As the conflict in Iran drags on, analysts are beginning to outline extreme scenarios once considered "impossible."
The war in Iran is placing increasing pressure on emerging Asian markets, pushing some currencies and bond yields to levels once thought impossible.
As the conflict drags on, some analysts are outlining more extreme bearish scenarios. These include the Indian rupee weakening to 100 per U.S. dollar, the Indonesian rupiah falling to 18,000 per U.S. dollar, and the Philippine peso depreciating to 65 per U.S. dollar—due to elevated energy prices exacerbating inflation and placing heavy burdens on import-dependent economies.
The bond market is also feeling pressure. India’s benchmark government bond yields may test the highs seen in 2022, while the head of the Philippine Money Market Association said the Philippines’ benchmark yield could rise to 8%—a level not seen in many years.
Since the war broke out at the end of February, crude oil prices have surged more than 40%, severely impacting Asia. India, Indonesia, and the Philippines have felt the blow most acutely, as they rely on foreign capital to cover their current account deficits. Rising U.S. Treasury yields have further diminished the appeal of emerging market assets, forcing central banks to tighten policy even as the economic consequences of the conflict deepen.
Indonesia has taken action to defend the rupiah. The country’s central bank unexpectedly announced a larger-than-expected interest rate hike on Wednesday and pledged to strengthen foreign exchange intervention.
Rajeev De Mello, Global Macro Portfolio Manager at Gamma Asset Management SA, said that if energy prices continue to rise, "the deterioration in import costs relative to export prices will continue to weigh on the currencies of net oil-importing countries."
He noted that rising oil prices could also harm the bond market by stimulating inflation or widening fiscal deficits, especially if authorities absorb part of the impact through fuel subsidies.
Since the outbreak of the war, the Indonesian rupiah, Indian rupee, and Philippine peso have been the worst-performing emerging market currencies, declining between 4.5% and 6.5%.
Institutions such as Aberdeen Investments and MetLife Investment Management believe the rupee could weaken to 100 per U.S. dollar. DBS Group Holdings Ltd. has revised its forecast range from 90–95 to 95–100. According to Bloomberg-consensus estimates, the year-end target is 94.75, while the one-year USD-INR forward rate surpassed 100 for the first time on Wednesday.
In Southeast Asia, Demeiro of Gamma Asset Management said that if oil prices continue to rise, the peso could weaken beyond 65. HSBC Holdings plc now expects the peso to close the year at 60.8, up from its previous forecast of 59.8; it also revised its forecast for the Indonesian rupiah from 17,300 to 17,400.
In a report on May 13, BNY Mellon strategist Wee Khoon Chong wrote that the Indonesian rupiah could slip to 18,000 in the short term. Bloomberg’s consensus forecast shows the peso closing the year at 60.3 and the rupiah at 17,100.
As pressure on Indonesia mounts, President Prabowo announced on Wednesday a plan to strengthen controls on commodity exports. He estimated that the country loses up to $150 billion annually due to loopholes such as “under-invoicing,” where exporters fail to declare the full value of their goods.
These losses have affected local currency bonds in the region—bonds that were previously favored by global investors before the war broke out. The Bloomberg index measuring the average 10-year yields of seven emerging Asian economies has risen more than 120 basis points since the conflict began, reaching its highest level since November 2023.
During a weekly auction on Wednesday, the yield on India’s 364-day treasury bill posted its largest increase in nearly four years.
Interest Rate Outlook
Investors are now anticipating that India will follow Indonesia and the Philippines in tightening policy when it announces its next interest rate decision on June 5. According to data from Standard Chartered, India’s swap market is currently pricing in approximately 125 basis points of rate hikes over the next year.
In the Philippines, as inflation concerns intensify, the interest rate swap market is pricing in approximately a 70-basis-point rate hike within three months. April’s consumer prices rose at the fastest pace in three years, reinforcing market expectations that the central bank will raise rates by 50 basis points at its June meeting.
“We haven’t seen the worst yet,” said Jonathan Ravelas, Managing Director of eManagement for Business and Marketing Services in Manila. He believes that if the conflict escalates, the 10-year yield could reach double digits, the peso could weaken to 62–63 within the next 6 to 12 months, and reach 65 within two years.
Some analysts believe that the region is better equipped to handle shocks compared to previous periods, such as during the 1997 Asian financial crisis. According to data from Nomura Holdings, these economies now have larger foreign exchange reserves and lower levels of short-term dollar-denominated debt.
Sonal Varma, Chief Economist for Asia (excluding Japan) at Nomura Securities, said: "Although this is a very challenging period, we believe most Asian economies will weather the storm."
Nevertheless, global funds have withdrawn capital from the region. Since the outbreak of war, over $500 million has exited Indonesia’s local bond market, while India has seen $1.2 billion in outflows, intensifying pressure on currencies and yields.