inflationtargeters. That should result in relatively high GDP growth next year, but inflation should likewise stay materially higher than the target.
Source: BACEN, IBGE, Bloomberg, ING forecasts
Domestic demand is still expanding faster than GDP

% YoY 12
Activity to recover by the end of the first half The GDP deceleration seen in 3Q11 was surprisingly strong, but we would not extrapolate the soft patch much into the future. This deceleration reflected mainly the lagged effect of the monetary and fiscal tightening that took place in 1H11, rather than any contagion impact from events in Europe. And, as a significant amount of that policy contraction has already been reversed, the recovery should be evident later in the first half. Our forecast is that GDP will accelerate slightly in 2012, reaching about 3.5%, up from about 2.8% in 2011. Labour markets stayed around fullemployment levels in 2011, and we expect them to stay supportive in 2012. Job creation has now decelerated, and wage growth has moderated, but the unemployment rate is still at record-lows.
10 8 6 4 2 0 -2 1Q05
GDP (12-mo)
Domestic demand (12-mo)
4Q05
3Q06
2Q07
1Q08
4Q08
3Q09
2Q10
1Q11
Source: IBGE, ING
Real rates dropped sharply in recent months

12 11 10 9 8 7 6 5 4 3 Jan-08 Jul-08 Jan-09 Jul-09 Jan-10 Jul-10 Jan-11 Jul-11 CPI inflation (YoY %) Real interest rate (12M swap vs 12M-ahead CPI Forecast %) Policy rate SELIC (RHS %) Source: Bloomberg, BACEN, ING 16 14 12 10 8 6 4 2 0
High inflation should not prevent policy rate cuts After ending 2011 at 6.5%, inflation is likely to trend down early in 2012, thanks to favourable base-effects and a new CPI basket. Still, despite the improved momentum, we expect the yearly CPI to stay significantly higher than the 4.5% target for the foreseeable future. Our forecast is that CPI will end 2012 close to 5.5%. Lingering price pressures in the non-tradable sector, also evident in the high core inflation estimates, continue to add an upside risk for inflation. Those risks are exacerbated by the fact that the minimum wage is set to grow by 14% this month, while inflation expectations remain considerably higher than the target. Still, despite the faltering market credibility in inflation-targeting regime, we expect BACEN to continue to cut the policy rate to 9% by mid-2012, down from 11%.
A remarkable surge in FDI

(% of GDP) 6 4 2 0 -2 -4 -6 1Q07 Current account 1Q08 1Q09 FDI 1Q10 Other financing 1Q11F
Solid external accounts and stronger fiscal numbers Brazils external accounts in 2011 were marked by a sharp surge in FDI, which reached record-high levels, enough to comfortably finance the current account deficit. That trend will likely be reversed in 2012, when FDI inflows will no longer cover the current account deficit. Still, overall, Brazil is in a superior position to face a worse external outlook. The country's solid fundamentals, including high amounts of international reserves and a much-improved fiscal stance since Dilma Rousseff took office, suggest that appetite for Brazilian assets is unlikely to vanish. Investor sentiment should also benefit from the continued improvement in fiscal accounts, Rousseffs single most important achievement, which could lead to further ratings upgrades in 2012.
6 4 2 0 -2 -4 -6
Source: BACEN, ING
30
Global Outlook
January 2012
Mexico
Forecast summary
Ratings (M/S&P/F): Baa1/BBB/BBB

Great fundamentals
2008 2009 2010 2011F 2012F 2013F
debora.luna@americas.ing.com ezequiel.garcia@americas.ing.com
Real GDP (%YoY) GDP (bn or US$bn) Household consumption (%YoY) Fixed investment (%YoY) CPI (avg, %YoY) General budget (% of GDP) Current account (% of GDP) Net FDI (% of GDP) FX reserves (% of GDP) External debt (% of GDP) CB key rate (%, year-end) USD/MXN (avg) Source: GUS, ING forecasts
1.2 -6.1 5.4 3.9 2.6 2.3 1,092 880 1,035 1,145 1,113 1,155 1.7 -7.2 5.0 4.6 2.9 2.9 5.9 -11.9 2.4 6.4 4.0 3.3 5.1 5.3 4.2 3.4 3.7 3.7 -0.1 -2.3 -2.8 -2.5 -2.4 -1.9 -1.5 -0.7 -0.6 -0.9 -1.2 -1.4 2.1 1.8 1.9 1.7 1.6 1.6 7.8 10.3 11.0 12.6 13.5 13.5 18.7 22.2 23.8 21.6 21.8 20.4 8.25 4.5 4.5 4.5 4.5 4.5 11.2 13.5 12.6 12.4 13.6 13.8
Mexico offers a good yield, good credit profile, clarity in economic policy and liquid markets. We believe that the local debt market is currently at the advanced phase of a bull cycle where capital gains begin to be marginal. However, we still see a downwards bias potential in local yields. We have identified three reasons to remain overweight in Mexicos local debt markets: the stabilisation of inflation, the quality of credit and the anchorage in monetary policy rates globally combined with a comfortable on hold stance for Banxico. The peso should remain firmly anchored by sound fundamentals. Julys Presidential elections lead the political agenda. PRIs return to power looks assured with Enrique Pea Nietos lead in the polls.
Vulnerability is unavoidable
%3m/3m, sa, annualized 100 80 60 40 20 0 -20 -40 -60 Mexico manuf. Exports -80 06 07 08 09 index, 3-month ma 40 30 20 10 0 -10 -20 -30 -40 US Philly Fed, rhs -50 10 11
An orderly economic slowdown The economy is on track to register 3.9% YoY growth driven by solid dynamism in domestic demand. The extent of vulnerability to the fragile outlook for the US-business cycle is still uncertain. In recognition of higher downturn risks faced by the export-oriented sectors, we reduced our GDP forecast to 2.6%, which remains below the latest market consensus of 3.1%. The outlook is clouded, but internal demand bolstered by this years Presidential election should help to cushion the drag from lower external demand and prevent a free-fall. Job creation is set to repeat the 2011 story of positive gains but below 2010 rates. Labour demand has not been particularly disappointing, with the unemployment rate hovering around 5.5% and with a solid pace of real gains in wages.
Source: INEGI, Bloomberg

% 7 6 5 4 3 2 1 0 07 08 09 10 11 CPI inflation Real interest rate (Cete 12M vs 12M-ahead CPI Forecast) Core CPI 7 6 5 4 3 2 1 0
Stable balance of risk on the inflationary front Inflation is under control; both headline and core CPIs are steadily fluctuating within Banxicos forecast range. A rate cut in the short term is still not guaranteed. In our opinion, a larger-than-expected deceleration in the export-oriented manufacturing sectors or a blatant loss of momentum in internal demand are the prerequisites for a rate cut.. Foreign exchange pass-through has been limited and inflation expectations show no signs of contamination. However, statistical evidence suggests that a 1% depreciation translates into 0.5% higher inflation, with more than 80% of the effect taking place within one year. A combination of a reversal in commodities prices and a larger-than-expected pass-through could complicate Banxicos accommodative task in 2012.
Source: INEGI, ING
Smooth amortization profiles

