Emerging markets’ assets at risk as more governments clash with central banks

CENTRAL BANK INDEPENDENCE is becoming an increasingly key battleground in emerging markets (EM), and one that bodes ill for currency and bond investors.

The Thai baht has come under recurring pressure in recent weeks due to a standoff between the prime minister and policy makers over the timing of interest rate cuts. Hungary’s forint neared a oneyear low versus the euro this past week amid a clash between Prime Minister Viktor Orban and the country’s central bank chief. Brazil’s real and the Turkish lira have long been whipsawed by the two countries’ leaders calling for lower borrowing costs.

“For investors, the autonomy of central banks is a pivotal consideration in the allocation of capital within EM currencies and sovereign debt,” said Rajeev De Mello, a global macro portfolio manager at Gama Asset Management SA in Geneva. “I prefer to invest in bonds and currencies of those countries that proactively addressed inflationary upticks and have been reticent towards markets where central banks are encumbered by political interference.”

Fractious relations between central banks and governments are nothing new. But the challenges facing the global economy, where the highest interest rates in decades are starting to crimp growth, mean tensions have ratcheted up to an unusually high level, flaring up even in developed countries.

Traders typically react to such conflicts by selling currencies. That’s because the standoffs tend to begin with a government pushing back against hawkish monetary policy, as the former prefer stimulating the economy over containing inflation. Lower rates and sustained price pressures then drive capital outflows and lower returns from currencies and bonds.

The baht has slumped by about 5% this year as Prime Minister Srettha Thavisin has stepped up pressure on the central bank to cut rates to cushion an economic slowdown. Mr. Srettha and his advisers have campaigned on television and social media to argue commercial banks are profiting from the unnecessary high rates.

Central bank Governor Sethaput Suthiwartnarueput has responded by saying rate cuts are no panacea for the structural problems plaguing the economy.

Traders took note by boosting pricing on a rate cut over the next six months, while global funds have pulled out $478 million from Thai bonds since the start of January, the biggest outflow in emerging Asia for economies that provide updated data.