By Yilmaz Akyüz
GENEVA, Feb 16 2015 (IPS)

After a series of crises with severe economic and social consequences in the 1990s and early 2000s, emerging and developing economies have become even more closely integrated into what is widely recognised as an inherently unstable international financial system. 

Both policies in these countries and a highly accommodating global financial environment have played a role. Not only have their traditional cross-border linkages been deepened and external balance sheets expanded rapidly, but also foreign presence in their domestic credit, bond, equity and property markets has reached unprecedented levels.

Yilmaz Akyuz

New channels have thus emerged for the transmission of financial shocks from global boom-bust cycles.

Almost all developing countries are now vulnerable, irrespective of their balance-of-payments, external debt, net foreign assets and international reserve positions, although these play an important role in the way such shocks could affect them.

Stability of domestic banking and asset markets is susceptible even in countries with strong external positions.

Those heavily dependent on foreign capital are prone to liquidity and solvency crises as well as domestic financial turmoil.

The new practices adopted in recent years – including more flexible exchange rate regimes, accumulation of large stocks of international reserves or borrowing in local currency – would not provide much of a buffer against severe external shocks such as those that may result from the normalisation of monetary policy in the United States. “The surge in capital inflows that started in the early years of the new millennium, and continued with full force after a temporary blip due to the collapse in 2008 of the Lehman Brothers financial services firm, holds the key to the growing internationalisation of finance in developing countries”

And the multilateral system is still lacking adequate mechanisms for an orderly and equitable resolution of external financial instability and crises in developing economies.

This process of closer integration was greatly helped by highly favourable global financial conditions before 2008, thanks to the very same credit and spending bubbles that culminated in a severe crisis in the United States and Europe. The crisis did not slow this process despite initial fears that it could lead to a retreat from globalisation.  Integration has even accelerated since then because of ultra-easy monetary policies pursued in advanced economies, notably in the United States, in response to the crisis.

The surge in capital inflows that started in the early years of the new millennium, and continued with full force after a temporary blip due to the collapse in 2008 of the Lehman Brothers financial services firm, holds the key to the growing internationalisation of finance in developing countries.

It has resulted in a rapid expansion of gross external assets and liabilities of developing economies. More importantly, the structure of their external balance sheets has undergone important changes, particularly on the liabilities side, bringing new vulnerabilities.

The share of direct and portfolio equity in external liabilities has been increasing. An important part of the increase in equity liabilities is due to capital gains by foreign holders. In many developing countries presence in equity markets is greater than that in the United States and Japan.

While still remaining below the levels seen a decade ago as a percentage of gross domestic product (GDP), external debt build-up has accelerated since the crisis in 2008. This is mainly due to borrowing by the private sector, which now accounts for a higher proportion of external debt than the public sector in both international bank loans and security issues. A very large proportion of private external debt is in foreign currency. There is also a renewed tendency for dollarisation in domestic loan markets.

As a result of a shift of governments from international to domestic bond markets and opening them to foreigners, the participation of non-residents in these markets has been growing. The proportion of local-currency sovereign debt held abroad is greater in many developing countries than in reserve-issuers such as the United States, the United Kingdom and Japan. It is held by fickle investors rather than by foreign central banks as international reserves.

International banks have been shifting from cross-border lending to local lending by establishing commercial presence in developing countries. Their market share in these countries has reached 50 percent compared with 20 percent in developed countries.

These banks tend to act as conduits of expansionary and contractionary impulses from global financial cycles and increase the exposure of developing economies to financial shocks from advanced economies.

One of the key lessons of history of economic development is that successful policies are associated not with autarky or full integration into the global economy, but strategic integration seeking to use the opportunities that a broader economic space may offer while minimising the potential risks it may entail. This is more so in finance than in trade, investment and technology.

For one thing, the international financial system is inherently unstable in large part because multilateral arrangements fail to impose adequate discipline over financial markets and policies in systemically important countries which exert a disproportionately large impact on global conditions.

For another, the multilateral system also lacks effective mechanisms for orderly resolution of financial crises with international dimensions.

Thus, closer integration of several into the international financial system in the past ten years, after a series of crises with severe economic and social consequences, is a cause for concern.

In all likelihood, these countries will be facing strong destabilising pressures in the years ahead as monetary policy in the United States returns to normalcy after six years of flooding the world with dollars at exceptionally low interest rates.

In weathering a possible renewed instability, they cannot count on the more flexible currency regimes they came to adopt after the last bouts of crises or the reserves they have built from capital inflows or the reduced currency exposure of the sovereign.

It is important that they, as well as the international community, avoid going back to business-as-usual in responding to a new round of financial shocks, bailing out investors and creditors and maintaining an open capital account at the expense of incomes and jobs.

They need to include many unconventional policy instruments in their arsenals to help lower the price that may have to be paid for the financial excesses of the past several years

They should also take the occasion to rebalance the pendulum and to bring about genuine changes in the international financial architecture. (END/IPS COLUMNIST SERVICE)

Edited by Phil Harris   

The views expressed in this article are those of the author and do not necessarily represent the views of, and should not be attributed to, IPS – Inter Press Service. 

* This column is based on Internationalization of Finance and Changing Vulnerabilities in Emerging and Developing Economies, South Centre Research Paper 60, January 2015, which is available here.

Excerpt:

By Shyam Saran
NEW DELHI, Jul 23 2014 (IPS)

The sixth BRICS Summit which has just ended in Brazil marks the transition of a grouping based hitherto on shared concerns to one based on shared interests.

Since the inception of BRICS (bringing together Brazil, Russia, India, China and South Africa) in 2009, it has been seen as a mainly flag waving exercise by a group of influential emerging economies, with little in terms of convergent interest other than signalling their strong dissatisfaction over persistent Western dominance of the world economic, financial as well as security order, but unable to fashion credible alternative governance structures themselves.

