As US Fed prepare to raise interest rates, emerging economies should brace themselves for tougher times: IMF

With the US Federal Reserve preparing to raise interest rates and the world economic growth slowing because of the Omicron variant of Covid-19, the International Monetary Fund (IMF) has warned on Monday that emerging economies should tighten themselves up for possible rough times ahead.

Ahead of its release of its updated economic forecasts on January 25, the IMF said that for now global economic recovery from the ravages of the pandemic should continue this year and next.

But "risks to growth remain elevated by the stubbornly resurgent pandemic," IMF economists Stephan Danninger, Kenneth Kang and Helene Poirson wrote in a blog post.

The highly contagious Omicron strain, which seems to cause less severe disease than previous strains of the coronavirus, has spread like wildfire around the world since mid-December. With Omicron causing record numbers of new Covid cases in the latest wave of the global health crisis, it has led many countries to reinstitute health measures that hamper economic growth.

"Given the risk that this could coincide with faster Fed tightening, emerging economies should prepare for potential bouts of economic turbulence," the economists said, as these countries are also confronting elevated inflation and substantially higher public debt. 

In order to counter rampant inflation in the US that is hitting US households and consumption, the Fed has signalled that it will raise key interest rates sooner and more aggressively than it had planned.

Higher interest rates mean financing costs for some emerging economies with dollar-denominated debt will rise. These countries are already lagging behind in the global economic recovery and thus less able to absorb added expenditure.

"While dollar borrowing costs remain low for many, concerns about domestic inflation and stable foreign funding led several emerging markets last year, including Brazil, Russia, and South Africa, to start raising interest rates," the IMF said.

The risk is there will be a slowing of demand and trade in the US, as well as capital flight and a depreciation of the dollar in markets of emerging countries. The IMF recommended that emerging economy nations "tailor their response based on their circumstances and vulnerabilities."

And central banks that are raising interest rates to fight inflation should engage in "clear and consistent communication" so people better understand the need for price stability, the international lender said.