UNTCAD’s forecast: Developing countries to expand faster than developed countries in 2011 & 2012

The UN forecasts that the world economy will expand by 3.1 percent in 2011 and 3.5 percent in 2012 – far from sufficient to enable recovering the jobs lost because of the crisis. Consistent with other projections, UNTCAD notes that developing countries will continue to drive the global recovery. Their output growth will moderate to 6.0 percent during 2011-2012, down from 7.0 percent in 2010, because of the slowdown in the advanced countries and phasing out of stimulus measures. Developing Asia, led by China and India, continues to show the strongest growth performance, but some moderation (to around 7 percent) is expected in 2011 and 2012.

The recovery may suffer further setbacks if some of the downside risks materialize, in which case a double-dip recession is looming for Europe, Japan and the United States. WESP 2011 argues that in the short run more fiscal stimulus will be needed to reinvigorate the recovery, but that it will need to be better coordinated with monetary policies and reoriented to provide stronger support to employment generation and facilitate a sustainable rebalancing of the global economy. This cannot be done without better international policy coordination.

The recently released WB’s forecast is a bit optimistic than the UNCTAD’s forecasts in World Economic Situation and Prospects 2011 (WESP). But, both reports have the same forecasts for developing countries as a whole. According to the WB’s latest Global Economic Prospects 2011, global GDP (measured at 2005 market prices and exchange rates), which expanded by 3.9% in 2010, will slow to 3.3% in 2011, before it reaches 3.6% in 2012. Developing countries are expected to grow 7% in 2010, 6% in 2011 and 6.1% in 2012. They will continue to outstrip growth in high-income countries, which is projected at 2.8% in 2010, 2.4% in 2011 and 2.7% in 2012. The WB’s report notes that strong developing country domestic demand is leading the world economy but persistent financial sector problems in some high-income countries might threaten growth.

Here is UNTCAD’s forecasts:

Annual percentage change
Growth of world output, 2006–2012								Change from United Nations forecast of June 20 10c
	2006	2007	2008	2009	2010a	2011b	2012b	2010	2011
World outputd	4.0	3.9	1.6	-2.0	3.6	3.1	3.5	0.6	-0.1
of which:
Developed economies	2.8	2.5	0.1	-3.5	2.3	1.9	2.3	0.4	-0.2
Euro zone	3.0	2.8	0.5	-4.1	1.6	1.3	1.7	0.7	-0.2
Japan	2.0	2.4	-1.2	-5.2	2.7	1.1	1.4	1.4	-0.2
United Kingdom	2.8	2.7	-0.1	-4.9	1.8	2.1	2.6	0.7	-0.2
United States	2.7	1.9	0.0	-2.6	2.6	2.2	2.8	-0.3	-0.3
Economies in transition	8.3	8.6	5.2	-6.7	3.8	4.0	4.2	-0.1	0.6
Russian Federation	8.2	8.5	5.2	-7.9	3.9	3.7	3.9	-0.4	0.7
Developing economies	7.3	7.6	5.4	2.4	7.1	6.0	6.1	1.2	0.2
Africa	5.9	6.1	5.0	2.3	4.7	5.0	5.1	0.0	-0.3
Nigeria	6.2	7.0	6.0	7.0	7.1	6.5	5.8	0.6	-0.5
South Africa	5.6	5.5	3.7	-1.8	2.6	3.2	3.2	-0.1	-0.3
East and South Asia	8.6	9.3	6.2	5.1	8.4	7.1	7.3	1.3	0.2
China	11.6	13.0	9.6	9.1	10.1	8.9	9.0	0.9	0.1
India	9.6	9.4	7.5	6.7	8.4	8.2	8.4	0.5	0.1
Western Asia	6.1	5.1	4.4	-1.0	5.5	4.7	4.4	1.3	0.6
Israel	5.7	5.4	4.2	0.8	4.0	3.5	3.0	1.1	0.4
Turkey	6.9	4.7	0.7	-4.7	7.4	4.6	5.0	3.9	1.3
Latin America and the Caribbean	5.6	5.6	4.0	-2.1	5.6	4.1	4.3	1.6	0.2
Brazil	4.0	6.1	5.1	-0.2	7.6	4.5	5.2	1.8	-1.1
Mexico	4.9	3.3	1.5	-6.5	5.0	3.4	3.5	1.5	0.6
of which:
Least developed countries	7.6	8.1	6.7	4.0	5.2	5.5	5.7	-0.4	-0.1
Memorandum items:
World tradee	9.3	7.2	2.7	-11.4	10.5	6.6	6.5	..	..
World output growth with PPP-based weights	5.1	5.2	2.7	-0.8	4.5	4.0	4.4	0.6	0.0

