The continued rise could lead to “more serious debt problems” in emerging markets and developing economies ICE The U.S. dollar index, an indicator of the dollar’s ​​six major competitors against a package, has soared 14.3% so far this year. The Fed's aggressive efforts to curb in

The new paper says that the continued rise may lead to "more serious debt problems" in emerging markets and developing economies

ICE USD index is an indicator of the dollar against a package of six major competitors, and has soared 14.3% so far this year.

Fed's active efforts to curb inflation have brought the dollar to an all-time high - further helping to control price pressures. However, two economists warn in a new paper to be careful of potential adverse side effects.

"The Fed has been one of the most radical (if not early) austerity policies, with the dollar appreciating significantly since mid-2021. The Fed's decisive deflation and the continued appreciation of the dollar could lead to a series of EMDEs (emerging markets and developing economies) facing more serious debt problems," wrote Maurice Obstfeld, a professor of economics at the University of California, Berkeley and Haoonan Zhou, a doctoral student in economics at Princeton University, in a paper presented Friday at the Brookings Fall Conference on Economic Events in Washington, D.C. "Indeed, red flags are already flashing," they said.

ICE USD Index DXY, which measures the dollar's index against a package of six major currencies, fell 0.2% on Thursday, but hit its highest level since 2002 this week. The dollar has hit an all-time high against major currencies, trading above the 144 yen dollar against the yen for the first time this week since 1998, while the pound GBPUSD, fell to a 35-year low against the dollar.

As investors believe that the Fed raises interest rates to re-control inflation, the dollar hits historical highs against its major competitors and makes ripples in the global financial markets.

"It is no surprise that the dollar hits an all-time high due to the inflow of safe-haven capital brought about by the weak global economy and the resilience of the U.S. economy paved the way for the Fed to remain aggressive," said senior market analyst Edward Moya. Anda. "King dollar has woken up from a nap, which could cause more pain to European currency ."

USD fell sharply on Friday, with analysts linking the move to a positive tone of the stock market, which deprived the dollar of safe-haven buying interest. The U.S. dollar index fell 1.1%, but it still rose 13% so far this year.

Their concerns stem from the growing USD debt that these economies have during the pandemic. The surge in the dollar makes it harder for borrowers in these countries to repay their dollar loans.

PGM Global Analysts said that as foreign central banks exhaust foreign exchange reserves, especially US dollar holdings, to stabilize their own currencies, the dollar rebound may sow seeds for further foreign exchange fluctuations.

" Central Bank and sovereign wealth funds have been hoping to diversify foreign exchange reserves into gold and other stable currencies. However, this slow de-dollarization trend has not caused the dollar to weaken," analysts said.

"In fact, it's the opposite, because macro factors support the dollar too strongly. Therefore, selling the dollar reserves too early can be a costly policy error and exacerbate foreign exchange and stock volatility," they wrote.

PGM Global cited data from International Monetary Fund that as of July, the 16 largest holders sold a total of US$672 billion in reserves. “The dollar’s ​​‘breaking ball’ looks still accelerating as the Fed clears dollar liquidity,” they wrote.

Former IMF chief economist Obstfeld and Zhou pointed out that more than 80% of the overall foreign debt liabilities in emerging markets are denominated in foreign currencies, mainly in the US dollar, and in some countries, "internal currency mismatch creates another potential fault line." "

" The stronger dollar will not only weaken the debtor's balance sheet, which leads to a tightening of the financial environment. As investors around the world seek security, increased risk aversion in global markets often causes the dollar to appreciate, which means there is another negative correlation between the stronger dollar and the performance of EMDE's macroeconomics," they wrote.

The document states that emerging and developing economies can strengthen their defense against the rise of the dollar by controlling debt denominated in USD, allowing flexible exchange rates and ensuring their central bank has a strong anti-inflation credibility. The authors noted that several EMDE central banks began raising interest rates last year, a step up from the Fed and other advanced economies’ central banks, which may provide some buffer for the crisis but slow down domestic growth.