Why 1998 Was Different, and Same, to Emerging-Market Crisis NowYe Xie
Oil prices were tanking. Emerging-market currencies were in a freefall. Venezuela was mired in a financial crisis and Russia had sunk into a debt default and devaluation.
The year was 1998.
Emerging markets today look a lot like they did back then. Yet there have been key changes that could help most of them escape full-blown crises. Here’s a look at the similarities and differences between now and then.
*Falling Oil Prices
Crude has dropped 48 percent since June to about $55 a barrel, squeezing exporters from Venezuela to Russia and Nigeria. Credit default swaps show a 97 percent probability that Venezuela will default on its bonds within five years, according to data compiled by Bloomberg. The Russian economy, which is under sanctions by the U.S. and the European Union over the Ukraine conflict, will contract as much as 4.7 percent next year if oil remains at $60, the central bank said.
A Bloomberg index tracking 20 of the most traded emerging-market currencies fell to the lowest since 2003 on Dec. 15. The ruble tumbled past 64 per dollar for the first time, Turkey’s lira fell to an all-time low while Indonesia’s rupiah retreated to levels last seen in 1998.
During the Asian financial crisis in 1997 and 1998, countries from Thailand to Malaysia capitulated on defending their currencies, leading the Thai baht to lose half its value in six months. South Koreans lined up in the streets to donate gold jewelry to help the government refill their depleting foreign reserves amid the currency slump.
The U.S. Federal Reserve is laying the ground for its first interest rate increase since 2006, threatening to drain capital from developing nations. The World Bank estimated last year that private capital inflows to developing nations could drop 50 percent should long-term U.S. bond yields rise one percentage point.
Countries with large current account deficits, including Turkey, South Africa and Brazil, are vulnerable, according to Credit Agricole CIB. So are nations such as Malaysia, where foreign investors account for 30 percent of local government debt. A series of Fed rate increases in the mid-1990s helped trigger the run on Asian currencies that would in turn lead to Russia’s default.
*Flexible Exchange Rates
Developing countries have allowed their exchange rates to fluctuate, moving away from the fixed exchange-rate regimes prevailing during the crisis in the late 1990s. While weaker currencies fuel inflation, they can also stimulate economic growth by making exports cheaper.
Developing countries’ foreign reserves dwarf the amount they had in the late 1990s, which will help them weather the volatility in financial markets. As a group, emerging markets hold $8.1 trillion, compared with $659 billion in 1999, according to data compiled by the International Monetary Fund.
Instead of borrowing in dollars, the governments now mostly raise financing in local currencies, allowing them to pay back the debt without having to draw down foreign reserves. External debt amounted to 26 percent of developing nations’ gross domestic product last year, down from 40 percent in 1999, the IMF data show.
One caveat is that companies have replaced governments as a source of concern on debt issuance. Corporations in developing countries sold about $375 billion of international debt between 2009 and 2012, more than double the amount in the four years before the 2008 financial crisis, the Bank for International Settlements said in September.
While rates are rising in some developing nations, they remain a fraction of the levels seen in 1998. Russia raised its benchmark rate 6.5 percentage points to 17 percent effective Dec. 16 at a late-night meeting. Some short-term rates soared over 100 percent back in 1998. In Brazil, policy makers have raised benchmark rates to 11.75 percent. That’s still less than half the rate levels from 1998.
(Second bullet point of an earlier version of this story was corrected to show Malaysia defended its currency, which was not pegged at the time)