However, with the Fortaleza Summit finally announcing the much awaited establishment of the New Development Bank (NDB) with a 50 billion dollar subscribed capital and a Contingency Reserve Arrangement (CRA) of 100 billion dollars, the monopoly status and role of the Bretton Woods institutions – the World Bank and the International Monetary Fund (IMF) – stand broken.

Shyam Saran

True, it may take the NDB and the CRA considerable time and experience to evolve into credible international financial institutions but that clearly is the intent.

BRICS leaders have kept the door open for other stakeholders, but will retain at least a 55 percent equity share. They have also been careful to declare that these new institutions will supplement the activities of the World Bank and the IMF, and this has also been the initial response from the latter.

Nevertheless, the emergence of an alternative source of financing with norms different from those followed by the established institutions will alter the global financial landscape irreversibly.

It may be noted for the future that the one component of the global financial infrastructure where Western companies still remain supreme is the insurance and reinsurance sector. Global trade flows, in particular energy flows are almost invariably insured by a handful of Western companies which also determine risk factors and premiums.

In Brazil, the BRICS countries have given notice that they will examine the prospect of pooling their capacities in this sector. A more competitive situation in this sector can only be a positive development for developing countries.“The emergence of an alternative source of financing [BRICS Bank] with norms different from those followed by the established institutions will alter the global financial landscape irreversibly”

The BRICS initiatives were born out of mounting frustration among emerging countries that even a modest restructuring of the governing structures of the Bretton Woods institutions, to reflect their growing economic profile, was being resisted. The commitment made in 2010 at the G20 to enlarge their stake in the IMF remains unfulfilled while the restructuring of the World Bank is yet to be taken up.

The longer the delay in such restructuring, the more rapid the consolidation of the new BRICS institutions is likely to be. It is this factor which played a role in helping resolve some of the differences among the BRICS countries over the structure and governance of these proposed institutions.

The setting up of the BRICS institutions owed a great deal to the energy and push displayed by China. It is doubtful that the proposals would have been actualised had China not put its full weight behind them and showed a readiness to accommodate other member countries, in particular India. Russia became more enthusiastic after being drummed out of the G8 and subjected to Western sanctions.

Chinese activism on this score must be seen in the context of other parallel developments in which China has also been the prime mover and sometimes the initiator. These are:

1. The proposal for setting up an Asian Infrastructure Investment Bank (AIIB) to fund infrastructure and connectivity projects in Asia, in particular, those which would help revive the maritime and land “Silk Routes” linking China with both its eastern and western flanks. The parallel with the NDB is hard to miss.

2. The consolidation of the Chiang Mai Initiative Multilateralisation (CMIM) and the associated Asian Multilateral Research Organisation (AMRO) among the Association of Southeast Asian Nations (ASEAN) + 3 (China, Japan and the Republic of Korea). The CMIM is now a 240 billion dollar financing facility to help member countries deal with balance of payments difficulties. This is similar to the 100 billion dollar CRA set up by BRICS.

AMRO has evolved into a mechanism for macro-economic surveillance of member countries and provides a benchmark for their economic health and performance. This would enable sound lending policies and may very well be linked in future to the AIIB. The CMIM and the AMRO thus provide building blocks which could serve as the template for the NDB, the CRA and the AIIB.

3. In addition to the CMIM and the AMRO, there are ongoing initiatives within ASEAN + 3 to develop a truly Asian Bond Market which could mobilise regional savings into regional investments through local currency bonds. To support this initiative, a regional Credit Guarantee and Investment Facility has been established. A Regional Settlement Intermediary is proposed to facilitate cross-border multi-currency transfers.

These developments are taking place just when there is a rapidly growing Chinese yuan-denominated bond market, the so-called dim-sum bonds, which have become an important source of corporate financing. This reduces the dependence on euro and U.S. dollar-denominated bonds. The NDB could tap into this market to build up its own finances.

It is important to keep in mind this broader picture in assessing the significance of the decisions taken at the Fortaleza Summit. In systematically pursuing a number of parallel initiatives, China is attempting to create an alternative financial infrastructure which would have it in the lead role. The dilemma for other emerging countries is that there appear to be no credible alternatives, especially since the Western countries are unwilling to cede any enhanced role to them.

The Fortaleza Summit marks the beginning of the end of the post-Second World War Western dominance of the global economic and financial order. The existing institutions will now have to share space with the new entrants and may be compelled to adjust their norms to compete with the latter.

The prime mover behind the establishment of a rival network of financial institutions is China, whose global profile and influence is likely to increase as the various building blocks it has put in place come together to shape a new global financial architecture. This is still in the future but the trend is unmistakable. (END/IPS COLUMNIST SERVICE)

Excerpt:

The Sixth BRICS Summit which ended Wednesday in Fortaleza, Brazil, attracted more attention than any other such gathering in the alliance’s short history, and not just from its own members – Brazil, Russia, India, China and South Africa.

Two external groups defined by divergent interests closely watched proceedings: on the one hand, emerging economies and developing countries, and on the other, a group comprising the United States, Japan and other Western countries thriving on the Washington Consensus and the Bretton Woods twins (the World Bank and the International Monetary Fund).

The first group wanted BRICS to succeed in taking its first big steps towards a more democratic global order where international institutions can be reshaped to become more equitable and representative of the world’s majority. The second group has routinely inspired obituaries of BRICS and gambled on the hope that India-China rivalry would stall the BRICS alliance from turning words into deeds.The stature, power, force and credibility of BRICS depend on its internal cohesion and harmony and this, in turn, revolves almost wholly on the state of relations between India and China. If India and China join hands, speak in one voice and march together, then BRICS has a greater chance of its agenda succeeding in the international system.

