FxPro: EM Central Banks seem to have repelled the attack, but soon could meet the consequences

Cautiousness returned to the markets in the beginning of the new week on the introduction of bilateral tariffs between the U.S. and China, as well as expectations of the Fed rates rises. It should also be noted that the tightening of the Fed’s policy forces the central banks of smaller countries to tighten their policies as well. The Central Banks of developing countries (Argentina, Turkey, Russia, Philippines) actively raised rates or unfolded their rhetoric towards the tightening in August and September in response to a very serious outflow of capital and the fall of national currencies.

Despite the similarity of form, the consequences for countries and currencies will vary drastically.

Policy tightening in the United States is a response to increased inflationary pressures as a result of a strong economic growth and one of the tightest labour market conditions for decades. Measured increases in rates do not hinder the economic growth and even motivate the demand to some extent, as consumers rush to credit at low rates, realizing that soon the lending will rise after the tightening from the Fed.

In emerging markets it is often a different story. The central banks of Argentina and Turkey have increased the rates very sharply to stop the free fall of national currencies and frightening volatility of the markets. Now, this sharp policy tightening may become a serious strangling for growth in the coming months. Earlier last month, the South African rand sharply decreased after reports of an unexpected recession in the country.

It will not be surprising if in the coming months we will be more likely to receive reports about slowing growths of developing countries or recessions there (the Central Bank of Russia has already warned about such possibility).

The central banks of developing countries will probably have to fight back the attacks like the one we saw in August and September more than once in the coming months. In doing so, they will have to balance between the policy tightening and growth to maintain the attractiveness of the currency for external investors and avoid the economy knockdown.