Friday, October 31, 2008
Washington Post - In Tightfisted Turn, Economy Contracts
Bloomberg - Canada's Economy Shrank 0.3% in August on Wholesale
The economies in the United States and Canada have begun to shrink. In the third quarter ending September 30, the U.S. economy contracted by 0.3 percent, and in the month of August, the Canadian economy also shrank by 0.3 percent.
The shrinking economies confirm what many economists fear: that these countries are slipping into a recession. A recession is indicated by two straight quarters of negative GDP growth. Despite the bad news on the economy, stocks in the U.S. were up nearly 200 points on the day of the announcement of the economic figures, reflecting that many thought the figures on the economic contraction would be even worse. Such is the chaotic nature of the U.S. stock market in the past several months, where a several-hundred-point loss may be viewed with signs of relief.
The shrinking U.S. economy was led by a decline in consumer spending of 3.1 percent, the first decline in 17 years and the worst fall overall since 1980. In contrast to the U.S. economic turmoil after 9/11, where consumer spending was not greatly affected, this time around U.S. consumers have stopped buying. Previously free-flowing credit lines have dried up, and U.S. consumer credit will be the next casualty of the expanding economic crisis.
The U.S. economy would have shrank even more if not for the growth in exports over the last quarter. Exports grew at a 5.9 percent annual rate. However, even exports are likely to slow over the next few months as the U.S. dollar appreciates rapidly against many global currencies, making U.S. exports more expensive and less competitive.
In Canada, the economy shrank largely on declines in wholesaling and manufacturing, which fell 3.1 and 1.1 percent, respectively. Canada is also being hurt by the shrinking U.S. economy. Three-fourths of Canadian exports go to the U.S., where consumer demands have weakened. Canada has also been afflicted, like much of the world, by a falling currency value relative to the U.S. dollar and the Japanese yen.
1) What is the relation between the falls in the U.S. stock market and the overall growth rate of the economy (GDP growth)?
2) As the U.S., Canadian, and many European economies face downturns, which countries are in a position to benefit comparatively?
On Wednesday, October 29th, the IMF announced that it will be using a new emergency lending tool to help countries that have been squeezed by the global credit crunch. The new program is especially designed to help countries that ordinarily have healthy economies, but that have been hit hard by the freezing of the credit markets. Many of these countries have had trouble maintaining "liquidity," meaning that their institutions have had trouble buying and selling their assets smoothly and meeting their payment obligations. The new program, which is worth approximately $100 billion, is specifically directed at improving liquidity.
The IMF's Managing Director, Dominique Strauss-Kahn, sees this new program as a useful way of temporarily helping countries that do not necessarily need to change their economic policies, but that simply need help circulating their assets. For years, the IMF has required countries to adjust their economic and political systems before providing them with loan money. In the face of the global credit crisis, however, the IMF's leadership has turned its focus to helping countries who have short-term liquidity needs, as opposed to long-term policy needs. According to Strauss-Kahn, the new program addresses the gap between these needs in the IMF's "toolkit of financial support."
These new loans will be available to countries that the IMF views as having a strong "track record." A country will be more likely to receive a loan under this new program if, for example, it has had sound economic policies in the past and currently has access to capital markets. The degree of debt that a country currently faces is also likely to affect whether or not it qualifies for this loan; countries that have debt burdens that are relatively manageable will be more likely to receive funds.
According to Strauss-Kahn, the IMF recognizes that the crisis has left the world in an urgent state and the new plan is further proof that the organization is taking steps to help the international community respond to the crisis. It will be interesting to see, in the coming days, how the international community reacts to this plan and how the IMF goes about implementing the criteria that it seems to have formulated for disbursing aid.
1- The IMF will take access to markets, degree of debt, and historical policy soundness into account when disbursing funds. What do you think about the criteria that the IMF has set forth for determining what countries are eligible to participate in the new program? Do you think that the IMF should take other factors into account?
2- The IMF seems to have shifted its focus from countries that need aid and policy guidance to countries that are stable and simply need liquidity. Do you think that this is a positive shift?
Monday, October 27, 2008
The fallout from the global credit crisis and its failing firms has reared its ugly head in the form of plummeting employment in one of the world’s leading financial centers. According to a Federal Reserve report, Current Issues in Economics and Finance, “[New York City]’s finance sector stands on the verge of a significant multiyear downturn in employment and in real earnings.”
Two percent of the finance jobs in New York were cut between March and August 2008. In September, there were 460,000 finance jobs left. In previous economic downturns of comparable magnitude, finance jobs in New York have gone down 12–17%, which could mean 55,000–70,000 less jobs now. The New York City comptroller estimates that the city could lose up to 35,000 jobs in the coming months, largely due to the collapse of Bear Stearns and Lehman Brothers.
With several more firms forecasting job cuts, including Merrill Lynch and Goldman Sachs, the city is facing a downturn of employment in terms of both wages and real jobs. Jobs in finance are traditionally higher paying, and each job is thought to create two-and-a-half other jobs in the city. Other firms, such as HSBC, Bradford & Bingley, UBS, and Fidelity are streamlining their workforces as their funds contract. To make matters worse, failing firms’ employees, like those laid off from Lehman, are flooding the shrinking market.
A similar problem is wreaking havoc on London’s job market, where the number of job vacancies in London fell by 40% compared to the same time period in 2007, as 42% more finance workers are looking for jobs.
Questions for discussion:
1) Will the job cycle remain cyclical as it has in the past? How will the market handle an influx of skilled finance workers?
2) The shrinking pool of finance workers has already started trickling down to other sectors of the New York City economy; for example, cab and limo drivers are seeing a drastic drop in their incomes because fewer people are around to take taxis or limos and those who do are opting for more economical transportation, such as mass transit. How do you think the market will respond to this?
As Another Week Begins the Federal Reserve Remains at the Center of Efforts to Alleviate Growing Financial Woes
16 Banks Plan to Seek U.S. Aid, New York Times
U.S. Regional Banks Eye Deals With TARP Cash, Financial Times
Since the beginning of the United States government's official efforts to limit the effects of the worsening global financial crisis, the already important Federal Reserve has emerged as an even more significant player in the U.S. financial marketplace. Each day seems to bring the announcement of another massive infusion of cash by the Federal Reserve into the ailing American financial community. Recent examples of the Federal Reserve's increasingly aggressive intervention include the $540 billion to buy bad debt from money market funds, over $30 billion in Troubled Asset Relief Program (TARP) funding to 16 regional banks such as SunTrust and State Street Financial, and a $5 billion loan to GE financial.
In addition to its newly heightened activity in the areas of cash infusion and provision of liquidity to banks and financial institutions, the Federal Reserve is also getting attention for its more traditional function: regulation of interests. While many experts, including many economists within the Federal Reserve system, believe that a further cut to the federal funds interest rate is a less important element of the solution to the global financial crisis than the continued infusions of cash and liquidity to the marketplace, a half point cut is still expected from this weeks Federal Reserve meeting.
While monetary policymakers and experts alike, both in the United States and globally, are not convinced that a cut in U.S. interest rates will have a significant impact on the financial predicament, they do believe that interest rate cuts in other global economies are necessary and that U.S. cuts may inspire similar action throughout the global community.
