JAKARTA (TheInsiderStories) — The drop of Indonesian rupiah to record low at Rp14.100 per US dollar, the lowest in nearly two and half years after the release of the country’s trade deficit on Tuesday (15/5), has sent a warning to investors that they are possibly dealing with a rising concern of “Fragile Five” which sent emerging markets into a rout in 2013.
The term Fragile Five was coined in response to the global economic condition between 2011 and 2014. It was used by economists to refer to five emerging markets– Indonesia, Turkey, Brazil, India and South Africa, which were overly dependent on foreign investments. The five had one key factor in common: Large current account deficits.
As capital flows out of the emerging markets to developed markets, their currencies experienced significant drop and made it difficult for them to finance current account deficits.
The lack of new investments also made it impossible to finance many projects, which contributed to a slowdown in their respective economies. This created a potential issue for certain vulnerable economies.
After many developed economies contracted in 2008, emerging market economies attracted a large amount of investment capital due to their relatively strong growth rates.
This capital was injected to various sectors of the economies to enhance economic growth. For example, new infrastructure projects, which involved local companies and employed a number of local people.
The subsequent recovery in developed markets drew a lot of this capital back home and resulted in less foreign direct investments in emerging markets. Developed economies, like that of the United States, posted strong returns throughout 2013.
The U.S. Federal Reserve also decided to taper its bond-buying program and raise interest rates, which resulted in a stronger U.S. currency relative to emerging market currencies. These dynamics led to an increasing number of investors to sell emerging market currencies and move into US dollar.
A stronger dollar has pressured emerging market currencies broadly and injected volatility into a pocket of the market that investors have flocked to for generating higher yield, but the dollar’s strength poses risks for some local currency denominated bonds.
As investors flee emerging markets, Indonesia is taking a bigger knock than its peers in Asia. The rupiah has slumped to a 31-month low against the US dollar and international investors have dumped $3.4 billion of stocks and bonds since the start of April.
Bank Indonesia is selling billions of dollars from its reserves to halt the rout and may be forced to raise interest rates for the first time since 2014.
The condition was getting worse after the Central Bureau of Statistics released the update data on the country’s trade balance in April, which saw a deficit at US$1.63 billion, the highest since April 2014.
The trade deficit so far in 2018 will also put pressure on the country’s current account deficit (CAD). The CAD widened to 2.15 percent of Indonesia’s gross domestic product (GDP) in the first quarter of 2018, up significantly from 1.0 percent of GDP in the first quarter of 2017.
Indonesia’s benchmark index has dropped 9.4 per cent this year, and is the second worst-performing major equity market in Asia. Any interest rate increase will also need to take into consideration the sluggish economy.
Indonesia isn’t alone in contending with investors who have turned cold. Debt sales from countries such as Russia have been cancelled or postponed, while Argentina’s central bank has raised interest rates three times in a week to halt a currency slide.