Fixing Global Finance Martin Wolf, Associate Editor & Chief - - PowerPoint PPT Presentation

▶
fixing global finance
SMART_READER_LITE
LIVE PREVIEW

Fixing Global Finance Martin Wolf, Associate Editor & Chief - - PowerPoint PPT Presentation

Nov 22, 2023 263 likes •684 views

Fixing Global Finance Martin Wolf, Associate Editor & Chief Economics Commentator, Financial Times Leverhulme Centre for Research on Globalisation and Economic Policy and School of Economics, Nottingham University October 13 th 2008

slide-1
SLIDE 1

Fixing Global Finance

Martin Wolf, Associate Editor & Chief Economics Commentator, Financial Times

Leverhulme Centre for Research on Globalisation and Economic Policy and School of Economics, Nottingham University October 13th 2008

slide-2
SLIDE 2

2

Fixing Global Finance

“Things that can’t go on forever, don’t”

Herbert Stein

slide-3
SLIDE 3

3

Fixing Global Finance

“The current financial crisis in the US is likely to be judged in retrospect as the most wrenching since the end of the second world war.” Alan Greenspan, Financial Times, March 16th 2008

slide-4
SLIDE 4

4

Fixing Global Finance

“Asia has become the source of finance, the source of savings. It now has the human capital to manage that well. Why doesn't it take the advantage of that

  • pportunity to try and create

financial markets that work better for the people of Asia?” Joseph Stiglitz.

slide-5
SLIDE 5

5

Fixing Global Finance

  • Outline of the argument:

1. The emerging market crises showed the danger of foreign currency borrowing 2. Many emerging economies decided to self-insure and become creditor nations 3. The US and a few other high-income countries became borrowers of last resort 4. This created twin economic risks: external and internal 5. The internal risks have proved dominant, but this saga is not over 6. More emerging economies will now move into current account deficit 7. This means we need a much stronger system of global finance

slide-6
SLIDE 6

6

  • 1. Emerging market crises
  • In the 1980s and 1990s, emerging market economies

suffered a series of shattering foreign currency and banking crises

  • These culminated in the Asian crises of 1997-98, the

Russian and Brazilian crises of 1998-99 and the Argentine crisis

  • A central feature of many of these crises was current

account deficits, financed by short-term foreign currency borrowing

  • When the crises hit, the currencies collapsed and the

currency mismatches created mass bankruptcies

slide-7
SLIDE 7

7

  • 1. Emerging market crises

VALUE AGAINST THE US DOLLAR: EAST ASIA (January 1996 = 100)

0.0 20.0 40.0 60.0 80.0 100.0 120.0

08/03/1996 08/07/1996 08/11/1996 08/03/1997 08/07/1997 08/11/1997 08/03/1998 08/07/1998 08/11/1998 08/03/1999 08/07/1999 08/11/1999 08/03/2000 08/07/2000 08/11/2000 08/03/2001 08/07/2001 08/11/2001 08/03/2002 08/07/2002 08/11/2002 08/03/2003 08/07/2003 08/11/2003 08/03/2004 08/07/2004 08/11/2004 08/03/2005 08/07/2005 08/11/2005 08/03/2006

SOUTH KOREAN WON MALAYSIAN RINGGIT PHILIPPINE PESO INDONESIAN RUPIAH THAI BAHT

CURRENCY COLLAPSES IN THE CRISES

slide-8
SLIDE 8

8

  • 1. Emerging market crises

FOREIGN CURRENCY LIABILITIES OF THE BANKING SYSTEM (per cent of GDP)

5.9% 5.6% 4.8% 12.7% 6.2% 26.8% 17.2% 9.3% 9.2% 5.6% 0.0% 5.0% 10.0% 15.0% 20.0% 25.0% 30.0% Thailand Philippines South Korea Malaysia Indonesia 1992 1996

Source: Barry Eichengreen (2004)

