Transcript EF310: International Trade and Business

EF310: International Trade
and Business
Lecture 10
The financial crisis… globalized
impacts… emerging economies
feel the strain
Cost of the crash
•
Bank of England estimate this week…
$2,800,000,000,000
(that’s $2.8 trillion dollars)
How much is that?...
- three times the sum of UK annual public spending
- equivalent to the wealth of 100 Oleg Deripaskas (pre-credit crunch that is!)
- 773 billion lattes (13,000 each for every UK citizen)
See: http://www.guardian.co.uk/business/2008/oct/28/economics-credit-crunchbank-england (Guardian article on the estimated cost of the crash)
Where have losses been felt?
• Banks writing off bad debts (mortgage and other loan
defaults etc.)
• Falling asset prices… property prices and stock markets
in particular…
S&P 500… past 12 months
FTSE 100… past 12 months
ISEQ… past 12 months
Property Prices…
Ireland:
The average Irish house price peaked at €311,100 in January/
February 2007; September 2008 it was at €267,594, down €43,500
or -14%! (Permanent-tsb Average House Price in Ireland)
UK:
The UK (Nationwide) index peaked at 372.5 in October 2007; August
2008 it was 329.5. Peak to trough the price is down €29,500, or
-11.5%
US:
Peak was in July ’06… prices have since fallen 20.3% on average
(Case-Shiller Home Price Index)
Origins of the crisis
•
•
•
In the ‘developed world’
US sub-prime crisis as the trigger…
But origins go back much further: (v simple analysis)…
- low world interest rates over a number of years (particularly in US
and EU)… WHY???
1) ‘global savings glut’  supply of savings
2) Interest rate cuts… (why?)
- ‘cheap’ money  asset speculation
- low return on investments… search for higher yields  more risk
taking
- under-pricing of risk and warped incentives for
investors/investment managers… some simply didn’t understand
what they were investing in!
Emerging markets…
• Origins may have been in the ‘developed world’, but the
consequences are now spreading to all areas, and
emerging markets are taking a battering…
• Asian stock markets have tumbled
• Eastern European economies in trouble
• Small and/or emerging economies particularly
vulnerable… why?
• Look at collapse in Iceland’s economy and currency…
• Similar threats being faced by several others… Ukraine,
Hungary, Turkey all now seeking IMF assistance
• (IMF seen as lender of last resort, certain stigma
attached to IMF assistance… Ireland was facing IMF
bailout in 1980s!)
Why are some emerging economies
seeking loans from the IMF?
• Economies suffering from global slowdown
• Liquidity/credit has dried up
• Fears about stability of financial system, and prospect of
a global recession sending markets into a spin…
• Look at Iceland - collapse of financial markets and
currency
• Why?
• investors got spooked and started pulling out of Iceland selling off shares, liquidating positions, currency came
‘under attack’ - short selling…
• Exacerbated by over-dependence on banking/financial
sector…
Why are some emerging economies
seeking loans from the IMF?
• Smaller/emerging economies are more vulnerable to such
‘attacks’… was particularly easy to speculate against the
Icelandic Krona because of high level of financial
transactions based in Iceland - deep market
• Many emerging economies have been running big current
a/c deficits… why?
- financial flows view: big inflows of foreign capital (looking for higher
returns in rapidly expanding markets)
- --> surplus on the financial account
- --> deficit on the current a/c (these must balance)
- --> ‘big’ defined as > 5% of GDP (remember America’s current a/c
deficit running at about 7% of GDP)
Why are some emerging economies
seeking loans from the IMF?
– Global recession --> exports fall
– Net imports of capital faltering (credit crisis, uncertainty and lack of
confidence)
– --> increasingly difficult to fund the current a/c deficit
– Failure to balance the Balance of Payments (current and financial
accounts) essentially means a country is bankrupt!
– Many emerging economies now in desperate need of finance to
repay external debt… built up through running a current a/c deficit,
but also in many cases through public and private debt
accumulation… Western banks had “piled in” to ‘promising’
emerging markets as a new business opportunity - lending lots of
cheap money - now some of those loans are being ‘called in’…
Why are some emerging economies
seeking loans from the IMF?