1) For how long should the Federal Reserve continue to play a heightened role in providing cash/liquidity to American institutions?
2) Will a cut to the Federal Funds interest rate have an effect on the financial crisis? Will it be positive?
3) Does another cut to interest rates in the United States increase the risk of deflation?
4) Will a cut in U.S. interest rates lead other countries to cut their interest rates? Is a global cut in interest rates needed?
India’s economy is in good shape, according to its prime minister and world renowned economist Dr. Manmohan Singh, in spite of the current credit crisis. He said that “India’s banking system is sound and well-capitalized. It is not exposed to the type of assets which have given rise to the crisis” and is still likely to grow at 7 to 7.5 percent. Although the financial crisis will eventually hit the “real” economy and India will feel some of the effects of the credit crunch, Singh sounded optimistic about India’s financial standing.
While reporting on the shape of India’s financial system and stating that India stands ready to cooperate with the international community to fix the broken financial system, Singh stole the spotlight at the Asia-Europe Summit on Friday, October 24. During his address at the summit, Singh elaborated on the views of IMF managing director Dominique Strauss-Kahn , who had previously laid out three causes of the current economic crisis. These causes, Singh said, were
1. Regulatory and supervisory failure in developed countries.
2. Failure in risk management in private financial institutions.
3. Failure in market discipline mechanisms.
Singh argued during that although the world has developed a truly global economy, that economy is not supported to any kind of effective global governance. To solve the crisis caused by a lack of leadership and regulation, he said, it is necessary to “de-clog the credit markets the world over. Coordinated global action is essential to restore a measure of confidence in the credit market.” He told the world leaders gathered at the summit that increasing infrastructure investments in developing countries and backing the increase with increased resource flows from multinational financial institutions could lead to stabilization of the world’s financial system. He also said that the effort to reform the financial system must be a collective one undertaken by the entire international community because the world’s economies and financial systems are so interconnected. Finally, he claimed that if there had been a good regulatory mechanism in place, the global financial crisis would not have happened.
1. Did Singh accurately pinpoint the causes of the current financial crisis?
2. Is India’s economy likely to remain strong in the face of the current financial crisis?
3. Will European and Asian countries be able to work together effectively to stabilize the global financial system?
For Cubans, U.S. Election Issue is the Embargo, NBC News Worldblog
Cuba-EU Ends Standoff With Cooperation Accord, Associated Press
On October 29, the U.N. will vote on whether to approve Cuba’s resolution calling for the U.S. embargo on Cuba to be lifted. Every year Cuba has asked the U.N. General Assembly to condemn the U.S. embargo, and for the past 16 years, the assembly has approved Cuba's resolution. The embargo costs Cuba an estimated $232 million USD per year in lost foreign investment. Cuba blames the sanctions for more than $93 billion USD in total economic damage since the original imposition of the full embargo in 1962. Cuba is especially vulnerable this year after twin hurricanes Gustav and Ike battered the island in the late summer. The hurricanes killed crops and farm animals and caused an estimated $5 billion USD in damage. Even though the government is distributing the country’s food reserves, approximately 500,000 Cubans are living in government shelters and relying on public handouts to survive.
For Cubans, the issue in the quickly approaching U.S. presidential elections is clearly the half-century trade embargo between the two countries. However, a top official in Cuba’s Ministry of Foreign Investment stated it is unlikely the embargo will be lifted in the near future, regardless of whether Barack Obama or John McCain becomes the next U.S. president. Neither candidate has announced a detailed policy toward Cuba. However, Obama has stated he would ease restrictions on family-related travel and on money Cuban-Americans send to their families in Cuba. He also stated he would be willing to meet with Cuban president Raul Castro without preconditions. McCain has called the offer to meet Castro "the wrong signal," but added that he would be willing to ease restrictions if Cuba moves toward democracy. NBC News found that many Cubans are watching the elections closely, and that they are overwhelmingly see Obama as the candidate most wiling to ease restrictions. They relate McCain to President Bush, who has tightened the embargo since 2004.
U.S. companies seem to believe the chances that the U.S. will lift the embargo are slim. From 1999 through 2007, more than 3,500 American business representatives traveled to Cuba without U.S. permission to investigate the possibility of investing in Cuba if U.S. policy changes. Last year, however, only nine U.S. companies visited.
On a more positive note for Cuba, the EU and Cuba ended a standoff on October 23, 2008, that began in 2003 after the Cuban government launched a crackdown and sentenced 75 dissidents to long prison terms. Twenty of the original 75 prisoners have since been released for health reasons. The October 23rd agreement imposes no conditions on Cuba, yet calls for EU members to send Cub 2 million euro ($2.6 million USD) in immediate hurricane recovery aid and up to 30 million euro ($38.8 million USD) more in financing next year.
1) What is your opinion of the U.S. embargo with Cuba? Should restrictions remain the same, be eased, or be completely lifted? Why?
2) Was the EU right in ending its standoff with Cuba without preconditions? Why or why not?
Sunday, October 26, 2008
Sources: IMF Survey: IMF set to Lend $16.5 Billion to Ukraine
Wall Street Journal: IMF Unveils Ukraine Bailout; Approval Hangs on New Laws
The IMF announced today that it has entered into an agreement to lend $16.5 billion to the Ukraine, contingent on the Ukrainian government’s willingness to impose restrictive economic measures on the nation. This announcement closely followed the IMF’s agreement to loan $2.1 billion to Iceland and is part of the IMF’s stated commitment to use its $200 billion in loanable funds to lend quickly to member countries needing assistance during the global financial turmoil.
The IMF decision to lend more than earlier estimates had indicated came in the face of ratings agency Standard & Poor’s cut in the Ukraine’s currency rating on Friday. S&P made the cut despite its belief that an IMF loan was in the works because of the possibility that the Ukrainian government would be unable to reach an agreement on the required economic measures.
While it remains to be seen if the government will be able to agree on the necessary policies, one thing is clear—the Ukraine needs the money to avoid defaulting on its loans. The Ukraine carries a very large external debt load and the current crisis, as well as a drop in the price of steel (one of the nation’s main industries) has threatened its ability to meet its payment obligations. Even the IMF’s large loan seems small in comparison to the roughly $50 billion the Ukraine must pay back in 2008. The IMF says that the proposed policy package would restore financial stability, help the country meet its payment obligations, and inject liquidity into banks to prevent further problems.
Is the amount of the IMF’s loan to the Ukraine surprising? What are the advantages and disadvantages of imposing strict economic policies in a time of global economic downturn? What other countries might be next in line to receive IMF aid?
No Western nation has turned to the IMF since the United Kingdom asked for a bail-out in 1976. Iceland changed this yesterday when it asked the IMF for $2.1 billion to restore confidence in its economy. The country will add this amount to loans from other Nordic countries, and in doing so, hopes to inject $6 billion into a financial system that has been devastated as a result of the global credit crisis. Iceland nationalized its banks earlier this month when the banks were unable to fund themselves and depositors both in Iceland and in the UK were unable to access their funds.