USDbn 30 25 20 15 10 5 0 '09 '10 '11 '12 '13 '14 '15 '16 '17 Amortization of private sector external debt Amortization of public sector external debt (including OFI's)
Favourable external financing and debt dynamics We do not foresee a major deterioration in fundamentals that could jeopardize the stable inflow of foreign investments. Fiscal accounts remain aligned with a smooth amortisation profile from the public and private sectors. The Government has fully financed foreign amortisations through 2012/13, and we think it can easily adjust its issuance pace to adjust to demand. In terms of capacity to absorb external shocks, stable FDI inflows, remittances and heavy portfolio (debt) inflows observed throughout most of the year have given sufficient leeway to the policymakers. In our scenario, external and public finance accounts remain well behaved, with manageable gaps of 1.2% and 2.4% of GDP, respectively.
Source: Ministry of Finance
31
Global Outlook
January 2012
ING economic forecasts

GDP forecasts
%YoY World (USD) US Japan Germany France UK Italy Canada Australia New Zealand Eurozone Spain Netherlands Belgium Greece Switzerland Sweden Norway Iceland Bulgaria Croatia Czech Republic Hungary Poland Romania Russia Kazakhstan Slovakia Turkey Ukraine Brazil Mexico China Hong Kong India Indonesia Korea Malaysia Philippines Singapore Taiwan Thailand
Updated 11 January 2012 Source: ING
4Q11F 2.4 1.4 -0.3 1.6 0.5 1.1 0.0 1.9 2.5 3.1 0.6 0.1 0.3 -0.4 -4.4 0.8 2.5 2.5 4.3 1.4 0.4 0.6 -0.3 3.9 3.8 4.1 6.8 2.1 4.9 4.1 1.5 3.3 9.0 3.5 6.1 6.3 4.5 3.8 3.8 3.6 3.7 -6.6
1Q12F 2.2 1.7 1.8 0.2 -0.8 0.4 -0.7 1.5 2.4 2.9 -0.6 -0.6 -0.6 -0.7 -5.4 0.2 1.9 2.8 2.1 0.4 -0.7 -0.5 -1.5 2.5 1.8 3.4 7.2 0.7 -0.7 3.1 2.2 3.2 9.0 3.5 6.0 6.3 3.8 4.6 4.5 3.9 2.9 1.1
2Q12F 2.4 1.8 2.5 0.2 -0.7 0.3 -1.3 1.9 2.7 2.5 -0.8 -0.9 -0.9 -1.2 -4.2 -0.2 1.4 2.0 6.8 0.3 -0.7 -0.8 -0.7 2.8 1.1 4.8 7.8 0.1 2.0 4.0 2.7 4.0 8.7 4.3 6.4 6.3 3.6 5.1 4.7 5.5 3.8 3.6
3Q12F 2.4 2.0 1.7 0.0 -0.8 0.1 -1.1 2.0 2.9 2.5 -0.6 -0.9 -0.4 0.0 -3.0 -0.2 0.5 2.0 2.5 0.5 -0.5 -0.7 0.1 2.0 0.0 4.6 5.0 0.1 4.0 1.9 4.0 1.7 8.6 5.0 6.6 6.0 4.3 5.2 4.7 5.1 4.5 3.7
2011F 2.7 1.7 -0.7 2.9 0.2 1.0 0.4 2.2 2.0 1.8 1.5 0.6 1.4 0.2 -5.3 1.7 4.4 2.5 3.9 2.1 0.3 1.7 1.3 4.2 3.0 4.3 6.7 3.0 8.3 4.6 2.8 3.9 9.3 5.1 7.2 6.5 3.9 4.8 3.7 5.3 4.5 0.6
2012F 2.4 1.8 1.9 0.4 -0.5 0.3 -1.1 1.9 2.8 2.7 -0.4 -0.7 -0.5 -0.4 -3.5 0.1 1.2 1.9 3.5 0.8 -0.4 -0.3 -0.3 2.3 0.8 3.3 4.5 0.5 2.6 3.2 3.5 2.6 8.7 4.5 6.5 6.3 3.9 5.1 4.7 5.0 4.1 4.7
2013F 3.0 2.2 1.5 2.0 1.0 2.1 0.2 2.5 2.8 2.3 1.3 0.8 1.2 0.3 -0.2 1.2 1.5 2.4 2.7 2.5 1.8 3.1 2.1 3.7 3.1 4.1 5.5 2.8 4.6 3.2 4.4 2.3 8.7 5.0 8.0 6.5 3.9 5.0 5.5 5.8 4.0 5.0
32
Global Outlook
January 2012
CPI forecasts, pa
%YoY World US Japan Germany France UK Italy Canada Australia New Zealand Eurozone Spain Netherlands Belgium Greece Switzerland Sweden Norway Iceland Bulgaria Croatia Czech Republic Hungary Poland Romania Russia Kazakhstan Slovakia Turkey Ukraine Brazil Mexico China Hong Kong India Indonesia Korea Malaysia Philippines Singapore Taiwan Thailand
4Q11F 3.5 3.4 -0.2 2.7 2.3 4.6 3.7 2.6 3.3 2.6 2.9 2.7 2.5 3.6 2.8 -0.4 1.9 1.0 5.3 3.1 2.5 2.6 4.2 4.5 3.4 6.7 7.8 4.8 10.4 5.5 6.6 3.8 4.8 5.7 9.0 4.2 4.0 3.3 4.7 5.5 1.2 4.2
1Q12F 2.9 2.8 -0.3 2.3 1.6 3.2 3.2 2.3 2.3 2.1 2.0 1.7 2.2 3.1 2.4 -0.7 2.0 1.0 5.4 3.5 2.6 3.4 4.9 3.7 1.7 5.1 6.5 3.4 10.9 10.0 5.7 3.8 4.2 5.0 9.0 4.0 3.5 2.9 4.2 4.5 1.1 4.0
2Q12F 2.4 2.0 -0.1 2.2 1.0 2.1 2.6 1.9 2.3 1.7 1.7 1.2 1.7 2.1 1.7 -1.2 1.3 0.9 3.2 1.7 1.7 3.3 4.7 3.4 2.2 4.5 6.2 3.3 10.0 9.2 5.7 3.9 3.7 4.0 8.7 4.2 3.1 2.7 4.3 3.5 0.9 3.8
3Q12F 2.4 1.9 -0.1 2.2 1.2 1.8 2.4 1.9 2.4 2.0 1.7 1.2 1.3 1.7 1.7 0.0 1.5 1.2 2.7 3.1 2.7 3.0 5.2 4.0 4.2 6.0 6.8 3.1 9.5 10.6 5.5 3.8 3.2 3.0 8.5 4.5 2.7 2.5 4.1 2.0 1.0 3.5
2011F 3.5 3.2 -0.3 2.5 2.2 4.4 2.9 2.7 3.4 4.2 2.7 3.0 2.3 3.5 3.2 0.2 2.5 1.3 4.0 4.3 2.3 2.0 3.9 4.2 5.8 8.5 8.4 4.1 6.5 8.1 6.6 3.4 5.5 5.4 9.0 5.4 4.0 3.2 4.8 5.2 1.4 3.9
2012F 2.5 2.3 -0.1 2.1 1.3 2.2 2.7 1.9 2.4 1.9 1.8 1.2 1.6 2.1 1.7 -0.4 1.6 1.1 3.4 3.0 2.4 3.2 4.8 3.6 3.0 5.9 6.7 3.2 9.4 6.5 5.4 3.8 3.5 4.0 8.5 4.3 3.0 2.6 4.1 3.0 1.1 3.6
2013F 2.5 2.3 0.0 1.7 1.9 2.0 2.1 2.1 2.4 2.1 1.8 1.6 1.6 1.9 0.9 0.3 1.4 1.6 2.1 3.3 2.6 2.3 3.0 2.8 5.6 6.8 7.1 2.5 6.5 9.9 4.9 3.8 3.5 3.5 7.5 4.5 3.0 3.0 4.2 3.0 1.3 3.0
Quarterly forecasts are eop; yearly forecasts are average over the year
33
Global Outlook
January 2012
Policy rate forecasts (end period)

