On
June 25 and 26, 2013, the Institute of International Finance held its
spring membership meeting in Paris. During a fifth roundtable, the
participants discussed the changing landscape for institutional
investors.
Hung
Q. Tran, Executive Managing Director, IIF
In
his introduction, Hung Q. Tran refers to the normalization of the
global economic outlook.
The
US
economy
is back to trend growth, namely due to a strong recovery of the
household sector. He holds that the FED should stop supporting the US
economy via accommodative monetary policies, in view of 2.5 % trend
growth and less than 2 % inflation. However, as a consequence of a
FED’s policy change, financial markets will, in the near future,
most likely experience a high level of instability and volatility.
Positive
evolutions in the European
economy
are declining economic imbalances among EU countries and improving
current and fiscal account balances, especially in Southern European
countries. Adverse developments exist as regards increasing unit
labor costs, namely in France and Netherlands, as well as declining
interbank lending.
In
emerging
markets,
Hung expects a small decline of investment flows in 2013 and 2014,
due to declining growth rates and lower profitability. A key concern
for these countries is also the credit growth, especially where
banks’ loan book quality is deteriorating and non-bank lending is
exploding.
Finally,
Hung identifies the declining marginal contribution of debt to growth
as the major medium and long term challenge for the US and other
developed economies: In other words, any new percentage point of debt
will, over time, contribute less and less to economic growth.
Quotes
“The
extraordinary measures taken by the FED and all the central banks
were in response to the extraordinary weaknesses of the economy after
an extraordinarily severe financial crisis.”
“In
my view, tapering off has been long overdue.”
“I
think we have a long way to go to that normal [monetary policy]
situation.”
“The
US household is now richer than ever before – higher than the peak
before the financial crisis.”
“The
longer the recession persists, the more non-performing corporate
loans will increase.”
“The
glass [the economic situation in Europe] is half fuller but still
half empty.”
“It
cannot be said that China has a deepening financial sector – it is
a bit too deep at the moment.”
“The
limitation of credit lending and the expanding financial sector is
difficult to do with a soft landing.”
“The
global economy growing at 3 % is dangerous […] because any shock –
national or man-made – could get it quickly into recession. […]
We are now basically flying without a parachute or without a
safety-net – it is worry-some.”
Ramon
Aracena, Chief Economist of the Latin America Department, IIF
Ramon
divides Latin America, from an economic angle, into three areas:
- Pacific alliance countries (Columbia, Chile, Mexico, and Peru) have well balanced and consistent macroeconomic policies in place and pursue precise inflation targets. Because of their strong fiscal positions, they will be able to withstand economic policy normalization in the US.
- On the other end of the spectrum, Venezuela’s and Argentina’s economic institutions lack independence, the countries expropriate property rights regularly, and their governments pursue “populistic anti-market policies”. As they show declining trend growth, these countries will be vulnerable to tapering in the US.
- Brazil stands in-between the above groups of countries: It might suffer economically because the country is not very open to international trade, its monetary policy lacks consistency, and the Government strongly intervenes in the economy.
Quotes
“The
main problem in Brazil now is a confidence problem.”
“[Brazil
needs] a balanced and coordinated monetary, fiscal, and quasi-fiscal
policy, all of them moving in the same direction.”
“The
problem Brazil is having is that the policy adjustments will be much
more difficult to implement […] because of social unrest and social
pressures.”
“Latin
America ranks very badly in terms of competitiveness across the
different regions.”
David
Hedley, Deputy Director of the Africa and Middle East Department, IIF
David
reports on the economic situation in Africa and identifies four major
risks for the continent:
- Inflation remains in excess of 8 %.
- Current account deficits are important, often in excess of 10 % of GDP.
- Vulnerability to commodity prices, for example in Kenya, Ghana, and Tanzania
- Large fiscal deficits are difficult to control, especially because infrastructure needs in African countries are tremendous.
Positive
for African countries are, on the other side, the currently declining
debt servicing costs, due to recent successful bond placements.
In a
spotlight on South Africa, David explain the country’s prevailing
monetary policy dilemma: As a matter of fact, South Africa has
reasons for both lowering and raising interest rates. Weak economic
activity and the need to create jobs suggest lower interest rates
while inflation at roughly 5.6 % and depreciating exchange rates back
high interest rates.
Lubomir
Mitov, Chief Economist of the European Department, IIF
Lubomir’s
presentation focuses on central Europe:
In
the realm of recessions in Western European countries, central
European countries currently experience a sharp drop in foreign
direct investment inflows. Furthermore, as European banks deleverage,
bank lending in these countries has dropped sharply. Additional
internal factors such as weak consumer and business confidence as
well as weak domestic demand contribute to fairly sluggish economies
in this region.
As
reported by Lubomir Mitov, central banks can do little to tackle
these problems. They require structural reforms, which are
problematic for governments to implement, because of tight fiscal
budgets.
