What will Asian central banks do?

Global equities, currencies and bond yields have increasingly been beating to the drum of the latest US national and state polls.

Risky assets, including equities and emerging market currencies, and in particular the Mexican Peso, have rallied in the past 48 hours on (albeit slim) evidence that Hilary Clinton has the edge over Donald Trump in opinion polls and early voting.

But currency markets are not yet getting carried away. This seems sensible as ultimately this presidential race remains too close to call with a number of credible scenarios still on the table, including either Trump or Clinton contesting the result.

The matrix of possible presidential and congressional election results will remain fluid for at least another 12 hours, if not longer, and plotting specific trajectories for asset prices under each scenario remains fraught with difficulty.

However, we can try and ascertain whether and how central banks in non-Japan Asia may manage their currencies in coming weeks. Specifically which, if any, have the incentive – in terms of inflation and trade performance – and ability to at least slow any rapid currency depreciation or appreciation.

Bank Indonesia (BI) has the greatest incentive to allow some FX depreciation (and potentially cut its policy rate further), in my view. Inflation is low relative to history and to BI’s policy rate and Indonesia’s trade surplus has shrunk on the back of a sharp contraction in exports. BI still has only modest FX reserves with which to support the Ruppiah in the FX market.

It is a not too dissimilar picture in India and for the Reserve Bank of India (RBI).

Conversely, if either the Indian Rupee or Indonesian Ruppiah were under appreciation pressure, I would see scope for both BI and the RBI to intervene in the FX market to temper currency appreciation and build up FX reserves.

In China, there is also some scope for the central bank to allow some further Renminbi depreciation.

In Korea, the central bank’s real policy rate is low in absolute terms and relative to history which would suggest that BoK may be weary of Won depreciation. However, the recent export weakness and narrowing trade surplus point to BoK being willing to tolerate modest and/or temporary currency weakness.

In Taiwan, middling core CPI-inflation and robust export growth suggest the central bank could opt to fade any sustained FX depreciation and maintain the gains which the Taiwan Dollar has made since the summer.

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