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1.Market Observations, 8.Was Sticky

26 May 2018 (AFR) – From emerging to submerging markets – Emerging markets become submerged in ‘classic’ cycle

(26 May 2018, AFR, p29, by Patrick Commins)

‘Imagine that your country’s currency had lost a fifth of its value in a matter of months. Inflation is running at 13 per cent. The central bank, in an effort to stem the falls, has just hiked rates by three percentage points to 16.5 per cent. But it wasn’t enough. After a bit of a recovery, the currency continues to drop. Now you’re worried about more rate hikes and what that will do to the economy. Even worse: imagine that you are a business (or a government) which has taken on a lot of debt denominated in foreign currency. That big loan in US dollars looked like a good idea at the time – it was far cheaper than borrowing locally. Your decision looks a lot less savvy as the falling currency has made the loan amount some 20 per cent larger in a matter of weeks.’

This is the situation in which Turks find themselves as the country goes through what Nobel prize-winning economist Paul Krugman this week referred to as a “classic self-reinforcing crisis” for an emerging market. From Mexico’s Tequila crisis of 1994 to the Asian financial crisis of 1997-98, the EM blow-up often looks the same. Krugman laid out the well-trod path: “Emerging market currency falls, causing corporate debt to blow up, causing stress on the economy, causing further fall in the currency.” ‘

Read more at AFR.com (might need AFR login access, or try: AFR.com/trial)

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