31st October 2022
Hugues Chevalier, Economist
The tightening of US monetary policy in recent months, and hence the rise in interest rates, has resulted in capital flows between emerging countries and the US. In recent weeks these capital flows have been colossal. The IMF issued a warning on 6 October, when it presented its latest global forecasts, in particular on “the growing risks to financial stability” and notably on certain “key segments of financial markets” and on the “sovereign debt” of emerging countries. The US Federal Reserve’s (Fed) policy has forced emerging countries dependent on external financing to raise interest rates to stem the flow of capital to the US and the fall in their currencies. The devaluation of emerging currencies causes imported inflation and, more importantly, increases the cost of borrowing, which is usually denominated in dollars. The increase in the cost of servicing debt is enormous and now represents 16.5% of the revenues of sub-Saharan African countries, compared to 5% in 2010. This situation is very worrying as growth in emerging countries has stalled since 2020 and the shock of rising energy and food costs has led to inflation that is almost out of control. In Egypt, for example, core inflation (excluding food and energy prices) accelerated to 18% year-on-year in September while the local currency has devalued by 25% against the dollar since the beginning of the year and 20 billion in capital has flowed out of the country. To deal with this situation, since the beginning of the year, the IMF has already approved $258 billion in new emergency financing in nearly 100 countries. The risk, as in previous financial and monetary crises, is that a “major” emerging country will default and trigger a domino effect and panic in the markets. For the time being, the IMF has succeeded to “manage” capital flight from emerging countries, but the risk of a financial stability crisis is growing.