Devaluation: If at first you don’t succeed…

Is another weakening of the tenge in the works?

In the past week or two, rumors of another devaluation of the tenge have flown throughout the Internet and now the newspapers.  The central bank, the National Bank of Kazakhstan, devalued the tenge by about a fifth in February, for the first time in five years; another devaluation, coming on the heels of such a large one, could connote trouble.

Circumstantial evidence of an impending devaluation is mixed at best. In principle, a speculative attack on the tenge could force the Bank’s hand, but it is not clear that a serious attack is underway.  If currency traders believe that the tenge will lose value, then they will sell it now while it is still worth something.  These sales will cause the market exchange rate for the tenge to weaken (that is, to rise).  But at present, the tenge is trading at 182 to the U.S. dollar; that is much stronger than what corresponds to the National Bank’s target rate of 185.  Also, if most traders were selling the tenge short, then the Bank would have to defend it by purchasing it in exchange for such foreign currencies as dollars.  The Bank’s  forex reserves would fall.  In reality, the Bank’s reserves rose for several months after the February devaluation.  They have fallen since May but remain higher than in January, reported a business weekly in Kazakhstan, Panorama.  In general, the evidence for an ongoing attack is not clear. 

Sanctions and panics

A devaluation might make a modicum of sense if the new sanctions against Russia, administered by the West because it suspects Kremlin plotting in Ukraine, would otherwise eviscerate Kazakhstan’s economy.  But that isn’t clear, either.  Yes, Russia is Kazakhstan’s leading partner in trade, but it accounts for only roughly a sixth of Kazakhstani trade.  Another of Kazakhstan’s leading partners, China, may profit by the sanctions to the extent that it competes with Russia in export markets.  Increased exports from China would raise its income and thus its demand for imports from Kazakhstan.  Ironically, Kazakhstan could profit from the sanctions, too.  Although it would sell less oil than before through Russia, it could sell more to China, with which it has a direct pipeline, if Beijing comes to doubt Russia’s reliability.

However, if the rumor mill continues to work overtime, then it may compel the Bank to devalue.  Suppose that a currency speculator believes that others will sell the tenge short.  Then he may do the same, even though fundamental factors imply a strong tenge, because opinions rather than facts may drive the forex market.  Apropos of this, the 20^th-century economist John Maynard Keynes likened the stock market to a beauty contest that English newspapers of his day conducted among readers.  A paper would run photographs of the local talent and invite readers to vote for the most beguiling.  The contest would be won by the reader who identified the most popular belles.  Keynes pointed out that the best strategy was to choose not the most beautiful contestants but the top vote-getters.  If most readers were English, then the most popular contestants were likely to be English, not foreign-born.  This analogy suggests that the Bank may not be able to fully control the exchange rate in the medium run. 

The Bank’s best policy is to publish accurate data.  This became clear in February, when a social-media message led to runs on three banks in Kazakhstan.  Especially vulnerable to media attacks are short-run dollar loans to commercial banks, since they rely heavily on these to finance their own loans to domestic borrowers.  The Bank can blunt media attacks, because it is still the most trusted official source of financial data in Kazakhstan – as well as one of the few sources to publish information on the Web in English.  The Bank lost face when it devalued in February after promising that it wouldn’t; providing good information today may help restore its credibility.  But another stark denial by the Bank of future devaluation, without evidence to back up its position, may have perverse consequences.  –Leon Taylor  tayloralmaty@gmail.com

References

John Maynard Keynes.  The general theory of interest, employment and money.  Online.  1936.  The beauty-contest story is in Chapter 12.

Oksana Kononenko.  Genprokuratura napomynla ob otvetstvennocty za cluxy o deval’vatsy tenge.  Panorama, page 2.  August 8, 2014.