(%) US Eurozone Japan UK Switzerland Sweden Norway Iceland Canada Australia New Zealand Czech Republic Hungary Poland Romania Russia Kazakhstan Turkey Ukraine Brazil Mexico China India Indonesia Korea Malaysia Philippines Taiwan Thailand
10/01/2012 0.00 1.00 0.05 0.50 0.25 1.75 1.75 4.75 1.00 4.25 2.50 0.75 7.00 4.50 5.75 8.00 7.50 5.75 7.75 11.00 4.50 3.50 8.50 6.00 3.25 3.00 4.50 1.88 3.25
1Q12F 0.00 0.75 0.05 0.50 0.00 1.50 1.50 4.75 0.75 4.00 2.50 0.75 8.00 4.50 5.50 7.75 7.50 5.75 8.00 10.00 4.50 3.50 8.50 5.75 3.25 3.00 4.25 1.88 3.00
2Q12F 0.00 0.75 0.05 0.50 0.00 1.50 1.50 4.25 0.75 3.75 2.50 0.75 8.00 4.25 5.50 7.75 7.50 5.75 7.50 9.00 4.50 3.50 8.25 5.50 3.25 3.00 4.00 1.88 3.00
3Q12F 0.00 0.75 0.05 0.50 0.00 1.50 1.50 4.25 0.75 3.75 2.50 0.75 7.75 4.00 5.50 7.75 7.50 5.75 7.50 9.00 4.50 3.50 8.00 5.25 3.25 3.00 4.00 1.88 3.00
4Q12F 0.00 0.75 0.05 0.50 0.00 1.50 1.50 4.25 0.75 3.75 2.50 0.75 7.25 4.00 5.50 7.75 7.50 5.75 7.00 9.00 4.50 3.50 7.75 5.00 3.25 3.00 4.00 1.88 3.00
1Q13F 0.00 0.75 0.05 0.50 0.00 1.50 1.50 4.50 0.75 3.75 2.50 1.00 6.75 4.00 5.75 7.75 7.50 6.25 7.00 9.00 4.50 3.50 7.50 5.00 3.25 3.00 4.00 1.88 3.00
2013F 0.00 0.75 0.05 1.00 0.25 1.75 2.00 4.75 1.00 4.00 3.00 1.25 5.50 4.00 6.50 7.50 7.25 6.75 6.50 9.00 4.50 3.75 7.25 4.00 3.25 3.00 4.50 1.88 3.00
34
Global Outlook
January 2012
Three-month interest rate forecasts (end period)

(%) 10/01/2012 1Q12F 2Q12F 3Q12F 4Q12F 1Q13F 2013F
US Eurozone Japan UK Switzerland Sweden Norway Canada Australia New Zealand Bulgaria Croatia Czech Republic Hungary Poland Romania Russia Kazakhstan Turkey Brazil Mexico China* Hong Kong India Indonesia Korea* Malaysia Philippines* Singapore Taiwan* Thailand
0.58 1.21 0.20 1.09 0.06 2.66 2.71 1.36 4.67 2.88 3.37 4.30 1.18 8.18 5.00 5.62 7.06 2.00 11.37 10.30 4.51 3.49 0.40 8.45 5.25 3.56 3.22 1.45 0.55 0.83 3.24
0.60 1.30 0.20 1.10 0.05 2.40 2.50 1.00 4.30 2.80 3.50 4.70 1.15 8.10 4.69 5.00 6.50 1.80 11.08 9.70 4.25 3.45 0.40 9.35 5.25 3.55 3.20 2.00 0.50 0.80 3.20
0.50 1.10 0.20 0.90 0.05 2.40 2.40 1.00 4.10 2.80 3.40 4.50 1.15 8.10 4.44 5.10 6.00 1.80 10.48 9.10 4.25 3.45 0.40 9.00 5.25 3.55 3.20 2.20 0.50 0.80 3.20
0.40 0.90 0.20 0.70 0.05 2.40 2.40 1.00 4.10 2.80 3.30 4.40 1.15 7.80 4.25 5.40 5.75 1.90 9.68 9.00 4.25 3.45 0.40 8.80 5.00 3.55 3.20 2.50 0.50 0.80 3.20
0.40 0.90 0.20 0.70 0.05 2.40 2.40 1.00 4.10 2.80 3.20 4.50 1.30 7.30 4.39 5.90 5.50 2.00 8.88 8.90 4.30 3.45 0.40 9.00 4.75 3.55 3.20 2.50 0.50 0.80 3.20
0.40 0.90 0.20 0.90 0.10 2.50 2.50 1.10 4.20 2.90 3.20 4.40 1.35 6.80 4.20 6.10 5.25 1.70 9.00 9.10 4.30 3.45 0.40 9.20 4.75 3.55 3.20 2.50 0.50 0.80 3.20
0.40 0.90 0.20 1.50 0.30 2.90 3.00 1.40 4.50 3.40 3.35 4.50 1.50 5.60 4.20 6.50 5.00 2.20 9.02 9.10 4.35 3.70 1.10 8.75 4.00 3.55 3.20 4.00 1.00 1.00 3.20
*3 month PBOC bill rate for China; CD rate for Korea, T-bill rate for the Philippines and CP rate for Taiwan; Interbank rates for the others Updated 11 January 2012 Source: ING
35
Global Outlook
January 2012
10Y bond yield forecasts (end period 10Y unless stated)

