Here is a nice article from my colleague (we worked worked together at The Kathmandu Post business desk back in 2004/05) Santosh Pokharel, who is currently studying economics at the University of Virginia, about the lessons Nepal’s premature financial sector and the central bank can be learn from the current US financial crisis, triggered arguably by the bust in housing bubble, leading to collapse of powerful investment firms and run on banks.
Bank runs are not new to Nepal. The most recent one happened in 2006, forcing the central bank to overtake troubled Nepal Bangladesh Bank. He predicts that there might already be a bubble developing in Nepal’s share market and real estate market. I won’t be surprised if this bubble bursts (mainly triggered by rising inflation or some banks plunging in trouble) because the tremendous growth in these sectors is not consistent with the average GDP growth rate of 3% in the past seven years.
…The growth in the equity market is good for the overall development of the economy. However, speculative growth where the "fundamentals" of the underlying market are not sound creates a market bubble. There are no economic or financial statistics that supports the current boom in equity and real estate. Considering the growth rate of 2-3 percent for the last five years, a few significant national-level investment projects and a wounded economy staggering out of a decade-long conflict, it's hard to argue against the premise that the current share and land markets are a bubble.
All of this has coincided with the increased exposure of commercial banks and finance companies to equity and real estate. Responding to the public's interest in stocks and real estate, these financial institutions have been providing easy loans to people wishing to invest in them. This has helped to inflate share and land prices and create a market bubble.
…In the Nepali banking context, there are reasons to be concerned about the exposure of commercial banks and finance companies to equity and real estate market. Because of lack of investment opportunities in other sector, financial institutions have been pouring money in real estate and equity market. While unprecedented remittance inflow has helped sustain the deposit mobilization growth even in the light of growing number of these financial institutions, there aren't enough areas for investment outlays to support the growing deposit base. Hence financial institutions don't have much of a choice but to provide loans for investment in equity and real-estate market.
…Anticipating higher returns, people without any background in investment or any professional guidance are taking out loans to invest in these markets. Because of increasing competition, financial institutions are providing loans without proper credit and income check. All of these factors have helped to inflate stock and real-estate prices. However, when the bubble finally busts either in equity or real estate market, there will be an immediate impact on the balance sheet position of these financial institutions.
No! according to this piece which puts doubts on the sustainability of Indian economic growth rate, which the author argues is more cyclical in nature than is structural as has been assumed so far.
During the fiscal years 1980-81 to 1990-91, the average GDP growth rate was 5.38 per cent... In comparison, the average growth rate between 1990-91 and 2006-07 was 6.23 per cent, an increase of less than one percentage point.
On the other hand, reforms in China had galvanized the economy to such an extent that they had an inexplicably long run of double-digit real GDP growth rate. India has never achieved a double-digit growth rate.
The sectoral detail is even more alarming. Agricultural growth decelerated from an average of 3.39 per cent in the pre-reform period to 2.77 per cent. Even the industry didn't really do too well. The average growth rate was lower by nearly 0.57 per cent, as it decelerated from 6.72 per cent to 6.15 per cent.
…Let's take the agricultural sector.A sector that supports nearly 70 per cent of the country's population has seen a steady decline. A slide that even reforms failed to stem. India's agricultural productivity, in most cases, is one of the lowest in the world…So what have reforms delivered to the nearly 70 per cent of India's population? Nothing!
…The government's average annual development expenditure growth rate plummeted by more than 6 percentage points, falling from an average 15.97 per cent during 1980-81 to 1990-91 to an average of 9.75 per cent during the post-reforms period…When the focus is only on reducing the fiscal deficit, the brunt of fiscal correction is often borne by a reduction in capital expenditure. With the quality of fiscal correction remaining questionable, the growth potential of the Indian economy gets compromised.
…High growth, recorded during the last few years, seems to be more cyclical in nature than structural. Strong global growth, benign inflationary situation and ample liquidity sloshing around caused by a loose monetary policy, both globally and in India, led to this strong growth.
…The sustainability of growth would also depend on high savings rate. However, a closer look at the composition of India's savings rate does seem to suggest that the recent spurt in the rate has more to do with cyclical factor than real structural improvement.
Here it comes the impact of the financial meltdown on developing countries.
