Dollar appreciation could cause domino effect across emerging markets

Christian Charisius/Reuters

• The US
  dollar has already been rallying this year, which puts
  emerging markets with dollar-denominated debt in a hard
  position.
• A currency crisis in Turkey could lead to a “rapid
  appreciation,” analysts warn.
• 
  Follow
  the dollar in real time here.
  

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A rallying US
dollar has been clobbering emerging market currencies this
year, and analysts warn it could soon appreciate further and
faster.

“The dollar right now is a flat-track bully, really,” Deutsche
Bank macro strategist Alan Ruskin said Wednesday on CNBC. “It’s
just knocking over every weak currency it can find.”

The greenback is up more than 5.5% this year on the Dollar
Index, which measures the currency against a basket of peers.
And an unwinding currency crisis in Turkey, which has trimmed
more than a fifth of the lira‘s
value in the past week, could accelerate its climb.

If Turkey were to introduce capital controls and repudiate some
of its foreign debt, Macquarie strategists Viktor Shvets and
Perry Yeung said the dollar could see a rapid appreciation.

“We are concerned that declining liquidity, attempts to raise
rates & China’s hesitancy is a recipe for stronger US$,” they
wrote in a note. “Turkey might tip it over.”

Any sharp rise in the dollar’s value could raise risks for
emerging markets even further as it puts those with large amounts
of dollar-denominated debt, including Turkey, in difficult
positions. Some currencies that have already been affected by
contagion fears include the South
African rand and the Indian
rupee, which hit an all-time low Tuesday. 

“Currencies are far too complex to forecast,” they wrote. “But
getting the dollar wrong is deadly.”

Issuing a reserve currency comes with downsides. According to the
Triffin dilemma, a theory named after a Belgian economist, a
country has to run increasing deficits or find other ways to
achieve sufficient liquidity. That can create a balancing act
between short-term domestic objectives and a global agenda.

“It is not only a problem for issuing country but it is also a
major headache for the rest of the world,” Shvets and Yeung said.

But William Jackson, chief emerging markets economist at Capital
Economics, doesn’t think “significant” capital controls are
likely to happen in Turkey.

“The economy is heavily dependent on foreign funding and the
imposition of some controls might raise fears about the next
steps, leading to a slowdown in foreign inflows,” Jackson
said.