In the event, the outcome of the three-day BRICS Summit must be a disappointment to the latter group. First, the obituaries were belied as being premature, if not unwarranted. Second, as its more sophisticated opponents have been “advising”, BRICS did not stick to an economic agenda; instead, there emerged a ringing political declaration that would resonate in the world’s trouble spots from Gaza and Syria to Iraq and Afghanistan.

Third, and importantly, far from so-called Indian-China rivalry stalling decisions on the New Development Bank (NDB) and the emergency fund, the Contingency Reserve Arrangement (CRA), the Asian giants grasped the nettle to add a strategic dimension to BRICS.

With a shift in the global economic balance of power towards Asia, the failure of the Washington Consensus and the Bretton Woods twins in spite of conditionalities, structural adjustment programmes and “reforms”, financial meltdown and the collapse of leading banks and financial institutions in the West, there had been an urgent need for new thinking and new instruments for the building of a new order.

Despite the felt need and multilateral meetings that involved developing countries, including China and India which bucked the financial downturn, there had been no sign of alternatives being formed.

It is against this backdrop – of the compelling case for firm and feasible steps towards a new global architecture of financial institutions – that BRICS, after much deliberation, succeeded in agreeing on a bank and an emergency fund.

From India’s viewpoint, this summit of BRICS – which represents one-quarter of the world’s land mass across four continents and 40 percent of the world population with a combined GDP of 24 trillion dollars – was an unqualified success. The success is sweeter for the National Democratic Alliance (NDA) government led by the Bharatiya Janata Party (BJP) because the BRICS summit was new Prime Minister Narendra Modi’s first multilateral engagement.

For a debutant, Modi acquitted himself creditably by steering clear of pitfalls in the multilateral forum as well as in bilateral exchanges – particularly in his talks with Chinese President Xi Jiping, with Russian President Vladimir Putin and with Brazilian President Dilma Rousseff – and by delivering a strong political statement calling for reform of the U.N. Security Council and the IMF.

In fact, the intensification and scaling up of India-China relations by their respective powerful leaders is an important outcome of the meeting in Brazil, even though the dialogue between the Asian giants was on the summit’s side-lines. Nevertheless, Modi and Xi spoke in almost in one voice on global politics and conflict, and on the case for reform of international institutions.

The new leaders of India and China, with the power of their recently-acquired mandates, sent out an unmistakable signal that they have more interests in common that unite them than differences that separate them.

Against this backdrop, Indian Prime Minister Modi’s outing was significant for other reasons, not least because of the rapport he was able to strike up, in his first meeting, with Chinese President Xi. The stature, power, force and credibility of BRICS depend on its internal cohesion and harmony and this, in turn, revolves almost wholly on the state of relations between India and China. If India and China join hands, speak in one voice and march together, then BRICS has a greater chance of its agenda succeeding in the international system.

As it happened, Modi and Xi hit it off, much to the consternation of both the United States and Japan. They spoke of shared interests and common concerns, their resolve to press ahead with the agenda of BRICS and the two went so far as to agree on the need for an early resolution of their boundary issue. They invited each other for a state visit, and Xi went one better by inviting Modi to the Asia-Pacific Economic Cooperation meeting in China in November and asking India to deepen its involvement in the Shanghai Cooperation Organisation (SCO).

Modi’s “fruitful” 80-minute meeting with Xi highlights that the two are inclined to seize the opportunities for mutually beneficial partnerships towards larger economic, political and strategic objectives. This meeting has set the tone for Xi’s visit to India in September.

Although strengthening India-China relationship, opening up new tracks and widening and deepening engagement had been one of former Indian Prime Minister Manmohan Singh’s biggest achievements in 10 years of government (2004-2014), after a certain point there was no new trigger or momentum to the ties. Now Xi and Modi are investing effort to infuse new vitality into the relationship which will have an impact in the region and beyond.

As is the wont when it comes to foreign affairs and national security, Modi’s new government has not deviated from the path charted out by the previous government. BRICS as a foreign policy priority represents both continuity and consistency. Even so, the BJP deserves full marks because it did not treat BRICS and the Brazil summit as something it had to go through with for the sake of form or as a chore handed down by the previous government of Manmohan Singh.

Before leaving for Brazil, Modi stressed the “high importance” he attached to BRICS and left no one in doubt that global politics would be high on its agenda.

He pointed attention to the political dimension of the BRICS Summit as a highly political event taking place “at a time of political turmoil, conflict and humanitarian crises in several parts of the world.”

“I look at the BRICS Summit as an opportunity to discuss with my BRICS partners how we can contribute to international efforts to address regional crises, address security threats and restore a climate of peace and stability in the world,” Modi had said on eve of the summit.

Having struck the right notes that would endear him to the Chinese leadership, Modi hailed Russia as “India’s greatest friend” after he met President Vladimir Putin on the side-lines of the summit.

India belongs to BRICS, and if BRICS is the way to move forward in the world, then BRICS can look to India, along with China, for leading the way, regardless of political change at home. That would appear to be the point made by Modi in his first multilateral appearance.

By Yilmaz Akyüz
GENEVA, Jul 16 2014 (IPS)

Since the onset of the crisis, the South Centre has argued that policy responses to the crisis by the European Union and the United States has suffered from serious shortcomings that would delay recovery and entail unnecessary losses of income and jobs, and also endanger future growth and stability. 

Despite cautious optimism from the International Monetary Fund (IMF), the world economy is not in good shape. Six years into the crisis, the United States has not fully recovered, the Euro zone has barely started recovering, and developing countries are losing steam. There is fear that the crisis is moving to developing countries.

Yilmaz Akyuz

There is concern in regard to the longer-term prospects for three main reasons.

First, the crisis and policy response aggravated systemic problems, whereby inequality has widened. Inequality is no longer only a social problem, but also presents a macroeconomic problem. Inequality is holding back growth and creating temptation to rely on financial bubbles once again in order to generate spending.

Second, global trade imbalances have been redistributed at the expense of developing countries, whereby the Euro zone especially Germany has become a deadweight on global expansion.

