As the year 2024 commenced, a considerable number of observers closely monitoring the activities of the Federal Reserve were initially confident that a rate cut was merely a matter of time rather than a question of "if." However, as four months passed, those optimistic predictions began to dissipate. Stronger-than-expected economic data from the United States, alongside persistently high inflation rates, led Fed officials to frequently signal their reluctance to initiate any rate cuts in the near term. Consequently, market sentiments adjusted, with the prevailing consensus indicating that a reduction in the Fed's interest rates might occur once or twice within the year, albeit with significant uncertainties regarding the possibility of no cuts at all.

This shift in expectations has triggered a series of actions across Asian economies, which are now grappling with the stronger positioning of the US dollar against their currencies. In response, various central banks in Asia have embarked on what can be termed as a "currency defense" campaign to shield their currencies from excessive depreciation.

A spotlight fell on the Japanese yen, particularly around April 30, when it breached a critical threshold of 160 against the dollar. Following a disappointing announcement from the Bank of Japan the previous Friday, the yen's value continued to plummet, raising concerns in the market about why Japanese authorities had not stepped in to intervene. However, on Monday, traders observed a significant rebound in the yen, which soared back to 155, leading to speculation that Japan had quietly entered the market. Insider sources indicated that the Bank of Japan had engaged in substantial dollar sell-offs on that day, although Japan's Deputy Finance Minister, Masato Kanda, refrained from commenting on whether such market interventions had indeed taken place.

Advertisement

While Japan was still deliberating the need for intervention, other Asian economies were taking a more definitive stance in defense of their currencies. For instance, the Bank of Indonesia surprised many by raising its key interest rate by 25 basis points to 6.25% last Wednesday, aiming to prevent the depreciation of the Indonesian rupiah amidst the strength of the dollar. In a preceding survey of 35 economists, only six had anticipated such a move. Perry Warjiyo, the Governor of Bank Indonesia, highlighted that the decision to unexpectedly hike the key interest rate was made to "bolster the stability of the rupiah." Despite the rate hike, the Indonesian rupiah had still depreciated by approximately 5% against the dollar this year.

The context surrounding these actions is complex. Earlier, there were predictions that central banks in Asia would preemptively reduce their rates in line with anticipated Fed cuts. However, faced with the imperative of stabilizing their currencies, many of these central banks opted not only to refrain from cutting rates but instead instituted increases. While lowering rates could ease economic burdens, reduce borrowing costs, and stimulate growth, doing so prematurely, particularly if the Fed maintains its "long-term high-rate" policy, could trigger capital outflows as investors seek higher yields in the United States, exacerbating local currency depreciation.

Jingyi Pan, the Assistant Director of Economic Research at S&P Global Market Intelligence, noted that central banks in Asia generally dislike significant fluctuations or devaluations of their currencies against major currencies, particularly the dollar. Hence, there is a tendency among these central banks to delay action until after the Fed has acted. She pointed out that higher US rates and a strong dollar could adversely impact trade outcomes for these economies, as currency depreciation makes imports of essential goods like food and energy more expensive, worsening inflationary pressures. This worsening situation has already led businesses in Asia to report rising costs of imports due to the depreciation of local currencies.

In Thailand, despite Prime Minister Srettha Thavisin's appeals for a rate cut, the Bank of Thailand maintained its benchmark rate at 2.5%. Following a refusal from the central bank, Srettha urged major financial institutions in Thailand to lower their rates. Last Thursday, executives from four prominent Thai banks agreed to temporarily reduce borrowing costs after a meeting with the Prime Minister. Nonetheless, market analysts suggest that a rate cut is unlikely from the central bank, as this could further weaken the Thai baht, which has depreciated approximately 8% against the dollar this year.

Moreover, the strong dollar has similarly pressured the Malaysian ringgit and the Philippine peso, with both central banks maintaining their benchmark rates so far this year. The Bangko Sentral ng Pilipinas had previously indicated potential future rate cuts later this year or early next year, but Finance Secretary Ralph Recto cautioned that if the peso continues to weaken against the dollar, reaching below the current historical low of 59, the country would need to uphold its rate of 6.5%.

In South Korea, the central bank has held its rate steady at 3.5% since early last year, despite facing rising borrowing costs for businesses. The Korean won has also depreciated over 5% against the dollar this year. Recently, Bank of Korea Governor Lee Chang-yong stated that the central bank is prepared to implement "stability measures" to support the won, reflecting ongoing concerns over the currency's depreciation. Additionally, South Korea, Japan, and the United States jointly issued a statement highlighting their "serious concerns" regarding the "rapid depreciation" of their currencies.

Meanwhile, the repercussions of a stronger dollar are being felt in the United States as well. With the domestic GDP for the first quarter of 2024 falling short of market expectations, there were renewed warnings regarding the adverse effects of a robust dollar on the American economy. The first quarter's GDP report indicated that the international trade dynamics were a significant factor contributing to the weaker-than-expected economic performance.

The US dollar has emerged as the strongest-performing currency globally in 2024, buoyed by drastically lowered expectations of Fed interest cuts and elevated long-term rates making US bonds more attractive to foreign investors. This influx of capital has effectively escalated the dollar's value. Additionally, geopolitical tensions have dampened risk appetites, further underscoring the dollar's role as a safe-haven asset.

This robust dollar situation poses "disastrous impacts" on American manufacturers and other businesses, forcing American firms to either lose substantial market share or relocate operations to other countries. Tim Quinlan, a senior economist at Wells Fargo, suggested that one reason for the dismal economic data is that trade has suffered a significant setback, with net exports dragging down the main economic indicators.

Economists at Berenberg Bank highlighted that even after stripping out quarterly fluctuations in the data, the growth in imports appeared robust while net exports had a negative impact on overall GDP growth for the first quarter by about 0.9 percentage points. Weak export growth was attributed to frail global demand coupled with the strong dollar.

Additionally, Steven Blitz, the chief US economist at TS Lombard, pointed out that a strong dollar disrupts capital equipment purchases between domestic and international manufacturers, which runs counter to the US government's policies related to taxation, tariffs, and spending.

Furthermore, Derek Halpenny, the head of global markets research at MUFG, indicated that the politicization of the dollar might limit its future gains. Reports from former government officials suggested that economic advisors are rigorously exploring measures to encourage other major economies to strengthen their currencies.