Iceland's prime minister, Geir Haarde, has shared with the press the three-stage recovery plan that Iceland's government has formulated to respond to the crisis. The plan's first stage will focus on restoring the public's confidence in the national economy and currency. Iceland's currency, the krona, has lost 70% of its value since the onset of the crisis. Haarde hopes that, once the IMF approves the loan, Iceland will be able to withdraw $830 million to help refloat the krona.
The plan's second stage will center around fiscal policy. Haarde has shared few details about this stage, but it seems that the government's goal is to make it more difficult for officials to relax the country's budgetary proposal. The third stage will consist of reforming the banking system so that banks will better follow international regulations. The people of Iceland have lost faith in the national banking system as the crisis has unfolded. Banks in Iceland and in other parts of Europe have suffered tremendously because they have come to depend so heavily on overseas loans, which have all but frozen since the credit crisis hit the United States.
The IMF has also been in contact with other countries who have been hit hard by the crisis. The organization's leadership has expressed interest not only in providing financial support, but in providing policy guidance to government leaders who are struggling to respond to the events that continue to unfold. The IMF currently has more than $200 billion in loanable funds, so other countries will almost certainly continue to turn to the organization for help as the crisis goes on.
1- The IMF has offered both financial aid and policy guidance to international leaders. Which type of aid do you think countries are likely to ask for first? Why?
2- Iceland hopes that its plan will restore confidence in its banks, currency, and government. Do you think that news of the IMF's involvement will help further this goal?
3- What kind of system do you think the IMF should implement to decide which countries receive loans through special programs related to the credit crisis? Do you think the IMF should set aside funds specifically for the crisis, given the crisis' unprecedented impact and scope?
The IMF agreed today to loan Ukraine $16.5 billion over two years to maintain its financial stability, but the loan is contingent on banking sector reform and balancing the budget. The money is intended to help Ukraine adjust to the external pressures of the global financial climate, control inflation, and increase liquidity in the financial sector. The economy is currently under pressure from factors including falling steel prices, rising energy costs, a falling currency, and foreign investment expected to decline.
Though the loan is generous, it will not fix all of Ukraine's economic problems. In the short-term, it will help to restore depleted Central Bank Reserves, which are being used to prop up the currency. It can also relieve tensions in the banking sector in the short term. Ukraine's stock market, however, has experienced a 60% drop since the beginning of September, and analysts do not expect the loan to result in a significant stock price recovery.
Political unrest poses a challenge as well, because Parliament will have to reach some agreement in order to pass legislation that will implement the necessary reforms. The President has suspended his decree dissolving Parliament in order to let Parliament consider financial legislation, but supporters of the Prime Minister have blocked proceedings to avoid any legislation financing the December election. Furthermore, the two proposed legislation packages to address the financial crisis may not meet the IMF's conditions. Neither bill is particularly detailed, and passing any bill may be difficult due to the unpredictability of the legislators.
Though Ukraine is the first country in the region to make a deal with the IMF for assistance, the institution is also currently in talks with Belarus and Hungary. Throughout Eastern Europe, projected declines in foreign investment are a problem, and stocks in emerging markets have been performing poorly.
1) Do you think IMF loans to countries in Eastern Europe will make a significant difference in the progress of the credit crisis?
2) Are markets in the region sufficiently insulated to avoid contagion from Hungarian financial trouble, or is the crisis likely to get worse before it gets better?
In response to the massive drop in U.S. oil prices over the last three months accompanying the credit crisis, the Organization of the Petroleum Exporting Countries (OPEC) held an emergency meeting on Friday in Vienna. Although many economists expected a reduction of about one million barrels per day (bpd), OPEC announced that it would reduce output by 1.5 million bpd starting November 1st.
However, the action failed to halt the price decline, as oil continued to drop by more than five percent after the announcement. If oil prices continue to fall, OPEC’s president, Chakib Khelil, has suggested that more production cuts are likely.
The stunning decline in oil prices, from a record $147 a barrel in July to below $69 last week, has left members of OPEC fearful that they will have to cut government budgets if they fail to cut production. Specifically, Venezuela and Iran were pushing for a bigger daily reduction, of two million bpd. However, OPEC’s core Gulf producers favored a reduction of one million bpd, as they have stated that they do not want to add to the problems facing the global economy. In conjunction with the Gulf States, Saudi Arabia may see lower oil prices in their interest for awhile despite the economic hit their oil-reliant economies might take.
Discussion: OPEC cites the strained global economy as the reason for its cut in production, but if OPEC’s decrease in output eventually sends oil prices higher, wouldn’t that be another blow to the global economy? If so, would it be better for the economy if OPEC were to refrain from cutting production? Do you think that Venezuela and Iran, considered enemies of the U.S., were pushing for a steeper reduction in output to spite Americans at the pumps, or were they solely acting in their own self interest? Why do you think that the Gulf States and Saudi Arabia, often considered allies of the U.S., were less enthusiastic about large cuts in output?
As a recent post described, the global credit crisis could lead to fewer remittances for Kenya (there was also a recent Center post on Mexican remittances that you can access here). According to the Financial Times, Kenya has in fact been hit with a decline in remittances. A remittance is money from family members living outside of Kenya (or any home country) sent back to support their family. Remittances accounted for a flow of $574 million back to Kenya last year and money from the US accounted for about 50% of this number.
As the credit crisis in countries such as the US and UK is affecting the spending power of its own citizens, Kenyans living abroad are finding it increasingly more difficult to set aside money to send back to their families. The amount of remittances in August was down 38% from the level recorded in August a year ago. The decline of remittances affects Kenyans’ ability to invest in property, the Kenyan stock market and pay for necessities such as schooling. The remittances are also a large source of foreign currency for Kenya, as some experts say it is the second largest source after tourism. The Kenyan government is forming an emergency committee to respond to the trend of declining remittances, but it is unclear what action, if any, it could take.
On a brighter note, Kenya is busy preparing for what they see will be a boom in “Obama tourism” should the Democratic nominee win the presidency. Barrack Obama’s father was born (and buried) in the region surrounding the city of Kisumu. This area is far from the typical tourist areas in Kenya, yet with less than two weeks until the election, hotels in Kisumu are booked solid. Kenyans are proud of Obama, who they view as a native son, and hope they can build a successful tourism industry around the presidential candidate. One Kisumu citizen said that the government was going to have to invest more money in Kenya’s airports, because, “when [Obama] returns to Kenya as the American president, [he] will have to land in style.”
1) As stated above, the emergency committee is trying to buck the trend of declining remittances. What steps could the committee take to encourage continued remittances?
2) Obama’s father was a member of the ethnic Luo tribe which has long been marginalized in Kenya. Do you think his being elected president in the US will affect the Luo’s position in Kenya? Will this especially be the case if “Obama tourism” really does take off?
Thursday, October 23, 2008
Globe and Mail (Toronto) - Low Oil Prices Threaten Global Projects
Globe and Mail (Toronto) - Is it Game Over for the Oil Sands?