(%) 10/01/2012 1Q12F 2Q12F 3Q12F 4Q12F 1Q13F 2013F
US: Fed funds 3M 2Y 5Y 10Y 30Y EU12: ECB refi 3M 2Y 5Y 10Y 30Y Japan France Italy Spain UK Switzerland Sweden Norway Canada Australia New Zealand Bulgaria Croatia Czech Republic Hungary Poland Romania (5Y) Russia Slovakia (5Y) Turkey Brazil Mexico China (5Y) Hong Kong India Indonesia Korea (3Y) Malaysia (5Y) Philippines (5Y) Singapore Taiwan Thailand
0.00 0.58 0.25 0.84 1.95 3.01 1.00 1.21 0.17 0.82 1.87 2.46 0.98 3.25 7.19 5.52 2.07 0.69 1.69 1.99 1.96 3.89 3.86 5.17 7.24 3.66 9.88 5.82 7.11 8.68 4.55 9.95 11.46 6.33 3.02 1.50 8.23 6.25 3.38 3.23 4.40 1.55 1.31 3.19
0.00 0.60 0.40 0.90 1.80 2.90 0.75 1.30 0.30 0.80 1.80 2.40 1.00 3.60 7.10 5.75 2.30 0.80 1.60 1.90 1.90 3.70 3.70 5.25 7.10 3.20 9.50 6.12 7.00 8.50 4.20 10.25 11.80 5.30 3.55 1.50 8.40 6.00 3.40 3.30 4.80 1.60 1.30 3.30
0.00 0.50 0.40 1.00 1.90 2.90 0.75 1.10 0.50 1.10 1.90 2.40 1.10 3.80 7.25 6.25 2.40 0.80 1.60 1.90 2.10 3.80 3.80 5.20 6.90 3.20 9.10 6.01 6.80 8.50 4.10 10.35 11.60 5.40 3.55 1.60 8.00 5.75 3.50 3.30 5.00 1.60 1.30 3.40
0.00 0.40 0.50 1.10 2.00 3.00 0.75 0.90 1.00 1.30 2.00 2.50 1.30 3.90 7.00 6.00 2.50 0.90 1.80 2.00 2.30 4.10 3.90 5.30 6.90 3.20 8.80 6.21 6.90 8.50 4.00 10.15 11.50 5.50 3.55 1.70 7.80 5.50 3.55 3.40 5.10 1.60 1.30 3.50
0.00 0.40 0.60 1.20 2.00 3.00 0.75 0.90 0.90 1.50 2.20 2.60 1.40 4.10 6.80 5.75 2.70 1.00 1.90 2.10 2.50 4.40 4.20 5.30 6.90 3.40 8.40 5.67 7.00 8.40 4.00 9.25 11.10 5.50 3.55 1.70 8.20 5.25 3.55 3.40 5.20 1.60 1.30 3.50
0.00 0.40 0.70 1.30 2.10 3.00 0.75 0.90 1.10 1.60 2.25 2.60 1.50 4.20 6.50 5.50 2.90 1.20 2.10 2.30 2.70 4.60 4.40 5.30 6.90 3.60 7.40 5.12 7.20 8.30 3.90 10.45 10.95 5.60 3.55 1.70 8.30 5.25 3.55 3.40 5.20 1.60 1.30 3.50
0.00 0.40 0.90 1.70 2.40 3.20 0.75 0.90 1.20 1.90 2.60 2.80 1.50 4.50 6.25 5.25 3.30 1.50 2.50 3.00 3.20 5.20 4.50 5.50 7.00 3.80 6.50 5.12 7.60 8.30 3.80 10.10 10.80 5.90 4.00 1.90 8.00 4.50 3.55 3.40 5.40 1.80 1.50 3.50
36
Global Outlook
January 2012
Foreign exchange forecasts (end period)

10/01/2012 Euro Japan UK Japan UK Canada Australia New Zealand Switzerland Sweden Norway Denmark Bulgaria Croatia Serbia Czech Republic Hungary Poland Romania Russia Kazakhstan Turkey South Africa Israel Brazil Mexico Argentina Chile China Hong Kong India Indonesia Korea Malaysia Philippines Singapore Taiwan Thailand
Source: ING
1Q12F 1.25 75.0 1.56 93.8 0.80 1.02 1.00 0.77 1.20 8.70 7.50 7.425 1.96 7.54 107 26.30 315 4.50 4.35 31.46 146 1.88 9.00 3.90 1.92 13.60 4.39 532 6.268 7.770 55.50 9100 1150 3.117 44.20 1.283 29.25 31.20
2Q12F 1.20 75.0 1.54 90.0 0.78 1.05 0.98 0.75 1.20 9.10 7.80 7.420 1.96 7.54 108 26.00 301 4.25 4.30 31.84 146 1.86 9.00 4.00 2.05 13.70 4.59 555 6.220 7.770 56.50 9100 1150 3.149 43.80 1.296 29.25 31.00
3Q12F 1.25 75.0 1.62 93.8 0.77 1.02 0.99 0.77 1.20 9.3 7.85 7.43 1.96 7.53 109 25.50 286 4.33 4.30 32.09 147 1.82 9.00 4.00 1.85 13.80 4.72 535 6.173 7.770 53.50 9100 1150 3.106 44.80 1.278 29.25 30.75
4Q12F 1.30 75.0 1.73 97.5 0.75 1.00 1.00 0.78 1.20 9.50 7.90 7.445 1.96 7.54 110 25.00 285 4.30 4.25 31.72 146 1.78 9.00 4.00 1.78 13.75 4.88 490 6.126 7.770 51.00 9100 1150 3.063 42.52 1.260 29.25 30.50
1Q13F 1.35 75.0 1.73 101.3 0.78 1.02 1.00 0.78 1.22 9.40 7.90 7.450 1.96 7.54 110 24.30 278 4.18 4.25 30.67 144 1.76 8.90 4.00 1.75 13.80 5.15 485 6.126 7.770 48.50 9100 1150 3.063 42.52 1.260 29.25 30.50
2013F 1.40 85.0 1.75 119.0 0.80 1.05 1.00 0.80 1.30 9.00 7.70 7.460 1.96 7.55 110 23.40 270 3.80 4.15 30.60 143 1.70 8.50 4.10 1.75 13.94 5.55 470 6.000 7.77 45.00 9100 1150 3.063 40.80 1.260 29.25 30.50
EUR/USD USD/JPY GBP/USD EUR/JPY EUR/GBP USD/CAD AUD/USD NZD/USD EUR/CHF EUR/SEK EUR/NOK EUR/DKK EUR/BGN EUR/HRK EUR/RSD EUR/CZK EUR/HUF EUR/PLN EUR/RON USD/RUB USD/KZT USD/TRY USD/ZAR USD/ILS USD/BRL USD/MXN USD/ARS USD/CLP USD/CNY USD/HKD USD/INR USD/IDR USD/KRW USD/MYR USD/PHP USD/SGD USD/TWD USD/THB
1.279 76.8 1.55 98.3 0.827 1.02 1.03 0.79 1.213 8.82 7.66 7.44 1.956 7.530 103.9 25.83 313.30 4.47 4.36 31.66 148.54 1.87 8.07 3.83 1.82 13.61 4.31 513.10 6.314 7.766 51.75 9140 1153.6 3.136 43.98 1.289 30.02 31.63
Updated 11 January 2012
37
Global Outlook
January 2012
EM Rates and Debt Strategy country recommendations

