- Strengthening of the dollar has sizable macroeconomic implications for almost all countries.
- The implications are quite felt in current times, as countries try to fight the high inflation rates amid their weakening currencies.
Image: FREDRICK OMONDI
The International Monetary Fund (IMF) has asked nations to focus on the drivers of exchange rate shifts and signs of market disruptions to respond to the strengthening dollar.
The dollar has been on the rising trail, hitting its highest since 2000.
It has appreciated 13 per cent against the Euro and six per cent against emerging market currencies since the start of this year.
The strengthening of the dollar has sizable macroeconomic implications for almost all countries, given its dominance in international trade and finance.
The global lender, therefore, says, in order for developing countries to counter the adverse economic implications on the back of continued dollar strength, there is a need for a policy response shift.
"Specifically, foreign exchange intervention should not substitute for warranted adjustment to macroeconomic policies. There is a role for intervening on a temporary basis when currency movements substantially raise financial stability risks,” IMF says.
The implications that are occasioned by the strong dollar are quite felt in current times, as countries try to fight the high inflation rates amid their weakening currencies.
While the US share in world merchandise exports has declined from 12 per cent to 8 per cent since 2000, the dollar’s share in world exports has held around 40 per cent.
Hence for many developing countries fighting to bring down inflation, the weakening of their currencies relative to the dollar has made the fight harder.
This reflects their higher import dependency and greater share of dollar-invoiced imports compared with advanced economies.
The dollar’s appreciation also is reverberating through developing countries’ balance sheets.
Approximately half of all cross-border loans and international debt securities are denominated in US dollars.
As world interest rates rise, financial conditions have tightened considerably for many countries.
A stronger dollar compounds these pressures, especially for countries that are already at a high risk of debt distress.
The IMF therefore, reiterates that given the significant role of fundamental drivers, it would be important for nations to allow the exchange rate to self-adjust.
This is while using monetary policy to keep inflation close to its target.
For instance, the higher price of imported goods will help bring about the necessary adjustment to the fundamental shocks as it reduces imports, which in turn helps with reducing the buildup of external debt.
“Fiscal policy should be used to support the most vulnerable without jeopardising inflation goals,” the lender says.