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Faster monetary tightening in the United States may result in capital outflows and currency devaluation.

The International Monetary Fund (IMF) cautioned on Monday that a faster tightening of monetary policy by the United States Federal Reserve could result in capital outflows and currency devaluation in emerging markets.

“While the global recovery is expected to continue this year and next, the persistently resurgent pandemic continues to pose a threat to growth. Given the possibility that this would coincide with faster Fed tightening, developing economies should brace for economic turmoil “Of a blog post alongside his colleagues, Stephan Danninger, chief of the IMF’s Macro Policies Division in the Strategy Policy and Review Department, warned.

“In reaction, faster Fed rate hikes might jolt financial markets and tighten global financial conditions. These changes could result in a slowdown in US demand and trade, as well as capital outflows and currency devaluation in emerging economies “Officials from the International Monetary Fund (IMF) stated.

According to the minutes of the Fed’s most recent policy meeting, released last week, officials at the US Federal Reserve foresee earlier and faster interest rate hikes than previously forecast due to rising inflation.

“Given their individual outlooks for the economy, labor market, and inflation,” the Fed said in the minutes of its December 14-15 meeting, “it may become necessary to increase the federal funds rate sooner or at a quicker pace than participants had previously anticipated.”

According to the minutes, the median respondent’s expected timing for the first hike in the federal funds rate target range shifted from the first quarter of 2023 to June 2022.

Meanwhile, most Fed members predicted that the central bank will raise interest rates three times in 2022, up from just one hike predicted in September.

Emerging markets should customize their responses to tighter financial conditions based on their circumstances and vulnerabilities, according to IMF officials.

“Those with policy credibility on inflation control can tighten monetary policy more gradually,” they wrote, “while those with larger inflation pressures or weaker institutions must respond quickly and comprehensively.”

Allowing currencies to weaken and hiking benchmark interest rates should be part of any response in either circumstance.

Furthermore, they stated, countries with large amounts of debt denominated in other currencies should seek to avoid currency mismatches and hedge their exposures when possible.

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