How will Asian central banks navigate their monetary policies if Fed doesn’t cut rates this year?

Despite the currency pressures, there are higher bars for Asian central banks to raise rates.

With the Federal Reserve reviewing rate cuts, the US dollar gathering strength, and oil prices going up, it's now harder for Asian central banks to lower the interest rates, according to a report by broking firm Nomura. This means that it could be 'higher for longer' even in this part of the world.

Some analysts feel that the Fed may not cut the interest rates at all in 2024, though the the Fed dot plot had earlier this year indicated that the US central bank might cut rates by 75 basis points over the course of three meetings. But this was before the higher-than-expected inflation data for March.

With the stronger dollar and lower chances of a rate cut from the Fed, central banks across Asia will want to maintain some differential in their interest rates, or else the countries will see weaker currencies and higher imported inflation.

Other developments, such as surging crude prices, heightened geopolitical risks, higher rice prices feeding into rising food inflation have also sent alarm bells ringing across Asian banks.

Also Read | What is the US Fed dot plot and why does the market watch it so closely?

Despite the currency pressure, the Asian central banks are not in a mood to weigh rates hikes. Nomura noted that the Reserve Bank of India used its ample forex reserves to counter the currency weakness.

The Bank of Thailand is “less concerned about a weaker Thai Baht” and inflation is low, while the Philippine central bank BSP, which might raise the rates, sees a tough battle ahead, since its monetary stance is seen as ‘tight’ after delivering the most aggressive hiking cycle in the region.

Mostly Asian central banks are likely to use forex intervention to slow the pace of a weakening currency, says the report. “The central banks also have the option to activate their second line of defence, which is using macroprudential and capital account tools, such as mandating exporters to sell their foreign currency proceeds, restrictions on trade/financial account, and measures to boost capital inflows,” said Nomura.

What will Asian central banks do if the US Fed doesn't cut rates?

If the US Federal Reserve does not cut the rates in the current year, Nomura estimated that the Indonesian Central Bank and BSP might decide to hold their rates steady, with the small likelihood of a hike in Indonesia, if the Indonesian Rupiah depreciation is sharp.

However, there will be a decoupling from the Federal Reserve from Australia, China, India, Korea and Thailand, although the extent and quantum will not be as high.

In India, since the RBI uses the repo rate to manage the balance between growth and inflation and forex reserves to manage currency risks, the RBI could stop taking cues from the Fed if the domestic growth-inflation condition necessitates easing. “More than Fed repricing, it is the growth resilience and higher oil prices that are skewing the risks towards less easing,” said the brokerage.

Nomura also posited that China’s domestic macro conditions of low inflation and weak growth support policy easing in China. Since high interest rates are weighing on domestic demand in Korea, the Bank of Korea could possibly decouple from the Fed, and prevent real interest rates from rising further.

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