Federal Reserve Governor Jerome Powell said emerging market economies were vulnerable to heavily-indebted corporate sectors as global interest rates rise, and singled out China as a source of particular concern.

“Corporate debt represents a moderate degree of vulnerability for EME prospects,” he said in a speech in Washington on Thursday. “The situation is not alarming, but risks are significant and bear close watching, especially in China.”

Federal Reserve Board Governor Jerome H. Powell.
Federal Reserve Board Governor Jerome H. Powell. Bloomberg News

The Fed has raised interest rates four times since it began tightening policy in December 2015, and Powell said that “U.S. monetary policy normalization has been and should continue to be gradual, as long as the U.S. economy evolves roughly as expected.”

Market reaction to tightening has been “benign” so far, “but significant risks of more adverse scenarios remain,” Powell said. On the other hand, the corporate debt situation in emerging markets “has been worsening, particularly in China, and market reactions to even small surprises can be unpredictable and outsized.”

Powell, 64, spoke at an Institute of International Finance event as global economic policy makers descended on the U.S. capital for the International Monetary Fund’s fall meetings. Leaders in advanced economies are orienting themselves toward gradual tightening paths, which could affect capital flows into emerging markets.

The Fed projects one more rate hike this year -- following hikes in March and June -- and voted last month to begin unwinding its balance sheet.

“The best thing the Federal Reserve can do -- not just for the United States, but for the global economy at large -- is to keep our house in order through the continued pursuit of our dual mandate,” Powell said, referring to the central bank’s task of achieving maximum employment and stable inflation around 2%.

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