Will an increase in US interest rates have an impact on developing economies?

Interest rates have been shown to be a game changer for a country’s economy according to many best economic magazines. Though it is a very calculated decision that should have been made by a country’s government. Despite the fact that interest rates have risen, many countries have seen positive results.

 Because the impact of the Federal Reserve raising interest rates, as it has done, extends beyond homebuyers in the United States as reported by many best economic magazines, who will have to pay more for mortgages, or Main Street business owners, who will have to pay more for bank loans.

The ramifications extend far beyond America’s borders, affecting shopkeepers in Sri Lanka, farmers in Mozambique, and low-income countries worldwide. Increased borrowing costs and currency depreciation are two examples of foreign effects.

The IMF gradually lowered its prediction for emerging and newly industrialized economies to 3.8 %.

The Federal Reserve raised its standard short-term interest rate, elevating it to its highest level since the covid-19 outbreak two years ago and signaling that far more interest rate hikes are on the way.

Interest rate increases in the United States can have a variety of long-term consequences. The American economy can be initially slowed by reducing consumer demand for foreign goods in the United States.

Global investment may suffer as interest rates in the United States rise, as safer government and corporate bonds become more appealing to global investors. As a result, low- and middle-income countries’ funds can now be invested in the United States. These changes strengthen the US dollar while weakening the currencies of developing countries.

Currency depreciation can be a source of concern. The cost of purchasing imported food and other goods may rise. This is especially concerning given that distribution network disruptions and the war in Ukraine have disrupted wheat and fertilizer consignments, driving up global food prices to critical levels.

To protect their currencies from depreciation, developing-country central banks are willing to raise interest rates; several have already done so.

This has the potential to harm the economy by slowing growth, eliminating jobs, and putting business lenders under pressure. Furthermore, it forces heavily indebted governments to spend even more on interest costs rather than on factors such as combating COVID-19.

Amidst the risk of negative consequences, the Federal Reserve is expected to raise interest rates a few more times to counter revival inflation in the US.

The stronger-than-expected healing from the global pandemic downturn of 2020 triggered the inflationary spike, forcing businesses to scramble for employees and supplies to meet customer demands. As a result, there have been shortages, order delays, and price increases. According to many best economic magazines, consumer prices in the United States increased by 8.5 % at the start of this year, the maximum rise since 1981.

By raising interest rates just enough to slow the economy, the Fed hopes to achieve a smooth landing. It keeps inflation in check, but not enough to send the US economy into another slump.

Developing countries are concerned that the Fed waited far too long to implement its anti-inflationary strategy and that it will be expected to raise rates vigorously, resulting in a rough landing that will harm both the US and emerging nations.

When it comes to smooth landings, the Federal Reserve is said to have an excellent track record. The most recent one occurred in the mid-1990s, during the tenure of Federal Reserve Chairman Alan Greenspan, and was a disaster for several developing countries.

According to Robin Brooks, chief economist at the Institute of International Finance, many emerging market countries are in much better shape now than they were when the Federal Reserve’s plans to reduce its easy money initiatives attempted to drive financing out of the developing world, as predicted by many best finance publications.

Many countries have increased their foreign currency reserves, which central banks can use to buy foreign currency in an emergency or repay foreign loans. According to the institute, a trade group for global banks, Thailand’s reserves were19 % of its economy on the eve of the Asian financial crisis in 1997-1998; they are now 47 %.

Nevertheless, some countries are still prone to economic shocks. Many of them dependent on foreign oil and other goods and have low reserves in comparison to their debts to other countries.

Interest rate increases in the United States have not always harmed developing countries. The end of the year or the tenure would inform the world about the outcome of this heightened interest, and the decision made by US would demonstrate whether it was a win-win situation or a disaster.