Important developments today:
1. Japanese Yen strengthens as the country’s current account turns to surplus again
2. Japan’s current account returns to surplus in February
Important developments today:
1. Spanish bonds fall on debt concerns, continued rise in unemployment rate
2. US consumers buoy economy.
| Developing-country borrowing costs have declined in early 2012 amid reduced risk aversion. Yields for developing countries are now 550 basis points, below even the levels of June/July 2011 prior to the uptick in financial market uncertainty. Slow growth in the second half of 2011 will cut into annual growth rates for 2012 – even if quarterly growth rates strengthen. Oil prices have risen of late due to geopolitical concerns and falling surplus capacity. Increases come despite subdued oil demand and increases in oil supply that have offset production losses in different parts of the world. | |
| Developing-country bond yields have declined since the start of the year as global risk aversion eased. Yields have fallen to 5.5% for the first time since November 2010 and emerging markets bond spreads have fallen to 341 basis points, down from 481 bps in October 2011. Borrowing costs for developing countries are now lower than they were in June/July 2011 when the latest bout of financial uncertainty began. Most recently, yields have ticked up somewhat in-line with increases in US treasury rates. Nevertheless, lower costs have contributed to a surge in developingcountry bond issuance in the first quarter of 2012, with borrowing now standing 14% above the levels observed last year. |  |
| Weak growth in the second half of 2011 means that annual growth for 2012 will be about 1 percentage point lower than otherwise. Annual growth rates are heavily influenced by growth in the latter part of the preceding year. Mathematically even if there is no growth quarter-to-quarter during a year, annual GDP growth will be positive if the end-year GDP of the previous year was higher than beginning year GDP of the previous year. Over the last decade, the contribution of the previous year to the following year’s growth rate (the carry-over) averaged 2.2 percentage points for developing countries. In 2012, however, it is expected to be only 1.5 percentage points because growth in the second half of 2011 was so weak. As a result, even if developing-country GDP grows at a 6 percent annualized pace in every quarter of 2012, annual GDP growth for the year would be only 5.3 percent. For high-income countries, lower than normal carry-over can be expected to cut about 0.4 percentage points from the 2012 growth rate. Annual growth in many countries will be affected this year by the decline in carry-over contributions, notably in Greece and Thailand where declining GDP at the end of 2011 will subtract strongly from growth in 2012. |  |
| Oil market spot prices continue to be higher than forward prices (backwardation) – signaling perceptions of a tight market. This has occurred despite a return to near pre-crisis levels of oil production in Libya, and increased production by OPEC member countries to compensate for short-term production disruptions in Syria, Yemen, Canada, Sudan, and substitution effects caused by Iranian sanctions. The additional supply by swings producers has reduced spare capacity to below it 10-year average of 3.9 mb/d. And it is this reduced spare capacity that is driving market perceptions, even though demand remains relatively weak. Recent pronouncements by Saudi Arabia that prices are too high and that supply is ample, as well as the possibility that strategic reserves may be released have contributed to some easing of prices this week – but it is unclear how durable this effect will be. |  |
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Important developments today:
1. Financial market volatility is at its lowest since 2007
2. US manufacturing activity remains resilient amid contraction in Eurozone
“There is nothing in this book that needs to be confirmed by complex laboratory experiments. You have only to open the window or step into the street”, Hernando de Soto, The Other Path, p14., 1989.
The recent IMF recommendation for a second aid package to Greece—amounting to 28 billion Euros over the next four years—helped push through the biggest sovereign debt restructuring in history, after Greece got private investors to forgive more than 100 billion Euros in debt. The IMF decision, announced by Christine Lagarde late last week, also marks yet another chapter in the ongoing saga of the European sovereign debt crisis.
“You never want a serious crisis to go to waste.”
Rahm Emanuel, former White House Chief of Staff
Looking in the rearview mirror, the recent U.S. subprime crisis seemed to be precipitated by a cauldron of events which were embedded in the fundamental problem that credit risk management was compromised on various levels. Naturally with a few years of hindsight, academics, economists, regulators, and supervisors have all wondered how the crisis could have been adverted or at least mitigated.