• Source: UN/DESA.
• ^a Partly estimated.
• ^b Forecasts, based in part on Project LINK and baseline projections of the United Nations World Economic Forecasting Model.
• ^c See World economic situation and prospects as of mid-2010 (E/2010/73), available from http://www.un.org/esa/policy/wess/wesp2010files/ wesp1 0update.pdf.
• ^d Calculated as a weighted average of individual country growth rates of gross domestic product (GDP), where weights are based on GDP in 2005 prices and exchange rates.
• ^e Includes trade in goods and non-factor services. Previous WESP reports reported growth of merchandise trade only.

The report notes that between 2007 and the end of 2009, at least 30 million jobs were lost worldwide as a result of the global financial crisis. As more governments embark on fiscal austerity, the prospects for a fast recovery of employment look even gloomier. Worldwide, unemployment and underemployment rates are very high among young people (aged 15 to 24). At the end of 2009, with an estimated 81 million unemployed young people, the global youth unemployment rate stood at 13.0 percent -- a 0.9 percentage point increase from 2008. The global economy still needs to create at least another 22 million new jobs in order to return to the pre-crisis level of global employment. At the current speed of the recovery, this would take at least five years to achieve.

Five challenges for sustainable recovery:

• Provide additional fiscal stimulus, by using the ample fiscal space that, according to WESP 2011, is still available in many countries.
• Redesign fiscal stimulus and other economic policies to lend a stronger orientation towards measures that directly support job growth, reduce income inequality and strengthen sustainable production capacity on the supply side.
• Find greater synergy between fiscal and monetary stimulus, while counteracting damaging international spillover effects in the form of increased currency tensions and volatile short-term capital flows.
• Ensure that sufficient and stable development finance is made available for developing countries with limited fiscal space and large developmental deficits, including resources for achieving the Millennium Development Goals and investing in sustainable and resilient growth.
• Find ways to come to credible and effective policy coordination among major economies.

Impending Financial Disaster in Nepal

My first piece in 2011 is related to the financial and real estate/housing sectors in Nepal. I believe that these two sectors will be severely affected by decline in housing and real estate prices and loan defaults within a year or two. Comments on this piece have been very .

Nepal has 31 commercial banks, and hundreds of development and finance companies. Without a substantial surge in depositor and borrower bases, the number of banks are mushrooming, particularly due to rise in remittances inflows. They have invested way too much in one sector, created asset and housing bubbles, and are now struggling to recover loans and meet profit targets. It is already late to contain the damage, but it is not too late (hopefully). The central bank has to make difficult decisions soon and it will definitely hurt one or the others sectors.

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Impending financial disaster

Nepal has been struggling to maintain macroeconomic balance for a couple of years now. Low growth rate, high unemployment, balance of payments deficit, widening trade deficit, and high and sticky inflation are some of our pressing existing macroeconomic challenges. Now, add to that list an impending financial disaster, engendered largely by the bank and financial institutions (BFIs) themselves and to some extent by Nepal Rastra Bank (NRB), our central bank.

While the latter ignored the unhealthy development in financial sector, let new BFIs prop up without even evaluating if our economy needs so many of them, and took damage control measures of late, the former is in desperation to survive amidst cutthroat competition, which is getting nasty by the day. The BFIs’ inability to effectively cope with the existing pressure on deposit and lending, and to attain unsustainable profit targets might lead to a situation where all profits are private but losses are social, i.e. taxpayers pay the cost of reckless behavior of few sectors in the economy.

Looking at the existing business structure of the real estate and housing sector and the BFIs, it is very likely that their unjustified growth will end soon, raising fear of destabilizing not only the very conduit from where the public is facilitated with credit but also derailing the entire economy. The existing path on which these two sectors are hurtling toward bears the hallmark of the recent housing, financial, and economic crises in the West. It all starts with pumping of too much money in one sector, which after few years of unnatural and unsustainable growth crashes down and puts pressure on the BFIs, leading to defaults, extremely vulnerable financial institutions, and squeezing of credit to all sectors in general.

