Impact of currency fluctuations on RGMs

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The exchange rate swings that have been conducted by some developed world countries is a new phenomenon, expected to affect export competitiveness, inflation rates and capital flows in RGMs. 

The US dollar, the sterling and the yen recently experienced depreciation as a result of loose monetary policy to boost domestic growth.

So far, however, the recent volatility has been mostly a developed world problem, with more limited effects seen on currencies in the RGMs. 

Competitive devaluation and currency wars 

A decline in the value of developed economy currencies, relative to those of RGMs, affects both trading and investment relationships. Falling currencies in developed economies make their exports more competitive. 

Companies using these currencies to invest in emerging markets find RGM assets or investments more expensive when measured in the currencies in which they keep their books. But revenues and profits earned overseas will be flattered when reported in pounds or yen. 

Asian RGMs are likely to be affected more by the recent weakness in the yen, particularly if they have close trading links with Japan or if they compete with Japanese companies in export markets.

Emerging Asia: Real effective exchange rates

Source : Haver Analytics/Bank of International Settlements

How the BRICs are responding

  • Russia’s exchange rate has moved roughly in line with the euro
  • China’s and India’s exchange rates have responded to domestic factors, including intervention, rather than just appreciating as the yen and dollar fell.
  • Brazil has seen another bout of appreciation, prompting renewed accusations of currency wars. Even with interest rates at a record low, they’re still higher than in the majority of the RGMs, attracting international investors seeking the highest return.

Monetary policy expected to be less uniform across RGMs

Most countries intervene from time to time to smooth exchange rate fluctuations or to control their currencies. 

While Mexico, India and Korea have been cutting rates in recent months to support growth, in Brazil and Southeast Asia we expect central banks to begin raising rates in the second half of this year to guard against inflation pressures. 

With monetary policy moving in different directions in different countries, and inflation pressures building in some countries, businesses must be careful to keep track of the country specific drivers behind movements in real interest rates.