AFP - Petro-Canada Ups the Cost of Oil Sands Extraction Project
The rapid decline in the global price of oil over the past few months is throwing Canada's massive oil sands development into doubt. The Canadian oil sands, in the provinces of Alberta and Saskatchewan, are estimated to contain 173 billion barrels of oil, making them the second-largest proven oil reserves in the world behind Saudi Arabia. However, the enormous cost of extracting the oil makes the oil sand development dependent on high global oil prices. Global oil prices reached a low of $66 per barrel this week, down from nearly $150 a few months ago. Analysts have estimated that efforts to extract and sell the oil from Canada's sands would break even with oil prices between $70 and $85.
The Canadian oil sands, untapped as of yet, could potentially bring in $170 billion in foreign investment, making it an enormous source of potential economic development. Canada is already one of the world's largest oil producers, with the United States its biggest customer. One result of the financial crisis, in addition to high gas prices, has been lagging American demand for oil in the past year. U.S. demand for oil is down four percent from 2007. Plus, both U.S. presidential candidates have repeatedly stated their desire to invest in alternative energy sources and also tap more U.S. sources of oil.
Indeed, several Canadian firms have announced that their plans for the oil sands are on hold due to rising costs, declining energy demand, and a tight global credit market.
However, it's likely that oil prices will eventually rise again. The oil cartel OPEC is meeting and expected to announce a decrease in production of two million barrels a day in order to raise prices. Industry analysts note that declining proven reserves of easy-to-obtain oil combined with rising oil demand from Asia will lead global oil prices up from their current levels.
And, even if U.S. companies are not willing to invest in extracting the Canadian oil sand, a growing horde of state-owned oil monopolies around the world are likely to step in and help develop this potentially lucrative energy source.
1. Does Canada have an incentive to extract and sell the oil as quickly as possible because of the growing movement for alternative energy sources, or will crude oil always be in high demand?
Wednesday, October 22, 2008
Millionaire Italian Prime Minister Silvio Berlusconi, 72, is known throughout the country for his play-boy antics and locker-room humor, qualities that Italians find both endearing and off-putting. But no matter their feelings about him, the common Italian saying may just be true as Berlusconi considers plans to bailout countless private companies with his own fortune, in addition to already controlling Italy’s billions in public funds. Berlusconi is the owner of the largest private broadcasting network in Italy, Mediaset, among other businesses in publishing, investment banking, and holdings. Despite his own companies taking a 40 percent loss over the last quarter, he is more confident than ever with his political power reaching the peak of his 15 years in public office. Berlusconi was elected by a wide margin last April on behalf of the People of Liberty, the leading center-right party.
While Bush and Putin have the lowest approval ratings ever as a result of the crisis, Berlusconi enjoys approval ratings at an all-time high of 62 percent. Strange, considering the economics of a country normally correlate to the government’s approval ratings. Left-wing opposition cites Berlisconi’s thumb on biased television propaganda as the reason for such high polls. Others credit his strong leadership in recent months; he pushed Parliament to pass some budget restructuring measures that provided liquidity early, before the brunt of the crisis hit, and encouraged Italians to invest in Italy’s largest gas companies, Eni and Enel. Apparently, such moves have reassured Italians that the government will support and protect them.
After Italy took a pro-bailout stance in European talks during the past few weeks, skeptics warned that his private fortune is too intertwined with the country’s economics. Berlisconi, as one of the wealthiest businessman in Italy and its Head of State, stands to benefit from a government or private bailout. If banks and businesses get bailed out from private sources, he makes money by buying up companies cheaply, including investment banks that have long prided themselves on maintaining independence from him. If the government intervenes, his prior investments will take a much weaker hit.
The possible establishment of sovereign funds to keep European companies in European hands has made EU headlines this week. Last week Berlisconi warned that the current state of the economy leaves Europe vulnerable to hostile investors from oil-rich countries in the Middle East including UAE’s Abu Dhabi Investment Authority. Early this morning, Italy unveiled a plan to create a national interests committee that capped sovereign fund investment at 5 percent, making Italy one of the most restrictive markets in Europe. Critics counter that such a plan would keep European wealth in the hands of the reigning elite and would extinguish vital foreign investment.
1. Should countries assure that internal rather than outside investors buy national businesses? Does this amount to state-endorsed protectionism? Ethnocentrism? Discrimination?
2. In a global credit crisis should protectionism even be a concern?
3. Does it matter whether the company being rescued is private, state-owned, or public?
Tuesday, October 21, 2008
Fed chairman endorses new round of stimulus - New York Times
Amid market volatility and investor, talk over the weekend and early this week turned to the possibility of a second stimulus package from the American government. While first discussed by Congressional leaders early last week, speculation regarding the potential for such additional stimulus legislation intensified as the idea received support from a number of officials within the Bush Administration and from Federal Reserve Chairman Ben Bernanke who suggested that a new stimulus package could prevent a "protracted slowdown" in the American and global economies.
While Chairman Bernanke's remarks seemed to suggest that a stimulus package should focus on increasing the availability of credit to individuals (something that the Federal Reserve and the Treasury Department have been working to do for major financial institutions since the passage of the first stimulus package), there are already a number of different opinions as to what possible stimulus legislation should contain.
Congressional Democrats are discussing a potential $150-300 billion package that would focus heavily on providing aid to state and local governments, but might also include an extension of unemployment benefits, food stamps programs, and energy assistance for low-income Americans. In response to this proposal, House Republicans put forward their own list of policy ideas that they believe would be more effective in "stab[ilizing] the economy long term." The Republicans' proposals include suspension or elimination of capital gains taxes, fast-tracking off-shore drilling, and government guarantees of interbank lending.
In the wake of the supportive statements made by Chairman Bernanke and White House officials, Congressional Democrats expressed their desire to work with Republicans and hopefully pass the second stimulus package before the end of the year, in a post-election session.
1) Is a new economic stimulus package necessary?
2) Is this the best time to pass a second stimulus package?
3)Ideally, what should be included in stimulus legislation? Aid to governments? Tax cuts? Credit guaranteeing measures?
Monday, October 20, 2008
Emphasizing the need for advanced economies to work closely with emerging economies to avoid nationalistic and protectionist behavior in dealing with the global economic crisis, the G-8 nations (France, Germany, the U.K, Russia, the U.S., Canada, Italy, and Japan, as well as the President of the European Commission) reaffirmed their commitment to cooperation this week. They declared themselves “united in their commitment” to resolve the crisis--an effort they called a “shared responsibility.”
The nations also reaffirmed their previous agreement for collective and individual action to address the crisis, namely the commitment to avoid adopting nationalist policies that would jeopardize other nations’ economies. That policy was sparked by Ireland’s controversial move in early October to guarantee the deposits and debts of the nation’s six largest financial institutions. Many in the E.U. argued that the move created an uneven playing field, giving the Irish institutions a leg up in the other countries, particularly the U.K., in which they operate. The G-7 had agreed to the coordinated action plan at their meeting last weekend.