DANGER OF FOREIGN CURRENCY LIABILITIES

slide-9
SLIDE 9

9

  • 1. Emerging market crises

THE MACROECONOMIC CONSEQUENCES OF THE ASIAN CRISIS (GDP in the year before a crisis and four subsequent years)

80.0 85.0 90.0 95.0 100.0 105.0 110.0 115.0 120.0 1 2 3 4 5 6

Indonesia 1996-2001 Korea 1996-2001 Malaysia 1996-2001 Thailand 1996-2001

CONSEQUENT ECONOMIC COLLAPSES

slide-10
SLIDE 10

10

  • 1. Emerging market crises

FISCAL COST OF SOME OF THE BIG EMERGING MARKET CRISES (per cent of GDP)

55.0% 55.0% 42.0% 34.8% 30.5% 28.0% 19.3% 16.4% 7.0% 6.0% 0.0% 10.0% 20.0% 30.0% 40.0% 50.0% 60.0% Indonesia 1997- Argentina 1980-82 Chile 1981-86 Thailand 1997- Turkey 2000- South Korea 1997- Mexico 1994-97 Malaysia 1997- Philippines 1998- Russia 1998-99

Source: Caprio and Klingebiel

AND HUGE FISCAL LOSSES FOR BAIL-OUTS

slide-11
SLIDE 11

11

  • 2. Rise of emerging country surpluses
  • In the 2000s the emerging world moved into massive

current account surplus

  • This was part of the explanation for the “savings glut”

and low global real interest rates pointed to, correctly, by Alan Greenspan and Ben Bernanke

  • Behind the emerging savings glut were three forces:

– Cut-backs of investment in countries affected by financial crises; – Emergence of vast Chinese surpluses; and – Emergence of the surpluses of oil exporting countries with high oil prices.

slide-12
SLIDE 12

12

  • 2. Rise of emerging country surpluses

SAVINGS, INVESTMENT AND CURRENT ACCOUNTS OF EMERGING MARKET AND OIL-PRODUCING COUNTRIES (per cent of GDP)

  • 2
  • 1

1 2 3 4 5 6 7 8 9 1 9 7 1 9 7 2 1 9 7 4 1 9 7 6 1 9 7 8 1 9 8 1 9 8 2 1 9 8 4 1 9 8 6 1 9 8 8 1 9 9 1 9 9 2 1 9 9 4 1 9 9 6 1 9 9 8 2 2 2 2 4 2 6

Current Account Saving Investment

Source: IMF, World Economic Outlook, April 2007

EMERGING ECONOMIES SHIFT INTO SURPLUS

slide-13
SLIDE 13

13

  • 2. Rise of emerging country surpluses

THE GREAT IMBALANCES

RISE AND FALL OF THE GLOBAL IMBALANCES (per cent of world GDP)

  • 2
  • 1.5
  • 1
  • 0.5

0.5 1 1.5 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013

United States Euro Area Japan Emerging Asia Oil exporters

Source: IMF, World Economic Outlook April 2008

slide-14
SLIDE 14

14

  • 2. Rise of emerging country surpluses

GLOBAL CURRENT ACCOUNT 2006 ($bn)

  • $857
  • $68

$131 $170 $239 $102 $511 $396

  • $131

$19

  • $1,000
  • $800
  • $600
  • $400
  • $200

$0 $200 $400 $600 US UK Western Europe, excluding UK Japan China Rest of Asia Total Asia Fuel exporters Rest of World Discrepancy Source: IMF, World Economic Outlook, April 2004, April 2007 and April 2007 Database.

