Following market turmoil, central banks in emerging economies move to shore up confidence

LONDON – Following a bout of market turmoil that’s weighed on their currencies, central banks in emerging economies are moving fast to contain the damage.

Late Tuesday, Turkey’s central bank raised its key interest rate to 12 per cent from 7.75 per cent to try to stave off inflation and support the national currency, which has fallen sharply in recent weeks.

The decision was taken at an emergency meeting the central bank called for after the currency, the lira, hit a record low.

The People’s Bank of China on Tuesday injected more money into the country’s financial markets to ease strained credit conditions. India’s central bank unexpectedly raised interest rates to prop up its ailing currency.

Much of the turmoil in global financial markets over the past week has been due to developments in emerging economies. Argentina suffered the most eye-catching fall in its currency amid concerns over the government’s economic policies.

However, there are broader worries that emerging markets, which have been some of the fastest-growing in recent years, are particularly vulnerable at the moment. Among the key risks are China’s economic slowdown and the U.S. Federal Reserve’s decision to scale back on its monetary stimulus.

The Fed is expected to announce another $10 billion reduction in its monthly bond purchases to $65 billion. For the past few years, the Fed’s stimulus has helped shore up financial markets around the world.

The stimulus had the effect of lowering Treasury interest rates, pushing investors to seek out higher returns in fast-growing emerging economies like India and Brazil.

Now that the prop of the stimulus is being taken away and the interest rates on Treasurys are starting to look more attractive, a lot of the money underpinning emerging markets is flowing out. As a result, that pressures currencies. That’s been evident across the emerging world over the past few weeks, notably in India and Turkey.

In a move to shore up its currency, the Reserve Bank of India raised its benchmark interest rate by a quarter of a percentage point to 8.00 per cent. Though it justified the move in terms of keeping a lid on inflation pressures, protecting the rupee is widely considered to have been a key motive. Following the move, the rupee rose 0.7 per cent to trade at 62.66 rupees to the dollar.

“Although it went unmentioned in the RBI’s statement, the recent sell-off in emerging market assets may have played a part in today’s decision,” said Miguel Chanco, India economist at Capital Economics.

That said, Chanco noted that the rupee has been a little more resilient of late largely because of a substantial fall in the country’s current account deficit — the difference between what it exports and imports.

After the Argentine peso, the emerging market currency that has performed worst this year has been the Turkish lira. After Turkey’s central bank raised its key rate Tuesday, it said its goal is to lower the country’s inflation rate, which reached 7.4 per cent in December. In a statement, it forecast that inflation will fall to its 5 per cent target by mid-2015.

Ahead of the meeting, the lira stabilized, trading 0.1 per cent higher at 2.26 lira to the dollar. On Monday, it fell to a record low of 2.39 lira to the dollar before the central bank said it would hold the emergency meeting.