Before going into detail about symptoms of the impending financial disaster, let me first discuss how the bigwigs of the BFIs are behaving irresponsibly and are trying to scuttle reforms introduced, albeit lately, by the NRB.

Recently, they made a high pitch about the central bank being anti-market when it regulated CEO’s pay; capped lending to the realty and housing sector; and directed the banks to ensure that interest rate difference on various kinds of savings accounts is not more than two percentage points. The negative and nonsense drumbeating by the bigwigs of the banking sector was so incriminating that the central bank governor Dr. Yuba Raj Khatiwada felt compelled to make a statement that he and the NRB are not market unfriendly.

Ironically, the very next day the executives tacitly agreed to cap savings account interests between 4-6 percent. Without shame the Nepal Bankers’ Association (NBA) argued that the banking bigwigs reached “a gentleman’s agreement” to cap interest rates. The same executives who were defending free market colluded to cap interests on savings accounts. This is carteling and an outright hypocrisy. They played the same anti-market game in May 2010 when they colluded to limit interest rate on fixed deposits at 12 percent. The main problem is not financial regulation; it is that we simply have way too many BFIs serving a narrow depositor and borrower base.

Behind the unnecessary activism of the banking sector in pressing their demand, resisting regulation, and trying to circumvent the NRB’s directives lies a bitter truth: some of the BFIs very existence is at stake. They are trying to buy time before the inevitable disaster hits them. This is largely of their own making by imprudently running after short term gains over long term sustainability. The crux of the matter lies at the reckless lending to the urban-centric real estate and housing sector, which is starting to tumble after few years of rapid growth.

First, lending to this sector is unjustified by future growth prospects. This urban-centric sector contributes around 7.8 percent of our GDP and is the highest growing sector in the past six years. Buoyed by easy finance and loans, real estate transactions and housing complexes are rising rapidly. Sometimes artificial demand is created just to jack up prices. This is evident from the fact that our shaky economic fundamentals do not justify multifold increase in land prices in a matter of days. Moreover, liquidity is pumped into this sector without properly assessing risks and the ability of borrowers to repay loans. The BFIs are hardly distinguishing between normal and subprime markets.

This is creating market disequilibrium, i.e. the supply of real estate and housing complexes is outstripping demand, leading to a decline in prices. The media reports indicate that real estate prices have already gone down by 30 percent. Be prepared to brace for even lower prices. As prices dip, borrowers will be unable to honor principal and interest payments on time, forcing the BFIs to restructure loans and variably increase lending rates. Buyers will cancel booking even after paying the minimum required down payment. Soon we will see ‘ghost’ apartments, i.e. empty apartments waiting for customers to either buy or rent them. This will ultimately hit the BFIs.

Second, the uber-generous BFIs are chasing after short term gains without properly assessing borrowers’ ability to repay interest and principal on time. As of November 2010, credit flow of commercial banks to land and buildings sector was Rs 284 billion out of a total of Rs 415 billion, representing about 69 percent of total credit flows with assets guarantee. Since a lot of this credit went to the real estate and housing sector, which is facing a hard time due to declining prices, the vulnerability of BFIs to an ultimate busting of this sector is pretty high.

Now, you might be wondering why the BFIs are lending so much to just one sector. Well, the reason is that the rapid increase in number of BFIs without a proportional increase in depositor base intensified cutthroat competition to attract both depositors and borrowers, and put the BFIs in desperation to meet unsustainable profit targets. Despite knowing the fact that the incredulous profit targets can only be achieved in the short term by putting the foundation of the entire banking sector at risk in the long term, the BFIs played the risky game (by lending too much to one sector) as if everything was normal.

Still, BFIs are offering interest rates above 12 percent in savings account. In June 2010 and July 2004 it was just above 7.7 percent and 5 percent, respectively. Meanwhile, the maximum lending rate has been over 18 percent. In June 2010 and July 2004 it was 14 percent and 11.5 percent, respectively. Due to limited playing field and increasing competition, some of the banks are even offering high interest on a daily basis on demand deposits, which usually does not happen. Since this is unsustainable and is putting the entire financial sector at risk, the central bank capped lending to overly heated sectors and interests differential in deposits. To circumvent this decision the BIFs are capping interests on saving accounts and are variably increasing lending rates without properly informing borrowers. It will increase chances of more defaults.

