EM Central Banks: What Has Changed?

By Ilan Solot

NEW YORK (BBH FX Strategy) -- This was busy week in emerging markets central banking so we thought a review of the major developments would be useful. In our interpretation, the central banks of Brazil, Hungary and India shifted toward the dovish side, those of Russia, Poland and Thailand to the hawkish side, while nothing much changed in Turkey.

Brazil

What happened: The minutes of the Jan. 18 meeting came out decidedly dovish, confirming that rates are moving toward single digits -- which was our base case. But the tone of the discussion about a lower neutral rate, the emphasis on the current economic weakness and the deflationary global environment were very dovish.

What has changed: Implied rates have now converged to our target of a trough of 9.50% for SELIC, from pricing in a trough of 9.75% earlier this week. Moreover, the risk has once again shifted towards deeper cuts and lower local rates.

Hungary

What happened: The central bank surprised markets by keeping rates on hold against calls for a 50 basis points hike.

What has changed: Further hikes will still depend almost exclusively on the level of EUR/HUF, but the base case has shifted to a pause. The bank has abandoned its cautious posture towards HUF either because it believes in the prospect for an International Monetary Fund agreement or it is applying pressure on the government to move in that direction.

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India

What happened: The Reserve Bank of India initiated the easing cycle a bit sooner than expected by cutting the reserve ratio to 5.5% from 6.0% to boost bank lending -- but left the repo and reverse repo rates unchanged. The decision was aimed at countering the overly tight liquidity conditions, which "could hurt credit flow to productive sectors of the economy."

What has changed: This increases our conviction that that the RBI will start easing in earnest in the next meeting, probably by cutting the repo rate. The effects on INR are mixed as lower rates are negative for carry but will support further inflows into equities and bonds.

Russia

What happened: Deputy Chairman Ulyukayev stated that rate cuts are off the table for now. CPI and PPI for December came in well below expectations and one-off factors such as the delays to utility price hikes will keep inflation from falling later this year.

What has changed: We revise our expectations for further easing in the next few months to no change in interest rates. This is a further positive factor to our already bullish view towards the RUB.