Why Emerging Market FX Has Further To Fall
Submitted by Tyler Durden on 08/28/2013 20:14 -0400
The current external environment and consequence of past policies are limiting options for EM nations (most specifically Indonesia and India). Citi believes the best they can do now is to smooth the (inevitable) macro adjustment (weaker FX, higher risk premiums, slower growth) through improved policy credibility (to curb volatility and overshooting) and find offsets to portfolio flows to ease the pressure. The 4 choices of various rocks and hard places do not hold much hope for anything but further FX devaluation. As Citi's Matt King points out, what goes up (in terms of Emerging Market central bank FX reserves) risks coming back down with a thud... and in case you were wondering why India, Turkey, and Indonesia were the most-hammered...
It's all about the carry...
Top carry currencies ranked by interest rate differential with USD (via Goldman Sachs)
The currency sell-off is likely to go further...(Via Citi's Matt King)
as policy options are limited...
So, what can Asia's deficit countries (Indonesia and India specifically) do? (via Citi's Economics team)
The Bank of Indonesia needs to hike 50bps and signal a more hawkish stance. With reserves declining sharply, CB FX intervention is no longer a credible policy option to anchor expectations on IDR. We think a market stabilization program via SOE funds does not fundamentally address external imbalances. Even while core inflation pressures remain manageable in the 4.5-5% range (we estimate 1% depreciation in IDR will raise inflation by 0.1ppts), the economy already slowing, and some macro-prudential tightening in place, the signaling effect of policy rate hikes should not be underestimated, in our view, especially given still elusive turnaround in the trade/CA deficit.1 ID has two advantages over the pushback IN got from its “surprise” liquidity tightening last month: 1) ID’s portfolio equity flows are far smaller than debt flows, and we think debt investors put greater premium on stabilizing FX than supporting growth; 2) ID has much stronger fiscal accounts than IN, and thus, adverse fiscal consequences of slower growth is unlikely going to be damaging enough to jeopardize ratings.
The Reserve Bank of India needs to keep liquidity tight and mobilize more external funding sources. RBI has recently stepped up FX intervention alongside import curbs and significant liquidity tightening, dampening growth expectations in the process. To avoid loosing credibility on its intervention ammunition and to anchor INR expectations, mobilizing more external funding would help, in our view. With very low sovereign external debt (zero India global bonds), we think NRI-targeted and/or global bond from the sovereign is the more effective (though not costless) way to mobilize more capital inflows than, for example, quasi-sovereign issuance by public sector undertakings (PSUs).
Non-commercial funding sources should be tapped by both countries. ID has been net repaying official (bilateral/multilateral) creditors since 2004. Given market conditions, we believe a shift in financing is warranted. ID has a US$5bn in standby contingency facilities for budget financing (US$2bn from WB, US$1.5bn from Japan, US$1bn from Australia, US$0.5bn from ADB) – a legacy from 2008 – that we think it should tap. IN only funds about 2% of its CAD in FY13 in official loans, and there could be more room here (though negotiating conditionalities and new programs take time).
Unfortunately, existing FX swap arrangements too small (and stigmatized) to matter. ID is in the Chiang Mai initiative (CMIM); maximum drawdown is US$22.8bn, but IMF-delinked portion is only US$6.8bn (30%). Since no country has ever tapped CMIM, there is likely significant political stigma to being the first.2 IN has a US$15bn bilateral swap arrangement (BSA) with Japan, but only 20% (or US$3bn) can be drawn down without an IMF-support program (IMF not an option) – so it’s too little to matter.
BUT... there is still plenty of 'excess'...
The current external environment and consequence of past policies are limiting options for EM nations (most specifically Indonesia and India). Citi believes the best they can do now is to smooth the (inevitable) macro adjustment (weaker FX, higher risk premiums, slower growth) through improved policy credibility (to curb volatility and overshooting) and find offsets to portfolio flows to ease the pressure. The 4 choices of various rocks and hard places do not hold much hope for anything but further FX devaluation. As Citi's Matt King points out, what goes up (in terms of Emerging Market central bank FX reserves) risks coming back down with a thud... and in case you were wondering why India, Turkey, and Indonesia were the most-hammered...
It's all about the carry...
Top carry currencies ranked by interest rate differential with USD (via Goldman Sachs)
The currency sell-off is likely to go further...(Via Citi's Matt King)
as policy options are limited...
