Fed decision set to pressure emerging market central banks to hike rates

By Newsdesk

May 03 2024
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The Federal Reserve's expected decision to maintain US interest rates at a two-decade high at its sixth consecutive meeting on Wednesday is set to put pressure on emerging market central banks to hike their own rates, with significant implications for investors globally, according to Nigel Green, CEO and founder of deVere Group.

Fed decision set to pressure emerging market central banks to hike rates

"The Fed is expected to hold rates at the two-decade high that was first implemented last July, and markets are increasingly pessimistic about the likelihood of rate cuts this year," Green said.

"This puts the squeeze on emerging-market central banks – including countries like South Africa, India and Mexico - to hike their own rates in order to address currency depreciation, inflationary pressures, capital flight risks, and external debt servicing concerns."

Should policymakers move to raise rates in emerging economies, global investors could be impacted, with higher yields on government bonds issued by these countries likely to attract foreign investors seeking higher returns.

"Higher interest rates in emerging markets can lead to higher yields on government bonds issued by these countries. This is likely to attract foreign investors seeking higher returns, resulting in increased demand for emerging-market bonds," Green noted.

"In turn, higher yields may also lead to capital outflows from developed markets as investors reallocate their portfolios to take advantage of better returns in emerging-market bonds."

Equity markets in those countries and beyond could also be affected, with sectors sensitive to interest rates, such as financials and utilities, likely to benefit from higher rates due to increased profitability, while those that rely on debt financing, such as real estate and consumer discretionary, will face challenges as borrowing costs rise.

Higher interest rates in emerging markets will also attract foreign capital inflows, leading to appreciation in the local currency, which affects currency pairs globally as changes in exchange rates between emerging-market currencies and major currencies like the US dollar can impact trade flows, corporate earnings, and cross-border investments.

"US rates are set to be held steady again. Focus will be on Powell's speech after the announcement," Green said.

"We expect a hawkish tone and this will add pressure to the emerging-markets central banks to raise rates."

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