Covid-19 is a crisis in many forms and the world currencies are not immune to its impact as the pandemic has had exchange rates in high turbulence since mid January. As the Covid-19 outbreak kicked off to engulf the entire globe, market uncertainty that followed led investment to resort to the flight response. Capital fled from the volatile soft currencies towards the safe haven of currencies that are a more reliable store of value. Reduced global demand and consequent crashing prices further weakened currencies of major commodity exporting countries such as Russia, Mexico and Brazil. The US Dollar, world’s dominant currency being on one side of 88% of all trades, soared high especially against the Emerging Market Economies’(EME) currencies. The movement was induced by the Coronavirus risk-off that led investors scurrying for the greenback. The pattern is consistent with the Global Financial Crisis 2007-09 when even currencies of the countries that were not at the centre of the crisis depreciated against the three hard currencies namely, the US dollar, the Japanese yen and the Swiss franc. High risk aversion levels and consequent capital flight prompted the depreciation.  However, the destination countries of this capital flight were also major crisis affected countries. So, within a year or so after the crisis as risk subsided, the flows reversed and so did the depreciation. The reversal for the Covid crisis in progress has initiated, however the timeline and magnitude is yet to be observed in full.

Pandemic and the Forex pains and gains: Who won and who lost?

Relative valuations of the world currencies are pertinent to the economic health of a country.  The exchange rate movements and misalignments not only hold implications for international trade mainly through relative import prices, but also play an instrumental role in financial market risk and return assessment. Furthermore, the Central bank’s monetary policy decisions particularly involving interest rates and inflation targeting are influenced by currency valuations. 

Between 19 January 2020 and 25 February 2020, the early phase of the Covid-19 outbreak dollar strengthened against latin American currencies with Mexican Peso depreciating around 2%, Brazilian Real around 4.5% and Chilean Peso around 5%. Asian Economies also weakened with Malaysian Ringgit and Singapore Dollar depreciating 4.5% and 4% respectively. The biggest fallers were EME currencies of Russian Ruble which depreciated by over 6% and South African Rand which weakened by around 5%. Russia is heavily oil export dependent country with China as its biggest export destination and South Africa also saw massive fall in exports to its most significant trading partner, China. Large commodity exporters and Economies with close links to China including the Advanced Economies(AEs) also witnessed currency depreciations as Australian dollar depreciated by 4% and the Canadian dollar by 2%. 

The magnitude of these impacts intensified drastically in March as the Covid outbreak submerged the world, leading to lockdowns, reduced global demand and disrupted global supply chains. Consequently, the market panic set in. Mexican Peso, Russian Ruble, Brazilian Real and South African Rand depreciated by 17.5%, 16.7%, 13.7% and 13.1% respectively in the month of March. Amongst the Advanced Economies, Australian Dollar, Canadian Dollar and Great Britain Pound also weakened against the greenback by 6.25%, 5.68% and 3.93% respectively. During the same period, Japanese Yen and Swiss Franc remained stable against the Dollar, even appreciating slightly and hence strengthening against the other currencies, illustrating the investor confidence towards these hard currencies in times of crises. Besides the economic consequences of the health crisis, there has also been evidence that changes in the number of cases and deaths in the US has had a positive impact on USD/EUR, USD/Yuan and USD/LivreSterling volatility. To stabilise the domestic currencies, central banks engaged in Forex market intervention and USD swaps in both EMEs and AEs.

The depreciation reversal commenced for most economies in the month of April as Russia and Australia recovered significantly and even Mexico witnessed a slight currency appreciation. Bazilian Real however, remained a loser. This changed in the month of May as Brazilian real initiated slight recovery joining other currencies some of which gained due to the oil price rebound. From May-july, mostly all currencies appreciated against the Dollar, with South African Rand(9.9%), Australian Dollar(8.95%), Euro(8.127%) and Mexican Peso(7.24%) emerging as winners amongst others. 

Setting aside Dollar performance against soft currencies, it has been weakening against the major currencies of Euro(7%), Swiss franc(6.1%) and Pound(6.92%) over the last three months(27 May-27 Aug). The underperformance of the dollar can be attributed to the interest rate cuts and increased liquidity arrangements for the international monetary market through currency swaps as a part of Covid reponses.The dollar dominance however stands as it remains the world’s major reserve currency despite its current weak stance which might change as health and economic crises subsides. 

At home scenario: The Rupee and RBI stance 

Indian rupee which opened at 72.2 against the dollar in March ended at 75.6 by the end of the month with foreign investors pulling out $14 billion from the country and despite the sharp depreciation, it still outperformed EME peers due to relatively lower external debt and net international liabilities among other factors. The week ended March 20 witnessed the biggest fall in forex reserves since 2008 by $11.98 billion and furthermore, RBI likely sold $1.8 billion in the two weeks period ended April 10 to ensure dollar liquidity and defend rupee. However, since then RBI has been accumulating foreign exchange reserves. For instance, over the three week period ended August 7, India’s reserves increased by $52.9 billion, out of which foreign currency assets amounted to $44.7 billion and gold hoardings for $7.5 billion. This is one of the reasons why rupee was relatively weaker compared to its EME peers despite the soft dollar and high FDI inflows after April. Rupee averaged at 76.2 during April, 75.6 during May, 75.7 during June, 74.9 during July and as of 27 August it stands at an average of 74.7 against the Dollar.

The Way Ahead

The trading volume of Foreign Exchange Market stood at  US $6.6 trillion per day in April 2019, with FX market claiming the title of the largest financial market in the world. The market is highly volatile and Coronavirus has been illustrative of its susceptibility. Another recent development has been the area of Central Bank Digital Currency(CBDC) as China and Sweden already have CBDC projects in testing in 2020 and more central banks are considering hybrid systems where CBDC is a cash like direct claim on the central bank and private sector manages customer facing activity. The idea and the possible policy tools it can generate seems potential. Meanwhile, the current crisis is still in progress and as we move towards vaccine solutions and global economic recovery, the currency movements would be interesting to note. 

Shalu is a second year Master’s student at Ashoka University.