Lower Fed interest rates send jitters far afield

By Mark Whitehouse

(Bloomberg View) – After extraordinary measures to stimulate the U.S. economy, there is increasing concern about the potential for distant repercussions — particularly in emerging markets. From the recent behaviour of global banks, they are already happening.

Since the 2008 financial crisis, emerging markets have been on a credit binge, fuelled by extremely low U.S. interest rates. These have sent lenders farther afield for better returns. Over the six years through September 2014, private credit to the non-financial sectors of major developing countries almost tripled, to $4.3 trillion, according to the Bank for International Settlements (BIS).

Now the Fed is moving toward raising rates — and developing-nation borrowers appear less able to handle all their debt, much of it denominated in increasingly expensive dollars. (The U.S. currency's trade-weighted exchange rate has risen 13 percent since mid-2014.) The primary concern is that investors will begin withdrawing money, exacerbating the debt problem and possibly triggering a larger crisis.

According to new estimates from the BIS, the outstanding stock of cross- border lending into developing nations decreased by about $80 billion in the last three months of 2014 — the largest quarterly withdrawal in more than five years.

The outflow from China, at $51 billion, was the largest in nominal terms, followed by Russia, with $19 billion. Measured as a share of gross domestic product, cross-border lending declined the most in Malaysia, followed by Angola (among developing economies with at least $100 million in 2014 GDP).

This is not necessarily the beginning of a destabilizing exodus. The changing outlook for interest rates, making the U.S. more attractive, justifies a shift in lending flows. What happens next will depend on how deftly the Fed does its job; how well emerging-market borrowers handle their debt; how skittish or overextended global investors prove to be — and, perhaps, how ably regulators can identify and mitigate the risk of contagion.