Daily Times

Running the numbers on foreign exchange reserves and general exposure to the dollar throws up some of the reasons why Turkey and Argentina have been at the heart of the recent emerging market sell-off.

Economists have been quick to pin the blame on problematic politics, high deficits and even higher inflation, but as these graphics show, there are many other issues below the surface.

Turkey’s currency reserves compared with debt payments due in the coming year already looked small versus most of its peers, according to Bank of America Merrill Lynch analysis. As a ratio, those reserves were already under 90 percent of the country’s 2018 maturing debt, which in the simplest terms means that without access to borrowing markets or generating extra reserves, it would in theory default.

Argentina’s figure is probably close to that too now having sold $8 billion (6 billion pounds) of its reserves since the start of March in its failed bid to stop a 25 percent fall in the value of the peso.

Malaysia and Ukraine’s figure aren’t stellar either, but are at least still above the 100 percent threshold deemed to be the safe minimum.

“The bottom line is that everybody except Turkey has good reserves,” said BAML’s David Hauner, adding that capital flows where now the key thing for under pressure emerging markets.

Respected flow tracker, the Institute of International Finance, has looked at other areas of stress too, such as the currency exposures of banks in a country.

Though most major banking systems in the developing world are much more robust these days, there are exceptions where a crisis could be triggered if dollar-denominated loans start to default. IIF data points to Argentina’s banks that have high levels of ‘net open FX positions’ – effectively where dollar loans are not balanced out by dollar deposits.

Argentine banks’ net open positions are at 14 percent and India too looks relatively high at over 8 percent. Turkish banks on the other hand look good in this respect at under one percent, thanks to deeply ingrained currency hedging practices.

“If the net open position is high, the possibility of a currency mismatch is high,” IIF capital markets department deputy director, Emre Tiftik said.Another area they consider are banks’ loan-to-deposit ratios. If these are over 100 percent, as in Turkey, but also in South Africa, Chile, Mexico and Colombia, any significant freeze in lending markets can prove dangerous. On the plus side Tiftik says overall reserve levels in emerging markets are expected to accumulate this year at a rate of around $225 billion, a slightly smaller rise than last year.

The fact China now has restrictions stopping money leaving the country has also prevented a ‘taper tantrum’-style exodus of capital there, which means Beijing hasn’t had a major depletion of its giant reserves stockpile. “They are very much in charge of the movements now,” Tiftik added.

Dollar Debt

The other obvious pressure point is emerging markets’ record $3.7 trillion dollar-denominated debt pile after years of ultra-low global interest rates.

The Bank for International Settlements – the central bank for the world’s central banks – estimates that China’s firms have $530 billion of that total, with Mexico next at $265 billion.

Here too though Turkey and Argentina have sizeable piles at almost $200 billion and $150 billion respectively.

Economists at UK-based Oxford Economics estimate that a 100 basis point rise in 10-year US Treasury yields feeds pretty much one-to-one into the borrowing costs of Mexico, Indonesia and Turkey.

Such moves add the equivalent of 0.2 percent of annual economic output to the cost of servicing debt in Turkey and Chile and 0.3 percent of GDP for Malaysia.

Published in Daily Times, May 22^nd 2018.