Latin America's Intervention Flop Showing Markets Always Win Outby and
Mexico, Argentina, Colombia step up exchange-rate support
Yet interventions are doing little to stem currency routs
Latin America’s policy makers are finding out they can’t fight the market.
Colombia saw its peso rise last Monday after announcing a mix of currency, fiscal, and monetary measures, only for it to succumb to an emerging-market selloff later in the week.
Argentina’s dollar sales Tuesday failed to stop the peso tumbling 3.6 percent since, and investors say that Brazil’s intervention efforts have become largely ineffective after more than two years of daily swap sales. Only Mexico seems to have gotten a real bounce from its surprise interest-rate increase, though the rally lost steam after four days.
The region’s policy makers are stepping up intervention in an effort to stem currency declines that have fueled a surge in inflation and overshadowed the benefits that weaker exchange-rates create for exporters. But instead of bolstering their currencies, central bankers are managing only to burn through reserves, finding they can’t counteract an emerging-market rout that’s hit everywhere from South Korea to Turkey to Russia.
“There’s no central bank in the world that can turn a depreciation into an appreciation,” said Christian Lawrence, a currency strategist at Rabobank NA in New York. “If you want it to weaken there are lots of things you can do, but if you want to support it, that’s a loser’s game. Currency intervention should be used as a last resort. It just doesn’t work.”
Latin America’s currencies are falling as the slump in commodities hurts the nations’ export earnings and as concern global growth is slowing prompts investors to dump the assets of economies with current-account deficits. This year, the region is on course for the fastest inflation and the slowest growth since the 2008 financial crisis, according to economists surveyed by Bloomberg.
There’s little sign of a rebound coming for Latin America. Among the 10 global currencies with the biggest premiums for options to sell in three months’ time over contracts to buy, four are in Latin America, risk-reversals prices compiled by Bloomberg show.
“Direct intervention doesn’t work and when it does that’s the exception not the rule,” said Mike Moran, head of economic research for the Americas at Standard Chartered Plc, which gets more than half its revenue from emerging markets. Still, “policy makers believe there’s some value in slowing declines, because volatility breeds volatility and it’s very disruptive to their domestic economies.”
Argentina’s peso has fallen 18 percent since the start of the year, and Colombia’s is down 3.6 percent, after dropping to a record 3,452 per dollar this month. Mexico’s currency has gained 4.3 percent since the day before the central bank raised rates and changed its dollar-sale policy on Feb. 17, yet it’s still down 5 percent in 2016 and reached an all-time low of 19.44 to the dollar this month.
Brazil’s real, the worst-performing major currency in 2015, is down just 0.6 percent this year. Only the Chilean peso is rising in the region, but that’s mostly a result of copper prices stabilizing. Its central bank hasn’t intervened.
The peso’s weakness has fueled faster inflation, Colombian central bank governor Jose Dario Uribe said Feb. 19 as he announced a rate increase and a lower threshold for intervention. Mexican Finance Minister Luis Videgaray complains that the currency’s slide is being driven by short sellers and is out of line with fundamentals.
Argentina’s central bank is turning its back on more than a decade of managing the currency, and just intervenes to smooth the peso’s slide. “Intervention is to correct spikes and developments that don’t bear relation with fundamentals, not to sustain an exchange rate that is off its equilibrium,” the bank’s President Federico Sturzenegger said at the G-20 meeting in Shanghai on Friday.
The Latin American experience underlines the differences between emerging markets and much of the developed world, where policy makers in economies such as Europe and Japan favor weaker currencies to stave off the threat of deflation.
Of all the inflation-targeting economies in the region, only Mexico has kept down price growth to within its desired range. In Brazil, consumer prices are rising at more than twice the official target, and Colombian inflation accelerated to a seven-year high last month.
Lessons of History
Latin American economies have an inglorious history of meddling in currency markets. In the 1980s and 1990s, policy makers across the region used exchange rates to control inflation. Unless it’s matched with rigorous fiscal discipline, this policy can lead to overvalued currencies and eventual devaluation -- most recently demonstrated by Argentina in December.
Too much interference in exchange rates can sully the already fragile credibility of the region’s central banks, said Guillermo Calvo, an Argentine professor of economics at Columbia University in New York.
“People have to establish credibility for their currencies, especially when they come from very high inflation as was the rule in the 1970s and 1980s,” said Calvo, who co-authored the influential “Fear of Floating” paper of 2002. In decades past, “they were explicit about pegging,” he said. “Now you see more flexibility, but I wouldn’t call it really floating.”