Why a global fund is needed to cut currency risk for developing nations

Wild fluctuations in exchange rates increase economic fragility and often trigger a debt crisis

Sony Kapoor 

Only 20 developing economies can regularly borrow from international investors in their own currency © Financial Times


Currency risk is the Achilles heel of developing economies that borrow to make investments to increase productivity, reduce emissions and meet sustainable development goals. 

About 90 per cent of cross-border debt for low and lower-middle income countries, nearly $2tn, is denominated in hard currencies, mostly dollars, much of it from development banks and other official lenders.

But this exposes vulnerable populations to sometimes wild fluctuations in exchange rates that increase economic fragility and often trigger a debt crisis. 

Nine currencies of developing economies fell by more than a quarter and a further 21 by more than a tenth in 2020 as Covid-19 hit.

This is a failure of both markets and policy that forces currency risk on those least equipped to bear it. 

Only 20 developing economies can regularly borrow from international investors in their own currency. 

For others forced to borrow in dollars, even hedging currency risk is not an option. 

The foreign exchange market has a huge daily turnover of $6.6tn, mostly in G10 currencies, with 100 developing economies accounting for less than 0.2 per cent. 

Markets for swaps, derivatives that are a mainstay of currency hedging, hardly exist beyond large emerging economies.

Given their large investment needs and limited domestic savings, external borrowing by low and lower-middle income countries will need to rise to $4tn-$6tn by 2030 if they are to align with the Paris Agreement on climate change and meet its sustainable development goals. 

This funding will not materialise without markets and policymakers stepping up to mitigate currency risk at scale. 

A new multilateral institution that makes two-way markets in currencies, especially for longer durations for which no private market exists, is needed to cut currency risk by half by 2030.

This International Currency Fund would build on the expertise of TCX, a successful donor-funded initiative that prices and offers hedging of developing country currency risk. 

Its pricing and risk management models have been successfully stress-tested through wild swings in currency markets experienced in the euro crisis and the Covid crisis.

However, TCX only has a hedging capacity of about $5bn, on a modest capital base of $1bn. 

Only a multilateral ICF, with a broad membership and large capital base, can reduce currency risk meaningfully.

The ICF would make markets by finding and acting as a counterparty to investors, borrowers, donors, corporates and remitters of foreign exchange with offsetting currency exposures.

The multilateral imprimatur and treatment as a preferential creditor would reduce collateral required for trades and allow it to offer more products that aid local market development, increase liquidity and attract private investors to currency risk as an asset class. 

This, together with more opportunities to offset risk, would increase capital efficiency, allowing ICF to offer $10 of hedging capacity for every $1 of capital, double that of TCX.

The ICF would need to launch with an ability to carry a minimum of $250bn in gross currency exposures to demonstrate a seriousness of intent, attract private risk capital and start making a dent in currency risk. 

For this it would require to have about $25bn in capital, of which just $5bn would need to be paid up front. 

The balance can take the form of callable capital, a commitment to pay up, if needed, also used by the World Bank.

This small amount will address one of the largest sources of risk in financing for developing economies and unlock additional productive investments of hundreds of billions of dollars. 

ICF-enabled forward markets in currencies would be more responsive to changes in policy, politics and market conditions, providing better feedback than dollar-based bond markets do. 

Dollar borrowing is attractive because it carries lower interest but typically turns out more expensive in the long term if local currencies weaken in value. 

By transparently pricing hidden currency risk, the ICF will improve incentives for both borrowers and lenders to switch to local currencies and adopt stronger macro policies, thereby reducing developing economy fragility. 

In turn, this would save donors some of the money they currently lose in frequent debt writedowns. 

There are few more efficient and urgent uses for scarce donor funds than an ICF. 

It is time to act.


The writer is chief executive of the Nordic Institute for Finance, Technology and Sustainability.

Harald Hirschhofer, a fellow at NIFTYS, also contributed to this piece.

Where Have All the Asian Tigers Gone?

There is no magic bullet that can ensure emerging Asian economies actually emerge and live up to their huge promise. But, given the marked economic slowdown that hit key countries well before the pandemic, a radical reconsideration of capital-account management would be a good place to start.

Jayati Ghosh


NEW DELHI – This was supposed to be the Asian century, with the ascent of China being only one – albeit a major – part of the story. 

The rest of it was going to be about other rising regional stars: potentially huge economies like India, rapidly industrializing upper-middle-income countries such as Malaysia, strategically significant exporters of minerals and other raw materials like Indonesia, and some relatively new kids on the block, including Vietnam and Bangladesh.