Economic growth in the Philippines has been revised down (by approximately one percentage point) from an expected growth rate of 5.5-6.4 percent to 4.4-4.9 percent, noting that the country “will not be spared” from the impact of the US economic slump.
…The revised Philippine economic growth, measured through the rise in gross domestic product (GDP), is seen at 4.4 percent to 4.9 percent. Barely three months ago, the Development Budget Coordination Committee pegged the country's GDP growth at 5.5 percent to 6.4 percent.GDP in 2009 may grow by only 4.1 percent to 5.1 percent from an initial projection of 6.1 percent to 6.9 percent.
…The US is one of the largest trading partners of the Philippines. Latest data from the National Statistics Office show that 9.3 million Filipino workers are in the Americas.
In Nepal, everyone is talking about hydropower development to the tune of 10,000 MW in the next 10 years. This was in fact rightly prioritized in recent budget speech by the finance minister. However, is it so easy to generate electricity from hydro power at this scale (it is estimated investment amounting to US $ 2.75 billion is needed)? Here is my take on the budget speech.
The chairman of Power Trading Corporation of India (PTC), T.N. Thakur, rightly stresses on the need for right institutions to attract shortfall in investment to generate hydro electricity of this scale. Whatever the politicians and ministers say, ultimately the quality of institutions rule! Also, the private sector will not jump into this industry on its own because of huge overhead costs, uncertainty, and risks. The government has to lead the way, give enough confidence to the private sector by sharing risks and costs, build right social and political institutions, and finally let the private sector unleash its magic!!
Q: Does Nepal have the right institutions to create the right kind of environment for the development of hydropower?
Thakur: You have to build some institutions. Today, I am very happy with the government and the politicians I have met, including the prime minister of Nepal. They have at least realized the need for developing hydropower. Prime Minister Pushpa Kamal Dahal is very forthright and businesslike. He has really given a lot of confidence to the people in India, saying that this is the right time to invest in Nepal. I met the Minister for Water Resources Bishnu Poudel and his secretary; I feel that they are eager to meet the target set by the government. I have also called on Deputy Prime Minister Bamdev Gautam and Finance Minister Dr. Baburam Bhattarai. Today, I see tremendous political will to go ahead with the plan to generate 10,000 MW.
Q: Obviously you have met many Nepali officials. What is your assessment?
Thakur: You should have the right kind of institutions here to further your hydropower projects. You have to make a number of institutional reforms and create the right kind of policies. Actually, 15 years ago we were in a similar situation. We invited investment, but private investors were unwilling to put money in India. So the government decided to develop a power market and set up the PTC at the national level. As a result, the PTC buys and supplies energy to power-deficit states as per their demand.
So, the whole thing is that people should feel confident and secure that if you invest in Nepal, the project will go ahead without any hassles and that investors will get their due return. If that sort of confidence is generated, investors will come forward. Otherwise, why would investors come to Nepal and invest when you do not have the right kind of environment and policies. Let us be frank, no investor will come here for charity. They will come here to earn money.
The ADB raises the alarm for South Asian bond market amidst the financial meltdown in the West.
…As global credit markets tighten in the wake of events on Wall Street, the need for Asia, and in particular South Asia, to develop and strengthen domestic bond markets as a source of long term, local capital, has never been more acute.
...Participants shared information on bond market development, and looked at obstacles to further progress. In the case of the five countries of South Asia - Bangladesh, India, Nepal, Pakistan and Sri Lanka - they sought to identify measures that could help them increase the availability of long term, local currency financing. ...While many initiatives have been taken in Asia in recent years to create deep, liquid bond markets, the depth and maturity of such markets varies greatly, with countries in South Asia lagging counterparts in East and Southeast Asia. Typically, governments in South Asia have relied on bank borrowings and external aid as their main sources of finance in the past.
“Financial market diversification supported by well capitalized and judiciously regulated institutions has been at the heart of the tremendous growth that we have witnessed in East Asia,” said Simon Bell, Sector Manager for the World Bank’s South Asia Finance and Private Sector Development group.
There is just a press release; no papers or anything to support or to explain the present status of South Asian bond market. I would love to see more on this front rather than just releasing a press release of ‘he-said-that-she-said that’ format! I would love to explore the development and current status of bond market in South Asia. Hopefully, the ADB will put up files and papers from the conference soon on its website. Or am I missing a whole lot due to ignorance?