US AS BORROWER OF LAST RESORT

slide-15
SLIDE 15

15

  • 2. Rise of emerging country surpluses

SURPLUS COUNTRIES 2007 ($bn)

$512 $361 $213 $185

$0 $200 $400 $600 $800 $1,000 $1,200 $1,400 $1,600 $1,800 2007

Remaining Surplus Countries Malaysia Taiwan Province of China Sweden Singapore Netherlands Switzerland Germany Japan China Oil Exporters

GLOBAL SURPLUSES

slide-16
SLIDE 16

16

  • 2. Rise of emerging country surpluses

GLOBAL DEFICITS

DEFICIT COUNTRIES 2007 ($bn)

  • $739
  • $146
  • $136
  • $1,600
  • $1,400
  • $1,200
  • $1,000
  • $800
  • $600
  • $400
  • $200

$0

Remaining Deficit Countries Romania France Turkey Greece Italy Australia United Kingdom Spain United States

slide-17
SLIDE 17

17

  • 2. Rise of emerging country surpluses

RISE OF FOREIGN CURRENCY RESERVES

GROWTH OF FOREIGN CURRENCY RESERVES ($m)

$0 $1,000,000 $2,000,000 $3,000,000 $4,000,000 $5,000,000 $6,000,000 $7,000,000 $8,000,000 J a n

  • 9

9 M a y

  • 9

9 S e p

  • 9

9 J a n

  • M

a y

  • S

e p

  • J

a n

  • 1

M a y

  • 1

S e p

  • 1

J a n

  • 2

M a y

  • 2

S e p

  • 2

J a n

  • 3

M a y

  • 3

S e p

  • 3

J a n

  • 4

M a y

  • 4

S e p

  • 4

J a n

  • 5

M a y

  • 5

S e p

  • 5

J a n

  • 6

M a y

  • 6

S e p

  • 6

J a n

  • 7

M a y

  • 7

S e p

  • 7

J a n

  • 8

M a y

  • 8

Industrial Countries Asian Developing Countries Oil Exporting countries Other Developing Countries

slide-18
SLIDE 18

18

  • 3. US becomes borrower of last resort
  • US emerged as the principal borrower in the system
  • This created external and internal financial deficits
  • These were also promoted by the loose monetary

policy, made partly in response to the savings glut

  • The most important aspect of internal deficits was the

huge financial deficits of US households

  • These were sustained by the ability to borrow against

rising housing wealth

slide-19
SLIDE 19

19

  • 3. US becomes borrower of last resort
  • But the result was growing vulnerability of the US

financial system to housing-related debt

  • This was made worse by extremely poor regulation –

indeed active encouragement of very bad lending

  • It was the internal, not the external deficits, that proved

the “killers”

slide-20
SLIDE 20

20

  • 3. US becomes borrower of last resort

US NET INTERNATIONAL INVESTMENT POSITION (as per cent of GDP)

  • 100.0%
  • 50.0%

0.0% 50.0% 100.0% 150.0% 200.0% 1 9 7 6 1 9 7 8 1 9 8 1 9 8 2 1 9 8 4 1 9 8 6 1 9 8 8 1 9 9 1 9 9 2 1 9 9 4 1 9 9 6 1 9 9 8 2 2 2 2 4 2 6

U.S.-owned assets abroad (with FDI valued at market prices) Foreign-owned assets in the U.S. (with FDI at market prices) Net International Investment Position Net International Investment Position (cumulative current account)

US “CHEATS” ITS CREDITORS

slide-21
SLIDE 21

21

  • 3. US becomes borrower of last resort

US DOMESTIC IMBALANCES

FINANCIAL BALANCES IN THE US ECONOMY, SINCE 1990 (per cent of GDP)

