In 2022, the US Dollar has seen the fastest appreciation in the last 40 years. The rise of 18% in the DXY index is second only to 1981 26% during the Paul Volcker's monetary experiment. How has Latin American FX responded to this new environment?
The currency of the major economies of Latin America has proven surprisingly resilient. With the not surprising exception of Argentina, where the FX felt 33% YTD, most currencies outperformed Pound (-18%) or the Euro (-13%) and many of them even showed nominal appreciation: Uruguay (6.3%), Brazil (3.3%), Mexico (1.6%) and Peru (0.5%). Chile (-12.3%) and Colombia (-10.1%) outperformed the developed economies, even having been affected by an increase in political uncertainty.
Uruguay stands out in the region. The currency had the strongest FX nominal appreciation (6% in 2022) and has so far proven immune to global surprises. Uruguay began its tightening cycle in mid-2022, in line with the timing of the region, hiking from 4.5% then to 9.4% now. Even though inflation accelerated in 2022, the impact of global inflation was very modest as inflation only rose 2pp from 8.0% in December to 9.5%%. Inflation in august was only 1.1% above the last 10 years' average. The most significant FX-related risk in Uruguay is the Real Exchange Rate over appreciation. The REER is 29% below the 20% years average with the world, 36% with the region, and 9% and 13% respectively vs. the last 10 years' average.
Brazilian Real proved surprisingly resilient to the growing uncertainty around the election. The year began with a Real Exchange Rate at a 20-year low, around 20% above the 2003 previous low but 30% more depreciated than the 10-year average. This weak Real was underpinned by an aggressive monetary policy. Brazil was the monetary tightening champion in the region, starting earlier and rising the rate higher that any other country. However, Brazil faces a mild but persistent current account deficit - even with a positive trade balance - and, in the short term, is exposed to political risk (as the recent post-election dynamic has shown).
Mexican peso gained 1.6% in the first nine months of the year. Mexico, a country with a long tradition of fixed fx followed by crashes, has been for some time the most stable FX volatility in the region, second only to Uruguay. In the last four years, for example, the daily FX return standard deviation was 0.83%, vs 0.99% for Colombia, 1.04% for Chile, 1.12% for Brazil, 1.13% for Peru, or 1.52% for Argentina (CCL). The Mexican Peso, as In many other aspects of its economy, is closely tied to the cycle of the USA and like the Canadian dollar, is among the currencies most affected by the dollar strength. As a token of example, some members of the Board of the Central have pointed out that the most appropriate course of action for the near future would simply be to replicate the decisions made by the Fed, to prevent capital outflows and peso weakening. Real-Exchange-Rate wise the Peso also reflects these ties with the US dollar. The REER was in August the same that one year before vs the dollar, but appreciated 7.8% vs the rest of the trading partners. Also, the current REER is -6.0% vs the 10-year average with the rest of the world and 8.9% weaker than the US 10 years REER.
Colombian Peso fell 10% in the year, ranking among the worst performers. A risky combo seems to be hitting the Colombian economy: the uncertainty around the political swing, with the first left-wing president ever, rising sovereign spreads (Embi +171 YoY), and collapsing business confidence. Colombia was the last country in the region to start the tightening cycle on October 2021, and since then the rate rose 725 in 9 consecutive hikes but that proved insufficient to avoid placing the country as the third worst in the region (10.8% YoY) below Chile and Argentina. Colombia is a high beta FX, exposed to global risk aversion and, looking forward, its persistent twin deficit and political uncertainty putts the country in a risky position.
Chilean Peso, is the worst performer with a contraction of 12.3% (excluding, of course, Argentina). Political turmoil and the uncertainty around the reform of the Constitution have been hitting the economy since 2019. The CLP increasing risk premium has somehow dwindled after the referendum, but uncertainty over the political near feature looks like the main driver of the FX. Also, the record high current account deficit is a weak spot of a country positively exposed to oil prices (aka, the war) and negatively exposed to metals/copper prices (aka, China deceleration)
Peruvian Sol was nominally stable during the year (0.5%). The PEN has somewhat stabilized after a dramatic 2021 when the currency fell almost 20% in anticipation of Pedro Castillo's presidential victory in mid-2021. The combo of fiscal and monetary tightening has kept the Sol under control and so far immune to global turmoil. The Central Bank began its tightening cycle in august 2021, rising the rate 14 times to 6.5%. Surprisingly, and despite the weak Sol - REER is 20% below the 10-year average - inflation dynamics are among the best performers in the region, with only 8.4%, and optimistic expectations for the next 12 months (5.1%), even with a robust 3% growth expected for this year.
Argentina's Peso deserves a highlight on its own, as the dynamic of the free exchange rate (the Blue Chip Swap) is mostly, if not exclusively explained by idiosyncratic factors. The currency fell 34% YTD, which trigger a full-blown crisis in Albertos Fernandez´s Cabinet. In the last two months, an aggressive monetary tightening combined with a new set of regulations that fostered agricultural export anticipation has kept the BCS under control, although pervasive monetary imbalances and highly risky inflationary pressures persist and pose a threat to nominal stability on the road to 2023 elections.
