Transcript Slide 1

CBBH and SESOX high level seminar
South East Europe in an Environment of
Volatile Capital Flows
Amir Hadžiomeragić
Sarajevo, 6 June 2014
Capital flows to emerging markets:
„Master or servant?“„Benefactor or menace?“
 Unprecedented volume of capital flows to emerging countries in the
last 20 years
 Very intensive discussion on impact of capital flows and capital
account liberalization
 Two strands of opinions on benefits of removing capital barriers and
enabling free capital movement
 how to measure direct and indirect benefits and contribution to growth?

 ...And very uniform view about threats and possible negative aspects
of capital inflows
 Negative impact of capital inflows can be classified into three major
categories
 Macroeconomic imbalances
 Financial stability problems
 „Sudden stop“ or reversals
Macroeconomic imbalances:
 Excessive expansion of aggregate demand („overheating“) resulting
with boom-bust growth
 Exchange rate misalignment – real appreciation and loss of
international competetivness
 Widening current account
 Increase in asset prices („bubbles“)
 Inflationary pressure
 Loss of monetary control
Financial stability problems
from cross-border banking flows
 Very rapid credit expansion
 Underestimation of the build-up in credit risk
 Deterioration of loan portfolio quality
 Sharp slowdown or reversal in bank-intermediated capital flows
 Risk of financial contagion from other economies and regions
Macroeconomic performance and capital flows
2006
2007
2008
2009
2010
2011
2012
Total Capital Flows
(net, in % GDP)
Official/gov‘t
11%
(0%)
13%
(0,3%)
11%
(0,6%)
4%
(3,0%)
5%
(2%)
8%
(2%)
7%
(3%)
Real growth
5.7%
6.0%
5.6%
-2.7%
0.8%
1.0%
-1.2%
Current account
-7.4% -10.2% -15.9% -6.5% -6.1% -9.7% -9.2%
deficit (in % GDP)
- Sustainability of growth – prior to crises it was not
questioned, but...
- Real growth very much dependant on net capital flows
- External disbalances also fueled with capital flows
Credit growth dependant on foreign capital
flows in banking sector
35%
1,500.0
30%
29%
1,000.0
25%
20%
22%
22%
500.0
15%
0.0
10%
-500.0
5%
4%
5%
4%
3%
0%
-5%
2006
2007
2008
-3%
2009
2010
Capital flows (mil KM)
2011
2012
Credit growth
2013
-1,000.0
-1,500.0
Managing of capital flows for small open
(transition) economy
 Very difficult challenge („living in bathtube next to the ocean“)
 Repeated episodes of large inflows and subsequent crises
 Increased demand for capital inflows due to disbalance between
investment and saving ratios
 Global conditions are key factor driving capital inflows
 increased liquidity (lower global interest rates)
 risk appetite by investor, but also...
 Country-specific factors also play important role for the EU accession
countries,
 lower risk premia associated with macroeconomic stabilization,
 EU-related structural reforms
Managing of capital flows for small open
(transition) economy
 recipient economy has got very limited capacities to control and
influence capital flows
 Mixed results with capital controls
 EU accession dictates capital account liberalization
 a need to have prudent economic policies in order to reap benefits
from capital inflows and mitigate related risks
What makes economies more resilient to a
surge in capital inflows?
 WEO (2013) concluded that more resiliant economies have:




more flexible exchange rate
lower government spending (counter-cyclical fiscal policy)
inflation targeting (lower inflation)
significantly better economic institutions
Counter-cyclical fiscal policy (Fiscal restraint) is
not very likely
 „When it rains, it pours" (Kaminsky et al.2004)
 Study on procyclicality and economic policies
 instead offsetting capital inflows, government often contribute with
even higher expenditures in periods of economic growth and capital
inflows
Did we repeat the same mistakes? Procyclical
fiscal policy in Bosnia and Herzegovina during
capital surge
"good time"
"bad time"
2006-2008
2009-2011
average real
growth
average real
growth
Amplitude
Expenditure
10.65%
-0.85%
11.50%
Current expenditure minus interest payment
10.75%
-0.95%
11.71%
Expenditure on goods and services
8.24%
-8.16%
16.40%
Expenditure on wages and salaries
10.30%
1.43%
8.87%
Note: positive amplitude signals procyclicality
Conclusion
 How to reap benefits from capital flows and reduce related risk?
 Financial integration and economic globalization will continue
 Need to be very cautious about magnitude and structure of capital
flows to domestic economy
 Volatility is highly unpredictable and beyond of our control
 Sound macroeconomic policies and adequate prudential measures