  • 8.0%
  • 6.0%
  • 4.0%
  • 2.0%

0.0% 2.0% 4.0% 6.0% 8.0% 1 9 9

  • I

1 9 9

  • I

V 1 9 9 1

  • I

I I 1 9 9 2

  • I

I 1 9 9 3

  • I

1 9 9 3

  • I

V 1 9 9 4

  • I

I I 1 9 9 5

  • I

I 1 9 9 6

  • I

1 9 9 6

  • I

V 1 9 9 7

  • I

I I 1 9 9 8

  • I

I 1 9 9 9

  • I

1 9 9 9

  • I

V 2

  • I

I I 2 1

  • I

I 2 2

  • I

2 2

  • I

V 2 3

  • I

I I 2 4

  • I

I 2 5

  • I

2 5

  • I

V 2 6

  • I

I I 2 7

  • I

I 2 8

  • I

Private Financial Balance Government Financial Balance Foreign Financial Balance

slide-22
SLIDE 22

22

  • 3. US becomes borrower of last resort

HOUSEHOLDS SPENT; COMPANIES DID NOT

US HOUSEHOLD AND BUSINESS FINANCIAL BALANCES (as per cent of GDP)

  • 5.0%
  • 4.0%
  • 3.0%
  • 2.0%
  • 1.0%

0.0% 1.0% 2.0% 3.0% 4.0% 5.0% 1 9 9

  • I

1 9 9

  • I

V 1 9 9 1

  • I

I I 1 9 9 2

  • I

I 1 9 9 3

  • I

1 9 9 3

  • I

V 1 9 9 4

  • I

I I 1 9 9 5

  • I

I 1 9 9 6

  • I

1 9 9 6

  • I

V 1 9 9 7

  • I

I I 1 9 9 8

  • I

I 1 9 9 9

  • I

1 9 9 9

  • I

V 2

  • I

I I 2 1

  • I

I 2 2

  • I

2 2

  • I

V 2 3

  • I

I I 2 4

  • I

I 2 5

  • I

2 5

  • I

V 2 6

  • I

I I 2 7

  • I

I 2 8

  • I

Business Financial Balance Household Financial Balance

slide-23
SLIDE 23

23

  • 3. US becomes borrower of last resort

GREAT HOUSEHOLD SPENDING BOOM

PERSONAL SAVINGS AND INVESTMENT (as per cent of GDP)

  • 6.0%
  • 4.0%
  • 2.0%

0.0% 2.0% 4.0% 6.0% 8.0% 10.0% 1990-I 1990-III 1991-I 1991-III 1992-I 1992-III 1993-I 1993-III 1994-I 1994-III 1995-I 1995-III 1996-I 1996-III 1997-I 1997-III 1998-I 1998-III 1999-I 1999-III 2000-I 2000-III 2001-I 2001-III 2002-I 2002-III 2003-I 2003-III 2004-I 2004-III 2005-I 2005-III 2006-I 2006-III 2007-I 2007-III 2008-I

Gross Personal saving Gross Residential Investment Household Financial Balance

slide-24
SLIDE 24

24

  • 3. US becomes borrower of last resort

AND MASSIVELY INCREASED OVERALL DEBT

SECTORAL RATIOS OF US DEBT TO GDP

0.0% 20.0% 40.0% 60.0% 80.0% 100.0% 120.0% 140.0% 1974 1975 1976 1977 1978 1979 1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 Q2

Households Non-financial Business All Government Financial Sectors

slide-25
SLIDE 25

25

  • 3. US becomes borrower of last resort

AND MASSIVELY INCREASED HOUSEHOLD DEBT

HOUSEHOLD DEBT AND DEBT SERVICE (as per cent of disposable incomes)

40.0 60.0 80.0 100.0 120.0 140.0 160.0 Q1 80 Q1 81 Q1 82 Q1 83 Q1 84 Q1 85 Q1 86 Q1 87 Q1 88 Q1 89 Q1 90 Q1 91 Q1 92 Q1 93 Q1 94 Q1 95 Q1 96 Q1 97 Q1 98 Q1 99 Q1 00 Q1 01 Q1 02 Q1 03 Q1 04 Q1 05 Q1 06 Q1 07 Q1 08 10.0 10.5 11.0 11.5 12.0 12.5 13.0 13.5 14.0 14.5 15.0 US Household Debt US Household Debt Payments

slide-26
SLIDE 26

26

  • 3. US becomes borrower of last resort

AND MASSIVELY INCREASED HOUSEHOLD DEBT

HOUSEHOLD LIABILITIES (as per cent of disposable income)

