20150604-NATIXIS-Which_emerging_currencies_could_suffer_when_the_Fed_increases_its_key_interest_rate__11页_416kb

Summary of FLASH ECONOMICS ECONOMIC RESEARCH: Impact of Fed Rate Hike on Emerging Currencies

Core Content

This document analyzes the potential impact of the Federal Reserve's decision to increase the Fed Funds rate on emerging market currencies, particularly in the context of the second half of 2015. It highlights the historical sensitivity of emerging currencies to U.S. monetary policy shifts, especially the tapering of quantitative easing (QE) and the subsequent rate hikes. The study identifies the currencies and regions most at risk of depreciation and financial stress due to a combination of factors including current-account imbalances, foreign-currency debt, and the role of U.S. capital flows.

Main Points

• Fed's Rate Hike as a Risk Factor: The Fed's planned increase in the Fed Funds rate is expected to cause volatility and depreciation in emerging currencies. The timing of the hike, particularly if earlier than market expectations, could lead to more severe shocks.

• Historical Context: Past episodes of sharp currency depreciation were linked to Fed policy changes, such as the tapering of QE and the announcement of rate hikes. These events have shown that emerging currencies are often affected simultaneously, indicating a systemic risk.

• Regions and Currencies at Risk:

  • Latin America: Most exposed to across-the-board depreciation. Countries like Argentina, Brazil, Chile, Colombia, Mexico, and Peru face significant risks due to current-account deficits, high dollar-denominated debt, and strong U.S. capital inflows.
  • Emerging Europe: Vulnerable due to foreign currency debt (Hungary) and external financing needs (Turkey). Poland and Russia also show exposure.
  • Asia: Generally less sensitive, but Malaysia and Indonesia are exceptions due to their exposure to external shocks and reliance on U.S. capital.
  • South Africa: Exposed due to its fragile external position.

• Key Risk Factors:

  1. Exchange-Rate Volatility: Some currencies, such as the Russian rouble, Brazilian real, and Mexican peso, have shown high volatility and frequent depreciation.
  2. Current-Account Deficits: Countries with large current-account deficits, like Brazil, Mexico, and Turkey, are more vulnerable to capital outflows.
  3. Dollar-Denominated Debt: Floating-rate debt increases the risk of higher servicing costs when U.S. interest rates rise. Fixed-rate debt also poses risks when refinancing becomes necessary.
  4. U.S. Capital Flows: The presence of U.S. investors in emerging markets, particularly in Latin America and Asia, increases the risk of capital withdrawal and market instability.

Key Currencies and Their Exposure

Country	Currency	Risk of Isolated Depreciation	Simultaneous Depreciation (1-4 Currencies)	Simultaneous Depreciation (≥5 Currencies)	Current-Account Balance (%)	Portfolio Investment / External Commitments	Outstanding International Bonds (%)	Reserves / Short-Term Bonds	US External Commitments / Debt Securities	US External Commitments / Equities
Argentina	USD/ARS	4	7	0	-0.9	18.0	8.3	13.3	27.2	48.2
Brazil	USD/BRL	2	6	3	-3.9	38.1	14.2	13.8	18.4	35.4
Chile	USD/CPL	0	8	3	-1.2	20.3	17.4	53.7	35.4	44.6
Colombia	USD/COP	1	7	3	-5.2	26.4	13.5	26.5	33.4	44.5
Mexico	USD/MXN	0	8	3	-2.1	48.3	15.4	15.5	28.5	38.4
Peru	USD/PEN	2	7	2	-4.1	30.1	18.6	92.8	32.1	9.8
China	USD/CNY	5	5	1	2.1	9.8	4.1	35.0	2.2	41.8
India	USD/INR	4	5	2	-1.4	24.4	13.4	35.9	12.1	85.3
Indonesia	USD/IDR	2	8	1	-3.2	31.9	7.8	37.8	20.1	3.3
Malaysia	USD/MYR	0	8	3	5.3	44.2	16.7	19.1	12.3	33.3
South Korea	USD/KRW	4	5	2	6.3	60.9	13.4	7.9	15.2	34.8
Hungary	EUR/HUF	4	4	3	4.2	15.0	28.2	28.2	23.3	21.8
Poland	EUR/PLN	3	5	3	-1.4	29.6	13.6	18.1	13.0	21.8
Russia	USD/RUB	2	7	2	3.2	19.1	14.7	15.4	15.6	20.8
Turkey	USD/TRY	0	8	3	-5.7	29.1	13.3	13.3	30.2	44.3
South Africa	USD/ZAR	2	7	2	-5.5	48.7	16.0	22.3	19.1	49.4

Key Findings

• Vulnerability Patterns: Latin American currencies are the most vulnerable to a broad depreciation due to their high levels of foreign-currency debt and reliance on U.S. capital flows.
• Simultaneous Depreciation Risk: The risk of simultaneous depreciation across multiple currencies is high, especially for the Mexican peso, Brazilian real, and Turkish lira.
• Contagion Effect: While some currencies like the Argentine peso are less exposed due to capital controls and managed exchange rates, the Chinese renminbi is becoming more susceptible to global shocks.
• Capital Flows and Investor Behavior: U.S. capital plays a significant role in emerging markets, particularly in Latin America and Asia. A withdrawal of U.S. capital could trigger sharp depreciation and market instability.
• Fundamental Analysis: The study emphasizes that the risk of depreciation is not only linked to external shocks but also to the underlying economic fundamentals of each country.

Conclusion

The document concludes that the Fed's rate hike is likely to be a significant shock to emerging currencies, especially those with high current-account deficits, significant dollar-denominated debt, and strong U.S. capital inflows. Latin America is the most exposed region, followed by Emerging Europe and Asia (with Malaysia and Indonesia being exceptions). The analysis underscores the importance of understanding both the macroeconomic and financial linkages between U.S. monetary policy and emerging market stability.