As you watch the ongoing tailspin in the dollar’s value and ponder to yourself whether Ben Bernanke is really going to reduce interest rates by a whole percentage point tomorrow, spare a thought for those poor countries – like Ukraine, China and Saudi Arabia – whose currencies are pegged to the dollar. Inflation in all of them is going through the roof as it is, thanks to food, energy and other commodities.
Here’s Ed Yardeni of Yardeni Research:
In emerging economies, core inflation for most people is mostly determined by the prices of food and energy. In these countries, central bankers (who aren’t as politically independent as their counterparts in advanced economies) are reluctant to tighten monetary policy too aggressively to fight inflation because this might trigger a recession, which could be politically destabilising.
So they are increasingly letting their currencies appreciate as their primary anti-inflation policy. This means they are increasingly less willing to prop up the dollar, which then pushes up the key commodity prices that are causing their inflation problem.
David Bowers of Absolute Strategy Research puts it like this: “By failing to recognise the external dimension to the credit crunch, the Fed could introduce a new source of instability.”
