Tag: Currencies

US Dollar’s Rise Could be the Result of a Collision Between the Fed and Trump

One of the toughest calls over the last six months has been guessing which of President Donald Trump’s many campaign pledges would be implemented once his administration came into power, and more to the point if they would live up to the rhetoric on the campaign trail.
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Apart from diehard supporters, most commentators expected pledges to be watered-down when Trump got into power and have since been surprised at the vigor with which he has continued to pursue many of those objectives. Now, vigor is one thing, impact is another. His moves on healthcare were largely blocked by Congress but some other policies may gain greater support and Adam Posen, President of the Peterson Institute for International Economics is quoted in the Telegraph as saying in the Institute’s estimation the market is seriously underestimating the consequences of some of his more likely polices. In particular he is concerned about Trump’s fiscal stimulus coinciding with a tightening by the Federal Reserve causing a severe spike in the U.S. dollar.
Whether Pozen is right or wrong only time will tell, but for any business with involvement in imports or exports somewhere in their supply chain a significant strengthening of the U.S. dollar could have a significant impact.
“The Fed is going to be far more aggressive than people think. Our view is that there will be three to four more rate rises this year,” Pozen is quoted as saying.
The institute’s primary concern is about the consequences for emerging market debt of Fed tightening. Pozen said the resulting drain on dollar liquidity from the international financial system would have profound consequences after the surge in dollar-denominated debt over the last decade. Our concern here is more about the other implication of rising U.S. Federal Reserve rates and the impact they would have on the exchange rate.
The promise of rising rates has caused the dollar to spike in the past as markets have anticipated rate rises, but Pozen believes investors have become inured to Fed guidance and are discounting the probability of rate rises this year. Yet the economy continues to grow steadily. Employment is high — the U.S. economy is near full employment, and inflation is picking up. If President Trump comes through on his promises rates rises are inevitable, which brings onto the second issue, radical tax cuts combined with fiscal stimulus would cause U.S. federal borrowing to rise.
Quoting from the article, Posen believes there is enough Republican support for corporate tax rate to fall from 35% to 25%, along with income tax cuts for the wealthy and the middle class, and more generous tax deductions for business. Such a policy at this late stage of the business cycle will cause the economy to overheat, forcing the Fed to jam on the monetary brakes, which would send the dollar through roof. The institute suggests this could result in a 15% spike in the dollar hitting exports and undermining domestic manufacturers at the mercy of import substitution.
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There is the possibility that Pozen has this all wrong. It’s not a forgone conclusion that President Trump will achieve his tax cuts, although an increasingly hawkish Fed is already in evidence. But at the very least, the situation deserves monitoring with the awareness that such a combination could have a very detrimental impact on the dollar and potentially for firms trading internationally. Posen is a former rate-setter on Britain’s Monetary Policy Committee, and is known for his work with former Fed chief Ben Bernanke on Japan’s Lost Decade and inflation targeting, he has sufficient experience and credentials to make his warnings worth listening to.

Is the US Dollar Losing its Luster? What The Fed’s Move Means

The U.S. dollar fell sharply last Wednesday against a basket of currencies as the Federal Reserve announced a rate increase of a quarter point.
[caption id="attachment_83856" align="aligncenter" width="1225"] US Dollar index: Source @stockcharts.com.[/caption]
The move seems to contradict common economic wisdom. In theory, higher raters in the U.S. should make the dollar more attractive for yield-seeking investors when interest are rates are lower around the globe. Then, what caused the currency to weaken?

All About Expectations

A rate increase came as no surprise to U.S. markets. The real surprise came in the language that wrapped the announcement. Fed officials intend to keep raising rates, however they want to keep the economy from getting too hot… but also not too cold.
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Investors were probably betting on an acceleration in the path of raising interest rates, not a warming down.

