Morgan Stanley: ‘The Fragile Five’ — The Most Troubled Currencies In Emerging Markets

MORGAN STANLEY PRESENTS: ‘The Fragile Five’ — The Most Troubled Currencies In Emerging Markets

MAMTA BADKAR SEP. 24, 2013, 3:46 PM 6,824 1

Ten years ago, Goldman Sachs declared Brazil, Russia, India and China (BRIC) as the emerging markets with the brightest economic growth prospects. This year, Morgan Stanley declared the Brazilian real, the Indonesian rupiah, the South African rand, the Indian rupee, and the Turkish lira as the “Fragile Five,” or the troubled emerging market currencies under the most pressure against the U.S. dollar. “High inflation, weakening growth, large external deficits, and in some cases exposure to the China slowdown, and high dependence on fixed income inflows leave these currencies vulnerable,” wrote Morgan Stanley analysts in an August research note. We’ve highlighted Morgan Stanley’s greatest concerns for each of the “Fragile Five,” and include their year-to-date performance against the greenback.The Brazilian real

Year-to-date: -7.6% against the USD

GDP growth: 3.28%

Inflation: 6.09% 

Current account deficit: -3.23% of GDP

Brazil has a high current account deficit. A rising real effective exchange rate (REER) — the rate used to determine a currency’s value relative to other major currencies — only risks a worsening of the current account deficit.

The country also has an inflation problem, and earlier this year we saw locals protesting high costs ahead of the World Cup.

Brazil’s central bank has intervened the most to support the real by selling foreign exchange swaps and raising its benchmark interest rate (Selic).

South Africa’s rand

Year-to-date: -14.4% against the USD

GDP growth: 2.0%

Inflation: 6.4%

Current account deficit: -6.5% of GDP

Of the fragile five, South Africa’s central bank is the only one that hasn’t raised rates, “largely because of its non-interventionist philosophy in terms of exchange rate management.” Like the other countries on this list the rand is weighed down by South Africa’s current account deficit (CAD) and a rising REER which is expected to worsen CAD concerns.

The rand is also more vulnerable to a slowdown in China and the impact that it could have on commodity prices, specifically industrial metals. In South Africa, we saw wildcat protests to raise the wages of the lowest-paid miners so they were growing faster than inflation.

India’s Rupee

Year-to-date: -12.1% against the USD

GDP growth: 4.4%

Inflation: 6.1%

Current account deficit: -5.07% of GDP

India has a high current account deficit. A rising REER only risks a worsening of the current account deficit. But Morgan Stanley analysts do point out that India has lost fewer Forex reserves than other countries in the fragile five. And reform measures intended to curb the capital account deficit and attract capital flows have taken some of the pressure its central bank.

However, India’s central bank had said it would sell US dollars directly to oil firms to support the rupee. It also raised interest rate, while scaling back some of the emergency measures set up to support the rupee. India continues to grapple with high inflation, especially food inflation that has been driven by surging onion prices.

Turkish lira

Year-to-date: -9.9% against the USD

GDP growth: 4.4%

Inflation: 8.17%

Current account deficit: -6.62% of GDP

Turkey faces all the same problems as the other fragile five countries and has seen core inflation (ex-food and energy) hit a three year high. But, “Turkey has more flexibility in its monetary policy than anyone in the EM world by some distance (since the policy set-up is designed to compensate for a very low level of FX reserves) and its fiscal position has improved substantially.”

The Turkish central bank has held Forex auctions to support the lira but has kept interest rates unchanged.

Indonesian rupiah

Year-to-date: -15.4% against the USD

GDP growth: 5.81%

Inflation: 8.79%

Current account deficit: -3.27% of GDP

Indonesia has seen workers strike, and demand a 68% minimum wage hike, as inflation continues to rise. The rupiah is expected to remain under medium term pressure but the central bank does have room to use interest rates “given its cyclical position and a stable banking sector.” The Indonesian central bank has helped support its currency by raising rates.