Third, systemic financial instability remains unaddressed, despite the initial enthusiasm in terms of reform of governance of international finance, and in addition new fragilities have been added due to the ultra-easy monetary policy.“The external financial vulnerability of the South is linked to developing countries’ integration in global financial markets and the significant liberalisation of external finance and capital accounts in these countries” – Yilmaz Akyuz

The policy response to the crisis has been an inconsistent policy mix, including fiscal austerity and an ultra-easy monetary policy. While the crisis was created by finance, the solution was still sought through finance. Countries focused on a search for a finance-driven boom in private spending via asset price bubbles and credit expansion. Fiscal policy has been invariably tight.

The ultra-easy monetary policy created over one trillion dollars in fiscal benefits in the United States – which was more than the initial fiscal stimulus; the entire initial fiscal stimulus was limited to 800 billion dollars.

There was reluctance to remove debt overhang through comprehensive restructuring (i.e. for mortgages in the United States and sovereign and bank debt in the European Union). Thus, the focus was on bailing out creditors.

There was also reluctance to remove mortgage overhang and no attempt to tax the rich and support the poor, particularly in the United Kingdom and the United States – where marginal tax rates are low compared with continental Europe. There has been resistance against permanent monetisation of public deficits and debt, which does not pose more dangers for prices and financial stability than the ultra-easy monetary policy.

The situation in the United States has been better than in other advanced economies. The United States dealt with the financial but not with the economic crisis, whereby recovery has been slow due to fiscal drag and debt overhang. And employment is not expected to return to pre-crisis levels before 2018.

As for the Euro zone, Japan and the United Kingdom, all have had second or third dips since 2008. None of them have restored pre-crisis incomes and jobs.

Meanwhile, trade imbalances have not been removed, but redistributed. East Asian surplus has dropped sharply and Latin America and sub-Saharan Africa have moved to large deficits. Developing countries’ surplus has fallen from 720 billion dollars to 260 billion dollars. On the contrary, advanced economies have moved from deficit to surplus, whereby U.S. deficits have fallen and the Euro zone has moved from a 100 billion dollars deficit to a 300 billion dollars surplus.

As tapering comes to an end and the U.S. Federal Reserve stops buying further assets, the attention will be turned to the question of exit, normalisation and the expectations of increased instability of financial markets for both the United States and the emerging economies.

This exit will also create fiscal problems for the United States because, as bonds held by the Federal Reserve mature and quantitative easing ends, long-term interest rates will rise and the fiscal benefits of the ultra-easy monetary policy would be reversed.

Developing countries lost steam as recovery in advanced economies remained weak or absent due to the fading effect of counter-cyclical policies and the narrowing of policy space. China could not keep on investing and doing the same thing. Another factor contributing to the change of context in developing countries has been the weakened capital inflows that became highly unstable with the deepening of the Euro zone crisis and then Federal Reserve tapering. Several emerging economies have been under stress as markets are pricing-in normalisation of monetary policy even before it has started.

The external financial vulnerability of the South is linked to developing countries’ integration in global financial markets and the significant liberalisation of external finance and capital accounts in these countries. These include opening up securities markets, private borrowing abroad, resident outflows, and opening up to foreign banks. While developing countries did not manage capital flows adequately, the IMF did not provide support in this area, tolerating capital controls only as a last resort and on a temporary basis.

Several deficit developing countries with asset, credit and spending bubbles are particularly vulnerable.  Countries with strong foreign reserves and current account positions would not be insulated from shocks, as seen after the Lehman crisis. When a country is integrated in the international financial system, it will feel the shock one way or another, although those countries with deficits remain more vulnerable.

In regard to policy responses in the case of a renewed turmoil, it is convenient to avoid business-as-usual, including using reserves and borrowing from the IMF or advanced economies to finance large outflows. The IMF lends, not to revive the economy but to keep stable the debt levels and avoid default. It is also inconvenient to adjust through retrenching and austerity.

Ways should be found to bail-in foreign investors and lenders, and use exchange controls and temporary debt standstills. In this sense, the IMF should support such approaches through lending into arrears.

More importantly, the U.S. Federal Reserve is responsible for the emergence of this situation and should take on its responsibility and act as a lender of last resort to emerging economies, through swaps or buying bonds as and when needed. These are not necessarily more toxic than the bonds issued at the time of subprime crisis. The United States has much at stake in the stability of emerging economies. (END/IPS COLUMNIST SERVICE)

*   A longer version of this column has been published in the South Centre Bulletin (No. 80, 30 June 2014).

Excerpt:

By Martin Khor
GENEVA, Mar 6 2014 (IPS)

Several developing countries are now being engulfed in new economic crises as their currency and stock markets are experiencing sharp falls, and the end is not yet in sight.

The “sell-off” in emerging economies has also spilled over to the American and European stock markets, thus causing global turmoil.

Countries whose currencies were affected in the second half of January  include Argentina, Turkey, South Africa, Russia, Brazil and Chile.

A hike in interest rates by Turkey and South Africa has so far failed to stem the depreciation of their currencies.

An America market analyst termed it an “emerging market flu” and several global media reports tend to focus on weaknesses in individual developing countries.

However, the broad sell-off is a general response to the “tapering” of purchase of bonds by the U.S. Federal Reserve, which marks the slowdown of its easy-money policy that has been pumping many hundreds of billions of dollars into the banking system.

On Jan. 29, the Federal Reserve reduced its monthly asset purchase by another 10 billion dollars to 65 billion dollars, following the 10 billion reduction in December. It gave a new boost to the weakening of emerging market currencies.

A lot of the Federal Reserve money pumping had earlier been taken up by American investors and placed in emerging economies as they searched for higher yield.

With the tapering expected to raise yields in the U.S., money is flowing out from bonds and stocks in the emerging economies, putting pressure on their currencies. The capital flows have reversed direction.

