03 Jul 2018 20:41 IST

A lacklustre year for emerging market currencies

A stronger dollar, foreign money outflows and higher crude oil prices have hit EM currencies

Emerging market (EM) currencies have taken a big knock against the US dollar this year. The rupee has been no exception. It touched an all-time low of 69.09 on June 28, breaking its previous records of 68.86 in November 2016 and 68.84 in August 2013. The rupee has been among the top 10 worst performing major EM currencies in 2018.

In this article, we take look at what ails EM currencies.

The worst performers

EM currencies have plummeted sharply since the beginning of 2018. The Argentine peso is the worst hit — it dropped over 35 per cent in the first half of the year. It was the worst performer in 2017 as well, when it was down 14 per cent. Surging inflation in Argentina and the inability of its central bank to curb the fall in currency, even after a series of interest rate hikes, is worrying. The country’s central bank increased interest rates from 27.25 per cent in January to the current level of 40 per cent. Inflation in Argentina stands at 26.2 per cent.

 

Next in line, the Turkish lira is down 17 per cent. Barring China, the currencies of the BRICS (Brazil, Russia, India, China and South Africa) group have been among the top 10 worst performers. The Chinese yuan is down just 1.7 per cent against the US dollar so far.

The Brazilian real, down 14.6 per cent, lost the most among the BRICS and is the third worst hit among EM nations. Political uncertainty in the country, coupled with an economic slowdown, have kept the currency under pressure.

The South African rand and Russian ruble are down 9.8 per cent and 8.1 per cent respectively.

Dollar impact

Barring a few, such as the Argentine peso and Brazilian real, most EM currencies staged a strong rally last year. The Indian rupee was up 6.3 per cent against the dollar. This was the rupee’s first positive yearly close since 2010. The US dollar weakening all through 2017 helped EM currencies strengthen. The dollar index was down about 10 per cent last year.

However, the trend reversed this year. The US dollar index has recovered sharply about 5 per cent from its low of around 89 in February to the current level of 94.

US Treasury yields surging above 3 per cent this year — the first time since 2013 — have kept the dollar strong. The US Federal Reserve, as expected, continued to increase rates. The Fed hinted that there would be a total of four rate hikes this year (revised from its earlier plan of three hikes).

Higher treasury yields and increasing interest rates have resulted in money flowing out of EMs, back into the US. Many EMs witnessed strong foreign money outflow this year. From the debt segment, Russia has lost $6.72 billion; India, $6.1 billion; and South Africa, $2.9 billion. India’s outflow in debt is the highest ever in the first half of any calendar year.

Pressure on rupee

Apart from factors such as strengthening of the US dollar and foreign money outflow from EM countries, there’s a unique reason for the rupee’s fall.

The sharp surge in oil price (West Texas Intermediate) from around $58 per barrel to $75 also impacted the rupee. Increase in crude oil prices makes imports costlier, which, in turn, widens the trade deficit. Oil forms about 27 per cent of India’s total imports.

Oil imports had surged 25 per cent in the last financial year to $108.7 billion. This, in turn, has widened the trade deficit by about 44 per cent, from $109 billion in FY17 to $157 billion in FY18. As a result, the current account deficit (CAD) has more than tripled — from $15 billion in FY17 to $48 billion in FY18. The wider trade deficit and CAD have added to the pressure on the rupee.