Central banks move to counter impact of stronger dollar amid rising inflation

Asian economies are rushing to defend their currencies against a strengthening US dollar that has spiked inflation and pressured consumer sentiment across the region.

The central banks of Japan, Indonesia and the Philippines — which all hold policy meetings this week — are expected to raise rates or keep rates elevated to rein in rising inflation and stabilize their weakening currencies.

These meetings will be held against the backdrop of a possible peace deal between the United States and Iran. Both sides have reached an interim agreement to reopen the Strait of Hormuz and will formally sign in Switzerland on Friday.

READ MORE: Iran: Negotiations on final deal with US to be held after MoU signing

The US-Iran deal is good news for the global economy, but whether this sticks and remains viable depends, among other things, on the details of the negotiated terms, said Michael Wan, a senior currency analyst at the MUFG Bank in Tokyo.

"In a sustained scenario of reopening (the Strait of Hormuz), we think the risk-reward for the likes of currencies such as (the South Korean won) to do better moving forward is quite high," Wan said in his latest research note.

Other Asian currencies, such as the Indian rupee, the Indonesian rupiah and the Philippine peso — which have hit record lows in the past few weeks — may also start to reverse some weakness, he said.

Saktiandi Supaat, head of foreign exchange research at Maybank in Malaysia, said that while the US Federal Reserve can maintain a relatively restrictive stance thanks to a resilient US economy and the dollar's status as a reserve currency, many Asian central banks do not enjoy such a privilege.

Asian economies are more sensitive to higher interest rates owing to their dependence on trade, investment and domestic growth.

"Asian policymakers face a more complex balancing act than the Fed," Saktiandi said.

Raising rates aggressively to defend currencies could come at the expense of growth, while allowing excessive currency weakness risks higher inflation and larger subsidy bills, he said.

Wan Suhaimie Wan Mohd Saidie, head of economic research at Malaysia's Kenanga Investment Bank, said there is asymmetry between the dollar and Asian currencies. He said the Fed sets the global price of money, while Asian central banks are price-takers on the external side.

"With resilient US data and elevated oil prices keeping the Fed restrictive, the region can't cut aggressively without widening rate differentials and inviting outflows," Wan Suhaimie said.

Asian currencies have been weakening against the dollar on the back of bullish US economic data, the Fed's hawkish monetary policy, and the war in the Middle East, which has spiked energy prices over the past few months.

This is bad news for consumers in the region, as they have had to pinch pennies to cope with the rising cost of living.

Immediate concern

Maybank's Saktiandi said inflation is an immediate concern for many Asian countries owing to their dependence on imported oil.

Despite these concerns, he said that Asian policymakers remain mindful of capital outflows because sustained currency weakness can undermine investor confidence and tighten domestic financial conditions.

In the Indonesian capital Jakarta, Santirini Soertjiady, a retired office worker, is worried about managing the family budget as she now has to pay 255,000 rupiah ($14.40) — or over 13 percent more than the previous month — for a 12-kilogram cylinder of cooking gas.

Her neighbor, Irpan Jumpa Ukurta Sembiring, who operates a print and photocopy shop, is also spending more on every ream of copy paper for his store.

Suryaputra Wijaksana, an economist for UOB Kay Hian, a brokerage and financial services firm in Singapore, said no local industry in Indonesia benefits from a weaker rupiah.

"The benefits are limited because commodity exporters are price-takers in global markets, while import-reliant industries face higher costs and squeezed margins," Wijaksana said.

In India, service exporters are benefiting from higher rupee-denominated revenues, but import-dependent industries, such as the electronics and auto components sectors, have to contend with rising input costs, said Manav Modi, a commodity analyst at Motilal Oswal Financial Services in Mumbai.

"Any ease off in the (Middle East) war, like the recent weekend peace deal, could offer some relief to the rupee and these import-dependent sectors," Modi said.

Leonardus Jegho in Jakarta contributed to this story.

Contact the writers at prime@chinadailyapac.com