Hungary is the first to buck the trend ... more and more countries will come to realise (Australia included) that salvation of the economy begins with stopping this rott of dropping rates to follow the States and the basketcase economies of Western Europe ... the US is successfully exporting this mess to the rest of the world by ensuring credit flows out of the rest of the world.
Hungary Raises Rates To Defend Currency Vidya Ram , 10.22.08, 3:35 PM ET
Emerging markets have been punished across the globe as risky-averse investors have fled in favor of safe-havens such as U.S Treasuries, but it’s the debt-laden economies of Eastern and Central Europe that are suffering the most.
In a surprising move at a time of global economic weakness, the Hungarian central bank raised its main rate of interest by 3.0%, to 11.5%, as it attempted to stanch an investment outflow and give support to its forint currency, which has plummeted in recent weeks. Observers, however, warned that the move was likely to be in vain.
The move had an impact in the currency markets, with the dollar rising to 220.15 forints from 213.09 forints. The Hungarian currency had appreciated 17.0% against the dollar earler this year, with the greenback trading at a seven-year low of 143.37 on July 21.
"It’s not about interest rates. Investors aren't worried about getting a better rate of interest if the currency is going down 2.0% to 3.0% a day," says Nigel Rendell, chief emerging market strategist at RBC Capital Markets in London. "It's got to the stage where people feel they have become too reliant on foreign money for too long. High interest rates are now seen as a negative and low yield is king."
After the Icelandic economy began to unwind, paying the price for its banks' aggressive international borrowing spree, the focus has now turned to Eastern and Central European countries, whose high levels of foreign currency borrowing has set off investor alarm bells.
The Baltic States are particularly vulnerable, with Latvia's current account deficit currently running at 23.7% of gross domestic product, and Estonia's at 18.0%. Though Hungary's deficit is considerably lower than that, at 5.0% of GDP, it's been highly dependent on borrowing in foreign currency -- which accounts for 56.0% of total bank borrowing -- and therefore stung by the forint's nosedive. The country had previously converted those foreign dollars into forint to support the local currency, so the drying up of foreign currency lending has fuelled the downturn even further.
According to Bank of America analyst David Hauner, Turkey is among the most vulnerable, and could be the next to raise interest rates to prop up the market and currency.
Wary of the dangers posed to the region, the European Union and international organizations have been rushing to the aid of the region. The European Central Bank is lending Hungary up to 5.0 billion euros ($6.4 billion) to help support liquidity, while the International Monetary Fund is in talks with Turkey, Ukraine, Serbia and Belarus, and Iceland over possible aid.
However, there is "still a risk" of some of these economies going down the path of Iceland, says RBC's Rendell.
There seems to be one exception to the gloom, however: Czech Republic, whose current account deficit is just 1.8% of GDP. "The country has been more prudent than elsewhere and the economy more prudently managed than other countries in the region," says Rendell.
In afternoon trading in New York, the Central European and Russia Fund (nyse: CEE - news - people ), a closed-end vehicle that tracks the region's shares, slid 5.9% on Wednesday afternoon, down $1.23, to $19.63. Late last year, it was as high as $69.10. The Morgan Stanley Eastern Europe Fund (nyse: RNE - news - people ), a similar investment, was down 5.8%, or 68 cents, at $11.10, after topping out at $48.27 in December.
