LONDON: Nomura has warned that seven countries – Egypt, Romania, Sri Lanka, Turkey, the Czech Republic, Pakistan and Hungary – are now at high risk of a currency crisis.
The Bank of Japan said 22 of the 32 countries covered by its internal “Damocles” warning system have seen their risks rise since the last update since May, with the largest increases in the Czech Republic and Brazil.
It meant that the sum of the scores generated by the model on all 32 had risen sharply from 1,744 since May to 2,234.
“This is the highest total score since July 1999 and not far off the peak of 2,692 during the height of the Asian crisis,” said Nomura economists, calling it “an ominous warning sign of growing broad risk in EM currencies.” .
The model analyzes 8 key indicators about a country’s foreign exchange reserves, exchange rate, financial health and interest rates to provide an overall score.
Based on data from 61 different emerging market currency crises since 1996, Nomura estimates that a score above 100 indicates a 64 percent chance of a currency crisis in the next 12 months.
Egypt, which has already devalued its currency twice this year and sought a program from the International Monetary Fund (IMF), now has the worst score with 165.
Romania is next at 145 and has supported its currency with interventions. Defaulted Sri Lanka and currency crisis-stricken Turkey both score 138, while the Czech Republic, Pakistan and Hungary score 126, 120 and 100 respectively.
Nomura also ran the Damocles model on the G7 group of leading economies, with results showing that everyone except Japan now has Damocles scores above the 100 threshold, led by the United States and Great Britain.
Emerging economies are even more vulnerable. Most have not yet fully recovered from the COVID-19 pandemic and are now facing high inflation, limited fiscal space, negative real interest rates, a weaker balance of payments and reduced coverage of foreign exchange reserves.
“It is somewhat surprising that there have not been more outright currency crises in emerging markets this year,” Nomura added.
“Again, EM challenges are far from over… The late Professor Rudiger Dornbusch once said: A crisis lasts much longer than you think, and then it happens much faster than you thought”.