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Prospects Weekly: Gross capital flows to developing countries got off to a strong start in the second quarter, Industrial commodity prices are easing, Inventory levels are above pre-crisis averages in the US

Global Macroeconomics Team's picture
Supported by a rebound in bond issuances, gross capital flows to developing countries got off to a strong start in the second quarter. The coming on stream of new oil and metals production following a quintupling of investment activity by major global producers helps explain why industrial commodity prices are easing, even as economic activity has picked up. In the United States, where economic activity continues to strengthen, inventory levels are above pre-crisis averages, but in the Euro Area inventories remain low, partly because of weak confidence.
After solid two quarters - 2012Q4 and 2013Q1- gross capital flows to developing countries got off to a strong start in the second quarter. At $64 billion, gross flows were up 42 percent from a year earlier and 9.8 percent from March levels. The increase in capital flows was largely driven by bond issuances, which doubled in April, reaching a record $44.4 billion. Bond market access for non-investment grade borrowers continued to improve, with Rwanda issuing its first bond. Vietnam, Papua New Guinea, and Bangladesh are expected to follow suit to take advantage of investors’ appetite for higher yielding developing-country sovereign bonds. Equity flows were up slightly. Bank lending plummeted 68 percent in April to an estimated $8.2 billion on the back of a sharp drop in loans to Europe and Central Asia (mostly Russia). Overall, for the first 4 months of the year capital flows are up 46% from year-earlier levels, with bank lending close to twice 2012 levels and both equity and bond flows up significantly from last year.
The coming on stream of new capacity is holding back the price of industrial commodities despite strengthening growth. The more than doubling of industrial commodity prices since the turn of the century resulted in a quintupling of investment levels in both oil and metals markets between 2000 and 2012. Capital expenditures by major producers have increased by an average of 18.7 percent annually since 2005 in the case of oil and 22.9 percent in the case of metals. These investments are now resulting in significant increases in output. This lagged supply response may partly explain why industrial commodity prices have been declining, even as global growth has strengthened in recent months. Since mid-February prices of tin, copper, nickel, and aluminum have declined by 17.4%, 15.4%, 13.8% and 10.3%, and Brent and WTI crude oil prices have dropped by 18.1% and 9.5%, respectively.
Inventory levels diverge between the United States and the Euro Area. Inventory levels in the United States are currently above pre-crisis levels, reflecting the relative strength and maturity of the recovery in that economy (both the housing and labor markets continue to show sustained improvements). In the Euro Area, however, inventory levels remain well below their pre-crisis averages – partly due to weak growth, but also because firms lack confidence that demand will firm anytime soon. While weak inventory levels are a factor contributing to weak demand in Europe, the low inventory levels may also be a source of upside risk. If activity does start to strengthen, firms will need to increase production even more quickly in order to replenish inventories.

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