Most of the papers available so far are focused on the impact of the financial meltdown on the emerging markets, which overshadows its impact on poor, developing nations.
Here is one paper which analyzes the implications of sub prime crisis in the emerging markets.
This paper discusses some of the key characteristics of the U.S. subprime mortgage boom and bust, contrasts them with characteristics of emerging mortgage markets, and makes recommendations for emerging market policy makers. The crisis has raised questions in the minds of many as to the wisdom of extending mortgage lending to low and moderate income households. It is important to note, however, that prior to the growth of subprime lending in the 1990s, U.S. mortgage markets already reached low and moderate-income households without taking large risks or suffering large losses. In contrast, in most emerging markets, mortgage finance is a luxury good, restricted to upper income households. As policy makers in emerging market seek to move lenders down market, they should adopt policies that include a variety of financing methods and should allow for rental or purchase as a function of the financial capacity of the household. Securitization remains a useful tool when developed in the context of well-aligned incentives and oversight. It is possible to extend mortgage lending down market without repeating the mistakes of the subprime boom and bust.
Here is a nice piece from the NYT about the impact of this crisis in the developing countries that depend on foreign capital and have American-style trade deficits.
…The crisis, by squeezing the flow of capital, threatens countries from the Baltic to Africa that depend on foreign money to finance their deficits.
…There are more than 20 countries with current-account deficits that exceed 5 percent of their economic output, Mr. Strauss-Kahn said, putting them in what the fund considers the endangered category. Mr. Strauss-Kahn declined to name names, but outside economists listed Bulgaria, Estonia, Romania and Turkey as among the red flags in Europe. In Africa, they said, South Africa and Nigeria were worrisome; and in Latin America, Venezuela and Ecuador.
In a paper I had analysed this decoupling/recoupling issue. There are two channels via which shocks are transmitted- trade flow and financial flow. The trade channel usually impacts with a lag but the financial channel is immediate. This is worrisome as it is a possibility that the crisis has got nothing to do with the economic fundamentals of the economy.
Here is one more link from the Center for Global Development. The CGD has a series of thoughtful blog posts from a wide range of experts.
Here is Shanta Devarajan (did I mention that Shanta is now running a new blog, which focuses on Africa; earlier he used to run a blog focusing on South Asia) asserting that despite the US subprime mortgage crisis, South Asia will continue to grow.
Update: Here is an interesting perspective (a socialist twist and anti-capitalist agenda) about the impact of global financial crisis on the workers around the world.
…But this means that taxes from working people are once again being used to rescue capitalists, demonstrating the boundless parasitism of financial elites. Nouriel Roubini, a New York University economist, describes this as “socialism for the rich, the well-connected and Wall Street (i.e. where profits are privatized and losses are socialized).” Meanwhile, the biggest finance capitalists like JP Morgan are gobbling up these distressed capitals at firesale prices — further concentrating capital in the hands of a tiny finance oligarchy.
…An estimated 2.2 million or 1 in every 50 households in the US face foreclosure. Those who continue to own homes would be 20-30 percent poorer in terms of household wealth as home values drop as a result of the collapse in the housing bubble. According to one estimate, a collapse of 30 percent in US home prices from their over-inflated peak would wipe out $6 trillion of household wealth and leave 10 million households with negative equity in their homes — they owe more on their homes than they are worth — increasing the likelihood of a new round of foreclosures and credit losses.
The global credit crunch means reduced capital flows for third world countries who are chronically dependent on foreign capital inflows to pay for older debts, sustain imports from the advanced capitalist countries and paper over chronic deficits they incur as imperialist states plunder their economies.
Most un-industrialized countries who are dependent on exporting agricultural products, raw materials, minerals, low-value added manufactures and services (e.g. business process outsourcing) to the advanced capitalist countries will be faced with shrinking exports due to the combination of depressed consumption in the North.
Aside from being dependent on low-value commodity exports, un-industrialized countries are also dependent on the export of labor, particularly to the wealthy industrialized countries…his means higher unemployment in labor-exporting countries, reduced earnings for foreign remittance-dependent households, and lower consumption spending in the domestic economy.