Hard currency recs and RV owts/(uwts) We favour the quasi-sovereign sector where Province of BA 18s which is shorter in duration than the sovereign Discounts Local market debt/rates Remain cautiously flat. Look to position in Boden ARS 14 should sentiment improve.
Cash rec Argentina Small underweight
Rationale We remain negative on Argentina as the country is particularly vulnerable to an extended downturn in global activity trends. That vulnerability is compounded by the fact that dwindling fiscal resources together with a currency run have resulted in a fiscal contraction and a surge in interest rates, which may only exacerbate the contagion risks coming from abroad. Argentina's high-beta status amid an unfriendly external environment could also continue to prevent credit from tapping external debt markets, while fiscal financing needs are getting increasingly scarce. Paris Club negotiations, which appeared to have been evolving favourably, seem to have stalled and the sharp drop in international reserves in recent months, which the administration would need to service debt payments to Club members, may complicate further a final move forward with a frontloaded debt-repayment plan. The near-term fiscal financing outlook looks tight but could be managed with domestic resources. Room to accommodate an economic deceleration through fiscal stimulus has been severely reduced however. The elimination of energy subsidies for corporates and wealthy individuals is a positive step that we think should help shore up the deterioration in fiscal accounts. The decision just shows, however, that fiscal constraints are biting and that much more needs to be adjusted if the plan is to end all subsidies and bring energy and transportation prices to market levels. In any case, the prospect of stagflation is increasing fast.
Brazil Neutral
Economic activity decelerated faster than expected in the second half of 2011, which should bring total GDP expansion for the year to about 2.8%. But the countrys outlook remains solid, in our view, thanks in part to the fact that policymakers have plenty of ammunition (e.g. large international reserves, tighter monetary conditions) to ease the consequences of a more dire activity adjustment abroad. As such, we expect activity to accelerate slightly in 2012, with a more significant push starting in 2Q, when we think the effects of the policy easing of recent months will become more evident. Up until now, the priority had been (rightly, in our view) to focus the countercyclical effort on the monetary policy front, through rate cuts, for instance, but fiscal policy action has now become more aggressive as well. For now, the focus has been on providing tax incentives for credit-sensitive segments such as home appliances, but we would regard this as a negative development if the fiscal stimulus effort were to become larger. This would reduce the room the central bank would have to lower interest rates and would hurt Brazils fiscal accounts, which otherwise improved sharply under Dilma Rousseffs watch.
Opportunities in Receive 12M IRS, pay 5Y the quasisovereign (Petrobras 19s) seem to be more stable than many corporates at the moment and provide higher-thansovereign yields. We like Banvor16, VOTORA21 BANBRA22 BANBRA17
Belize Underweight Chile Overweight
A higher risk credit sensitive to external shocks, especially for remittance flows and tourism related to the US. Chiles solid economic footing and low debt burden continue to stand out in the region, and should Favour 2021 vs boost the country's status as a high-grade credit, resulting in outperformance in a risk-averse scenario. (2013) But there is now evidence that economic activity is slowing on the back of external contagion. As a small, open economy, Chile remains particularly vulnerable to global growth trends, particularly those in emerging Asia. A near-term spike in inflation could delay a monetary policy rate cut, but abundant fiscal and countercyclical monetary policy tools should limit the downside to economic activity. Colombia is highly levered to external current account receipts at 106%, which is more consistent with credits in the BB arena. Were the global economy on a different path, Colombia would be attractive. With the current account balance set to deteriorate next year to over 2.5% of GDP, and with an otherwise sizable external financing requirement of over US$30bn, we maintain our Underweight given that certainties regarding global growth are in flux. As a serial defaulter, investors will unlikely benefit from holding the Rep 15 in the current risk environment. The lack of liquidity on the instrument is an extra deterrent. Receive 1Y IRS, pay 5Y
Colombia Underweight
Favour the front- Pay 2Y IRS, end 2017 versus Receive 5Y (Rep33)
Ecuador Underweight
(2015)
Mexico Overweight HG corporates, and liquid sovereigns
We regard Mexico as among the more stable Latam credits. With US growth prospects appearing to be The front end less of a concern than over the summer, we think Mexico stands to benefit from the improved outlook. appears rich Although they are close to fair value levels, we like the liquidity UMS issues provide. We favour the on a global longer end for the best UST-related flattening.
basis. Better value is to be had further out, at34 and 40 We like BBVASM17 and Cemexs notes
We like BBVASM17 and Cemexs notes (excl. the perpetuals)
38
Global Outlook
January 2012

