The International Monetary Fund has advised emerging economies, including Nigeria, to allow their currencies to depreciate in response to tighter funding conditions and the Federal Reserve Bank of the United States’ impending policy tightening.
In preparation for the Fed’s policy tightening, the Washington-based lender also advised the Central Bank of Nigeria and the apex banks of emerging economies to raise their benchmark interest rates.
On Monday, the IMF announced this in a blog post titled ‘Emerging Economies Must Prepare for Fed Policy Tightening.’
While changes in the global economic outlook appear to be positive, particularly in the United States, the fund believes that these changes are uncertain for emerging markets.
It was noted that emerging markets with high public and private debts, foreign exchange exposures, and lower current-account balances had seen larger currency movements relative to the US dollar in recent months.
As a result, the IMF warned that the combination of slower growth and increased vulnerabilities could result in negative feedback loops for emerging economies.
“Some emerging markets have already begun to adjust monetary policy and are preparing to reduce fiscal support to address rising debt and inflation,” it said.
“As funding conditions tighten, emerging markets should tailor their response based on their circumstances and vulnerabilities.” Those with policy credibility on containing inflation can tighten monetary policy more gradually, while others with stronger inflation pressures or weaker institutions must act swiftly and comprehensively.
“In either case, policymakers should allow currencies to depreciate while raising benchmark interest rates.” When faced with disorderly foreign exchange markets, central banks with sufficient reserves can intervene, as long as this intervention does not substitute for warranted macroeconomic adjustment.
“However, such actions can present difficult choices for emerging markets, as they must balance support for a weak domestic economy with price and external stability.” Similarly, extending support to businesses beyond existing measures may increase credit risks and weaken financial institutions’ long-term health by delaying loss recognition. Reversing those policies could further tighten financial conditions, undermining the recovery.”
According to the IMF, in order to manage the tradeoffs, emerging economies must take immediate steps to strengthen policy frameworks and reduce vulnerabilities.