The current “emerging markets sell-off” thus cannot be explained by ad hoc events. It is a predictable and even inevitable part of a boom-bust cycle in capital flows to and from the developing countries, which originates from the monetary policies of developed countries and the behaviour of their investment funds.

This cycle, which has been very destabilising to the developing economies, has been facilitated by the deregulation of financial markets and the liberalisation of capital flows which in the past had been carefully regulated.

This prompted massive and increasing bouts of speculative international flows by Western investment funds, motivated by the search for higher yields. Emerging economies, having higher economic growth and interest rates, attracted the investors.

Yilmaz Akyuz, chief economist at South Centre, analysed the most recent boom-bust cycles in his paper Waving or Drowning?

A boom of private capital flows to developing countries began in the early years of the 2000s  but came to an end with the flight to safety triggered by the Lehman collapse in September 2008. However, the flows recovered quickly. By 2010-12, net flows to Asia and Latin America exceeded the peaks reached before the crisis.

This recovery was largely caused by the easy-money policies and near zero interest rates in the U.S. and Europe.

In the U.S., the Federal Reserve pumped 85 billion dollars a month into the banking system by buying bonds. It was hoped the banks would lend this to businesses to generate recovery, but in fact investors placed much of the funds in the Western stock markets and in bonds and shares in developing countries.

The surge in capital inflows led to a strong recovery in currency, equity and bond markets of major developing countries. Some of these countries welcomed the new capital inflows and the boom in asset prices.

But others were upset that the inflows caused their currencies to appreciate (thus making their exports less competitive) and that the ultra-easy monetary policies of developed countries were part of a “currency war” to make the latter more competitive.

In 2013, the capital inflows into developing countries weakened due to the European crisis and the prospect of the Federal Reserve “tapering”.

This weakening took place at a bad time – just as many of the emerging economies saw their current account deficits widen. Thus, their need for foreign capital increased just as inflows became weaker and unstable.

In May-June 2013 there was a preview of the current sell-off when the Federal Reserve announced it could soon start “tapering”. This led to sudden sharp currency falls including in India and Indonesia.

However, the Federal Reserve  postponed the taper, but in December it finally announced  a reduction of its monthly bond purchase from 85 to 75 billion dollars, with more to come.

There was then no sudden sell off in emerging economies, as the markets had already anticipated it and the Federal Reserve also announced that interest rates would be kept at current low levels until the end of 2015.

By now, however, the investment mood had already turned against the emerging economies. Many of them were now termed “fragile”, especially those with current account deficits and dependent on capital inflows.

Many of the so-called fragile countries are in fact members of the BRICS (Brazil, Russia, India, China and South Africa) that had been viewed just a few years before as the most powerful emerging economies driving global growth.

In this atmosphere of deepening concerns, it just required a “trigger” to cause a simultaneous sell-off in currencies and markets of developing countries.

Several factors were to emerge which together constituted a trigger. These were a “flash” report indicating contraction of manufacturing in China; the sudden fall in the Argentinian peso; and expectations of further tapering by the Federal Reserve.

For two days (Jan. 23 and 24) the currencies and stock markets of several developing countries were in turmoil, which spilled over to the U.S. and European stock markets.

The turmoil continued into the following week, seeming to confirm investor disenchantment with emerging economies, and a reversal of capital flows.

The depreciation in currency and the capital outflows could put strains on the affected countries’ foreign reserves and weaken their balance of payments.

The accompanying fall in currency would have positive effects on export competitiveness, but negative impacts in accelerating inflation (as import prices go up) and debt servicing (as more local currency is needed to repay the same amount of debt denominated in foreign currencies).

Excerpt:

By Yilmaz Akyüz
GENEVA, Mar 1 2014 (IPS)

Before the world economy has been able to fully recover from the crisis that began more than five years ago, there is a widespread fear that we may be poised for yet another crisis, this time in emerging economies.

The signs of external financial fragility in several emerging economies have been visible since the beginning of the financial crisis in the U.S. and Europe. The South Centre has constantly warned that the boom in capital flows that had started in the first half of the 2000s and continued even after the Lehman bank collapse is generating serious imbalances in the developing world along with the danger of a sudden stop and reversal.

Policy choices in advanced economies, notably in the U.S. as the issuer of the main reserve currency, in response to the crisis are key to understanding what is going on. Reluctance to remove the debt overhang caused by the financial crisis through timely, orderly and comprehensive restructuring, and an abrupt turn to fiscal austerity after an initial expansion, has meant an excessive reliance on monetary means to fight the Great Recession, with central banks entering uncharted policy waters, including zero-bound policy interest rates and the acquisition of long-term public and private bonds (quantitative easing).

This ultra-easy monetary policy has not been very effective in reducing the debt overhang or stimulating spending. It has, however, generated financial fragility, at home and abroad, notably in emerging economies.

In several emerging economies, policies pursued in recent years have no doubt made a significant contribution to the build-up of external vulnerability. Many commodity-dependent economies have failed to manage the twin booms in commodity prices and capital flows that started in the early years of the millennium and continued until recently, after a brief interruption in 2008-09.

These countries, and several others, have stood passively by as their industries have been undermined by the foreign exchange bonanza, choosing, instead, to ride a consumption boom driven by short-term financial inflows and foreign borrowing by their private sectors and allowing their currencies to appreciate and external deficits to mount. Hastily erected walls against destabilizing inflows have been too little and too late.

The International Monetary Fund (IMF), the organization responsible for safeguarding international monetary and financial stability, has also failed to promote judicious policies not only in major advanced economies, but also in the South. It has been unable to correctly identify the forces driving expansion in emerging economics and joined, until its recent U-turns, the hype about the “Rise of the South”, arguing that major emerging economies are largely decoupled from the economic vagaries of the North and have become new engines of growth, thereby underestimating their vulnerability to shifts in policies and conditions in the North, notably the U.S.