The press release included a statement expressing the nations’ determination to see a successful conclusion to the currently stalled WTO negotiations. The statement said that the countries recognize the importance of open economies and regulated markets for growth, both in the developed and developing world. In view of the need for “regulated” markets, the G8 also expressed their desire to address regulatory reform of the world’s financial sectors, “to address deficiencies exposed by the current crisis.” Such an effort would build on previous Financial Stability Forum and IMF work and would include both developed and developing countries.
The nations said they expected to hold a meeting with leaders of “key countries” in the near future to further the reform effort on a global scale.
Discussion: Will the hunger for regulatory reform die down once the crisis is under control? What role might the IMF play in such reform? Is a reform of the Bretton Woods institutions also in order?
Sunday, October 19, 2008
Officials at the Federal Reserve and the Department of the Treasury said that the U.S. is headed for its worst recession since 1982. While those same officials are confident that the $700 billion bailout plan can stave off another Great Depression, it is still unclear how deep and long the recession will be.
Meanwhile, a White House Aide said that parts of the country have probably already experienced a recession, which occurs when the economy shrinks for two consecutive quarters. Though political leaders are loathe to use the word, especially this close to a major presidential election, the chairman of the White House Council of Economic Advisers noted that some parts of the country, such as California, have already witnessed an unemployment rate higher than the national average of 6.1%. Officials at the Fed and Treasury expect the national rate to reach as high as 7.5–8% before the recession ends.
Officials and experts expected the economy to weaken, but not as quickly as it has. A “credit freeze,” both in the U.S. and abroad, has resulted in falling home values, collapsing consumer confidence, slumping retail sales, and falling industrial production. Policymakers hope that the $700 billion bailout plan will allow the credit freeze to thaw more quickly and put the country on the road to recovery, through financial expansion.
Economists caution that a higher savings rate could contribute to exacerbated conditions, as rising unemployment continues to threaten mortgage defaults and shrinking retail sales. All of this could also cause more corporate defaults, which might cause a second wave of bank troubles.
Some experts say that further pain can be avoided by the Fed cutting interest rates down from 1.5% to 1% or even lower, but the Fed does not see cutting rates as the best solution, and instead is more concerned with bank recapitalization, asset purchases, borrowing guarantees, and Fed commercial paper purchases. Democratic lawmakers are considering a post-election stimulus package, running around $150 billion, that would boost employment with bridge and road projects—but economic officials say that such plans are too “long-term” to have any immediate effect on the economy.
Questions for Discussion:
1) Do you think the U.S. is headed for a quarter-century recession? Global markets today are much more integrated than they were in 1982; can a U.S. recession be ameliorated by the success of other countries’ bailout plans?
2) Would a post-election stimulus plan be worth the money? The 2007 Economic Stimulus Package was not enough to stave off this crisis; will one that creates jobs have a different effect?
In talks Thursday and Friday, Ukraine looked to the IMF for a loan of $10 to $15 billion in order to stabilize the financial system and avoid future disasters. Financial problems there include foreign investors pulling their money out of the country, reduced credit lines from foreign banks, falling steel prices, rising costs of gas imports, and a general need to ensure trust in the economy. However, Ukraine insists that it is not yet experiencing a financial crisis and that this is a precautionary measure.
The total amount of the loan has not yet been set, but it is possible that Ukraine may sign early this week. An IMF delegation in Ukraine is planning to study economic conditions in the country, and Ukrainian officials claim that Western assessments of risk there are exaggerated despite the fact that Ukraine already was facing $100 billion of foreign debt in July.
One complication to negotiations with the IMF is that the IMF may not know exactly whom to negotiate with. After political troubles, the Ukrainian President decided this month to dissolve Parliament. Courts are currently determining whether the dissolution was in fact valid, but until that time it is uncertain whether the Cabinet has any authority. In the meantime, the IMF is hoping for a guarantee that 2009 budget will be balanced before signing off on a loan, and normally it would be the Cabinet providing that guarantee. If the IMF negotiates with the Cabinet and the court ruling finds the dissolution valid, it will have to wait until a December 7 election to find a valid negotiating partner.
1) Given the political uncertainty in Ukraine, should the IMF be negotiating this loan before a court hands down a decision on the validity of the President’s action?
2) This is the first time the IMF has made a move towards bailing out a country on the European continent during the financial crisis. Do you think this need is likely to spread throughout the poorer European countries?
Angola is one of the fastest growing economies in Africa and in the World. The country has seen rapid growth after a 30 year long civil war ended in 2002, fueled by its large oil supply. Besides oil, Angola is also blessed with 35 hectacres (or about the size of Germany) of prime agriculture land. Angola is looking for $6 Bn over the next five years in foreign investment to boost its agricultural potential.
Angola had once been an agricultural powerhouse, providing its own citizens and the world with large supplies of coffee, sisal, bananas and sugar before the protracted civil war halted production. It is looking to diversify an economy largely based on oil and is in the early stage of discussions with many foreign investors ranging from Brazil to Canada. Some two-thirds of Angolans earn a living on the land, but agriculture only accounts for less than ten percent of the economy. An investment of $6 Bn would certainly go long way towards bolstering agriculture in the economy and raise the income of many Angolans.
Some experts are skeptical, however, that Angola can successfully attract that level of foreign investment. Last year non-oil foreign investment was less than $1 Bn and many sight vast bureaucracy and red tape that exists in Angola and the poor condition of Angola’s ports as a limiting factors. The Angolan government seeks to counter these criticisms with an ambitious reconstruction plan and by continuing to cultivate a business friendly environment.
Another sign of Angola’s potential for growth is its red hot real estate market, which is its second most profitable sector after oil. Jose Camargo, head of the Angolan real estates unit of Brazillian construction company, Odebrecht claims, "Everyone wants to be here. I predict growth in real estate prices during the next three years." While real estate markets in the US and Europe struggle, Angola’s strong economic growth continues to fuel construction.
The Angolan government plans to invest $2 Bn to revitalize its ports and hopes to spend $50 Bn on one million new homes. Whether it fully achieves its goal of attracting $6 Bn for agriculture is yet to be seen, but it is clear that the global credit crisis will not be hampering economic growth in the near future.
1) As a recent post discussed, many African oil companies may be adversely affected by the credit crisis. Is it then a good idea that Angola try to bolster its agricultural sector?
2) One article suggests that red tape and bureaucracy in Angola makes it so difficult to start a business that it often take over 100 days to open shop. What policies can Angola adopt to insure red tape will not hamper its growth?
Saturday, October 18, 2008
Canadian Press - Consumer Confidence Plummets As Signs of Economic Slump Deepen
Washington Post - Consumers' Mood Suffers Record Drop in October: Survey
Bloomberg - Canada Consumer Confidence Drops to 26-Year Low, Survey Says
Consumer confidence, a crucial measure of economic health and behavior, spiraled downward in October as consumers reacted to the subprime mortgage crisis and prepared for what is predicted to be a recession. The worst U.S. financial crisis since the Great Depression, according to some analysts, has taken its toll on consumer expectations, with the U.S. index dropping a record monthly amount and the Canadian index falling to its lowest level in 26 years.
The Reuters/University of Michigan survey of consumer confidence in the U.S. fell from 70 to 57 points in October, further than most experts expected. And in Canada, the index fell from 85 to 73 points, above U.S. confidence levels but increasingly pessimistic as the world's largest economy to its south appears to be headed toward a serious recession.