The development in the housing and real estate sector and the ad hoc decisions of the BFIs do not augur well for the economy. We might end up with empty apartments and ‘ghost’ houses if things continue to go the way they are going right now. Playing with interest rates on loans and savings is just an attempt to buy time before the inevitable disaster hits the BFIs. It is good to acknowledge and rectify mistakes before it is too late.

The tendency to seek short term gains over long term sustainability is a recipe for disaster with severe negative externalities, i.e. it will not only affect the BFIs, but also the public who are not a direct party to the activities of financial sector, and real estate and housing sector. Before these two sectors put the entire economy at risk, strong safeguards should be put in place. It might mean making painful decision of letting some BFIs to either fail (remember Nepal Development Bank?) or forced to merge, and help to rapidly cool down the urban-centric real estate and housing sector.

[Published in Republica, January 15, 2011, p6]

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Climate Change in Peru

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Glacier melt hasn't caused a national crisis in Peru, yet. But high in the Andes, rising temperatures and changes in water supply over the last 40 years have decimated crops, killed fish stocks and forced villages to question how they will survive for another generation.

Without international help to build reservoirs and dams and improve irrigation, the South American nation could become a case study in how climate change can destabilize a strategically important region, according to Peruvian, U.S. and other officials.

[..] Peru is home to 70 percent of the world's tropical glaciers, which are also found in Bolivia, Ecuador and Chile. Peru's 18 mountain glaciers, including the world's largest tropical ice mass, are critical to the region's water sources for drinking, irrigation and electricity.

Glaciers in the South American Andes are melting faster than many scientists predicted; some climate change experts estimate entire glaciers across the Andes will disappear in 10 years due to rising global temperatures, creating instability across the globe as they melt.

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More here

What is causing food price volatility?

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Changing petroleum prices, crop yields, food stock levels, and exchange rates are the main culprits, but trade policies and a lack of reliable, up-to-date data are also driving the volatility.

In what is potentially an even more worrying trend, implied volatility—which represents the market’s expectations of how much the price is likely to move in the future and can only be inferred from the prices of derivative contracts such as options—has been increasing steadily since the mid-1990s. The implied volatilities of three key staple foods—soybeans, maize, and wheat—show a clear upward trend, indicating a steady increase in uncertainty.

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So argues Hafez Ghanem, Assistant Director-General of the Food and Agriculture Organization. Specifically, volatility in four variables—petroleum prices, crop yields, food stock levels, and exchange rates— significantly increases food price fluctuations.

Causes:

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First, petroleum price volatility—which tends to be high—translates to food price volatility through transportation costs and fertilizer prices. The link has become even stronger with the advent of biofuels, which require food crops as inputs and can therefore change food prices.

Second, because the demand for food is inelastic, small changes in supply can lead to big changes in prices, meaning that even limited crop yield volatility can have large effects on food price fluctuations. The role of crop yield variability is only expected to rise as extreme weather events become more common.

Third, food price volatility is inversely related to the level of food stocks—as stocks fall, price volatility rises. Both public and private actors have lowered stocks in recent years. This trend may be reversing itself, however, as countries are revising their reserves policies in response to recent bouts of volatility.

Finally, changes in exchange rates, especially of major exporting countries, translate to changes in international food prices. Thus, as macroeconomic factors lead to more volatile exchange rates, food price volatility also rises.

[…]an additional cause of price volatility: the lack of reliable, up-to-date information on crop supply and demand, stocks, and export availability.

[…]it is possible to argue that increased speculation contributed to higher food price volatility.

[…]real factors such as production shortfalls in key exporting countries—and not speculation—triggered the two recent bouts of volatility (in 2007–2008 and 2010).

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Solutions:

• Yield-enhancing investments (R&D in infrastructure that promote irrigation as well as drought-resilient crops and their hybrids)
• Trade policies (completion of the Doha Round of negotiations so that trade distorting subsidies can be reduced, and perhaps include tighter rules on export restrictions)
• Improving market transparency (information about both the real market and related financial transactions)
• Reforming policies for grain-based biofuels (introducing call options for biofuels—a market-compatible instrument—would guarantee that producers shift grain from producing biofuels to providing food during crises—a mutually beneficial outcome)
• Review stock policies (adequate emergency food stocks, or strategic reserves, must be maintained at the national, regional and global levels)
• Financing instruments (institutions need to act ex ante and provide import-financing or -guarantees to alleviate credit and foreign exchange constraints)
• Commodity exchanges (regulatory frameworks governing commodity exchanges must also be reviewed to reduce speculative behavior and thus limit volatility)