In this light, the existence of information data gaps and the importance of complete, accurate and timely credit information in the financial system have become more poignant. As a result of accelerated financial innovation, the banks offered new, but opaque, vehicles for investment. This made it difficult to assess risk levels and the true extent of credit leverage. Thus, as financial institutions began to develop and issue more convoluted instruments, credit risk management became more imprecise and at times erroneous. Without proper regulatory oversight and amid highly liquid credit markets (i.e. high demand for CDOs, ABSs, etc.), it further enabled banks to loosen their lending policies and thus continue to take riskier positions. As this occurred, banking supervisors and regulators often lacked the appropriate information to readily monitor the developments unfolding in the marketplace.
Important developments today:
1. European sovereign credit risk rises to eight-week high following Greek debt swap insurance payouts
2. Italy in recession
We launched South Asia’s first regional report, ‘More and Better Jobs in South Asia’ in a series of events in Dhaka early last week.
Through events including a seminar with youth at the University of Dhaka, a formal report launch the next day, a TV interview with the South Asia Chief Economist, Kalpana Kochchar, and an op-ed in the leading English language newspaper, the report helped generate discussion on core economic challenges facing Bangladesh, as job creation are highly correlated with the challenges of faster growth.
Bangladesh, along with other South Asian countries, has seen steady job growth and a substantial decrease in poverty over the past three decades. The country has added nearly 1.2 million new jobs every year over the last ten years, and this has been accompanied by increasing real wages and declining poverty amongst all categories of workers. This performance will have to be improved in the future, owing to Bangladesh's early progress in its demographic transition. With substantial reductions in infant and child mortality following a significant decline in fertility rates, Bangladesh's working age population is growing more rapidly than its young and old dependents. In turn, this can be attributed to Bangladesh’s success in nurturing the desire for smaller families, through its reproductive health program as well as its emphasis on girls’ education.
I’ve just concluded a discussion on addressing youth unemployment around the world with experts at the Global Youth Conference currently happening and wanted to hear your thought as well as share some of my own on South Asia. Indeed, South Asia has grown rapidly and has created more and mostly better jobs. The region created 800,000 new jobs per month in the last ten years boosting economic growth and reducing poverty. Arrive in any South Asian metropolis and you’re often hit by the richness of activity throughout its busy streets.
The region’s coming demographic transition of more young people entering the work force is expected to contribute nearly 40 percent of the growth in the world’s working age (15—64) population over the next several decades. However, youth in South Asia still face many challenges during their transition to adulthood including malnutrition, gender inequality and lack of access to quality education. More working age people with less children and elderly dependants to support will either become an asset for the region to continue growing or a curse depending on the enabling environment for the creation of productive jobs.
Words, words, words: do they matter in finance? And, more to the point, do reports on financial stability have an impact on, say, financial stability? New research suggests that the answer is a qualified “yes”: such reports can actually have a positive link with financial stability, if they are done well. Reports that are written clearly, are consistent over time, and cover the key risks to stability are associated with more stable financial systems.
Publishing reports on financial stability has been a rapidly growing industry, with more and more central banks and other agencies around the world now publishing such reports. As of early 2012, around 80 such reports are being issued on a regular basis (Figure 1). The stated aim of most of these reports is to point out key risks and vulnerabilities to policy makers, market participants, and the public at large, and thereby ultimately helping to limit financial instability.
Figure 1. The number of countries that publish financial stability reports
Source: Čihák, Muñoz, Teh Sharifuddin, and Tintchev (2012).
One of my favorite papers to present is my paper on improving management in India, in part because we have wonderful photos to illustrate what bad management looks like and what improved practices look like (see the appendix to the paper for some of these). Photographing impact isn’t only useful for presentations and glossy summaries, but may potentially offer a new form of data. However, this is easier said than done, and today I thought I’d share some misadventures in trying to photograph impacts on small firms.