The consumer confidence surveys reflected citizens' beliefs that they had not yet seen the bottom of the economic crisis, as most believed they would be worse off in six months. Consumer confidence also reflects willingness to make big purchases, buy homes, and start businesses. Lack of confidence in the economy therefore determines consumer behavior that could play a large part in determining the severity and longevity of a potential U.S. recession. One analyst noted that the U.S. consumer has represented as much as 72 percent of the U.S. economy in recent years and that the effects of pessimistic consumer behavior and decreased household spending were likely to be profound.
Consumer confidence in Canada fell in all provinces, although the worst hit was Ontario, where confidence fell 16 points in October.
1. Are consumers always accurate predictors of macroeconomic trends? Wasn't one of the causes of the subprime mortgage crisis the irrational optimism of consumers that home prices would continue to rise indefinitely?
2. Did the U.S. financial stimulus package encourage increased consumer spending, or was it insufficient to alleviate consumers' fears about the potential for a recession?
Friday, October 17, 2008
On October 13th, IMF Managing Director Dominique Strauss-Kahn reflected on this year's World Bank/IMF Annual Meeting, which took place from October 10th to October 13th in Washington D.C. Since 1946, the IMF and the World Bank have met annually to discuss their work. These "annual meetings" are usually held in Washington D.C. for two consecutive years and in one of the other member countries every third year. Among the topics discussed at this year's Meeting were high oil prices, the food crisis, and climate change. Meeting coordinators also dedicated a full day to discussing the global credit crisis.
Unsurprisingly, Strauss-Kahn's reflections on the Meeting centered around the credit crisis. Though he stated several times that the world has a "very long way to go" before it recovers from the crisis, Strauss-Kahn seems to think that "things are beginning to turn around." While many fear that this has been, or will be, the worst crisis that the world has faced since the Great Depression, Strauss-Kahn maintains that the international community has learned much since the Depression and is now armed with the tools that are necessary to respond to the current crisis.
Much of the discussion at the Meeting's credit crisis seminars seems to have focused on what the international community should do to limit the damage that the crisis has caused to the real economy, as opposed to the market economy. Strauss-Kahn stressed the idea that countries should coordinate their reactions to the crisis, so as to make sure that their acts do not negatively affect other countries' prospects of recovery. He emphasized that he does not expect countries to act uniformly, but that he merely hopes that they coordinate so that they don't harm each other.
Based on discussions at the Annual Meeting, Strauss-Kahn also formulated specific recommendations to countries depending on their level economic development. In his view, advanced economies should use fiscal policy to ease pressures in the financial and housing sectors. Emerging economies, on their end, should be prepared to finance temporary shortfalls in capital flows. He also advises developing economies to be prepared for decreases in demands for export goods and for reduced access to trade credit. He pointed out, however, that neither emerging nor developing economies should alter their aid budgets as a result of the crisis.
Strauss-Kahn concluded his statements by sharing his views on the factors that he believes caused the credit crisis. In his view, the crisis was caused by the convergence of three failures: (1) the failure of advanced economies to regulate and supervise their financial institutions, (2) the failure of private institutions to manage risk, and (3) the failure of market discipline mechanisms, which are the mechanisms by which both investors and banks ensure that they are properly managing risk.
Strauss-Kahn's assessment of the rise of the crisis is sure to be the topic of discussion as international actors react to the ideas drawn from the Annual Meeting and, specifically, the policy recommendations that Strauss-Kahn has issued regarding the credit crisis.
1- What do you think of Strauss-Kahn's theory that countries should act in a coordinated, though not uniform, fashion in response to the credit crisis? What is the distinction between the "uniform" and the "coordinated" approach? Is it realistic to distinguish between the two?
2- The Annual Meeting dedicated a full day of discussion to the global credit crisis. Do you think that this was an appropriate time allocation? Should the Meeting's coordinators have dedicated more time to the crisis, given its magnitude?
Due to the signs of escalating stresses on the banking system, the UAE central bank issued a guarantee of all credit risks, deposits, savings, and inter-bank lending in the country. The UAE recently announced that it would extend this guarantee to foreign banks operating in the country. It also pledged to inject a further $19 billion of liquidity to domestic banks.
Analysts claim that the move was proactive and intended to reassure investors. The state’s cabinet issued a statement stating that authorities will “provide all required guarantees to support the banking sector in the UAE and to protect it from the global financial crisis.”
Although Saudi Arabia, Kuwait, and Qatar have all moved to support their banking sectors through providing extra liquidity, this move by the UAE has put pressure on the surrounding Gulf states to also make guarantees. Many analysts say that a collective action by the Gulf states would boost confidence in the region for both domestic and foreign investors. This may also be a positive step in the direction of forming a monetary union amongst the states, which is slated to happen by 2010.
Discussion: Do you think that other Gulf states will follow the UAE’s lead? Are you surprised that the UAE extended its guarantee to include foreign banks operating within its borders? Will these moves help shield their booming financial industry from the credit crisis, or will they be forced to do more?
Brazil Stocks Fall on Lower Growth Prospects; Bolsa Declines Bloomberg.com
Mexico offers 40bln pesos of loans for mortgages Bloomberg.com
Mantiene Banxico en 8.25% tasa de interés interbancaria El Universal
Lanzan Nafin y Bancomext apoyo a Pymes por 35 mil mdp El Universal
The fleeing of investors and the slowing of demand for commodities are ending the rapid economic growth that Latin America has experienced in recent years. The new picture in Latin America is filled with negative or low profit growth in countries such as Brazil and Mexico. As a consequence of the recent stock market plummets, the Amazonian titan has reduced its forecast for economic growth over the next year. Although Latin American policymakers hoped the recent rallies in the markets would serve as a beacon of light to wary investors, the overall commodity price expectations, which are key to Latin American growth, remain very low.
Mexico tries in a desperate move to rescue the peso by tapping more than 10 percent of the central bank’s reserves. The Mexican central bank offered 40 billion pesos (3.1 billion USD) credit to mortgage lenders in a bid to bolster liquidity in the housing market. However, Mexico’s benchmark interest rate remained at 8.25 percent. Mexico’s central bank has held the benchmark interest steady throughout the crisis, because its policymakers fear that a rate cut would further weaken the currency and spur inflation. Inflation has been speculated to stay at 6 percent by the end of the year, which is an increase of 0.6% from its current levels.
On October 13 the Mexico’s central bank also unveiled a plan to provide financing to commercial banks in need of liquidity, which is basically a scaled-down version of the current rescue strategy in the U.S. As in the U.S., some policymakers fear that banks will use this capital infusion to pay debts, rather than using it for its intended purpose – to loosen credit. Critics back up this argument by pointing to the U.S. tax stimulus earlier this year, when millions of Americans received hundreds of dollars in a design to bolster consumer spending. However, many people used the extra funds to pay off debts instead of buying new items, which tampered the intended effects of the stimulus. Finally, some private financial organizations in Mexico, principally Bancomext and Nafin, have been able to inject around 2 billion USD in credit during the last few days in hopes of propelling the small and medium size business activity and stabilizing the employment crisis.