It’s Not Only the US Economy That’s Growing

[caption id="attachment_83853" align="aligncenter" width="500"] Markit Eurozone Manufacturing PMI. Source: tradingeconomics.com.[/caption]
Another factor working against the dollar is that The U.S. is no longer the sole bright spot in the global economy. Sure, the economic landscape has improved enough for the Fed to start normalizing rates. But the Eurozone — despite a year of political uncertainty — is now growing faster than the U.S. The Eurozone Manufacturing PMI came in at 55.4 in February. The reading pointed to the strongest expansion in factory activity since April of 2011. In China, The Caixin Manufacturing PMI in China rose to 51.7 in February, the eighth straight month of growth.
Economic improvements abroad could cause the rest of the world to start to catch up to the U.S. in terms of tapering and hiking rates. As a result, the dollar could lose its luster.

What To Watch

President Donald Trump has expressed several times his desire for a weaker dollar. That’s a factor to go against the dollar. However, We still need to monitor the situation until Trump provides more clarity on his proposals.
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On the other hand, one thing that favors a stronger dollar is a potential change to U.S. tax policy, especially any that provides incentives for companies to bring the cash they have stashed abroad back into the U.S.. If North American companies repatriate those earnings, the resulting flow of money could boost the dollar.

What This Means For Metal Buyers

[caption id="attachment_83855" align="aligncenter" width="500"] DBB industrial metals ETF. Source: @stockcharts.com.[/caption]
A weaker dollar on Wednesday contributed to a rebound in industrial metal prices. A falling dollar is bullish for dollar-denominated commodities like industrial metals. Metals are in a rising trend, showing no signs of weakness yet.

Chinese Yuan Falters After Midpoint Set Lowest Since June

Chinese Yuan Falters After Midpoint Set Lowest Since June

The Chinese yuan weakened on Monday afternoon after its midpoint was set at its lowest level in half a year.
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China’s authorities sets the mark 0.87% or 594 points lower than last Friday, the biggest daily decline since late June in 2016. Traders are allowed to trade up to 2% either side of the reference point for the day.
The Hong Kong Interbank Offered Rate for offshore yuan, known as the CNH Hibor, plummeted to 14.05% from last Friday’s 61.33%, down 4,728 points.
The People’s Bank of China set the yuan midpoint at 6.9262, a sharp drop for the renminbi compared with Friday’s fixing at 6.8668.
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China’s central bank does not allow the currency to move more than 2% from its daily fixing in onshore trade. While policymakers cannot closely control offshore trade of the currency, it usually remains relatively close to its onshore counterpart.
Onshore, the dollar was fetching as little as 6.8679 yuan last week, compared with 6.9318 yuan at 9:54 a.m. today.

Emerging Market Currencies and Debt Face a Volatile Future

Emerging Market Currencies and Debt Face a Volatile Future

It has probably never been as hard to read the runes for the fortunes of emerging market (EM) economies as it is now.

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If currencies are any barometer for the health of an economy, or at least for investor’s perceptions of the health of an economy, this year has seen considerable variations and fluctuations. Robust commodity prices appear to signal continued strong health and confidence in China, even as the government works hard to realign the economy from export-led manufacturing to consumer-led domestic growth, but the currency has been falling since the spring as this chart shows.

[caption id="attachment_82504" align="alignnone" width="300"]Source Financial Times Source: Financial Times[/caption]

EM investors started the year hiding over fears about China and the oil market, then recovered during mid-year as growth remained stable and commodities rose.

Then, a shock Donald Trump election victory sent expectations of early and multiple Federal Reserve interest rate increases into the news. As the FT notes, we now have fears over the status of trade with China and the threat of it being labelled a currency manipulator casting a pall over U.S.-Sino relations in the year ahead.

A Pause in Emerging?

As a group, EM currencies have not fared well of late. A few commodity currencies like the Russian ruble, the Brazilian real and the South African rand have made gains, but the in addition to the Chinese renminbi, the Turkish lira, the Argentinian and Mexico pesos have fared poorly, dropping double digits.

[caption id="attachment_82503" align="alignnone" width="300"]Source Financial Times Source: Financial Times[/caption]

The FT reports there has been a heavy outflow of funds from emerging market bonds, raising borrowing costs and putting pressure on the countries that borrow most heavily in U.S. dollars.

