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Treasury & Capital Markets
Asia should let currencies be shock absorbers
Regional IMF head urges central banks to avoid being too linked to Fed decisions
Peter Starr 19 Apr 2024

Asian central banks should focus on fundamentals and allow foreign exchange rates to move as shock absorbers, according to the International Monetary Fund (IMF).

Recent currency depreciations largely reflected interest rate differentials, and “that reflects the inflation trends in Asia”, says Krishna Srinivasan, director of the IMF’s Asia and Pacific department, speaking at a briefing on Thursday in Washington ahead of the fund’s more detailed Regional Economic Outlook set to be released on April 30 in Singapore.  

Inflation in Asia, Srinivasan adds, “went up by much less, and it’s coming down faster, which means that [Asian] central banks had to tighten much less, compared with central banks in other parts of the world, notably in the US. … [As well,] interest rate differentials have risen, and that has led to capital outflows.”

Currency depreciations since last year “are a buffer against shocks”, Srinivasan says. “And we would encourage countries to allow the exchange rates to move, to be a shock absorber.”

Faced with price volatility caused by major changes in foreign exchange rates, he argues, “central banks should focus on fundamentals. Countries should not alter their policies rigidly to what they expect the Fed [US Federal Reserve] or the dollar to do. And it’s better for Asian countries to focus on … domestic inflationary pressures, to address those, rather than be very tightly linked to what the Fed does.”

Asian countries are, Srinivasan points out, “much more fortunate now”, compared with the balance-sheet mismatches they faced 10 years ago. “So, to the extent that those frictions have reduced, you can allow both exchange rates to move and focus your monetary policy on how you see domestic inflationary pressures, rather than being too linked to the Fed.”

Yen, won slides

On the yen’s recent plunge to 30-year lows, the IMF regional director, states: “The Japanese authorities are committed to a flexible exchange rate regime, which allows the exchange rate to act as a shock absorber and support the monetary policy objective of price stability, as well as help maintain an external position.”

And on the South Korean won’s more recent depreciation, he notes that “in the case of Korea, the exchange rate volatility does not pose significant economic challenges, given the limited currency mismatches and manageable pass-through to inflation.”

In such an environment, Korean monetary authorities, Srinivasan reckons, “should be firmly on the tightening mode until inflation comes back to target”, and focus on “domestic pressures and not be overly focused on what other central banks are doing – notably the Fed”.

Asia global growth driver

On the broader economic outlook for the region, the IMF is projecting 4.5% growth for Asia and the Pacific this year, an upward revision of 0.3 percentage points from its previous forecast in October.

“With this, Asia would contribute about 60% of global growth,” Srinivasan shares. ”Growth surprised on the upside in the second half of 2023 as robust domestic demand fuelled activity, especially in emerging Asian economies. Malaysia, the Philippines, Vietnam and, most notably, India, recorded sizable positive growth surprises.”

For the whole of 2023, regional growth is estimated by the fund to be 5%  up from 3.9% in 2022 and 0.4 percentage points higher than the October forecast.

“The momentum,” Srinivasan notes, “carries over into 2024.”

Investment, private consumption

“In China and India, we expect investment to contribute disproportionately to growth, much of it public, especially in India,” Srinivasan reveals. Elsewhere in emerging Asia, “robust private consumption will remain the main growth engine.

“[And,] in some advanced economies, such as Korea, we expect a positive impulse from exports, driven in part by strong global demand for high-end semiconductors.” But domestic demand is expected to strengthen “only gradually”.

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