Peru Overweight We remain upbeat on Peruvian assets and continue to see room for Perus spreads to trade narrower than Brazils and Colombias, as was the case early last year. As a result, we see the recent underperformance of the credit, likely on the back of rising political uncertainty, as a buying opportunity. The recent cabinet reshuffle was certainly larger than expected, but, in our view, it represented less a change in policy directives and more a fine-tuning of the administrations managerial capacity, which was needed after the recent failure to suppress political protests against a high-profile mining project. President Ollanta Humala has kept the macroeconomic conditions that allowed Peru to lead the region in economic growth in recent years largely intact, which recently prompted a rating upgrade by Fitch. Economic activity has moderated somewhat, but we believe the Peruvian governments impressively low debt burden, at 24% of GDP, high USD reserves and plenty of ammunition to implement countercyclical policies should provide a strong buffer against another bout of weak activity abroad. GDP data shows that activity growth has decelerated in recent months, while inflation has picked up somewhat, limiting the ability of the CB to cut rates in the near term. Price pressures are likely to be temporary, however, and, as a result, we expect countercyclical fiscal and monetary policies to be eventually deployed, keeping GDP expansion within the 5-6% range. Hopes that Chavez will not run in presidential elections later this year due to illness have encouraged stability among bonds. We remain cautious on that issue. A departure of Chavez does not necessarily mean he will be followed by an external bond-friendly replacement, and there is the risk that an Ecuador-like treatment of debt issued by Chavez might ensue. We are reluctant to adopt an underweight on Venezuela, due to the high cost of carry here, where yields run above 13% on the 10-year segment of the curve. While we see Venezuela as extremely attractive, and a lower credit risk than indicated by current market spread levels, as a high-beta name, it is very volatile. We shift to Neutral, as we wait to see what transpires in the Eurozone. We see the best value at the very long end of Peru, with the 25 trading least rich to global peers. Banco Cred Peru 21 is 86bp cheap to BBB- peers Flat for now. Look to receive 2Y IRS if external conditions deteriorate rather than improve
Venezuela Neutral
Prices at the long end have fallen near recovery so have less downside potential. We opt for the 25 and 38 offering yields above 16%
Belarus Flat
After dipping to 70 in October, the new 2018 bond staged a 16-point recovery to 85, but has remained range-bound ever since. The government continues to require external financing support in order to stabilise the economic situation. Moodys has slashed its FC bond ratings twice this year and maintains a negative outlook for good reason. A top constraint for Belarus's credit risk profile remains its high current account deficit. Financing the deficit requires the country to remain on favourable terms with external creditors. Unfortunately, last years election turmoil has put the country on something of a back foot in that regard among Western bilateral and multilateral lenders. Meanwhile, the internal political heat has not abated and the government continues to face protests, which may worsen if the economy sinks further in the months to come.
Croatia Underweight
With an external debt to current account receipt level above 230%, Croatia is among the most highly levered EM credits to external growth vectors, which are particularly unfavourable at the moment. Debt service is also running especially high at around 40%. Consequently, both liquidity and debt dynamic concerns will likely continue to weigh on credit spreads, which we see as still 40bp overvalued. Favour the front end. From a 2012 perspective, Hungary has one of the worst debt repayment dynamics across all EM, with CMLTM and interest in excess of 20% of GDP. This has left REPHUN bonds vulnerable in credit markets and a 500bp jump of 5Y CDS spreads since June 2011. We remain neutral, given the already strong jump in spreads, and as we see the external debt risks being counter-balanced by an evermore likely agreement with IFIs and the EU on a new loan program.
2014 versus (2018)
Hungary Neutral
Flat
Iraq Overweight
Returns on energy investment, healthy oil prices (above US$90/bbl) and the increased investment in non-hydrocarbon sectors will likely underpin above-10% GDP growth over the next four years. The downside for Iraq is the fragmented political process and lingering security issues. Excessively loose fiscal policies are also a concern. BTAS looks set for another default in January 2012, contaminating other Kazakh issues. Although debt-to-exports above 130% show that credit dynamics are tied to externals, relatively stable to higher oil prices as well as solid FX reserves mean we see more risk in the domestic political environment. 5Y CDS spreads are overvalued, in our view. GDP growth remains relatively robust with Poland exposed to a still growing German economy but nowhere near as open as CEE3 peers Hungary and Czech Republic. The Polish credit profile should improve as we move through 2012, with the government showing continued willingness for fiscal restraint, in turn supportive for the ratings outlook. That said, contagion risks cannot be ignored for Polish credit spreads, which we expect to remain under pressure until investors Eurozone fears begin to abate. Given the higher exposure to FX lending (15% of banking assets owned by Greek banks and another 30% by now more restricted Austrian banks), Romania will remain at the higher end of the credit crunch list in the region, with NPL pressure sustaining too. Investors will be deterred by Romania CMLTD/GDP of over 7% in 2012, which is further exacerbated by the near 4% of GDP fiscal deficit and nearly 5% current account deficit. We opt to wait and see for better entry points, assuming Eurozone risks eventually abate in 1H12.
2028
Kazakhstan Underweight
Poland Neutral
Rep US$14 vs (14); Rep US$ 15 vs (22)
We see a decline in the 10Y spread to bunds starting only in mid2012. Receive 2Y, pay 10Y (look to reverse of capital flight pressures protective FX policies.
Romania Neutral
Rep EUR 12 versus (18)
Russia Overweight
While the much larger than expected December demonstrations went through without any major turmoil, political uncertainty (especially from opposition frustration) remains the main risk as we approach the 4 March presidential elections. With oil prices seemingly supportive and Russia enjoying the lowest debt/GDP levels in the region, Russian bonds have been dragged down too much by proximity effects and appear cheap versus global peers. We favour the Fed 30.
We see the Fed 30 as undervalued vs other Fed issues.
39
Global Outlook
January 2012

S Africa Small Overweight Although S Africas expected twin fiscal and current account deficits in 2012 are a negative, the country Rep 20 vs (Rep Pay 2Y IRS, has one of the lowest levels of CMLTD this year among EM, at just 1.6% of GDP. Rollover risks are 14) receive 10Y consequently very low. The main risks are on the local currency and rates front, although these are admittedly less acute than for countries closer to Europe. While Turkey enjoys some of the best fiscal dynamics amongst EM peers, the worsening 2011 BoP backdrop has not only increased the risk on the FX front but also on the external debt side, with the CBT losing USD 7bn FX reserves in December alone. However, given our expectations of a drop in the 12M rolling current account deficit as of November as well as a likely turn in inflation as of Q2-2012, we see the main short-term risk being central bank interest rate policy uncertainty. Turkish bonds staged a recovery in early October, but have failed to hold their ground and are down over 1% MTD versus the 0.6% gain for the EMBIG. Volatility may be expected to be greatest on the long-end of the curve, which is why we remain among the short-to-intermediate bonds. Ukraine Neutral The main risk for Ukraine is any failing in reaching a gas price reduction agreement with Russia. There still has been no news on this issue, while Ukraine has threatened to sue Russia if no agreement ensues. With a widening current account deficit and FX reserves slowly being depleted, although sufficient to cover the shortfall, we remain cautious especially ahead of the Oct-2012 elections, after which policy visibility should improve. The short-toPay 2Y IRS, intermediate end receive 10Y of the Eurobond curve looks cheapest. Favour Rep 18 and 20.
Turkey Underweight
Rep 16 versus (Rep 21)
Korea Overweight
Korea 5Y CDS trade cheap versus credit peers. Koreas low debt to current account receipt (60%), EIBKOR 20 are debt service of 7% and fiscal surplus are all attractive, despite the countrys heavy exposure to external slightly cheap; shocks. KHFC 16s offer some slight of value Indonesia bonds appear cheaper than Philippines. We recommend an RV position between the two. Indo 35s are the least rich on the sov curve; we prefer corporates
Indonesia Neutral
Malaysia Overweight
Tenaga issues trade rich to BBB+ norms and Telekom Malaysia issues are similarly rich. We opt for Petronas 19 is the Petronas 19 and 26, which are the least rich and are otherwise underweight other quasithe least rich, sovereigns, but not any corporates. Malaysia offers investors low beta volatility and solid external credit vs A credits fundamentals. The Philippines may see further export weakness over the near term. Export growth has rapidly shown signs of deceleration since peaking at 46.9% YoY in September 2010, when exports hit an all-time high of US$5.3bn. The erosion of current account fundamentals should not have much impact on Philippines external credit risks, however. Still, they do not suggest marked improvements, either. Since bonds are already trading far too expensively, we maintain our underweight. Vietnam bonds have cheapened up in recent months and are trading in line with B+ levels. Still, with inflation risks still on high (albeit showing signs of peaking) and the high fiscal deficit, we opt to scale back exposure for the moment. The least rich RoPs are at the longer end. RoP 31 is attractive
Philippines Underweight
Vietnam Underweight Source: ING
40
Global Outlook
January 2012
Global strategy summary

Developed markets
DEBT MARKETS ST (end-1Q12F) Front vs intermediate US EU Japan Bullish 10Y 1.8% Bullish 10Y 2.0% Bearish 10Y 1.15 % Flattening 2Y vs 10Y -3p Steepening 2Y vs 10Y -4bp Intermediate vs back Parallel 10Y vs 30Y -10bp Parallel 10Y vs 30Y 18bp FX SHORT-TERM (end-4Q11F) vs US$ vs vs Bearish (1.25) Bullish (75) Bullish (1.25) Bullish (93.75) Bearish (75) Bearish (93.75) FX MEDIUM-TERM (1Q12F) vs US$ vs vs Bearish (126) Bullish (75) Bullish (1.26) Bullish (94.5) Bearish (75) Bearish (94.5)
Emerging markets portfolio