Even when it became clear that capital inflows posed a serious threat to macroeconomic and financial stability in these economies, its advice was to avoid capital controls to the extent possible and introduce them only as a last resort and on a temporary basis.

Policy response to a deepening of the financial turbulence in the South and tightened balance of payments should be similar in many respects to that recommended by the South Centre in the early days of the Great Recession. The principal objective should be to safeguard income and employment. Developing countries should not be denied the right to use legitimate trade measures to rationalize imports through selective restrictions in order to allocate scarce foreign exchange to areas most needed, particularly for the import of intermediate and investment goods and food.

Emerging economies should also avoid using their reserves to finance large and persistent capital outflows. Experience suggests that when global financial conditions are tightening, countries with large external debt and deficits find it extremely difficult to restore “confidence” and regain macroeconomic control simply by allowing their currencies to freely float and/or hiking interest rates. Nor should they rely on borrowing from official sources to maintain an open capital account and to remain current on their obligations to foreign creditors and investors.

They should, instead, seek to involve private lenders and investors in the resolution of balance-of-payments and debt crises and this may call for, inter alia, exchange restrictions and temporary debt standstills. These measures should be supported by the IMF, where necessary, through lending into arrears.

The IMF currently lacks the resources to effectively address any sharp contraction in international liquidity resulting from a shift to monetary tightening in the U.S. A very large special drawing rights (SDR) allocation, to be made available to countries according to needs rather than quotas, would help. (SDR is a weighted currency basket of major currencies defined by the IMF).

But a greater responsibility falls on central banks in advanced economies, notably the U.S. Federal Reserve, which can and should – as the originators of destabilizing impulses that now threaten the South – act as a quasi-international lender of last resort to emerging economies facing severe liquidity problems through swaps or outright purchase of their sovereign bonds.

The Federal Reserve could buy internationally issued bonds of these economies to shore up their prices and local bonds to provide liquidity; and there is no reason why other major central banks should not join this undertaking.

The extent to which these tools – exchange restrictions and temporary debt standstills, IMF lending into arrears, a sizeable SDR allocation and provision of market support and liquidity by major central banks – should be used would depend on the specific circumstances of individual emerging economies.

The world is facing bleak prospects largely because the systemic shortcomings in the global economic and financial architecture that gave rise to the most serious post-war crisis remain unabated.

The Outcome Document of the 2009 UN Conference on the “World Financial Crisis and Economic Crisis and Its Impact on Development” had clearly recognized that “longstanding systemic fragilities and imbalances” were among the principal causes of the crisis and proposed “to reform and strengthen international financial system and architecture” so as to reduce the likelihood of the occurrence of such crises.

It pointed to many areas where systemic reforms are needed including regulation of “major financial centres, international capital flows, and financial markets”, the international reserves system including the role of the SDR, the international approach to the debt problems of developing countries, and the mandates, policies and governance of international financial institutions. So far the international community has failed to address any of these issues in a significant way. They need to be put back on the agenda if recurrent financial crises with severe international repercussions are to be averted.

Excerpt:

By Yilmaz Akyüz
GENEVA, Oct 22 2013 (Columnist Service)

Five years into the crisis, growth in the U.S. is still below potential, Europe is struggling to pull out of recession and major emerging economies are slowing rapidly after an initial resilience during 2010-2011.

Longer-term prospects are not much brighter largely because the key problems that gave rise to the most serious post-war crisis – income inequalities, external imbalances and financial fragilities – remain unabated and have indeed been aggravated.

The world economy suffers from an under-consumption bias because of low and declining share of wages in the gross domestic product (GDP) in all major advanced economies including the U.S., Germany and Japan, as well as China.

Yilmaz Akyuz

Still, until 2008-2009 the threat of global deflation was avoided thanks to consumption binges and property booms driven by credit and asset bubbles, particularly in the U.S. and the European periphery.

The crisis has not removed but reallocated global trade imbalances.

Longer-term global prospects depend a lot on the U.S. due to its central position in the world economy and the international reserves system. It is highly unlikely that the U.S. can move to wage-led growth in the near future.

Nor can it shift to export-led growth. This would require, inter alia, exports to grow faster than domestic demand and the share of private consumption in GDP to fall. This is difficult to achieve since for several decades the U.S. has constantly lived beyond its means thanks to its “exorbitant privilege” as the issuer of the central reserve currency.

Thus, a key question is if the U.S. would be inclined to go back to “business as usual” and allow credit and asset bubbles in search of relatively rapid growth. This is closely connected to its exit from the ultra-expansive monetary policy.

Clearly, exit implies not just increased policy interest rates but also the normalisation of monetary policy – the federal funds rate to become again the main instrument of policy, a significant contraction in the size of the balance of the Federal Reserve (Fed) sheet and the volume of excess reserves that depository institutions hold at the Fed, and a large shift of the Fed’s asset composition back to short- and medium-term Treasuries.

A strategy that the Fed should gradually exit from the quantitative easing (QE) 3 but maintain low policy rates for several more years in order to support growth and use macro-prudential regulations to limit systemic risks appears to be enjoying considerable support.

However, it may not be easy to engineer such a process without jeopardising financial and macroeconomic stability. Uncertainty abounds because there are not many historical precedents for exit from extended periods of zero-bound interest rates and QE.

Even a gradual return of the Fed balance sheet to “normal” size and composition may result in a considerable hike in long-term rates even if policy rates are kept low for an extended period. The prospects for exit from the QE3 in the coming months have already pushed up the yield on the U.S. 10-year Treasury bond to almost 3 percent in August 2013 from around 1.60 percent in May.

If concerns about financial instability and the effectiveness of macro-prudential measures come to dominate, the Fed may be obliged to exit rapidly. This would result in a hike in short- and long-term interest rates and give a major shock to the financial system as in 1994.

