Shifting Domestic Policies and Geopolitics are The Main Risks to EM Stability

• Emerging market (EM) macroeconomic and credit conditions have been resilient this year, and Moody’s expects that they will remain so in 2026. Several interrelated, sometimes unpredictable, developments will influence these conditions, with the potential for pockets of stress.
• Firstly, geopolitical and policy shifts ripple across EMs. EM governments are focusing on their domestic priorities and also on bolstering cross-border relationships as they seek to navigate tariffs, U.S.-China tensions and other geopolitical stresses. Elections in several EMs bring the potential for policy change, and societal opposition to new and existing policies will continue pushing some EM governments to prioritise social stability over long-term reforms.
• Secondly, U.S. policy rate cuts, increased investor risk appetite and a weaker US dollar, along with interest in diversifying away from the U.S., will continue to spur capital inflows to EMs. This will further the growth of local currency bond markets, which have expanded rapidly over the past decade. Uncertainty in the lead-up to domestic elections and unexpected policy shifts within countries may, however, dampen investor appetite, particularly for debt from entities with relatively weak credit quality.
• Thirdly, technological advances are likely to exacerbate differences between EMs and advanced economies, and across EMs. Early adopters will benefit as innovation and efficiency boost productivity, investment and corporate earnings, and ultimately support economic growth. But new technology ventures also bring execution, cyber and social risks. Data centre growth will continue in response to Artificial Intelligence and cloud computing demand.
• That said, EMs tend to be more exposed to extreme weather events than advanced economies but have fewer resources for adaptation and resilience. Investment is far below what is needed, given competing priorities and financing hurdles. Nearly half of EM sovereigns have high or very high credit exposure to physical climate risks such as floods and hurricanes, but relatively weak fiscal strength, limiting their ability to address these risks.

(Source: Moody’s Ratings)