According to the newspaper, investors pulled $1.2 billion from emerging market bond funds last week, marking the sixth consecutive week of outflows. China can cope with this sudden reversal of fortunes but the article reports Bank of America Merrill Lynch Global Research, saying a new “fragile three” has emerged this year, with Brazil, Turkey and South Africa more reliant on foreign investment and so most at risk should EM fall out of favor in 2017.

Emerging Outlook

Brazil has improved its current account deficit, but both South Africa and Turkey are still struggling, with political upheaval not helping investor sentiment. The biggest worry, though, is Venezuela, which heads an index put together by Standard Chartered of countries most likely to succumb to a debt crisis. It is a list that also features Jordan, Argentina and, not surprisingly, Greece.

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Across EM as a whole though, the FT reports economic growth is projected at 4.7%, led by India and China, while Latin America will rebound with 1.5% growth. As such, some see EM debt as a higher risk but high-yield and attractive investment, but much will depend on the pace of Federal Reserver rate rises and, therefore, the cost of borrowing for these countries. In a follow-up, piece we will be looking specifically at China’s debt and the challenges facing China’s poorly regulated bond market.

US Dollar Hits 1-Year High, Correlation Between Dollar/Metals Weakens

The U.S. Dollar index, which tracks the performance of the dollar against a basket of currencies, hit a one-year high following President-Elect Donald Trump’s victory last week.

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Investors expect Trump’s proposals to boost fiscal spending, cut taxes and loosen regulation. They also believe he will accelerate economic growth and boost inflation, bolstering the case for the Federal Reserve to lift U.S. interest rates. Expectations for an interest-rate hike in December’s meeting have risen to more than 80%, up from 30% at the beginning of the month. Higher rates make the currency more attractive for yield-seeking investors.

Is The US Dollar’s Rally Sustainable?

Investors are pricing in the effects Trump’s proposed new measures, way before we actually see implementation. Moreover, Trumps’ proposals to renegotiate key trade agreements could be negative for global growth, which could weigh on the domestic economy and the dollar.

Also, it’s important to note that the U.S. dollar is near long-term resistance, a level that prevented the index from rising several times in previous years. Investors might be getting ahead of themselves by driving the dollar up so sharply without waiting for the actual effects of Trump’s proposals. Investors might want to think twice before pushing the dollar above current levels.

[caption id="attachment_81969" align="aligncenter" width="500"]US Dollar Index might struggle near long-term resistance levels. Source: MetalMiner analysis of stockcharts.com data The US dollar index might struggle near long-term resistance levels. Source: MetalMiner analysis of @stockcharts.com data.[/caption]

The Dollar and Metals Lose Correlation

The dollar and metals tend to move in opposite directions. This inverse correlation hasn’t worked lately. This is because the dollar is rising on expectations of higher rates but, at the same time, metal prices are getting a boost on China’s strong demand and Trump’s plans to spend big on the nation’s infrastructure. See the post my colleague, Jeff Yoders, recently wrote about InfraTrumpture.

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Metal buyers need to watch the performance of the industrial metals complex first and then look for secondary indicators such as the dollar. This is particularly true during this period, in which the relationship between the dollar and metal prices seems to be weakening for the reasons explained above.

What This Means For Metal Buyers

In theory, a rising dollar is bearish for metal prices. However, this might not hold true in the short- to mid-term. On top of that, there are reasons to question the sustainability of the dollar’s rally. To conclude: It’s important to keep a close eye on the recent dollar strength. However, it is first and most important to focus on the overall metal complex, which is in full bull mode.

Why A Weaker Chinese Yuan Is Bearish For Metal Prices

Why A Weaker Chinese Yuan Is Bearish For Metal Prices

After its surprise devaluation last August, a number of daily fixes in the Chinese yuan’s exchange rate have followed.

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As its economy slows down, China is trying everything it can to encourage growth such as weakening its currency to make goods more attractive abroad while accelerating import substitution at home. The proverbial kitchen sink has been thrown at the growth problem in China.

However, while China pursues its domestic goal, the country is also worsening the financial stability of other countries.

