The Federal Reserve raised interest rates Wednesday, and it is not just for U.S. homeowners who have to pay more for mortgages. Main Street business owners also face higher bank loans when the Federal Reserve increases their interest rates.
The impact of the fallout is felt far beyond America's borders. It affects farmers in Mozambique, shopkeepers in Sri Lanka and families living in poverty around the globe. There are many effects that can be felt abroad, including higher borrowing costs and depreciating currencies.
Eric LeCompte is the executive director of Jubilee USA Network. This coalition of organizations aims to reduce global poverty.
Kristalina Georgieva (managing director of International Monetary Fund) was so concerned last month that she warned the Fed and other rate-hiking central bankers to remain "mindful" of spillover risks to emerging and vulnerable economies.
The IMF recently downgraded its outlook for economic growth in emerging and developing market countries this year to 3.8%. This is a full percentage point lower than what it had forecast in January.
The Fed raised Wednesday its benchmark short-term interest rate by half a point to reach its highest level since pandemic two years ago. It also signaled that there will be more rate increases.
In a variety of ways, U.S. rate increases can cause long-distance harm. They could slow down the American economy and decrease U.S. consumers’ desire for foreign goods.
They have an impact on global investment. As interest rates rise in the United States, more investors are attracted to safer corporate bonds and government bonds. They can also take money from poor and middle-income nations and put it into the United States. These shifts increase the U.S. Dollar and lower currencies in the developing countries.
Problems can arise from falling currencies. It can make it more difficult to purchase imported food and other products. This is particularly worrying at a time when supply chains bottlenecks and war in Ukraine have already disrupted shipments and caused food prices to soar worldwide.
Central banks in developing countries will likely raise their rates to protect their currencies from falling. Some have already begun. This can lead to economic damage. It can slow down growth, eliminate jobs, and squeeze business borrowers. Indebted governments are also forced to spend more on interest payments than they do on other areas, such as fighting COVID-19 or feeding the poor.
Georgieva, an IMF official, has warned that 60% to 60% of low-income nations are in or near "debt crisis." This is when their debt payments equal half of their national economies.
The Fed will likely raise rates several times more this year, despite the risk of collateral damage. This is to counter resurgent inflation within the United States.
Inflationary growth is a result of a sudden and strong recovery from the 2020 pandemic recession. This rebound caught businesses off guard and forced them scramble for workers and supplies to meet their customer demand. This has led to shortages, delays in fulfilling orders, and higher prices. The largest jump since 1981 was the 8.5% increase in U.S. consumer price over the previous year.
The Fed hopes to achieve a soft landing by increasing interest rates. This means that rates will be raised just enough to slow down the economy and keep inflation under control, but not enough so as to cause another recession.
The Fed is being criticized by developing countries for not starting its anti-inflationary campaign sooner. They will now be forced to raise rates aggressively to hurt both the United States of America and the developing countries.
Liliana Rojas Suarez, senior fellow at The Center for Global Development, stated that "they would have been much happier if the Fed had reacted quicker when the problem began" last year.
The Fed has a poor record in engineering soft landings. Last one was under Fed Chair Alan Greenspan in the mid-1990s, which ended badly for many developing nations.
Rojas Suarez stated that the U.S. was capable of managing inflation well and avoiding recession, but at the same moment created enormous spillovers to emerging markets. This led to a series financial crises in Mexico, Russia, and ultimately across most of Asia.
Robin Brooks, chief economist of the Institute of International Finance, noted that many emerging markets countries are now in a stronger financial position than in the past. This is even more true in 2013, when the Fed's plans to reduce its easy money policies caused investment to flee the developing world.
One reason is that many central banks have increased their foreign currency reserves. These can be used to support and buy their currencies, or pay their foreign debts in times of crisis. For example, Thailand's reserves at the time of the 1997-1998 Asian financial crises were 19%. Now they are 47% according to the institute.
Brooks says that rising raw material prices are a "bit of a windfall" for commodity exporters such as those from Nigeria, oil-producing Nigeria, and Brazil.
However, some countries are still vulnerable to financial shocks. These include those that heavily rely on imports of oil and other commodities, and have low reserves relative to the amount they owe other nations. Rojas Suarez's top list of countries most at risk is Sri Lanka. It announced last month that it would suspend repayments of foreign debt while it negotiates a loan restructuring plan with the IMF. Mozambique, Turkey, and Tunisia are also in red.
For developing countries, rising interest rates in the United States don't necessarily spell disaster. The U.S. economy is strong and people want loans to purchase things. This means that there are more opportunities for export-oriented countries to sell into the U.S.
The fallout from the Fed's deliberate campaign to slow U.S. economic growth and reduce inflationary pressures is quite different.
In a paper published last year, economists from the Fed as well as the conservative American Enterprise Institute stated that higher rates could be driven by inflation fears or a more hawkish Fed policy.
This is, however, what the Fed is doing right now.
This is another blow for countries that still struggle with high debts, large numbers unvaccinated and rising food prices.
LeCompte states that "it's added pressure" and "how much pressure can governments take?"