0.0 20.0 40.0 60.0 80.0 100.0 120.0 140.0 160.0 180.0 200.0 United Kingdom United States Japan Canada Germany France Italy 1996 2006 2007 OECD Economic Outlook

slide-27
SLIDE 27

27

  • 4. Implications of the “subprime crisis”
  • This episode is now at an end, as:

– US house prices fall; – housing-related debt deteriorates in quality; and – the financial system becomes de-capitalised

  • So the US is moving into export-led growth
slide-28
SLIDE 28

28

  • 4. Implications of the “subprime crisis”

BURST HOUSING BUBBLE

HOUSE PRICES IN THE US (Case-Shiller 10-City Index)

50 100 150 200 250 J a n

  • 8

8 J a n

  • 8

9 J a n

  • 9

J a n

  • 9

1 J a n

  • 9

2 J a n

  • 9

3 J a n

  • 9

4 J a n

  • 9

5 J a n

  • 9

6 J a n

  • 9

7 J a n

  • 9

8 J a n

  • 9

9 J a n

  • J

a n

  • 1

J a n

  • 2

J a n

  • 3

J a n

  • 4

J a n

  • 5

J a n

  • 6

J a n

  • 7

J a n

  • 8
  • 25
  • 20
  • 15
  • 10
  • 5

5 10 15 20 Real House Prices Change in Real House Prices

slide-29
SLIDE 29

29

  • 4. Implications of the “subprime crisis”

CREDIT SHOCK IN THE US

DISAPPEARANCE OF THE COMMERCIAL PAPER MARKET 500,000 1,000,000 1,500,000 2,000,000 2,500,000 30/08/2006 30/09/2006 30/10/2006 30/11/2006 30/12/2006 30/01/2007 28/02/2007 30/03/2007 30/04/2007 30/05/2007 30/06/2007 30/07/2007 30/08/2007 30/09/2007 30/10/2007 30/11/2007 30/12/2007 30/01/2008 29/02/2008 30/03/2008 30/04/2008 30/05/2008 30/06/2008 30/07/2008

Asset-backed Commercial Paper Financial Commercial Paper Outstanding Nonfinancial Commercial Paper Outstanding

slide-30
SLIDE 30

30

  • 4. Implications of the “subprime crisis”

CREDIT SHOCK IN THE US

SPREADS BETWEEN TREASURY BILL AND COMMERCIAL PAPER RATES IN THE US (percentage points)

1 2 3 4 5 6 7 01/09/2006 01/10/2006 01/11/2006 01/12/2006 01/01/2007 01/02/2007 01/03/2007 01/04/2007 01/05/2007 01/06/2007 01/07/2007 01/08/2007 01/09/2007 01/10/2007 01/11/2007 01/12/2007 01/01/2008 01/02/2008 01/03/2008 01/04/2008 01/05/2008 01/06/2008 01/07/2008 01/08/2008 01/09/2008

US 3 mth Treasury bill yield (%) US A2/P2 non-financial 90 day yield (%) Spread

slide-31
SLIDE 31

31

  • 4. Implications of the “subprime crisis”

RISK SPREADS ON US CORPORATE BONDS (percentage points over Treasuries)

500 1000 1500 2000 2500 3000 30/09/2002 30/12/2002 30/03/2003 30/06/2003 30/09/2003 30/12/2003 30/03/2004 30/06/2004 30/09/2004 30/12/2004 30/03/2005 30/06/2005 30/09/2005 30/12/2005 30/03/2006 30/06/2006 30/09/2006 30/12/2006 30/03/2007 30/06/2007 30/09/2007 30/12/2007 30/03/2008 30/06/2008 30/09/2008 BBB rated B rated C rated

