Transcript Global Financial Crisis

GLOBAL ECONOMIC CRISIS AND
ITS IMPACT ON BANGLADESH
M A TASLIM
Bangladesh Foreign trade Institute
24th February 2009
Global Outlook
• Output in the advanced economies is expected
to contract by 2% in 2009 (first annual
contraction since WWII) with USA contracting by
1.6%, UK by 2.8%, Germany by 2.5%, Italy by
2.1% and France by 1.9%.
• Emerging economies growth will halve to 3.25%
• Both India and China will be hard hit
• World trade may contract by 2.8%
• Bangladesh may not escape the global slump in
demand
GDP Growth
19
97
19 M6
97
M
1
19 0
98
M
19 2
98
19 M6
98
M
1
19 0
99
M
19 2
99
19 M6
99
M
1
20 0
00
M
20 2
00
20 M6
00
M
1
20 0
01
M
20 2
01
20 M6
01
M
1
20 0
02
M
20 2
02
20 M6
02
M
1
20 0
03
M
20 2
03
20 M6
03
M
1
20 0
04
M
20 2
04
20 M6
04
M
1
20 0
05
M
20 2
05
20 M6
05
M
1
20 0
06
M
20 2
06
20 M6
06
M
1
20 0
07
M
20 2
07
20 M6
07
M
1
20 0
08
M
20 2
08
20 M6
08
M
10
Growth of manf output and exports
50
40
30
20
10
0
-10
-20
-30
-40
-50
Industrial production
Merchandise export value
Industrial output
Period
United
States
Canada
Japan
France
German
y
United
Kingdom
Italy
1998 ..............................
95.4
89.2
102.5
93.8
94.4
98.5
99.8
1999 ..............................
99.5
94.4
102.7
96
95.5
98.4
101.4
2000 ..............................
103.7
102.6
108.5
100
100.9
102.6
103.2
2001 ..............................
100.1
98.4
101.2
101.3
101.1
101.4
101.6
2002 ..............................
100
100
100
100
100
100
100
2003 ..............................
101.2
100.1
103
99.7
100.4
99.4
99.3
2004 ..............................
103.8
101.7
108
102
103.4
99.1
100.2
2005 ..............................
107.2
103.5
109.4
102.3
106.9
98.4
99.1
2006 ..............................
109.6
103.3
114.3
102.8
113.2
100.7
99.8
2007 ..............................
111.4
103.2
117.5
104.3
120.1
100.5
100.2
2008 p .............................
109.4
..............
113.6
..............
120.2
..............
97.2
2007: Nov r ...................
112.3
102.9
118.6
105
121.8
100
100.5
Dec r ...................
112.4
100
119.4
105.1
123
99.6
100.4
2008: Jan r ...................
112.6
100.6
118.7
105.4
123.7
100.7
100
Feb r ...................
112.3
100.1
120.6
105.7
123.8
100.4
100
Mar r ...................
112
98.8
116.5
104.4
123.7
100
99.7
Apr r ...................
111.4
99.5
116.3
105.6
124.4
100.7
99.7
May r ..................
111.2
99
119.6
102.4
121.9
98.7
98.7
June r .................
111.3
99.1
117
101.6
122.3
98.8
98.4
July r ..................
111.2
100.3
118.5
102.8
120.5
97.8
97.9
Aug r ...................
109.8
98.8
114.3
102.3
124.1
98.2
97.1
Underlying Causes of the current recession
• The genesis of the current recession lies
in the standard macro policies following
the tech bubble burst and the steep
decline in stock prices during 1999-00,
which took the US economy into a
recession
• The Fed responded by reducing the
interest rate sharply.
• The Fed fund rate fell from 6.24%in 2000
to only 1.13% in 2003 and 1.35% in 2004,
nearly 80% decline.
Interest Rates
Year
Prime rate of banks
Fed fund rate
1999
8.00
4.97
2000
9.23
6.24
2001
6.91
3.88
2002
4.67
1.67
2003
4.12
1.13
2004
4.34
1.35
2005
6.19
3.22
2006
7.96
4.97
2007
8.05
5.02
2008
5.09
1.92
2008 Nov
4.00
0.39
2009 Jan
3.25
0.15
2009 Feb
3.25
0.23
Underlying causes of the current recession
I
• Low interest rate raised asset prices, particularly
home prices. It made mortgage payments and
refinancing of current mortgages easier
increasing demand for housing. Supply
increased to meet growing demand.
• Falling interest rates encouraged many to opt for
adjustable rate mortgages (ARM)
• Between 1997 and 2006, American home prices
increased by 124%
• Historically, US home prices tracked inflation,
but during recent years home prices accelerated
sharply
Underlying causes of the current recession
• Banks and mortgage institutions aggressively marketed
home credit overlooking the risks.