• Currency impacts:
• As investors flee in search of ‘safety’, this drains capital
out of the economy… currency collapse (demand for the
currency collapses)… speculative attacks… relatively
small economy is helpless
– Speculation may have big impact on currency
(speculators powerful relative to the currency/economy)
– Where running current a/c deficit… no foreign reserves
to ‘defend’ the currency
Eastern European economies in trouble…
• Ukraine
• Hungary
• Baltics
• Turkey
• Russia
Eastern European economies in trouble…
• Ukraine:
- stock market has crashed by 80% this year
- economic growth plunging
- currency (hryvnia) at 7-year low against the
dollar (-16% this year)
- inflation running at 25%! (why?)
- $14 billion emergency loan from IMF to pay
interest on external debts and to fund current a/c
deficit
Eastern European economies in trouble…
• Hungary
- markets have lost about 70% of value this year
- currency has lost 23% against dollar in 12
months
- high public debt: over 60% of GDP
- running big current a/c deficit: $6.7billion or 5.5%
of GDP --> high ‘external financing requirement’
- also seeking IMF assistance
The Baltics
• Latvia, Lithuania and Estonia
• Remarkable property booms, esp in Latvia and
Estonia… financed by cheap credit from abroad (from
Swedish banks in particular)
• Running big current a/c deficits… Latvia 26% of GDP in
2007
• Gross external financing requirements (needed to pay
back interest on foreign debt and cover the current a/c
deficit)… as a % of foreign exchange reserves:
- Latvia 400%
- Estonia 350%
- Lithuania 250%
• Turkey:
- 6th biggest economy in Europe
- markets have fallen 60% in 12 months
- currency down 40% vs $
- high public debt (40% of GDP)
- current a/c deficit 6.4% of GDP
- seeking IMF assistance for second time
in a decade
Russia
• Has been running a big current a/c surplus ($156 billion
in 2007) thanks to high oil and gas prices… Russia is a
big commodity supplier to ROW
• Russian stockmarkets have plunged by over 70% in 12
months…
• Oligarchs becoming ‘mini-garchs’?!
• High private debt - banks and companies have
accumulated $460 billion in external debt
• But Russia will not need to beg for cash from the
outside… foreign exchange reserves of over $500 billion
• In the past week, Russia’s central bank spent $13 billion
‘defending’ the rouble against the $
China
• Growth had slowed (to 9% in Q3 this year) as exports
have fallen due to global slowdown
• As elsewhere, markets have taken a hammering…
• But China is a major net creditor vs ROW (no external
debt)… has been running big current a/c surpluses
• China benefiting from falling commodity prices (fuel prices
in particular)
• Could this explain recent strengthening of the Yuan?
• Estimated that China requires growth of 7%+ to prevent
social unrest!
USA
• $ strengthening - why?…
• Gov budget deficit this year
- officially estimated at $455 billion (3.2% of GDP)
- tax revenue shrinking (as in Ireland!)
- $700 billion bailout of banks and mortgage lenders
- fiscal stimulus: Democrats suggesting another $61 billion, Obama
proposing $190 billion over two years
- $700 billion TARP (costs only where pay above market value for
assets)
- The Economist estimates budget deficit could be as much as $1
trillion this fiscal year
- but even fiscal hawks admit SR deficit is worth it to avoid repeat of
1930s
Other readings…
• The Guardian: ‘From the Baltics to Turkey,
fears grow of a domino effect of struggling
nations’
http://www.guardian.co.uk/business/2008/
oct/28/creditcrunch-globaleconomy1
Other readings…
The Economist: “A Taxonomy of trouble…” article on emerging markets
http://www.economist.com/finance/displaystory.cfm?story_id=12481004
“Who’s next?” … briefing on Eastern European economies
http://www.economist.com/world/europe/displaystory.cfm?story_id=124
65279
Also look at www.economist.com for lots of readings on financial crisis
etc.