So, what can Asia's deficit countries (Indonesia and India specifically) do? (via Citi's Economics team)
The Bank of Indonesia needs to hike 50bps and signal a more hawkish stance. With reserves declining sharply, CB FX intervention is no longer a credible policy option to anchor expectations on IDR. We think a market stabilization program via SOE funds does not fundamentally address external imbalances. Even while core inflation pressures remain manageable in the 4.5-5% range (we estimate 1% depreciation in IDR will raise inflation by 0.1ppts), the economy already slowing, and some macro-prudential tightening in place, the signaling effect of policy rate hikes should not be underestimated, in our view, especially given still elusive turnaround in the trade/CA deficit.1 ID has two advantages over the pushback IN got from its “surprise” liquidity tightening last month: 1) ID’s portfolio equity flows are far smaller than debt flows, and we think debt investors put greater premium on stabilizing FX than supporting growth; 2) ID has much stronger fiscal accounts than IN, and thus, adverse fiscal consequences of slower growth is unlikely going to be damaging enough to jeopardize ratings.The Reserve Bank of India needs to keep liquidity tight and mobilize more external funding sources. RBI has recently stepped up FX intervention alongside import curbs and significant liquidity tightening, dampening growth expectations in the process. To avoid loosing credibility on its intervention ammunition and to anchor INR expectations, mobilizing more external funding would help, in our view. With very low sovereign external debt (zero India global bonds), we think NRI-targeted and/or global bond from the sovereign is the more effective (though not costless) way to mobilize more capital inflows than, for example, quasi-sovereign issuance by public sector undertakings (PSUs).Non-commercial funding sources should be tapped by both countries. ID has been net repaying official (bilateral/multilateral) creditors since 2004. Given market conditions, we believe a shift in financing is warranted. ID has a US$5bn in standby contingency facilities for budget financing (US$2bn from WB, US$1.5bn from Japan, US$1bn from Australia, US$0.5bn from ADB) – a legacy from 2008 – that we think it should tap. IN only funds about 2% of its CAD in FY13 in official loans, and there could be more room here (though negotiating conditionalities and new programs take time).Unfortunately, existing FX swap arrangements too small (and stigmatized) to matter. ID is in the Chiang Mai initiative (CMIM); maximum drawdown is US$22.8bn, but IMF-delinked portion is only US$6.8bn (30%). Since no country has ever tapped CMIM, there is likely significant political stigma to being the first.2 IN has a US$15bn bilateral swap arrangement (BSA) with Japan, but only 20% (or US$3bn) can be drawn down without an IMF-support program (IMF not an option) – so it’s too little to matter.
BUT... there is still plenty of 'excess'...
Presenting The Numerous, Undisputed And Very Clear Signs That India's Currency Was Set For An Epic Crash
Citizens of India have been watching, in stunned amazement, as over the past month the local currency has lost an unprecedented 15% of its value, with a record plunge taking place just last night. And, as so often happens, the population habituated to a government "acting in its best interests" is asking itself - how could we have possibly known this was coming. The answer, as usually happens, was staring everyone right in the face.
As Grant Williams shows in his latest "Things That Make You Go Hmm", the warnings came loud and clear, and were very explicit in the form of not one, not two, not ten, but many more sequentially imposed and escalating forms of capital controls by the Indian central bank that sought to prevent the conversion of paper into hard currency. Gold. (Which also overnight hit a record high in rupee terms).
Following are the measures taken by the central bank and the government in 2013:
- Jan 21 - The government raises the gold import duty by 2% to 6%.
- Jan 22 - The government more than doubles the duty on raw gold to 5%.
- Jan 30 - Finance Minister P. Chidambaram says there are no plans for additional taxes or curbs on gold imports.
- Feb 1 - The Reserve Bank of India (RBI) plans to introduce three or four gold-linked products in the next few months.
- Feb 6 - The RBI says it would consider imposing value and quantity restrictions on gold imports by banks.
- Feb 14 - The central bank relaxes rules on gold deposit schemes offered by banks by allowing lenders to offer the products with shorter maturities.
- Feb 20 - The Trade Ministry recommends suspending cheaper gold jewellery imports from Thailand.
- Feb 28 - India keeps its gold import duty unchanged in its annual national budget, defying industry expectations.
- Feb 28 - India proposes a transaction tax of 0.01% on nonagricultural futures contracts, including for precious metals.
- March 1 - The Finance Minister appeals to people not to buy so much gold.
- March 18 - The Reserve Bank of India says it is examining banks that sell gold coins and wealth management products to identify "systemic issues", with a view to closing any legal loopholes.
- April 2 - The Finance Ministry suggests it is unlikely to raise the import tax on gold further to avoid smuggling and would instead introduce inflation-indexed instruments.
- May 3 - The RBI restricts the import of gold on a consignment basis by banks.
- June 3 - The Finance Minister says India cannot afford high levels of gold imports and may review its import policy.
- June 5 - India hikes the gold import duty by a third, to 8%.
- June 21 - Reliance Capital halts gold sales and investments in its gold-backed funds.
- June 24 - India's biggest jewellers' association asks members to stop selling gold bars and coins, about 35% of their business.
- July 10 - India's jewellers announce they might continue a voluntary ban on sales of gold coins and bars for six months.
- July 22 - The RBI moves to tighten gold imports again, making them dependent on export volumes, but offers relief to domestic sellers by lifting restrictions on credit deals.
- July 31 - India hopes to contain gold imports well below the 845 tonnes that were shipped last year, the Finance Minister says.
- Aug 13 - India hikes the import duty on gold for a third time in 2013, to 10%. Duties for silver and platinum are also increased to 10%. The customs duty on gold ore bars, ore, and concentrate are increased to 8% from 6%.
- Aug 14 - India turns the screws on gold buying again, banning imports of coins and medallions and making domestic buyers pay cash.
All of that culminated with the events from last night when the Rupee literally imploded.
Were the signs there for all to see? Why yes. If only people had opened their eyes.
Much more on this, and the different attitudes toward gold between the West and the East can be found in Williams' full newsletter below
Morning Fred, you've been busy.
ReplyDeleteThe Syria train being slowed in the US and UK, something is up. I saw a small blurb somewhere that China had also "warned" against the attack recently. Maybe there is some sanity creeping into the western governments, hard to believe though.
Power Grid exercise in Nov, hmm, I'll be tuning up my little solar setup and Rocket stove before then.
I am amazed and appalled as always by the Fukushima news, I would think I would be used to it after this many years of their "Potemkin village" efforts.
Morning Kev - Syria getting interesting ( what happened to the Coalition of the Willing ? ) Power grid drill and Big Sis's warning - something to file away for future reference ...BTW , check the post on Zurich Insurance - Mr Ackermann ( formerly of DB ) , in the midst of serious controversy again !
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