RISE OF RISK PERCEPTIONS

slide-32
SLIDE 32

32

  • 4. Implications of the “subprime crisis”

DEMAND DRIVERS OF US GROWTH

  • 2.0
  • 1.0

0.0 1.0 2.0 3.0 4.0 5.0 6.0 Q 1 1 Q 3 1 Q 1 2 Q 3 2 Q 1 3 Q 3 3 Q 1 4 Q 3 4 Q 1 5 Q 3 5 Q 1 6 Q 3 6 Q 1 7 Q 3 7 Q 1 8

Domestic demand Net exports GDP (yoy%)

US EXPORT-LED GROWTH

slide-33
SLIDE 33

33

  • 4. Implications of the “subprime crisis”
  • At present the risk is almost entirely on the internal

side, which the US can manage, because it borrows in its own currency

  • But there is also a risk on the external side:

– What if creditors decide they are losing too much? – What if there is a panic sale of dollars

  • Then the US may only be able rescue the financial

system by an inflationary default and possible collapse

  • f the dollar standard
  • So external vulnerability is also an issue
slide-34
SLIDE 34

34

  • 4. Implications of the “subprime crisis”

FALLING REAL EXCHANGE RATE FOR THE US

60 70 80 90 100 110 120 130 Jan-70 Jan-72 Jan-74 Jan-76 Jan-78 Jan-80 Jan-82 Jan-84 Jan-86 Jan-88 Jan-90 Jan-92 Jan-94 Jan-96 Jan-98 Jan-00 Jan-02 Jan-04 Jan-06 Jan-08

IT’S MANAGEABLE – SO FAR

slide-35
SLIDE 35

35

  • 5. Need for adjustment in emerging economies
  • This big US adjustment is compatible with global

growth only if other countries have smaller surpluses

  • r bigger deficits
  • Oil exporters have a good reason to run big surpluses,

because they are shifting one asset into another, though the IMF does expect them to spend more

  • But non-oil exporters also need to reduce current

account surpluses or increase deficits

  • This means they must spend more relative to incomes
  • China is the most important single case
slide-36
SLIDE 36

36

  • 6. Role of reforms in global finance
  • So how are emerging countries to run current account

deficits safely?

  • The answer is that the external finance must itself be

relatively stable

  • There are three solutions:`

– Equity investment (FDI and portfolio); – Local currency bonds; or – More collective insurance – e.g. via the IMF

  • The development of local-currency bond markets shifts

a potentially lethal risk onto foreign investors

slide-37
SLIDE 37

37

  • 6. Role of reforms in global finance
  • Of course, the development of local currency finance

also depends on:

– A sustainable fiscal position – A sound currency – A well-regulated financial system – Openness to foreign investors

  • Without these qualities local currency finance will fail,

for both domestic residents and foreigners

  • Countries that cannot generate such conditions need

exchange controls

slide-38
SLIDE 38

38

  • 6. Role of reforms in global finance

EMERGING MARKET BONDS OUTSTANDING ($bn)

$287 $498 $618 $534 $1,312 $43 $369 $875 $2,640

$0 $500 $1,000 $1,500 $2,000 $2,500 $3,000 $3,500 $4,000 $4,500 1995 2000 2005

International Domestic Public Domestic Private

Source: "Financial stability and local currency bond markets", BIS, June 2007

RISE OF DOMESTIC CURRENCY FINANCING

slide-39
SLIDE 39

39

  • 7. Conclusion
  • The financial crisis is far worse than I had expected
  • Moreover, interestingly, it is far more related to

internal, rather than external, imbalances

  • This may not remain the case indefinitely, however
  • The reduction in the internal imbalances depends on

reducing the external imbalances, while maintaining global economic growth

  • This depends on big changes in the rest of the world

and reforms in the global financial system

slide-40
SLIDE 40

40

  • 7. Conclusion
  • These changes include:

– Much more local currency finance – Bigger collective insurance systems – More co-operative management of the system