[caption id="attachment_76241" align="aligncenter" width="500"]Yuan-dollar exchange rate 1 year out Yuan-dollar exchange rate one year out. Source: Yahoo Finance.[/caption]

As we pointed out back in August, a weaker yuan is bearish for industrial metal prices. Here are four reasons why:

It Encourages Chinese Exports, Expanding a Global Glut of Cheap Imports

When the value of the yuan falls, metals produced in China become cheaper and more competitive in global markets. This helps to prop up exports of metals such as steel and aluminum products, potentially hurting prices around the globe.

It Worsens the Already-Slow Global Growth

A yuan devaluation steals growth from other countries as it puts global companies that trade with China at a disadvantage. Those countries that have more foreign debt than China will feel the pain the most. Europe is particularly vulnerable to this devaluation and to China’s demand slowdown. Europe’s economic growth has been weak for years while using exports to fill the gap. It’s estimated that 10% of Europe’s exports go to China. Those exports are being reduced as the yuan loses value and China

It Makes Investors More Bearish on China

Investors and traders are seeing the depreciation of the yuan as a sign that China’s economy is slowing more than expected. Investors see the devaluation as a desperate government’s actions to spur the economy, throwing a further pall over the market’s mood. A clear sign of this is the current stock market meltdown that China is suffering. When investors are not optimistic about China’s growth, they don’t buy commodities. That translates into lower metal prices.

It Doesn’t Reduce the Excess Supply

Another repercussion of a weaker yuan is that Chinese producers are less likely to cut production. Many metal producers in China remain in business despite high debt levels and extended periods of loss-making operations.

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China is helping these zombie companies to stay in business with loans and actions such as the devaluation of its own currency, prolonging very much needed shutdowns. This situation only worsens the outlook for metal prices which will never come back up until the shutdowns actually happen.

Currency Volatility May or May Not Be Your Problem

Currency Volatility May or May Not Be Your Problem

2015 was certainly a year of commodity price volatility. We don’t need to post graphs or quote numbers to illustrate the extent of the fall in prices from steel and iron ore. Through base metals to energy we, and just about everyone else, have written extensively about the fall in prices in recent months.

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But 2016 is unlikely to see falls of the same order as last year. Indeed, there has been something of a dead cat bounce in prices late last month. For a number of reasons aluminum, iron ore and oil prices have all seen an uptick although few are predicting this is the start of a rally. Most would hold it is simply a reaction to wider geopolitical developments and will, in time, be seen as volatility around a continued downward trend line.

2016, However, is seeing the first major divergence in interest and, hence, exchange rates since the financial crisis. The Federal Reserve‘s tepid rate increase last month has not, as often happened pre 2008, been mirrored by moves in Europe, Japan or the emerging economies.

Indeed, expansionary monetary policy is the order of the day in Europe and Japan where Quantitative Easing (QE) is likely to continue in 2016 and interest rates will remain near zero. A recent Economist article noted the gap between American and German bond yields that reflects this divergence in future interest rate expectations.

Late last year, five-year Treasury bonds yielded 1.785%; German bonds with the same maturity had a negative yield of 0.14%. That is the biggest gap since the creation of the euro. The same article went on to suggest currency risk could become a big source of turbulence in financial markets this year.

The volatility of the dollar versus the euro and yen, as measured by contracts traded on the Chicago Board Options Exchange, stayed below 10% for much of 2013 and 2014; in 2015 it rose to 10-15% and Bank of America-Merrill Lynch think that bullishness about the dollar is the most crowded trade in the markets at the moment.

Yet, that bullishness could be overdone. The dollar had a strong run in 2015, the strongest pace since the early ’80s, at that, and much of the positive bets are being made on the basis that the Fed will continue to tighten. It could be argued that much of that expectation has already been priced into the rise of the dollar against global currencies.