As financial instruments and stock markets become less attractive to financial investors, speculative capital shifts more into commodities trading such as oil, minerals and agricultural commodities. This is contributing to the precipitous rise in food and energy prices beyond what conditions in the real economy warrant, thereby rapidly eroding the real incomes of the vast majority especially in the third world.
David Pilling argues that it is vital that more labor from low-productivity farm sector migrate to higher-productivity industry so that India achieves an economic growth rate that has power to reduce poverty and increase prosperity in a large scale. He draws out a recent day dichotomy: the tussle between Tata’s Nano factory in West Bengal and protests by farmers displaced from land where the factory is to being built. He argues that if there is to be large scale industrialization, then India better solve these problems and let the process of prosperity roll forward.
…As many as 600m people, or about 47 per cent of China’s population, live in cities, at least 100 of which have swelled to more than 1m inhabitants.
In India…of the 406m labour force in 2000, 78 per cent lived in rural areas against just 22 per cent in towns and cities. The structural transformation from low-productivity farm labour to higher-productivity industry has been painfully slow. Today, agriculture employs about 60 per cent of the workforce but accounts for a measly one-fifth of national output. The predominantly urban, “organised” sector produces 40 per cent of output with just 7 per cent of the workforce.
…India’s information technology and service sector, no matter how dynamic, simply cannot absorb enough labour. To truly shine, India will need millions, perhaps tens of millions, more manufacturing jobs.
…More fundamentally still, as the dispute over land in West Bengal shows, it is hard to engineer mass migration in a democracy. In contrast to 18th century Britain and 21st century China, the vote of a dispossessed Indian peasant is worth the same as that of a would-be industrialist. Collectively, it is worth more. “You have to hand it to Indian democracy,” says Mr Hasan. “It does give you a voice. But that makes it very difficult to negotiate change.”
It is really hard to solve these kind of problems because the poor farmers can easily vote out the party which takes decision in favor of industries trying to displace people from their land to make factories. Term it ironical or whatever, the reality is that this is democracy. The poor farmers have no choice. Same applies for the manufacturing industries because if they cannot get land, then they will not invest.
This is very tricky problem for the politicians. The leftist parties take advantage of these situations and win election on the back of popular slogans. Though low quality or even absence of education and healthcare are one of the roots of these problems, I don’t think they are as important as Pilling thinks in creating this kind of deadlock. A major problem lies in the century old caste system and the scourges associated with it. Remember, India is a very culturally, ethnically, and politically divided country. Let short, quick judgment not overshadow other important constraints!
This book is light read yet a compelling one. You will neither find rigorous arguments, data, and detailed descriptions like you get in books written by Rodrik, Stiglitz, or Bhagwati nor you will find anti-globalization (anti-trade) sentiments resonated in Lou Dobbs’ and, to so degree in, Naomi Klein's books. This is not an intellectually challenging book on globalization but is thought-provoking. It looks more like a journalistic work; reporting style writing and not so surfacial but also not too in-depth analysis! The analysis is heavily skewed towards the plight of working class in the US (and to some degree in the Europe). Steingart dismisses Thomas Friedman's idea that "the world is flat" by arguing that disproportionate gains from trade and globalization do not add up to the world being a flat world.
He accentuates, over and over again, the differences between capital and labor market (labor market is not and cannot be flat) and how cheap labor in China and India are gaining and how middle class is emerging in these countries while in the West there have been erosion of low-tiered jobs and slow erosion of middle class.
He refutes the prevailing notion (on trade related debate) of structural adjustment in the job market by presenting statistics on job losses not only in the low-tier jobs but also in the blue-collar jobs. Meanwhile, service sectors jobs are also not increasing in the West. This means that globalization has been unfair, i.e. it is not producing win-win situation, as predicted by some trade theories, in the West. It is a win-lose situation in the West and a win-win situation in the emerging developing nations like India, China, Vietnam, and Brazil.
He also has objection with the profit-minded capitalists who overlook basic labor and environment standards in factories in China and back-office service companies in India. Steingart is worried that the US will be left behind even in knowledge market as Chinese and Indian government pour in more and more money for research and development; he fears that the next Einstein would be from India or China.
He argues that globalization is not debated as is see in reality. He also presents seven fallacies of globalization debate. His book also contains an interview with Paul Samuelson, who also resonates Steingart's argument (or it might be the other way round) that globalization has produced a win-lose situation in the US and the Europe.