EM GLOBAL EXTERNAL DEBT MARKET POSITIONING Risk/exposure Assessment/positioning
Global EM credit outlook Market risks Regional allocation Interest rate exposure Market exposure Credit exposure Diversification Y-curve exposure FX exposure ST Neutral; MT Neutral High (mostly external and US/EU related) Neutral Latam, Neutral EMEA, Neutral Asia Long UST; Long EU IR duration Short spread beta Short credit/HY exposure Hard currency sovereigns and select HG corporates Neutral spread duration Long US dollars vs euros
H David Spegel, New York (1 646) 424 6464
EM GLOBAL LOCAL MARKET POSITIONING Risk/exposure Assessment/positioning

Global outlook Market risks Regional allocation Diversification (bonds) Bond y-curve Total local exposure (incl directional) EM neutral/negative vs USD and vs EUR Moderate/high Short Latam, neut/neg EMEA, long Asia Sovereigns versus corporates Curve steepening predominates 15%
DEBT MARKETS
Bmark View/rec wt (%) Argentina Brazil Belize Chile Colombia Ecuador El Salv Jamaica Mexico Panama Peru T&T Uruguay Venezuela Bulgaria Belarus Croatia Czech Rep Hungary Iraq Kazakhstan Lebanon Poland Romania Russia Serbia S Africa Turkey Ukraine China India Indonesia Korea Malaysia Philippines Vietnam 2.36 7.43 0.13 2.67 4.77 0.26 1.62 0.50 6.79 3.36 3.82 0.33 2.53 4.06 0.58 0.58 1.71 0.28 2.88 0.94 3.79 4.10 3.45 0.28 6.99 0.38 3.70 6.73 3.63 2.59 0.00 6.47 0.00 2.75 6.82 0.73 Underweight Neutral Underweight Overweight Underweight Neutral Overweight Underweight Overweight Small overwt Overweight Small overwt Underweight Neutral Overweight Underweight Underweight Neutral Neutral Overweight Underweight Underweight Neutral Neutral Small overwt Neutral Small overwt Underweight Neutral Overweight Overweight Neutral Overweight Overweight Underweight Underweight Portf Durwt (%) ation 1.75 7.43 0.00 3.67 3.77 0.26 2.62 0.00 8.04 4.11 5.93 0.58 2.03 4.31 1.58 0.00 0.50 0.53 2.88 2.44 1.29 1.10 3.45 0.28 7.63 0.63 4.45 4.73 3.13 3.59 0.50 6.47 1.00 3.25 5.82 0.25 Neutral Neutral Long Short Short Long Short Long Neutral Short Long Neutral Short Short Short Short Long Long Short Short Long Neutral Neutral Yield curve Diversification
LOCAL FX DEBT/MM
Portfolio rec Flat Overweight Underweight Flat Overweight Overweight Underweight Overweight Underweight Overweight Flat Flat Overweight Flat Underweight Flat Underweight Flat Wt total (%) 0 20 -10 0 0 0 0 20 0 0 0 0 0 40 0 -20 40 0 0 0 -10 0 20 0 0 0 30 0 0 -15 0 -10 0 0
FX OUTLOOK
Shortterm Medium -term
LOCAL DEBT/ INT RATES

View/ rec Yield curve
Steepening Flattening Sov only Steepening Bear inversion MICC 17 Flattening Steepening Steepening Steepening Steepening Steepening Steepening Steepening Steepening Flattening Flattening Steepening Steepening Flattening Barbell Banort 16 Sov only Remain with sov debt Sov only
Negative Negative Negative Positive Neutral Neutral Neutral Neutral Negative Neutral Neutral Negative Neutral Neutral Neutral Positive Neutral Neutral Neutral Neutral Positive Neutral Neutral Neutral Positive Neutral
Negative Positive Steepening Neutral Neutral Neutral Neutral Neutral Neutral Neutral Neutral Neutral Steepening Parallel Parallel Parallel Steepening Flattening
Negative Steepening Neut/neg Steepening Neutral Parallel Positive Flattening
Neutral Parallel Short Steepening
ICICI 22; Bumi 16 KOMIPO 16; Samsung 27; Woorib 27 Petronas 26 Corps are also rich
Negative Neutral Positive Positive
Positive Positive
Positive Flattening
*Currency versus euro Short-term = 1-6 weeks; medium-term = 6 weeks to 6 months. Source: ING
41
Global Outlook
January 2012
Research analyst contacts

