FxWirePro: Central banks in EM Asia maintain status quo but hedging essential for potential risk in divergence of FX bloc

The Fed is sticking to its rate normalization path (hiked with 25 bps, signaled 2 more to go in 2018), on the flip side, for most of Asia, they are in no hurry to play follow the leader.

We’ve received the central bank rates for Taiwan, Indonesia, and the Philippines today and all three have maintained status quo to leave rates unchanged. The main reason is that despite encouraging growth, inflation is not a pressing issue, although less so for the Philippines.

The central bank of Taiwan kept its benchmark discount rate steady at 1.375% today which is in line with the market expectations. The benchmark interest rate in Indonesia was last recorded at 4.25%. 

The Philippine central bank held its benchmark interest rate at 3.0% today, as widely anticipated, contemplating inflation is expected to remain within its target for 2018 and 2019, despite some upside risks arise. Policymakers also observed that economic growth remains robust enough to absorb some policy tightening if needed. 

Well, on the currency front, there is a bit of divergence between the three. We have the Taiwan dollar (TWD) holding steady so far this year as opposed to weakness in the Indonesian rupiah (IDR) and the Philippine peso (PHP). For TWD, it is up 2.4% vs USD year-to-date (YTD). Taiwan’s central bank governor recently said that although USDTWD has been stable this year between the 29-30 range, volatility is likely to go up and encouraged enterprises to hedge.

For IDR, the window for further rate cuts from Bank Indonesia (BI) has closed. IDR is down by 2% vs USD YTD and BI’s near-term focus is squarely on IDR stability. We expect BI to help cap USDIDR under the 14,000 mark near term. For PHP, it’s the weakest Asian currency, down over 4% vs USD YTD.

At the same time, if any country should worry about inflation in Asia, it is the Philippines. Inflation is hovering just below the central bank’s 4% threshold and if it breaches this level in coming months, the central bank would have to change course.

In other words, it may have to consider at least one hike soon and/or halt PHP’s weakness. The weak PHP is also helping to boost domestic demand by way of increased income from the overseas USD remittances but this rosy story can’t continue forever.

For trade, clearly the risks are more excellently balanced compared to a few months ago but part of a more nuanced/less disruptive resolution to such tensions can still come via stronger EM Asia currencies over the medium term.

Well, overall, we are neutral in the GBI-EM Model Portfolio but outright longs in SGD, KRW, and TWD, as EM Asia FX strength can play a part in mitigating trade tensions over the medium term.

Positive carry and the RBI’s more than adequate FX reserves should keep any periods of INR weakness bounded. As we progress towards the end of Q1 we also tend to see seasonal strength in the currency. Some retracement in commodity prices, particularly in terms of energy, has also provided some relief in terms of the extent to which the current account balance is likely to deteriorate. Our end-year forecast remains for USDINR to push above the 65.00 level.

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