It would result in slower growth and a stronger dollar. Too rapid an exit and re-pricing of substantially increased stock of debt could even cause a hard landing in the U.S. by leading to large losses for bondholders and depressing private spending.

These dilemmas arise in large part because of excessive reliance on monetary policy to combat recession and the reluctance to use fiscal expansion and debt restructuring to stimulate aggregate demand.

The normalisation of monetary policy in the U.S. will also cause problems for emerging economies. Despite occasional complaints about the “currency war” entailed by liquidity expansion in several major advanced economies simultaneously, the policy of ultra-easy money has generally been benign for emerging economies.

It has been a major factor in the sharp recovery of capital inflows after the sudden stop caused by the Lehman Bank collapse in September 2008.

Many major emerging economies such as India, Brazil, South Africa and Turkey have come to depend on such inflows as their current accounts started to deteriorate. They have invariably welcomed the asset bubbles that such inflows have helped generate and often ignored the financial fragilities caused by increased exposure to interest rate and exchange rate risks by private borrowers abroad.

Such exposures are on the rise since the beginning of 2012. As funds have started to be withdrawn from domestic securities markets, emerging economies have increasingly relied on international debt contracted in reserve currencies, which reached, in net amounts, 600 billion dollars between the beginning of 2012 and mid-2013.

As the Fed has got closer to ending the QE3 and the long-term U.S. rates have edged up, strong downward pressures have started to build up on the currencies, stocks and bonds of several emerging economies such as Brazil, India, South Africa and Turkey, which were widely seen as rising stars only a couple of years ago.

And the longer-term prospects of the eurozone are even less encouraging than the situation in the U.S. Deleveraging and recovery are likely to remain extremely slow in the periphery and many countries cannot expect to recuperate the output losses incurred after 2008 for several years to come.
(END/COPYRIGHT IPS)

Excerpt:

More than 130 scholars, former government officials and policymakers are calling on the U.S. Congress to enact pending legislation enabling broad governance reforms within the International Monetary Fund (IMF) that would strengthen the voice of developing countries within the institution.

A new open letter, sent Monday to both houses of Congress, comes as President Barack Obama’s administration has formally requested approval to affirm the reforms. Although officials at the IMF’s Washington headquarters agreed on the changes in 2010, the effort has since been stymied by lack of action from the United States, the Fund’s most powerful member.The legitimacy of the Fund overall is probably the most poignant and relevant issue at stake in this reforms process.

Ironically, it was the United States, together with rising “middle income” economies, that spearheaded the push for a re-allotment of IMF “quotas”, or voting rights based on economic shares, in the first place. Due to Washington’s inability to greenlight the new changes, the process has already blown two deadlines.

“Realignment of IMF quota shares, while preserving U.S. influence in the IMF, will enable the IMF to respond to shifts in the global economy, involving emerging powers more deeply in the institution and avoiding their disengagement,” the open letter, obtained by IPS, states.

“Congressional enactment … will sustain U.S. leadership in global financial matters. Failure to act would diminish the role of the United States in international economic policy-making and undermine U.S. efforts to promote growth and financial stability.”

Those taking part in the new letter include former officials from previous presidential administrations, Washington think tanks, universities, and activist and watchdog organisations.

Last week, a similar letter was sent by 19 former high-ranking U.S. officials, including former World Bank presidents (Robert Zoellick and James Wolfensohn), Treasury secretaries (Henry Paulson, John Snow, Lawrence Summers), foreign policy luminaries (Zbigniew Brzezinski, William Cohen) and others.

Although the president has been delegated the power to oversee U.S. dealings with multilateral lending institutions, Congress still needs to approve any related actions. While President Obama’s administration continues to support the IMF governance changes, it put off broaching the subject until after the presidential elections in November.

Last week, reports arose that the U.S. Treasury, the administration’s lead department on dealing with international financial institutions, had finally proposed a legislative provision that would formally allow the president to approve the reforms. Given that the changes would also double the size of the IMF’s holdings to around 720 billion dollars, the new legislation would also allow for a re-allocation of previously approved U.S. support for the Fund.

This last point is important, as the administration would be able to transfer some 65 billion dollars from an emergency IMF fund into the U.S. quota – maintaining its predominance without allocating any extra money (the United States’ overall commitment to the IMF is around 100 billion dollars). That would be quite a feat in the current economic climate of austerity, with some Republicans opposing giving any new money to the Fund.

“The United States is committed to implementing the 2010 quota and governance reform,” a Treasury spokesperson told IPS. “We are actively working with Congress to get quota legislation completed as soon as possible. As the only country with a veto, implementing the quota reform will enable the U.S. to preserve its leadership in the IMF without any new financial commitments.”

Indeed, while the quota changes would significantly increase the currently underweighted influence of fast-rising economies such as Brazil, China, India and Turkey, it would not do so by cutting down on the United States’ nearly 17 percent voting share within the Fund.

Rather, it would decrease the cumulative share of European members, which nearly all observers say is currently outsized in terms of gross domestic products. The Netherlands and Spain, for instance, both have voting shares similar in size to Brazil’s, despite the fact that the Spanish economy is less than two-thirds the size of the Brazilian.

Pending legitimacy

The hold-up in reforms passage is widely seen, including by many signatories of the new letter, as a potential loss of legitimacy both for the IMF and for the United States’ longstanding control of the organisation. Increasingly frustrated “middle income” countries, for instance, are already in discussions on how to create parallel multilateral lending institutions outside of the IMF – in which their voices would be far more influential.

“The United States took the initiative on these reforms in order to sustain U.S. leadership in the IMF, and many now feel that Washington needs to see through those commitments – U.S. leadership will weaken if doesn’t pass these reforms,” Nathan Coplin, a coordinator with New Rules for Global Finance, a Washington watchdog, and an organiser of the new letter, told IPS.