Many regarded Asia as the world’s most dynamic region, one with relatively favorable demographics and potential for economic diversification, while China’s increasingly gargantuan economy and evolving supply chains would inevitably pull along much of the region. 

China’s own external trade and foreign investment plans strengthened this belief. 

The country would provide substantial foreign aid, direct investment, and loans from institutions like the China Development Bank and the Export-Import Bank of China, and then in a supposedly more structured way through the Belt and Road Initiative. 

These efforts would develop transportation and energy infrastructure and provide logistical support for enhanced region and global trade. 

And agreements like the 15-country Regional Comprehensive Economic Partnership would later advance the rise of a formidable economic bloc.

This, at least, was the widespread perception at the start of the 2010s, reinforced by the relatively rapid recovery of most of the region from the 2008 global financial crisis. 

But a lot changed over the past decade. 

The West’s obsession with China and the perceived threat of that country’s rise mean that G7 leaders (and most Western commentators) have not looked in much detail at other Asian emerging markets. 

Had they done so, they would have observed that some of them were experiencing a more troubling trajectory.

Obviously, output and investment both plummeted during the COVID-19 crisis, and recovery prospects remain uncertain. 

But the region’s economic dynamism had dimmed even before the pandemic disrupted everything. 

Although a few relatively small Asian economies (like Vietnam) reported strong goods exports in the pre-pandemic period, many others showed disturbing signs of slowdown and a weaker impetus to diversify.

Consider four emerging-market economies that were widely touted as examples of “Asian success” and had briefly become the darlings of global financial markets: India, Indonesia, Malaysia, and Thailand. GDP growth in each of these countries has decelerated significantly in recent years. 

In India, annual growth slowed from 8% in 2016 to 4% in 2019, and even these figures are widely considered to be overestimates because of changes in the calculation process. 

Thailand’s economy, which was expanding by more than 7% per year at the start of the last decade, grew by only 2.3% in 2019, while growth in Malaysia declined from 7.4% to 4.3% over the same period. 

Only in Indonesia, where growth slipped from 6.2% in 2010 to 5% in 2019, was the slowdown relatively minor.

One obvious cause of this deceleration was the decline in investment rates. 

In Malaysia, Indonesia, and Thailand, this reflected a medium-term trend triggered by the 1997-98 East Asian Crisis, after which investment rates collapsed by at least a quarter, from previous highs of close to 40% of GDP to around 30%. 

In Malaysia, investment fell further during the 2010s, to only 19% of GDP by 2019. 

Investment in India also declined sharply, from 40% of GDP in 2010 to 30% in 2019. 

And investment in all of these countries decreased again during the pandemic year of 2020.

COVID-19 aside, why have investment rates come down? 

After all, these economies were the beneficiaries not only of positive stimuli from China, but also of active interest from global finance. 

They attracted capital of all kinds: foreign direct investment, portfolio flows, bond financing, and other external commercial borrowing. 

Why didn’t all of this generate higher investment and growth?

It turns out that unrestricted capital flows were actually the problem. 

Although inflows from non-residents were large and growing, so were residents’ outflows. 

As a consequence, net inflows were often small. Malaysia was in fact a net exporter of capital for much of the past decade, as was Thailand in some years. 

Even worse, the rates of return on these countries’ financial assets held abroad (whether by central banks or private investors) were significantly lower than those on financial assets inside the economy held by non-residents.

This differential led to significant annual seigniorage losses. 

In Thailand, for example, these losses amounted to as much as 5.2% of GDP each year in 2010-18 according to UNCTAD – far more than the net inflow of capital. 

And even where net capital inflows were positive, as in India and Indonesia, they did not translate into increased domestic investment or enable investment in desired sectors. 

Instead, central banks added to their foreign-exchange reserves in order to self-insure against possible capital flight and manage the exchange rate in the face of substantial capital movements.

Meanwhile, emerging-economy governments became so worried about negative financial-market responses that they limited their own capacities for fiscal stimulus during downswings, including in the current pandemic. 

Ironically, therefore, the financial liberalization that was supposed to provide emerging markets with more resources for domestic investment has led to exactly the opposite pattern.

There is no magic bullet that can ensure “emerging” Asian economies actually emerge and live up to their huge promise. 

But a radical reconsideration of capital-account management in such countries would be a good place to start.


Jayati Ghosh, Executive Secretary of International Development Economics Associates, is Professor of Economics at the University of Massachusetts Amherst and a member of the Independent Commission for the Reform of International Corporate Taxation.