Developed Markets London Mark Cliffe Rob Carnell James Knightley Chris Turner Tom Levinson Amsterdam Maarten Leen Martin van Vliet Teunis Brosens Dimitry Fleming Padhraic Garvey Jeroen van den Broek Mark Harmer Maureen Schuller Alessandro Giansanti Job Veenendaal Roelof-Jan van den Akker Brussels Peter Vanden Houte Carsten Brzeski Manuel Maleki Julien Manceaux Paolo Pizzoli Title Telephone Email mark.cliffe@uk.ing.com rob.carnell@uk.ing.com james.knightley@uk.ing.com christopher.turner@uk.ing.com tom.levinson@uk.ing.com maarten.leen@ing.nl martin.van.vliet@ing.nl teunis.brosens@ing.nl dimitry.fleming@ing.nl padhraic.garvey@ingbank.com jeroen.van.den.broek@ingbank.com mark.harmer@ingbank.com maureen.schuller@ingbank.com alessandro.giansanti@ingbank.com job.veenendaal@ingbank.com roelof-jan.van.den.akker@ingbank.com peter.vandenhoute@ing.be carsten.brzeski@ing.be manuel.maleki@ing.be julien.manceaux@ing.be Global Head of Financial Markets Research +44 20 7767 6283 Chief International Economist +44 20 7767 6909 Senior Economist, UK, US, Scandinavia +44 20 7767 6614 Head of Foreign Exchange Strategy Foreign Exchange Strategist Principal Economist Senior Economist, Eurozone Senior Economist, US Senior Economist, Netherlands +44 20 7767 1610 +44 20 7767 8057 +31 20 563 4406 +31 20 563 9528 +31 20 563 6167 +31 20 563 9497
Head of Developed Markets Debt Strategy +31 20 563 8955 Head of Developed Markets Credit Strategy +31 20 563 8959 Head of Developed Markets Credit Research +31 20 563 8964 Senior Credit Strategist +31 20 563 8941 Senior Rates Strategist +31 20 563 8801 Quantitative Strategist +31 20 563 8956 Technical Analyst +31 20 563 8178 Chief Economist, Belgium, Eurozone Senior Economist, Germany, Eurozone Senior Economist, France Economist, Belgium, Switzerland Senior Economist, EMU, Italy, Greece Title +32 2 547 8009 +32 2 547 8652 +32 2 547 3995 +32 2 547 3350
Milan
+39 02 89629 3630 paolo.pizzoli@ing.it Telephone Email david.spegel@americas.ing.com gustavo.rangel@americas.ing.com simon.quijano@uk.ing.com elena.ganeva@ingbank.com vojtech.benda@ing.cz nemeth.david@ing.hu upasna.bhardwaj@ingvysyabank.com debora.luna@americas.ing.com ezequiel.garcia@americas.ing.com joey.cuyegkeng@asia.ing.com mateusz.szczurek@ingbank.pl rafal.benecki@ingbank.pl grzegorz.ogonek@ingbank.pl vlad.muscalu@ing.ro ana.morarescu@ing.ro dmitry.polevoy@ingbank.com egor.fedorov@ingbank.com tim.condon@asia.ing.com prakash.sakpal@asia.ing.com eduard.hagara@ing.sk sengul.dagdeviren@ingbank.com.tr muhammet.mercan@ingbank.com.tr omer.zeybek@ingbank.com.tr alexander.pecherytsyn@ingbank.com halyna.antonenko@ingbank.com
Emerging Markets New York London Bulgaria H David Spegel Gustavo Rangel Simon Quijano-Evans Elena Ganeva
Global Head of Emerging Markets Strategy +1 646 424 6464 Chief Economist, Brazil, Argentina, Chile, Peru +1 646 424 6465 Head of Research & Chief Economist, EMEA +44 20 7767 5310 Economist, Bulgaria, Croatia Senior Economist, Czech Republic Senior Economist, Hungary Economist, India Economist, Mexico Economist, Mexico Economist, Philippines Chief Economist, CEE Senior Economist, Poland Economist, Poland Economist, Romania Junior Economist, Romania Economist, Russia & Kazakhstan Senior Credit Analyst Head of Research & Chief Economist, Asia Economist, Asia Senior Economist, Slovakia Head of Research & Chief Economist, Turkey Senior Economist, Turkey Economist, Turkey Head of Research, Ukraine Financial Markets Research Analyst +359 2 917 6720 +420 2 5747 4432 +36 1 255 5581 +91 22 3309 5718 +52 55 5258 2095 +52 55 5258 2064 +632 479 8855 +48 22 820 4698 +48 22 820 4696 +48 22 820 4608 +40 21 209 1393 +40 21 209 1290 +7 495 771 7994 +7 495 755 5480 +65 6232 6020 +65 6232 6181 +421 2 5934 6392 +90 212 329 0752 +90 212 329 0751 +90 212 329 0753 +38 044 230 3017 +38 044 590 3584
Czech Rep Vojtech Benda Hungary India Mexico David Nemeth Upasna Bhardwaj Debora Luna Ezequiel Garcia
Philippines Joey Cuyegkeng Poland Mateusz Szczurek Rafal Benecki Grzegorz Ogonek Vlad Muscalu Ana-Maria Morrescu Dmitry Polevoy Egor Fedorov
Romania Russia
Singapore Tim Condon Prakash Sakpal Slovakia Turkey Eduard Hagara Sengl Dadeviren Muhammet Mercan mer Zeybek Alexander Pecherytsyn Halyna Antonenko
Ukraine
42
Global Outlook
January 2012
Disclosures Appendix
ANALYST CERTIFICATION
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The remuneration of research analysts is not tied to specific investment banking transactions performed by ING Group although it is based in part on overall revenues, to which investment banking contribute. Securities prices: Prices are taken as of the previous days close on the home market unless otherwise stated. Conflicts of interest policy. ING manages conflicts of interest arising as a result of the preparation and publication of research through its use of internal databases, notifications by the relevant employees and Chinese walls as monitored by ING Compliance. For further details see our research policies page at http://research.ing.com.
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43
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BRUSSELS
Tel: 32 2 547 2111 Geneva Tel: 41 22 593 8050 Hong Kong Tel: 852 2848 8488 Istanbul Tel: 90 212 367 7011 Kiev Tel: 380 44 230 3030 Madrid Tel: 34 91 789 8880
LONDON
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NEW YORK
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SINGAPORE
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Research offices: legal entity/address/primary securities regulator

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FINANCIAL MARKETS RESEARCH

Global Economics & Strategy Team

Cover photograph courtesy of Istock Publication date 11 January 2012

Shaking off Euro flu

GDP profile of BRICs, US, Eurozone, Poland

GDP profile of European countries, Japan

Forecasts 150 140 130 120 110 100 90

Index 1Q08=100 105

India Brazil Poland US Russia Eurozone

Source: Ecowin, ING

Source: Ecowin, ING

Latin America is also set to benefit from Asias resilience

DM Debt/Rates Strategy divergence threat

The ECBs LTRO is helping, but its a slow grind process

US Government yield forecasts

Fed Funds 3mth rate (Libor) 2yr 5yr 10yr 30yr

0.25 0.6 0.3 0.9 2.0 3.0

German Government yield forecasts

Refi Rate 3mth rate (Libor) 2yr 5yr 10yr 30yr

1.00 1.3 0.2 0.8 1.9 2.4

Fig 5 Japanese Government yield forecasts

1Q12 0.05 0.2 0.2 0.5 1.3 2.0

2Q12 0.05 0.2 0.2 0.5 1.1 2.0

3Q12 0.05 0.2 0.2 0.5 1.1 2.0

4Q12 0.05 0.2 0.4 0.6 1.1 1.9

1Q13 0.05 0.2 0.2 0.6 1.2 2.0

2Q13 0.05 0.2 0.2 0.7 1.2 2.0

3Q13 0.05 0.2 0.2 0.7 1.3 2.1

4Q13 0.05 0.2 0.2 0.8 1.4 2.1

0.07 0.2 0.1 0.3 1.0 1.9

UK Government yield forecasts

Bank Rate 3mth rate (Libor) 2yr 5yr 10yr 30yr

0.5 1.1 0.4 1.0 2.0 3.1

Eurozone spreads have been under widening pressure in early 2012

Selected Eurozone Government 10yr yield spreads vs Germany (bp)

EM Debt/Rates Strategy cautious optimism

2011 left local market investors with a sour taste

but 2012 may be less volatile

Foreign Exchange all down to the Eurozone

Speculators are now running record EUR shorts

Source: Bloomberg, ING

Source: ECB, ING

Short EUR positions now stand at a record

We see EUR/USD trending down to 1.20 this year

USD Index versus weighted 2-year yield spread

Deviation from BIS REER 10-year average

Percent of REER index above/below 10-year average

Source: EcoWin, ING

Source: BIS Real Effective Exchange Rates (REER), ING

US better than the Eurozone

The US economy is strongly connected to Europe

through banks and trade

US Banks exposure to Europe

Source: Federal Reserve, ING

Even US Banks are not lending to one another

Risk assets are going to be under pressure

European weakness will also weigh on US gross exports growth

Net trade boost to US growth under crisis conditions

QoQ % (saar) 6 4 2 0 -2 -4 -6 -8 -10 2008 q1

with little offset from weaker import growth

and a further drag from the USD

Eurozone Hanging in the balance

but a recession seems to be unavoidable