Quotes
“There
is one single issue which is of importance in the region [Central
Europe] – the really disappointing growth performance.”
“Fixed
investment has been declining almost everywhere [in Central Europe].”
“Because
the slowdown [of the economy] seems to be mostly structural, policy
challenges have become more difficult.”
“To
summarize, we have very constraint policy options.”
“Under
these circumstances [unemployment at records lows, inflation at
record highs (about 7 %), and pressure on wages] fiscal and monetary
policy [in Russia] can do little to boost growth but can do a lot to
further push inflation up.”
“The
odds for a major financial dislocation [in Ukraine] have really
increased sharply and are rising. And we are really talking about
something big here.”
“This
[high current account deficits in Turkey in the range of 6-7 % of
GDP] is not an alarming situation as long as capital inflows are
coming but could become really difficult to handle when capital flows
go out.”
“What
makes Hungary really vulnerable is the very large exposure to foreign
exchange risk.”
Patrick
Artus, Chief Economist, Natixis
Patrick
primarily explains the differences between monetary policies in the
US and in Europe.
First,
the European Central Bank has traditionally adopted a monetary policy
not comprising the purchase or holding of government bonds. Second,
different monetary policies in the US and Europe can be explained by
the hierarchy between long-term rates and nominal growth: Long-term
rates below nominal growth rates have a positive effect on the
economy because de-leveraging will become easier and asset prices
will go up. The US FED benefits from such a situation whereas Europe,
at present, experiences the opposite.
Natixis’
chief economist concludes that it would not be wise for the ECB to
follow expansionary monetary policies of the type adopted in the US
or Japan. The reasons are the following:
- Extremely low level of potential growth in Europe (Nominal potential growth of 2 % per year as opposed to 4.5 % per year in the US) which makes it difficult to bring long-term growth rates below potential growth.
- High debt to GDP ratios in Europe
- In the US, credit demand has been growing again since 2011. At the same time, credit demand in Europe has collapsed.
According
to Patrick Artus, possible solutions for solving the European crisis
consist of
- making European capital markets less segmented country by country;
- making the quality of banks' balance sheets more transparent;
- improving technical progress in Europe;
- making labor markets less rigid and more flexible.
Quotes
“The
austerity policies [in Europe] probably – or visibly – have not
lead to very successful results.”
“There
is very little excess liquidity in the Euro area. There is a lot of
excess liquidity in the US and Japan.”
“The
ECB is very much aware of the moral hazard effects that could arise
if it were to start buying very aggressively on the government bond
markets.”
“[Long-term
rates below nominal growth] is what is behind the [economic] recovery
in the US.”
“In
theory, there are no clear-cut effects of a very large monetary
expansion on the economy.”
“My
personal view on Japan is that what's been done [the monetary policy]
is very detrimental to the Japanese economy and this is very much
going in the wrong direction.”
“I
am absolutely convinced that we will end up with a Yen crisis. At
some stage, the balance sheet of the Bank of Japan will become so
large that people will start to get out of the Yen. This is an
extremely dangerous risk the central bank is taking.”
“Europe
is so different from the US that it is very unlikely that, what
worked in the US, would be efficient in Europe.”
“The
big problem [for obtaining a fiscal stimulus in Europe] here is the
segmentation of capital markets.” “If you want a fiscal stimulus,
it's mostly on a country by country basis.”
“There
is a very significant negative effect of [a high] Debt/GDP ratio on
potential growth. […] I am very much worried about what's going on
with debt/GDP ratios in Europe.”
“You
cannot force someone to borrow more if he doesn't want to.”
“We
have to work on the structures of Europe. Monetary policy will not
help very much doing that.”
“The
effects of very expansionary monetary policies are extremely
ambiguous and extremely difficult to credit.”
Paul
Donovan, Senior Global Economist, UBS Investment Bank
Paul
talks about China and highlights lower growth prospects for the
country. In his view, this is mainly due to declining demographics
and limited natural resources. This lower growth rate as such is,
however, not a major problem for China, because its Inflation has
remained lower than expected and helps keeping social stability.
Nevertheless,
in the long run, China should keep an eye on its debt level whose
growth might become unsustainable.
Quotes
“I
don't come with good news […]; I come with less bad news.”
“In
the longer term, China's growth is clearly lower [around 5.5 % or, in
a risk case scenario, about 2 %].”
“A
natural disaster is good for growth. […] It is not good for
standards of living.”
“You
[the Chinese government] don't want a credit bubble in the first year
in office [now], you want it in the ninth year in office.”
Therefore, the Chinese government will not allow a credit bubble to
burst now.”
“I
am not worried by the stock of debt in China. Debt of 200 % of GDP is
not a problem. This is domestically owned debt.”
“Inter-generational
wealth transfers can be reversed very easily. There are many ways we
can transfer wealth between the generations – something I remind my
father of on a weekly basis.”
“We
cannot have the level of credit growth [in China] that we have seen
in the past.”