“The legitimacy of the Fund overall is probably the most poignant and relevant issue at stake in this reforms process. The next few years will really tell whether the stakeholders will become a lot more engaged and help to set new standards. Beyond lending, the Fund can also start to define a different kind of leadership role.”

Still, for many who have been pushing for changes to the IMF’s functioning, the most important aspect of this governance tweaking is that it would open the door to further modifications.

“We actually feel that these reforms are not comprehensive enough, but the Fund also won’t be able to push forward with any new reforms until these go through,” Coplin says. Indeed, another round of changes is already due by January.

“The quota reforms of 2010 are steps, baby steps, in the right direction for better IMF governance,” Eric LeCompte, executive director of Jubilee USA Network, a Washington-based alliance working on debt reduction for developing countries, told IPS. “The IMF has a long road to walk before it is as inclusive as the United Nations, but these reforms point in the right direction.”

The new U.S. legislation has already run into trouble, however. Members of Congress are currently at work on a major finance bill that needs to pass before Mar. 27, in which the Treasury’s proposal could be inserted.

Yet Republicans in the House of Representatives – many of whom, in 2010, tried to end U.S. contributions to the IMF – have refused to include the provision. It now remains to be seen whether the Democratic-controlled Senate will include the IMF language in its version, which observers say would significantly increase the proposal’s chance of passage this month.

If the provision is not included in the end-March legislation, the reforms process could again be forced into limbo for several additional months.

Unless leaders act promptly, climate change and environmental degradation will only worsen and cause greater global damage, scientists warn. Credit: Crustmania/ CC by 2.0

By Stephen Leahy
UXBRIDGE, Canada, Jan 15 2013 (IPS)

A majority of major economies have made significant progress in addressing climate change, with countries like South Korea and China taking aggressive action so they can benefit from energy- and resource-efficient economies, a new report released Monday found.

The study by GLOBE International and Grantham Research Institute profiled 33 major economies in an annual examination of climate and energy legislation. 32 of them, including the United States, made significant progress in 2012, while only Canada regressed.

“The study reveals a major trend is underway. More and more countries are acting on climate,” said Adam Matthews, secretary general of GLOBE International, an organisation of legislators.

While major international climate conferences such as the Conference of the Parties (COP) held in Doha in November and December 2012 have made little progress, cities, states and national governments around the world are taking action.

The political reality, Matthews told IPS, is that local and national climate regulations and legislation must come first. “An environment minister in Doha couldn’t commit his country to an ambitious carbon reduction target unless the country has already decided to chart a new economic course,” he said.

Christiana Figueres, executive secretary of the United Nations Framework Convention on Climate Change, agreed with Matthews’ analysis. Countries do not have the “political space” to move at the international level unless they have already moved at the domestic level, she said in a statement.

“Domestic legislation is critical because it is the linchpin between action on the ground and…international agreement,” she said.

Wide-ranging discussion at local, regional and national levels will be needed before countries can draft and pass legislation that will actually shift their economies onto a low-carbon pathway.

In many parts of the world, these discussions are already taking place, with the study reporting significant progress in this area by 18 of 33 countries in 2012. South Korea and China are among the 18 countries along with emerging economies such as Mexico and Indonesia.

“What’s happening in South Korea is really impressive. They are striving to be the leader in the shift to a low-carbon economy,” Matthews said.

In 2012, South Korea passed legislation to begin emissions trading in 2015, while Japan introduced a carbon tax. Mexico passed The General Law on Climate Change to reduce its emissions by 30 percent by 2020. Bangladesh passed the Sustainable and Renewable Energy Development Authority Act. Kenya developed its Climate Change National Action Plan.

China has begun to draft its national climate change law, and local legislation was passed in the city of Shenzhen to manage greenhouse gas emissions.

China doesn’t get nearly the credit it deserves for its efforts to reduce carbon emissions, Matthews said. “Careers are being made there on making those reductions,” he added.

The United States made some progress with a regulation change that allowed the Environmental Protection Agency to regulate carbon emissions. Although the fossil fuel industry appealed, courts upheld the decision in late December.

Canada was the only country to reverse course by abandoning its climate obligations under the Kyoto Protocol. “Canada has clearly gone backwards. It is a great shame,” Matthews said.

Countries that take action on climate change understand that their national and local economies will benefit from improved energy efficiency and security, reduced costs and increased competitiveness, said Terry Townshend, co-author of the report.

“There is a major shift in the dynamic around climate. Countries are now seeing great opportunities for their national interests by taking action now,” Townshend said in an interview.

National climate-related legislation has surged in the past three or four years. Although these laws aren’t always designated as climate legislation and instead are measures to improve energy use or reduce air pollution, they do have positive impacts on the climate, Townshend said.

At the last U.N. climate conference in Doha, nations confirmed details for a new negotiation process with the goal of a new global climate treaty ready for ratification in 2015 and entering into force in 2020. If a new international climate treaty is to be ready by 2015, many countries will need to have national legislation in place or pending, Townshend added.

But this upcoming timetable may not take action soon enough. Climate scientists have warned that global carbon emissions must begin to decline before 2020 in order for a two-degree (Celsius) limit on climate heating to remain a reasonable possibility. Many countries, especially the least-developed ones and small island states, want the global target to be less than 1.5 degrees Celsius.

National legislation has a long way to go in order to keep a global temperature rise below two degrees Celsius, Townshend said. In order to help countries, the first GLOBE Climate Legislation Summit is being held this week in London, where senior legislators from 33 countries are meeting to share their experiences of putting domestic climate legislation into place.

“There’s a lot of experience, sample legislation and lessons learned to be shared,” he said. Between now and the end of 2015, GLOBE International hopes to facilitate more bilateral and multilateral meetings in order to help more countries become involved with domestic climate legislation.

“There is an awful lot of work to do, but this is a very positive development,” said Townsend.