The change in the interest rate policy of the American Federal Reserve and the European Central Bank (ECB) not only poses major challenges for companies and consumers in the USA and Europe. What are the consequences of the interest rate policy of Western central banks in developing and emerging countries?
In our “3 on 1” format, we ask three experts for their assessment. (You can read all episodes of “3 on 1” here)
Development and climate investments fall by the wayside
Niels Annen is Parliamentary State Secretary in the Federal Ministry for Economic Cooperation and Development.
Looking back at monetary policy in the 1980s, former Federal Reserve Chairman Paul Volcker confessed: “Africa wasn’t even on my radar at the time”. The developing countries are also threatened with catastrophic side effects from the current interest rate hikes.
The national budgets of the developing countries, which are already tight due to the pandemic and inflation, are now being additionally burdened by rising interest rates – debt crises are looming in many places. Private capital, which generated good returns during the years of low interest rates in emerging markets, is flowing back into lower-risk developed countries. Currencies come under pressure, causing local prices to continue to rise and real wages to fall. This exacerbates the already existing poverty. Urgent development and climate investments fall by the wayside. Developed countries should help poorer countries to cushion the consequences of their monetary policy through responsible financing and support with debt policy.
The turnaround in interest rates exacerbates the debt crisis
Yabiba’s walls is a development expert at the think tank German Institute of Development and Sustainability (IDOS).
Due to the turnaround in interest rates, more capital is flowing out of developing countries and fewer new foreign direct investments are flowing there. The currencies of developing countries have therefore depreciated significantly against the US dollar. These trends have at least three negative impacts on developing countries.
First, the turnaround in interest rates is exacerbating the debt crisis. Interest costs on existing debt have increased. And the risk premiums for new debt will increase. Moreover, since these countries’ debts are often denominated in dollars, currency depreciation increases their debt burden proportionately. Second, currency devaluations combined with global inflation have led to very high inflation in developing countries. Third, both government and private investment are being suppressed because of tight fiscal space and the high cost of capital. This in turn has serious consequences for sustainable development.
Exports from developing countries fall drastically
Alexander Krivolutsky is Professor of Macroeconomics at the FU Berlin and Head of the Department of Macroeconomics at the German Institute for Economic Research (DIW).
While the eurozone is still arguing about who could benefit from the turnaround in interest rates, the losers outside the eurozone and the USA have already been determined: the emerging and developing countries. As interest rates rise sharply in the US, capital flows out of these countries. In addition, demand in the USA and the euro zone is falling, including for products from developing and emerging countries. Their exports are drastically reduced. In addition, the interest rate turnaround is associated with an appreciation of the dollar. Because emerging and developing countries have to borrow in dollars, they now have to pay more in their local currency to service interest and loans.
Therefore less money remains in the countries for consumption and investments. To make matters worse, the central banks of these countries are in the situation of having to choose between the plague and cholera: if they also raise interest rates, they will reduce the outflow of capital and the appreciation of the dollar. However, in doing so, they choke off their own economy.
