By Hemant G.
We live in the age of information. When information is imperfect, certain markets become prone to speculation.
One arena of global finance which is currently the subject of such speculation is Forex. As the world grapples with the COVID-19 pandemic Forex rates continue to fluctuate. Let’s take a look at where Forex rates are headed and why.
A Race for Liquidity
Assets that can be readily sold without price reduction are said to be liquid. Gold is highly liquid in the sense that one can quickly sell it without lowering the price.
In the same way fixed assets such as land and buildings are very illiquid. All businesses need some liquidity to stay solvent.
So do nations. During times of crisis it becomes important to have higher liquidity. It acts as a safety net and helps offset the risk of bankruptcy.
Cash is the most liquid asset of all. However, in Forex markets this is relative. Currencies which are more widely traded are more liquid.
The US Dollar (USD) is the most liquid currency of all because it enjoys the widest circulation and highest trading volume globally. Many nations now want to increase their dollar reserves.
The coronavirus pandemic seems to be driving the world towards a dollar-buying frenzy.
Fluid Exchange Rates
The demand for the USD has soared. Banks and individuals are lining up to sell other currencies and buy US Dollars.
As a result the Dollar’s exchange rate against many other currencies continues to rise. In March 2020 the USD reached a 10-year high against the Australian Dollar (AUD). The New Zealand Dollar (NZD) also touched a new low against the USD.
Many other currencies: such as the Norwegian Krone (NOK) showed similar trends. In the wake of mass sell-offs the Indian Rupee (INR) also slumped to record lows against the USD. Even the mighty Euro reached its lowest mark against the USD since 2017.
The U.S. Dollar Index is a comparison of the USD against a basket of international currencies. The index has been steadily climbing since worldwide quarantines were initiated.
Many countries’ central banks are eagerly buying as many USDs as they can. It is an effort to ensure that their financial institutions continue to function.
India’s Forex reserves recently exceeded $462 billion, an all-time high. Conversely, emerging market currencies have seen the largest downward movements.
Impact on Investments
In an effort to increase liquidity investors are racing to sell-off their illiquid investments for ready cash.
The International Monetary Fund (IMF) reported in March that investors have pulled out $83 billion from emerging markets in the wake of the crisis. According to the IMF this is “the largest capital outflow ever recorded.”
In India foreign institutional investors are estimated to have sold INR 4.4 billion worth of equities. This trend, fueled by uncertainty and speculation, has exacerbated the situation. Markets are crumbling.
The global economy is wilting. At the meeting of G20 Finance Ministers and Central Bank Governors on 23 March, IMF Managing Director Kristalina Georgieva referred to the coronavirus pandemic as, “The Great Lockdown: Worst Economic Downturn Since the Great Depression.”
An interesting by product of the prevailing Forex rate movements is that remittance recipients now get more.
In the present situation of Forex markets, remittance beneficiaries receive more local currency for each dollar sent. With prices of groceries and essentials being kept constant, this could result in increased purchasing power for expats’ families.
Migrants are using this opportunity to send ever larger international money transfers to their families back home.
Major central banks across the globe have taken important steps to mitigate the impacts of the liquidity crunch.
The Bank of England recently introduced another emergency interest rate cut. It also announced the addition of GBP (Great Britain Pounds) 200 billion into its bond buying program. This would pump more vital liquidity into the economy. The GBP predictably strengthened against the USD in response to these measures.
In another equally decisive move the European Central Bank decided to roll out a EUR 750 billion asset-purchase programme. Both banks also announced USD auctions. Other prominent banks are following suit and taking similar measures to inject liquidity.
Several banks have widened bilateral swap lines with emerging market countries. The IMF plans to use every last cent of its $1 trillion lending capacity to help the world economy get through the crisis.
It seems almost ironic that a pathogen which endangers human life has served to unite all of humanity toward common goals.
About the Author:
Hemant G is a contributing writer at Sparkwebs LLC, a Digital and Content Marketing Agency. When he’s not writing, he loves to travel, scuba dive, and watch documentaries.