Emerging markets have to fight currency risks and currency wars

When the world’s biggest exporter -China has devalued its currency to stimulate export and growth, there is little option for other EMEs. They also have to produce devalued currencies to remain competitive in the international market.

At the same time, the EMEs have to evade any potential currency crisis. Declining exports and evading foreign investors may make currencies double weaker. Already, fall in commodity prices are causing currencies of many EMEs, especially that of Brazil and Turkey weaker.

Thus, policy makers in EMEs have to carefully balance measures to make currencies competitive at the same time by avoiding currency crisis.

For India, it is difficult for the RBI to initiate interest rate cut. Any interest rate cut will produce yield of government securities down. Low yield of government securities coupled with depreciating currency will compel foreign investors to withdraw from the G-sec market. At present, government securities market attracts nearly $ 25 billion.

For the EMEs in the coming months, currencies and stock markets may behave in the same direction. Any further macroeconomic pitfalls in EMEs may initiate capital flight that has engulfed the developing world during the East Asian crisis of 1997.

With export decline, many have to be cautious to avoid too much depreciation. And the biggest threat is the hike in US interest rate during early 2016.  

Exports are speed engines for growing economies of the emerging world. But global recession, uncertainty in major economies including the US may initiate competitive devaluation or what we often refer as currency wars.