1) Would it be better to help spark lending and spending if Mexico's central bank temporarily lowered their benchmark rate or are their over inflation concerns valid?
2) Will any of the money given to banks be translated into consumer credit? Or will the banks simply pay down existing debts? Is there a better way to spark bank lending than giving them cash?
Thursday, October 16, 2008
The Swiss National Bank injected nearly €3.9 billion into a fund that would acquire the toxic U.S. mortgage debts of Europe’s second largest bank UBS early this morning. Unlike the direct equity approach taken by the UK, the Swiss government will buy mandatory convertible notes, which are similar to bonds but convert into shares at a later date like options, of the bad bank assets.
As a result of the investment, the Swiss government will hold a 9% nonvoting share in UBS. Many economists criticized the Swiss government for using public assets to help a private company and warn that too few strings were attached to the deal. Others see the move as the European answer to the latest U.S. bailout proposal of the same ilk.
This is UBS’s third injection this year, with the previous two coming from private fundraising sources. The fund will be directly applied to the EU bailout plan. With the move, UBS hopes to restore confidence in its banking system and dodge increasing criticism that the Swiss government is shirking responsibility to aid the floundering EU economy. These reports surfaced after cross-town rival Credit Suisse raised roughly €6.5 billion from private investors such as the Qatar’s sovereign wealth fund, the Olayan family of Saudi Arabia, and Israel’s Koor Industries earlier this week.
UBS’s services include private banking, investment banking, and asset management. The banking industry accounts for about 15% of Switzerland’s GDP.
1) UBS claims that the deal was not a “bail-out” since it was not on the verge of bankruptcy. This situation contrasts directly with that of the U.S. If UBS’s claim is true, do you believe state funds should have been used to aid the bank? At what point should the injections stop?
2) Notice who bailed out Credit Suisse. Should more thanks be paid to such private funding sources, despite the opportunism of the investment?
Hong Kong to impose statutory minimum wage, Financial Times
Hong Kong plans minimum wage legislation, China CSR
The world’s least-regulated economy will for the first time impose a legally enforceable minimum wage. Hong Kong plans to establish an advisory Minimum Wage Commission to handle the legislative work of drawing up the new law. The Commission is expected to study and decide on the minimum wage’s level and its review mechanism in order to find the proper balance between helping low-income workers get higher wages and preventing the loss of low-wage jobs.
The territory, a former British colony now under Chinese control, has long been a proponent of laissez faire capitalism with its low taxes, light regulation and support for small government. Political pressure has been building, however, for Hong Kong to take some kind of action to close its growing wealth gap. Currently, the average income is just $1,410 a month.
In spite of its long-standing opposition to government intervention, Hong Kong has been reexamining its economic stance in light of the current financial crisis. The growth in the territory’s domestic product slowed to 4.2 percent in the second quarter and is expected to continue its decline. If U.S. and European demand for Chinese exports falls, Hong Kong’s economy will likely take a big hit because of its large investments in manufacturing facilities in southern China. According to Hong Kong’s Chief Executive, Hong Kong “should not see the free market and government intervention as two exact opposites. The market is not omnipotent. Intervention is not necessarily an evil. If the market fails, the government should intervene.” Already, the Hong Kong Monetary Authority has reduced interest rates by 150 basis points and has taken steps to improve interbank liquidity. It also promised to guarantee all deposits until the end of 2010.
(1) Is the imposition of a minimum wage likely to be successful in helping to close Hong Kong’s wealth gap?
(2) Will the imposition of a minimum wage hurt Hong Kong’s economy and the attraction it has for foreign investors?
(3) Is Hong Kong likely to overhaul its economic system and impose more regulation in light of the financial crisis?
Monday, October 13, 2008
After a very turbulent, stressful week for investors, traders, and anyone who watched the numbers, global markets started the week off strong on Monday, with the Dow Jones closing up more than 900 points—its biggest point gain in a single day ever. The stocks rose in anticipation of the Federal Reserve’s announcement of the first phase of its bailout plan on Tuesday. The main goal of the plan is to attract private capital, so each component of the plan is aimed to make financial institutions, especially those important to the system, want to participate.
The major component of the plan is the Fed’s use of $250 billion (of the $700 earmarked in the bailout plan) to purchase equity investment in a handful of the U.S.’s largest financial institutions and several small ones. Preferred stock shares usually do not come with voting rights and will carry a 5% annual dividend that will rise to 9% after five years.
The Federal Reserve will also reverse its policy opposing sovereign guarantees for funding, which have become popular in Europe. Sovereign guarantees, which what make risky debt “senior unsecured debt”—meaning those securities have repayment priority ahead of all others in the event of default, are aimed at reducing the fear that underlies banks refusing to lend to each other, even short-term. Under the U.S. plan, the Federal Deposit Insurance Corporation (FDIC) will provide the guarantees. Canada and Japan are expected to follow suit. The FDIC will also temporarily offer through 2009 unlimited deposit insurance for non-interest bearing bank accounts, typically used by small businesses. An extension to the $250,000 limit agreed on by lawmakers last week, the unlimited insurance will be voluntary for banks.
Parts of the anticipated plan give the FDIC a significant amount of broad power, which it has traditionally assumed during financial crises. The FDIC gets its expanded powers from a clause in federal banking laws that allows the FDIC to take extreme steps to prevent shocks in the economy, called the “Systemic Risk” clause.
The U.S. plan comes as part of a global effort by world leaders to intervene in markets enough to restore order and confidence. The United Kingdom, Germany, France, Austria, the Netherlands, Spain, Italy, Portugal, and Norway have all announced plans to commit funds for guarantees and capital.
Questions for Discussion:
1) IMF managing director Dominique Strauss-Kahn said, “The peak of the crisis is behind us.” Do you agree?
2) Again, do you think the plan will work? Does the plan have more of a “fighting chance” now that the rest of the world has been drawn into the crisis?
N.Y. Times: IMF says it’s ready to assist Hungary
Financial Times: IMF offers Hungary help as Poles rethink euro
As Iceland weighs an appeal to the IMF for funding to avoid national bankruptcy, the IMF today announced that it is ready and willing to help Hungary’s economy survive the crisis with both technical and financial assistance. The Hungarian government welcomed this announcement as reassurance for the markets, which have suffered from lack of investor confidence even though Hungarian banks did not invest in toxic U.S. securities. Hungarian officials said they did not expect to need the assistance, though interbank lending costs continue to skyrocket.
The interest rates at which banks lend to each other reflect bank confidence because a bank that feels safe will be more likely to lend more freely, and at a lower rate, than a bank that fears an impending cash emergency. In a credit crisis, interbank interest rates increase because even banks with excess cash reserves are hesitant to lend as the likelihood of a run on the bank increases.
Hungary’s interbank confidence problems demonstrate the financial crisis’ far-reaching effect into emerging markets once thought insulated from the reverberations of the crisis. Hungary has been following a very conservative financial plan in an effort to reduce their national debt, the highest among the eastern members of the European Union, in order to qualify for eurozone inclusion by 2012. These policies have reduced economic growth which has made them more vulnerable to the crisis. Officials now say they are reconsidering that target date in light of the strain from the global financial crisis.