• Subprime borrowers: borrowers who do not meet prime
underwriting guidelines
• Subprime loans increased alarmingly:
• The share of subprime mortgages to total originations
was 5% ($35 billion) in 1994, 9% in 1996,13% ($160
billion) in 1999, and 21% ($600 billion) in 2006
• The average difference in rates on mortgages of prime
and subprime borrowers declined from 2.8% in 2001 to
1.3% in 2007 suggesting a sharp decline in risk premium
Underlying causes of the current recession
• A little-understood type of derivative assets flooded the
financial market – mortgage backed securities and
collateralised debt obligations, which later proved to be
highly toxic
• Home mortgages were bundled and packaged by
financial institutions into the same securities regardless
of risks and sold to unsuspecting investors
• Foreign financial institutions also invested heavily in
these securities exposing themselves to the vagaries of
the US housing market
• The credit (default) risk that was traditionally retained by
the issuing banks/mortgage institutions was distributed
among ordinary investors
Underlying causes of the current recession
• Regulatory agencies and credit rating
organizations failed to inform the investors
about the risks,
• As long as the home prices were rising the
risks were not evident or simply ignored
• The situation started changing
dramatically when interest rates started
rising from 2005 under fear of rising
inflation.
Foreclosure
• Rising interest rates sharply increased
mortgage payments. Many borrowers,
especially the subprime borrowers, unable
and/or unwilling to pay, became delinquent
and faced foreclosure
• During 2007, 1.3 million homes were
subject to foreclosure, up 79% from 2006.
Housing bubble burst
• When finally the housing bubble burst (2005-06)
and home prices went on a free fall, the value of
MBS also fell and more importantly became
uncertain
• Institutions that had invested heavily in MBS
suddenly found their asset value shrinking
alarmingly
• Some had to take recourse to fire sell worsening
the situation
• Subprime related losses and write-downs by
financial institutions around the world exceeded
half a trillion dollars by August 2008 and rising.
Bankruptcies
• Many financial institutions did not survive
the fall out of the subprime crisis. They
were bought out by other institutions or the
government
• Famous names such as Northern Rock,
Bear Stearns, Fannie Mae and Freddie
Mac, Merrill Lynch, HBOS, Lehman
Brothers, AIG, WaMu were among the
early casualties
Bankruptcies
• Subprime mortgage defaults and foreclosures
has caused more than 100 subprime mortgage
lenders to fail or file for bankruptcy, including
New Century Financial Corporation, the second
biggest subprime lender of US.
• As a result prices in the $6.5 trillion mortgage
backed securities market collapsed with flow on
effects on other sectors.
Financial meltdown
• The losses and write-downs of financial institutions
reduced credit flow to the economy
• The fear of toxic assets made banks and financial
institutions unwilling to lend to one another
• Credit dried up
• Sound business firms also fell victim of the credit crunch
• The financial sector faced a meltdown that took the
economy on a downswing – the most severe since WWII
• Many regard this to be a far bigger global threat than
terrorism
Government bailout
• US government responded to the crisis by
passing the Emergency Economic Stabilization
Act of 2008 that authorised the Treasury
Secretary to spend up to $700 billion to inject
capital into financial institutions by buying up
distressed assets including MBS
• European and Asian nations followed suit.
• Many financial institutions were partly or wholly
nationalised
• The problem is far from over
Stock Market
• The financial crisis also brought down the stock
market
• Most stock market indices registered 40-50% fall
• Net wealth of individuals and enterprises fell
accordingly
• Falling wealth reduced consumer demand through
Pigou effect
• Investment also fell reducing aggregate demand
• The economy of major countries moved into a
recession
• World output and trade started declining
S&P 500 INDEX
DOW JONES INDUS. AVG
NIKKEI 225
Commodity prices
• The emerging financial crisis led many investors to shift
their fund to the commodities market including oil and
food
• This caused massive increases in commodity prices
since 2006
• Sharp increases in oil and food prices had a debilitating
impact on the poorer countries – especially oil and food
importing countries that include Bangladesh
• A large section of their population was pushed back into
poverty due to falling real incomes
• The task of poverty alleviation became far more difficult
• Real risks of social unrest
Demand slump caused slump in commodity prices
Economic Stimulus
• Faced with a deep recession most nations adopted
their own economic stimulus plans
• The newly installed Obama government received
Congressional approval for a $800 billion plus
stimulus package that Obama expects will create
about 4 million jobs – just about the increase in the
number of unemployed since 2007.
• This is a fiscal package consisting of tax breaks
and government spending in selected areas
• The main purpose is to stimulate aggregate
demand
• Basically a Keynesian antidote to a recession
Protectionism
• Leaders around the world have spoken out
against protectionist policies that could
deepen the recession
• But worsening situation could make the
demand for protection more strident on the
street that could be capitalised by pseudonationalist elements
Protectionism
• There have been demonstrations against
migrant workers in Europe
• There is little protection against the
tendency to scapegoat migrant workers in
Mid-East since the contracts are unilateral
• Labour export is likely to slow down
• Underlines the need for progress in Mode
4 negotiations in the WTO
Export pessimism
• Bangladesh has minimal direct exposure to the
global financial market
• But it is connected via trade in goods and
services
• Falling world trade will hurt the export industries
• The latest indications point to rough time ahead
• If export growth sputters, it will have flow on
effects on the economy
• Jute and textile spinning units, leather and
ceramic industries have been already adversely
affected
Economic Policies
• The government is yet to come up with a clear
response
• BB needs to look at its monetary policy
• With inflation falling toward 6%, the real interest
rate is too high for business investment – dual
interest structure with lower rates for real
investment in plants and machinery could be
contemplated
• Need some stimulus for industries catering to the
domestic market as well as the export industries
• Fiscal and monetary policies must complement
each other
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