Emerging Markets Grapple with Soaring US Interest Rates: A Silent Debt Crisis
Smaller emerging markets are wrestling with the impact of escalating US interest rates, resulting in higher borrowing expenses. This situation, as highlighted by the World Bank, is intensifying the financial fragility of these economies.
The sharp increase in global interest rates and the strengthening of the US dollar triggered a significant sell-off of emerging market debt last year. Foreign investors are now anticipating a prolonged period of elevated borrowing costs, making recovery for these economies challenging.
World Bank's Concern
The World Bank reveals that 23% of emerging and developing countries are facing borrowing costs more than 10 percentage points higher than the US, a substantial increase from the less than 5% recorded in 2019. Consequently, debt interest payments are reaching their highest levels since 2010, straining government finances and hindering essential service investments.
Ayhan Kose, the World Bank Group's deputy chief economist, describes this situation as a "nightmare" for lower-income countries with substantial debt burdens. He emphasizes that these countries are grappling with a "silent debt crisis" and calls upon global leaders to provide financial assistance and debt relief.
Financial Difficulties and Calls for Action
The rise in yields has cut off many low-income countries from international financing, resulting in defaults in some cases. Weaker emerging and developing countries are being priced out of the dollar bond market, limiting their access to funding.
The persistently high interest rates are expected to hamper economic growth, making it harder for countries to reduce their debt burdens. This is particularly concerning for countries like Egypt and Kenya, which must refinance bonds at higher yields.
Additionally, higher US interest rates reduce the flexibility of emerging economies to lower their rates, even when domestic inflation is low, as this can lead to currency depreciation and inflation through higher import costs.
Impact on Emerging Economies
Several emerging economies have reacted more swiftly to the threat of inflation, cutting interest rates. However, higher US rates have forced some countries, such as Hungary and Chile, to slow down their rate cuts to support their currencies.
The issuance of foreign currency debt in emerging markets has substantially declined in recent years due to the soaring borrowing costs. Investors are favoring issuers with high credit ratings, and many low-rated sovereigns have lost access to the market.
As a result, foreign currency debt issuance in emerging markets has decreased significantly. This environment has prompted investors to move capital toward the US and reduce risks in emerging markets and other asset classes.
"Higher yields mean more expensive issuance; unless necessary, waiting for lower yields to issue can be a strategic move," notes Paul Greer, an emerging market debt fund manager at Fidelity.
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