…The war for wealth, a bitter struggle for a share of affluence, and the related struggle over political and cultural dominance in the world, are the real conflicts of our day. The war on terror is overblown, the man in the White House has set the wrong priorities, and the public— deliberately or not—is being kept in the dark over the true extent of the global shift of power and wealth. (pp.ix)
…The opponents and proponents of today’s globalization are united in being mistaken. Without knowing it or wanting it, they are part of a single party one could call “America, Don’t Move.” This party appears on no ballot, never holds party conventions, and has never organized a fund-raiser. It doesn’t send any of its luminaries to appear on Meet the Press or post promotional videos on YouTube, nor does it hire pollsters to investigate the opinions of farmers, housewives, and minorities. (pp.9)
Steingart’s seven fallacies of globalization debate (pp.10-21):
The natural progression for a developed economy is to move from an industry-based to a service-based economy.
Economics and morals have nothing in common.
The new world is flat.
The tide of globalization automatically lifts all boats.
Globalization is a great work of peace.
The nation can no longer do anything for the people in its care.
Globalization is a hot issue.
The flat world is broken!
…Within a period of time that would amount to barely a blip in history, 3 billion additional people and there- fore 1.5 billion new workers joined the world’s labor force and helped bring about an unprecedented shift in the balance of power. The West’s 350 million well-trained but costly workers, who until then had been responsible for a large segment of world production, became a minority almost overnight. (pp.133)
…The world is by no means running out of work, as some claim. As long as the number of goods that are produced, sold, and consumed increases, there can be no loss of jobs. At the beginning of the twenty-first century, the global economy is experiencing one of its biggest growth spurts in decades. Despite the advent of the Internet and industrial automation, the sheer volume of jobs continues to increase. What has changed, however, is the distribution of labor in the context of a global labor market. This labor market is unlimited—but not for the Western worker. (pp.141)
Samuelson’s take on the outcome of globalization:
…The globalization leads to a win-win situation for people in China. That’s true for the poor people in China and for the wealthier people in China. In the United States, the development appears to be very different. Highly specialized and professional members of the workforce will profit, while the run-of-the-mill working-class people will be the losers. It’s a win and lose situation. (pp.267)
…In the globalized society, we will see a deeper split within the developed nations. I think the lower half of the income distribution will be the losers. Globalization means two things: in all probability it means an increase in inequality, and in all probability it also means a loss of serenity. Globalization brings us more prosperity, but it also leads to more uncertainty, tension, and enhanced inequality. In America, it has already led to a cowed workforce. Even for an MIT graduate, things have changed. (pp. 270)
Finally, Samuelson’s advice:
My first piece of advice would be: choose the middle way. There is no substitute for the market mechanism— but the market mechanism has no brain, it has no heart. Without political programs it will inevitably breed inequality. My second piece of advice would be: globalization in its current shape and speed makes the world a more insecure and nervous place. We should try to slow down, and, in our own long-run interest, try to be less aggressive. (pp.274)
Oh, I don’t want to miss this! Samuelson on Keynes and Schumpeter:
…First, I was against Keynes because he was contradicting what all my wonderful professors believed. But finally I decided, am I going to let reality take over or am I going to let ideological reverence prevail? My teacher at Harvard University was Joseph Schumpeter, the famous Austrian economist who had come to Harvard from Weimar Bonn University. Schumpeter was erroneous on the Great Depression. He saw it as a healthy thing. His diagnosis was that the Great Depression was a good thing because it was going to improve productivity. Well, of course it didn’t. Of the 40 most gifted graduates in the physical sciences and the 40 most gifted graduates in the biological sciences, in my first year none had a job for the next year. What good was that going to do for the productivity of the subsequent U.S. economy?
...It used to be said that Schumpeter’s nose was out of joint, that he was kind of jealous of Keynes. He said to me: “You are in favor of Keynes because you are a socialist.” I said: “Professor Schumpeter , I come from the University of Chicago—the citadel of capitalism! When was I ever a socialist? You don’t have to be a socialist to be in favor of Keynes.” And he said: “Well, you are a socialist in the sense that you don’t revere the capitalist system.” Well, that was true. I spent my first 15 years under the rule of pure capitalism, and it had lots of advantages and lots of disadvantages. (pp.165-6)