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The European Central Bank provided some half a trillion euros in lending to European banks in a second tranche of its Long-Term Re-financing Operation(LTRO), which has so far proven effective in stabilizing financial markets. Nonetheless the structural challenges in European banking system still remain. The sharp deceleration in global trade has most likely halted, benefiting from the stabilization of the situation in Europe, restoration of previously disrupted supply chains in East Asia (due to Thai floods) and expansion in output elsewhere in the global economy. Inflationary pressures in developing countries have fallen in recent months, however higher oil prices, if sustained, may stoke inflationary pressures once again. | |
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European Central Bank lending operations provide support to European banks and sovereigns. The ECB dispensed a second €530 billion tranche of low-cost three year loans to some 800 European banks (versus 523 banks in the first tranche) this week. This brings total lending under the program to €1,019 billion. The LTRO has eased funding pressures for both banks and troubled Euro Area sovereigns. Banks have used the cheap loans to buy higher yielding sovereign debt in a “carry” trade that has contributed to a decline in government bond yields, increased bank profitability and contributed to a 32 basis point decline in the Euribor-Eonia spread since mid-December – a sign that fears of banking-sector counter-party risk are declining. Despite support from the LTRO, Euro-Area bank-lending remains weak as banks continue to build up capital adequacy ratios and mark-to-market sovereign bond holdings as required by recent regulatory changes. |
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| The deceleration in global trade volumes has most likely bottomed out. Global trade volume growth decelerated sharply in the second half of 2011, in response to falling import demand in Europe and Thai flood-related supply chain disruptions in East Asia. Although global import volumes continued to decline at a 10.8 percent annualized pace during the three month ending December. Recent data suggests that the contraction may be coming to an end. Most of the quarterly decline reflected weakness in October. Global imports were actually rising at a modest 0.5 percent annualized pace in the final two months of the year. Trade growth is expected to continue to strengthen as the situation in Europe stabilizes, supply chains in East Asia are restored, and output continues to expand in both non-European high-income and developing worlds. Indeed, the January JP Morgan Global Manufacturing PMI index shows new orders rising for the first time since August.
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Inflationary pressures ease though risks remain. Lower and relatively stable food and fuel prices through much of 2011, policy tightening in some large developing countries, and a slower global economy have led to an easing of inflationary pressures in both high-income and developing countries since H2 2011. Continued soft (albeit strengthening) global growth should keep inflation at bay. However, the recent rise in oil prices due to ongoing geo-political tensions in the Strait of Hormuz, could, if sustained, stoke inflationary pressures once again. |
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More than three years after the onset of the global financial crisis, a plethora of regulatory reforms are being put in place. The Basel Committee has prepared new capital and liquidity requirements, and the Financial Stability Board has kicked off an impressive agenda of reform. But implementation has been far from straightforward, and domestic priorities have often been in conflict with attempts at regulatory convergence. Against this background, the International Centre for Financial Regulation (ICFR) and the Financial Times invited submissions for a research prize in financial regulation, calling for essays that would consider “what good regulation should look like”.
The call resulted in an interesting set of ten top-rated essays. One of them is a new paper that we co-authored with R. Barry Johnston, based on some of the background work for the World Bank’s upcoming 2013 Global Financial Development Report. In our piece (which of course represents only our views and not necessarily those of the World Bank), we answer the organizers’ question by saying that “good regulation needs to fix the broken incentives.” Or, to paraphrase a 1990s campaign slogan, “it’s the incentives, stupid.”
The first IFMR Financial Systems Design Conference was held in Chennai on August 5th and 6th, 2011. Hosted by IFMR and IFMR Finance Foundation, the conference aimed to take a step back from specific institutional frameworks, products and regulatory architectures and take a more fundamental and functional view of the financial system, and thereby attempt to understand what can be done to improve the ability of the Indian financial system to fulfil its functions effectively. The conference brought together a group of leading researchers and practitioners in the Indian financial system. In his introductory remarks, Dr. Nachiket Mor observed that “we are at a time when many of the historic imperatives which led to the current design of our financial systems are perhaps no longer valid and that, as a uniquely advanced but also very poor country urgently in need of sustained and rapid growth and development, we have the opportunity to do things in a way that other countries do not.”
To provide some context, while the Indian financial system has steadily evolved over the years, it continues to lag behind in terms of size (financial firms growing much slower than needs of the real economy), spread (80% of Indian villages do not have a bank branch in a 2 KM radius, more than 50% of small business financing happens through informal sources), scope (roughly 50% of the population has a bank account, about 10% have life insurance and less than 10% participate in equity markets in any form), innovation (securitisation, credit derivatives and corporate bond markets are tiny) and diversity of ownership (largest financial firms are Government owned).
