People check currency exchange rates at a currency exchange office on August 11, 2018 in Istanbul. 










Yasin Akgul | AFP | Getty Images

People check currency exchange rates at a currency exchange office on August 11, 2018 in Istanbul. 

To be fair, there is an external culprit in the form of the U.S. Federal Reserve, which is steadily tightening monetary policy and reducing its balance sheet, sending the dollar stronger and yields higher. But let’s not confuse symptoms with the cause of fundamental imbalances aggravated by unhelpful decision-making.

Markets have certainly taken note. The Turkish lira is more than 60 percent weaker this year, while the Argentine peso has more than halved in value.

The typical playbook for emerging markets (EM) is that a sharp currency devaluation eventually leads to a self-correcting mechanism — a large balance of payment deficits corrects as imports become more expensive and exports more favorable, or what economists deem a front-loaded adjustment.

Due to this mechanism, some analysts are now beginning to see value in EM. Robin Brooks, chief economist at the Institute of International Finance (IIF), for instance, has observed a large shrinkage in Turkey’s trade deficit of about $40 billion from the second quarter and has concluded that the lira is undervalued.

The IIF has also pointed out that at the start of 2018 many EM currencies were overvalued, and therefore vulnerable. Its models now show that after the large currency depreciation across the spectrum, led by Argentina and Turkey, the EM landscape has become less vulnerable with “only moderate overvaluations remaining for India, Indonesia and South Africa.”

Brazil is another EM to keep an eye on. The country is running a fiscal deficit — although mostly domestically funded — that is twice the size of Argentina’s; it has now run five consecutive primary deficits. With growth in Brazil having stalled in the run-up to October’s elections, TS Lombard analysts Elisabeth Johnson and Larry Brainard have sounded the alarm. “Unless the new administration moves quickly to pass a credible fiscal programme, Brazil runs the risk of following down the same path as Argentina and Turkey,” they said.

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