The Dollar’s Rise

What if it is overdone? A further rapid rise in the dollar could affect the US economy. Sure, it would reduce import prices, and hence inflation, but it would also cut export competitiveness and impact GDP. Stagnant GDP growth and weak inflation would, as we have seen not just in the US but in the UK and Europe, further delay interest rate increases by the Fed. The pretext for a stronger dollar would then evaporate and the “one way bet” could reverse sharply.

With the rest of the world expecting near-zero domestic interest rates, the probability of loose monetary policy, possibly further QE and the trend toward allowing previously fixed-dollar-peg currencies to devalue the divergence between the US and the rest of the world, will likely widen. Under those circumstances, a continued strengthening of the US dollar could negate pressure on the Fed to raise rates as far or as fast in 2016 as current expectations.

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Currency volatility could be, particularly for active importers and exporters, a greater source of volatility in 2016 than metal prices.

Are Digital Currencies About to Get Respectable?

Are Digital Currencies About to Get Respectable?

Digital currencies could gain mainstream acceptance if Goldman Sachs, the Wall Street bank, gets its way.

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Goldman has made a patent application for a crypto-currency settlement system in a move that underlines bank hopes that the architecture behind bitcoin can revolutionize global payments. They have dubbed it “SETLcoin” and say it would offer “nearly instantaneous execution and settlement.”

[caption id="attachment_75637" align="aligncenter" width="550"]virtual digital currency Bitcoin - internet open-source P2P payment network Can Bitcoin-like currencies, run by banks, speed up trading” Image source: Adobe Stock/Kaprikfoto[/caption]

According to the Financial Times, The credibility of the pioneering digital currency bitcoin has been damaged by its use in speculative scams and money laundering but banks, and Goldman is not alone, are building intellectual property in the field in the expectation the advantages will eventually outweigh the skepticism.

How Does Bitcoin Work?

At its core, bitcoin and products like it use an electronic ledger to which all participants have equal access. The use of these “blockchains” will collapse settlement times, raise regulatory transparency and, in some scenarios, eliminate central clearing, supporters such as Goldman claim.

In theory, their use removes the need for middlemen such as exchanges and clearing houses. One recent report estimated blockchains could cut up to $20 billion a year off banks’ infrastructure costs by 2022, according to the FT.

The premise of a blockchain is a network of computers that share the costs of transactions and use cryptography to keep deals secure, although regulators have expressed concerns about the security. One expert says we should not expect them to enter service until “they satisfy CARL” — a mnemonic for Compliance, Audit, Regulatory and Legal rules.

Major Banks Get Involved

Most of the major banks appear to be working quietly away in this area. More than 20 banks, including Barclays, HSBC and UBS have backed a start-up called R3 CEV, which is setting up a private blockchain open only to invitees, while others, such as Goldman, are developing their own systems. Citigroup is testing its own “Citicoin” internally but may yet end up joining an industry standard if one emerges.

In a world where electronic trades can be executed in fractions of a second for the payment process to take hours or even days through the currently cumbersome banking system does seem an anomaly, that just possibly the bitcoin type process could resolve.

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Lawmakers, though, will have to play catch up. It’s debateable how many of them even understand the technology let alone how to regulate it.

IMF Adds Chinese Yuan to Reserve Currencies; Steel Caucus Urges ENFORCE Action

IMF Adds Chinese Yuan to Reserve Currencies; Steel Caucus Urges ENFORCE Action

There was major currency and anti-dumping news this morning.

IMF Adds Chinese Yuan to Reserve Currencies

China notched an economic milestone Monday, as the International Monetary Fund added the yuan, also known as the renminbi, to its elite basket of reserve currencies, a move designed to spur greater liberalization in the world’s second-largest economy.

The Wall Street Journal reported the decision—effective next October—confers international status on China’s currency as the government starts to ease restrictions on its rigidly controlled exchange-rate and financial system.

Steel Caucus Wants Action on Customs Enforcement

The American Iron and Steel Institute (AISI) applauded the efforts of the Congressional Steel Caucus, led by Chairman Tim Murphy (R-PA) and Vice Chairman Pete Visclosky (D-IN), to emphasize the importance to the steel industry of overdue legislation to address the evasion of trade remedy orders.

