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Renewed U.S. dollar strength is adding to financial strains in many places. Some emerging markets are particularly vulnerable—especially given the surge of dollar-denominated debt coming due next year.

What We're Watching

Renewed strength in the U.S. dollar is complicating an already uncertain outlook for global markets. Bolstering this strength are historically high Treasury yields amid expectations that the Federal Reserve will keep its policy interest rate high well into next year, combined with investors' uncertainty-fueled buying of safe-haven assets denominated in the world's largest reserve currency.

The U.S. dollar has risen almost 5% against a basket of major currencies in the past six months (according to the Fed's U.S. Dollar Index). While a strong dollar benefits American consumers because it tamps down inflation on imported goods and makes traveling abroad more affordable, sudden surges in its value add to financial vulnerabilities elsewhere.

What We Think And Why

Emerging market (EM) economies are particularly vulnerable, especially those with significant foreign currency debt or external (current account) deficits. EMs are countries that have been, or are, transitioning toward middle income levels, with good access to global capital markets (including the sovereign, domestic corporations, and financial institutions), evolving domestic capital markets, and global economic relevance considering their economic size, population, and share in global trade.

S&P Global Ratings focuses on 18 key emerging economies, considering their size, market relevance, and where we can provide an opinion about sovereign, corporate, and bank ratings. These countries are Argentina, Brazil, Chile, Colombia, Mexico, and Peru in Latin America; Hungary, Poland, Saudi Arabia, South Africa, and Turkiye in EMEA; and China, India, Indonesia, Malaysia, the Philippines, Thailand, and Vietnam in Asia.

EM currencies have broadly depreciated in the past month, likely reflecting that markets have more firmly priced in higher-for-longer interest rates in advanced economies. This, combined with the potential for oil prices to linger higher than previously anticipated, has weakened most EM currencies—especially those in countries that are net energy importers, such as Chile, Hungary, India, the Philippines, Thailand, and Turkiye, and among others. For these EMs specifically, the combination of a stronger dollar and higher oil prices could amplify depreciation pressures—while in EMs more generally, it could stoke inflation.

Within the group of large EM net energy importers, higher energy prices could slow the pace of interest rate reductions in Chile, Hungary, and Poland, delay the start of rate cuts in India, the Philippines, and Thailand, and encourage more rate hikes than what is already expected in Turkiye.

Higher interest rates will hamper debt refinancing in some EMs. If the uptick in energy prices and U.S. dollar strength keep interest rates higher than what is currently expected, issuers will face greater obstacles in refinancing their debt. EM maturities are higher in 2024 than in 2023, and increase further in 2026 (see chart). Out of the 18 key emerging economies we follow, the largest maturities will come due for China in 2024 and 2025, with $64 billion and $54 billion coming due in those years, respectively. Excluding China—issuers in Brazil, India, and Mexico have the largest maturities coming due over the next four years.

What Could Go Wrong

The main risk—for now—is that additional strengthening of the dollar will further strain credit conditions around the world. Also, inflationary pressures in EMs and elsewhere may be exacerbated through foreign-exchange pass-through effects. While inflation continues to slow across most EMs, we forecast median inflation across the 18 EMs we track will reach 5.7% by year-end, and 3.7% in 2024. This uncertain inflation trajectory will likely prompt central banks in these economies to be more cautious about monetary easing plans and likely keep interest rates higher for longer.

Even for many American companies, a surging greenback can cause headaches and have an outsized effect on international sales by hurting the companies' competitiveness in markets where the home currency is losing relative value.

S&P Global Ratings Economics believes the dollar will stay strong, at least in the near term, due to the prospect of higher-for-longer U.S. interest rates and resilient economic activity. Still, the dollar could quickly weaken if there's an unforeseen shock to the U.S. economy (as opposed to a generalized slump or a gradual slowdown in activity accompanied by Fed rate cuts).

U.S. GDP growth looks set to slip below trend for a drawn-out period. While we now expect the economy to expand 2.3% this year (up from 1.7% in our June forecast), we see growth declining to 1.3% for 2024—and we think the recovery will be gradual.

A weakening of the dollar would alleviate the pressure on financial conditions in EMs, even as a quick or disorderly reversal in the dollar could spur swings in financial markets and spell trouble for companies and investors caught off guard.

Writers: Molly Mintz and Joe Maguire