Emerging markets slump despite Turkey and South Africa rate hikes

Developing countries under pressure to follow suit to prevent investors exiting

Markets from Istanbul to Sao Paulo remained under stress today despite rate hikes in Turkey and South Africa. Photograph: Yuya Shino/Reuters

Markets from Istanbul to Sao Paulo remained under stress today despite rate hikes in Turkey and South Africa. Photograph: Yuya Shino/Reuters

 

Emerging market currencies slumped today even after Turkey and South Africa aggressively raised interest rates to stop capital flight, as investors braced for an expected decision by the US Federal Reserve to cut back on stimulus.

Markets from Istanbul to Sao Paulo remained under stress, with the Turkish lira staging a short-lived rally that set the tone for other emerging market currencies.

Turkey’s stronger-than-expected monetary tightening put pressure on the most fragile developing countries to follow suit in hopes of preventing jittery investors from running for the exits.

“Emerging markets in general will have to offer significantly higher funding costs in order to stabilize the dramatic change we are now seeing in net portfolio flows in the asset class,” Citi FX strategist Ishitaa Sharma said in a note.

The South African rand sank over 2 per cent to 11.24 per dollar even after the country’s central bank raised interest rates for the first time in almost six years, bringing its benchmark rate to 5.5 per cent from 5.0 per cent.

In Turkey, where the central bank raised all of its interest rates in a dramatic fashion, the lira initially rallied more than 3 per cent but eventually gave up gains and traded about 1 per cent weaker as investors began to wonder what else policymakers could do to quell the turmoil.

“The Turkish rate move was more aggressive than many people had expected. That was the good part of the story,” said Ulrich Leuchtmann, head of currency research at Commerzbank in Frankfurt.

“But the market had to force this activity. There is still a fear in the market that the central bank does not have a reaction function.”

Turkey’s central bank move follows a massive lira sell-off caused by the prospect of a reduction in US stimulus that has sucked investor cash out of the most vulnerable emerging economies.

Investors deem real interest rates in these markets too low to compensate for growing economic and political risks.

Turkish finance minister Mehmet Simsek addressed one of those concerns today, saying that economic growth will not be severely damaged by the rate hikes and that it is too early to adjust the government’s forecast of 4 per cent growth this year.

The rate increase follows similar moves across the developing world, with India unexpectedly raising rates this week and Brazil and Indonesia already in policy-tightening mode.

But Malaysia’s central bank left rates unchanged today, taking the ringgit to the day’s lows.

And with the US Federal Reserve expected to announce plans later today to shave another $10 billion off its monthly bond buying, emerging markets remained fragile.

Latin American currencies posted large losses, with the Brazilian real and the Mexican peso declining nearly 1 per cent ahead of the Fed announcement.

Emerging market stocks were also volatile. The main emerging index rose 0.1 per cent off 4-1/2 month lows, but the Latin American portion of the index slid more than 1 per cent.

Reuters

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