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40 Members of the Steel Caucus recently sent a letter to the leaders of the House Ways and Means Committee, which has jurisdiction over trade issues, urging that the committee work with its Senate counterparts and make finalizing the Trade Facilitation and Trade Enforcement Act (H.R.644) a priority as Congress returns from the Thanksgiving holiday break.

The bill, also known as the Customs Reauthorization, should be the vehicle to pass the ENFORCE Act — which would ensure that current trade remedy laws are being fully enforced and that anti-dumping and countervailing duties are being accurately assessed and collected at the border, the Steel Caucus said. The House and Senate each passed different versions of the customs bill this summer; however, a conference to resolve differences in the legislation has been stalled.

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Rep. Murphy said, “We achieved historic success in the House with trade remedy language earlier this year, but we can’t rest on our laurels. The House Steel Caucus is working to ensure strong enforcement standards remain in the final conference report.”

A full copy of the letter to the Ways and Means committee can be found here.

Are MINTs a Better Investment Than BRICS Or CIVETS?

Are MINTs a Better Investment Than BRICS Or CIVETS?

It doesn’t seem to matter which Emerging Market grouping you belong to and, honestly, all of them should be taken with a pinch of salt, your currency is likely to be taking a pasting at the moment. And that’s before the Federal Reserve has even raised rates, next year could be worse.

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If the Fed’s twice postponed move to raise rates goes ahead in December, the dollar is likely to strengthen further next year causing a flight from weaker EM currencies to the dollar or dollar assets.

Emerging Acronyms

Jim O’Neill’s original BRICS (Brazil, Russia, India, China and later South Africa) have not been performing of late, not as energetically as they promised in 2001 when O’Neill came up with the acronym. Indeed, Brazil, Russia and South Africa are in economic crisis, China is growing at the slowest pace in a generation and India’s growth will soon slow if it doesn’t grasp the nettle and start introducing long overdue reforms.

So, what about the CIVET(s) that came along afterwards comprising Colombia, Indonesia, Vietnam, Egypt, Turkey and South Africa again? Well that grouping, too, has fallen somewhat out of favor as the differences became more apparent than the similarities.

Can A New Group Make a MINT?

So will the latest gang do any better? The MINTs certainly sounds cool and tasty. Sorry, I couldn’t resist that. Mexico, Indonesia, Nigeria and Turkey do have some characteristics in common. They all have relatively large populations, have until recently enjoyed rapid growth, are developing a rising middle class and, according to an FT article, display entrepreneurial cultures.

So, to what extent does grouping these countries together make sense? In some ways they are very similar, at least three of them – Nigeria, Indonesia and Mexico are significant commodity exporters and therefore caught in the crossfire of the end of the super-cycle and slowing global trade growth.

Turkey may be a net importer of energy and so benefit from the falling oil price, but it has benefited greatly from globalization as well and its steel, jewellery and automotive industries have driven export-led growth.

Of the others, Mexico has cleverly hedged much of its current oil production and hence avoided the worst of the pain felt by Nigeria for whom oil and oil products make up a significant proportion of its balance of payments. Likewise Indonesia, a net oil and commodity exporter, has suffered from the falling oil price, falling coal prices, failing commodity prices and the slowdown in China.

Political instability has been an issue for some of the MINTs in the past and remains an issue for several. Mexico’s current president is polled as the least-popular in 40 years and although Nigeria managed its first successful transition of government in 55 years since independence following this year’s presidential election, it is fighting a civil war with extremist insurgency Boko Haram that is draining lives, money and political attention.

The Next Big Thing?

All 4 countries suffer from inflation, a current account deficit and falling currencies making them vulnerable to instability when the Fed raises rates. A flexible exchange rate does allow countries to adjust to external shocks and maintain competitiveness, but its also makes emerging markets such as the MINTs exposed to spiraling debts if, as they all are, they are heavily indebted in foreign currencies.

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So rather than the next big thing for investors, the MINTs will be under the scrutiny of foreign lenders concerned that weakening exchange rates put their repayments at risk or place undue strain on corporate or national balance sheets.

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