The U.S. Federal Reserve is expected to cut interest rates soon. Although this might be bad news for the dollar, it could turn out well for several Asian currencies.
When a country's interest rates increase, its currency becomes more attractive. It causes many foreign investors to buy that currency, increasing its value. However, when the U.S. interest rates go down unless it's during a financial crisis, it usually weakens the U.S. dollar.
In December, the U.S. Federal Reserve took a more lenient approach, and now financial markets expect them to lower interest rates by the summer. According to the CME FedWatch tool, a 0.25% rate drop in 2024 might occur as soon as this June. It's worth noting that the Fed's January gathering ended with a decision to keep the central bank's primary lending rate between 5.25% and 5.5%.
Brighter prospects for won in 2024
The South Korean won has faced challenges for the past three years. However, brighter economic prospects and a more relaxed policy from the Fed will likely lessen this strain in 2024.
Monex's Harvey further elucidates this concept by explaining that as a low-yielding and highly cyclical currency, the won could emerge as a primary beneficiary in the year's second half. It is potentially due to reduced pressure on the Korean won from the rate channel driven by lower U.S. rates.
Economist Harvey suggests that the potential increase in the worth of Korea's won hinges on the depth of the Fed's cuts, forecasting a surge of 5% to 10% if the easing cycle is substantial or a slight rise of 3% if it's more conservative. Furthermore, South Korea's economy is set for a boost. The International Monetary Fund anticipates growth of 2.3% in 2024 and 2025, notably higher than the prior year's 1.4% growth rate.
Rupee's potential boost from carry trades
The Indian rupee might get a boost from carry trades this year. This method involves traders borrowing currencies with low yields, like the U.S. dollar, to purchase assets like bonds that have high results.
Recognizing this shift, Anindya Banerjee, vice president of currency and derivatives research at Kotak Securities, shares that there is a lot of carry trade against other currencies, such as the yen or the euro.
However, with the anticipated fall of interest rates in the U.S., we can expect to see the interest rate differential widen. This move, he believes, will facilitate the carry trade and is likely to be a positive development for the Indian currency.
The reason is simple, because the fiscal policy is working on all aspects, the economy is performing very well and they do not want any excesses at this time
Anindya Banerjee
The rupee has risen to around 82.82 in the past three months compared to the dollar. Even though it dropped by 0.6% in 2023, the fall isn't as much as the 11% drop it experienced the previous year.
Yuan stability amid challenges
China has pushed through a series of negative news affecting investor trust. Still, beliefs that officials won't let the country's trade-dependent currency weaken beyond a particular point have restrained pessimism towards the yuan.
According to Arun Bharath, the lead investment advisor at Bel Air Investment Advisors, China has been trying to keep the yuan steady against the dollar. This trend is expected to carry on.
He conveyed that the exchange rate of the Chinese currency is expected to stagger within a narrow range, revolving around the present exchange rate of 7.10.
Unlike currencies such as the Japanese yen or the U.S. dollar, which fluctuate freely, China maintains a tight grip on the value of its currency, the yuan. Essentially, they set a "midpoint fix" daily based on the yuan's performance the previous day. This value is determined using rates from inter-bank dealers and refers to the yuan's value compared to the U.S. dollar.
If the Federal Reserve begins to reduce interest rates by this summer, this may decrease the gap between the interest returns of the world's two largest economies.