2014 Series • No. 2014–6
Current Policy Perspectives
The Emerging Market Economies in Times of Taper-Talk and Actual Tapering
The emerging market economies (EME) experienced financial distress during two recent periods, both linked to the prospect of the Federal Reserve starting to slow its asset purchases. This policy change was expected to reverse the capital flows directed to the EME. Despite this aggregate effect, a closer analysis shows that there were significant differences across the EME during the time when talk of the upcoming taper began and the period when the policy was implemented. The author makes use of the literature on currency crises to analyze the different cross-country responses and to identify a potential crisis period in the near future, defined as the next 24 months.
- The EME experienced a significantly stronger depreciation in nominal exchange rates during the taper-talk period than during the actual taper period. The average depreciation was 3.07 percent during the taper-talk period, and 1.45 percent during the actual-taper period. Among the individual countries, the average depreciation was 6.55 during the taper-talk period and 3.06 during the actual-taper period.
- Consistent with previous work, current account deficits and real exchange rate appreciation were key factors in explaining the observed cross-country differences in adjustment across the various EME.
- For seven EME that are closely followed by international investors Brazil, China, India, Indonesia, Russia, South Africa, and Turkey-12 macro-financial variables are examined for early warning signals of a potential crisis period, considered to be a sharp drop in the country's exchange rate and/or a sharp drop in its international reserves. There is no strong evidence predicting a crisis in the near future.
The findings suggest that policymakers in the EMEs were able to make the proper adjustments to prevent financial turmoil when the taper period actually began. While the taper-talk and actual taper-periods did have some immediate impact on the EME, other factors not related to the Fed's actions were partly responsible for their deteriorating economic conditions and perceived higher currency risks. In particular, China's slowing economic growth has negative implications for the EME. Moreover, in some EME, fragile economic fundamentals, government policies, and specific social and institutional issues may be internal factors contributing to a worsening economic outlook.
I study the financial distress recently experienced by the emerging market economies (EME). I distinguish two periods: Summer 2013, when there was talk about the Fed tapering monetary policy (the "taper-talk" period), and December 2013-January 2014, when the actual tapering began (the "actual-taper" period). Consistent with previous work, I find that current account deficits and real exchange rate appreciation were key factors in explaining the observed crosscountry differences. I also construct market pressure indices to identify crises, and I use leading indicators to find signals of likely crises in the near future. The analysis suggests that the recent events were relatively mild, with only a small number of identified crises.