Should IMF lending be a solution for restoring investor confidence in nations with vulnerable economies? Will more advanced economies start turning to the IMF for assistance as the crisis continues? Should the eastern European member states of the EU continue to follow the restrictive policies necessary for inclusion in the eurozone even as they face stress from the financial crisis?
U.S. Stocks Open Strongly After Gains Overseas , New York Times
U.S. Missteps Are Evident, but Europe Is Implicated, New York Times
Following one of the worst weeks in the modern history of the world's financial markets, leaders of the world's major industrial powers gathered this weekend and agreed to sweeping plans aimed at relieving the effects of the global financial crisis. Most notably, the leaders present announced a coordinated, $1.1 trillion plan to rescue struggling banks by infusing capital and by guaranteeing interbank lending. Plans to guarantee individual bank accounts were also discussed.
On Monday, in the wake of the pledges made over the weekend, a number of European countries announced their individual plans to lessen the impacts of the financial crisis. The British Treasury announced a $64 billion infusion of government money to three banks: Lloyds TSB, HBOS, and the Royal Bank of Scotland. The German government declared that it would invest $108 billion in numerous German banks and that it would also guarantee $500 billion in interbank loans. Spain also announced a $100+ billion bank bailout plan, with France and Italy expected to follow with their plans later Monday.
The announcements of the European rescue plans spurred a surge in financial markets across the globe on Monday. European markets, including the major London and Paris indexes, surged over 5%, as did many major Asian markets. American markets posted similar gains in early Monday trading.
While European actions likely caused the ebullient investor sentiment that characterized much of Monday's trading day, the American government was also hard at work in its continuing efforts to remedy the financial crisis. Neil Kashkari, the newly appointed coordinator of the United States' $700 billion bailout, made his first public speech outlining the details of the Treasury Departments plans for the bailout package. Congressional Democrats also announced their plans to gather Monday to begin discussions of a new economic stimulus package.
Sunday, October 12, 2008
Japan Considers Stimulus Package, Financial Times
Japan Plans a Third Economic Stimulus Package, New York Times
Japan Pledges to Act as Nikkei falls 9.4%, Financial Times
Japan is preparing to launch an economic stimulus package in response to the financial crisis. The package is expected to include public works spending, low-cost housing loans and tax incentives for businesses. However, it does not include a cut in income taxes, a move which business leaders have advocated to stimulate spending by consumers. The package is not expected to lead to an economic recovery, but Japanese leaders hope it will prevent the economy from deteriorating further—or at least slow the deterioration down.
The stimulus package is the third one this year. Japans has also taken steps to limit the crisis’s impact by lifting a daily limit on share buybacks and the Bank of Japan pumped Y4,500bn into the money market. In addition, it is expected to approve a Y1,800bn supplementary budget within the next week to cover some of the administrative costs of the stimulus package.
Japan’s financial system is holding fairly steady, so far, and its economics minister does not yet think the Japanese banks are in need of a bailout. However, analysts have begun to worry that the financial crisis will undermine the Japanese economy. For example, Japan’s stock markets were down 24 percent last week, its worst ever weekly decline. It also saw its first financial institution, Yamato Life Insurance, declare itself bankrupt last Friday because the financial crisis caused a steep drop in its investment values. Bankruptcy rates rose 34 percent year-on-year in September, as well.
(1) Is Japan's economy likely to deteriorate further? What will the stimulus package likely accomplish?
(2) What other steps should Japan be taking to shore up its economy?
After centuries of building an economy on the fishing industry, Iceland traded in its sea legs in 2001 to try its hand at banking. Success came quickly, as the risk-taking behavior needed to succeed on the sea played out well in the banking culture. The country’s growth exploded during the past 6 years when many of the island’s prominent banks became privatized. They borrowed at low interest rates from sources around the globe and then turned those loans for a sizeable profit to fund businesses in the U.S., UK, and Denmark, borrowing more when necessary to make payments on the principal loans. They advised on mergers and financing for fishing companies around the globe. The banks gained more depositors than the island’s population. In 2007, Iceland was ranked the #1 most developed country by the UN Human Development Index. Luxury imports flooded in. Iceland became one of the wealthiest nations on earth.
But as the unfolding financial crisis hit Europe hardest of all last week, this tiny island nation began contemplating bankruptcy because its treasury cannot cover its banks’ debt. The krona, Iceland’s currency, has stopped functioning off the island completely. Inflation hit 14% last week. Last Tuesday Glitnir Bank hf, one of Iceland’s largest, was seized by the government. Kaupthing Bank hf, the largest bank in Iceland, was taken over on Thursday. The two banks, along with fellow giant Landsbanki Islands hf, were highly leveraged and have combined assets worth over €100 billion, about 10 times the GDP of the whole country. The government is considering merging the 3 entities into one nationalized bank. Alarmingly, Iceland’s Federal Reserve holds only €2 billion in foreign assets, yet the majority of the country’s debt is in foreign currency. Skepticism about joining the EU and transitioning to the euro has fallen to the wayside. There will be no government bailout plan for Iceland. Experts believe it may instead have to turn to the IMF for rescue or take out a loan from Russia.
Despite the chaos, there is an upside. With the baking bust, export prices are improving and the country is making plans to revert to the export industries of aluminum and especially fishing, which has sustained the nation and shaped its culture since around AD 900. Last week even the prime minister urged his people to rely on the resources of the land and sea during this tough period. Cod quotas are expected to be raised by the government in coming weeks to stimulate more jobs in the industry.
1) Do you think Iceland should join the EU to stabilize its currency, or continue its legacy of economic independence?
2) If EU nations such as Iceland begin borrowing money from Russia, thereby intertwining their economic interests, what will be the national security implications on the U.S.?
The shockwaves of the global credit are being felt across all industries and the credit crisis may soon have a large effect on African oil companies. As the credit market continues to tighten up, many small to mid-size oil companies in Africa may find it difficult to raise the money necessary to expand production and exploration. The price of oil has also been dropping steadily ($80 a barrel on 10/10) due to a the expectation that the global credit crisis will lower demand. This drop in value further exasperates African oil companies’ plans to raise capital.
Some experts think that the limited ability to raise new capital combined with the loss in value due to lower oil prices will result in many new mergers and acquisitions between small African companies and large, established oil companies from around the world. Larger firms have the rare opportunity to purchase oil and gas assets at very low prices given the price of shares in many small African oil companies have been dropping.
Small private oil companies in African are not the only African players to feel the pinch of the global credit crisis. Nigeria’s state owned oil company, the Nigerian National Petroleum Corporation (NNPC), has also had trouble accessing credit to aid its exploration. The NNPC has long had a difficult time contributing its share of capital in its joint ventures with foreign oil firms. Leaders in Nigeria say they need to plug finance holes in the NNPC by opening it up to private investment. President Umaru Yar’Adua has proposed a plan to turn the NNPC into a profit-driven company that can raise funds through global capital markets.
This ambitious plan initially had foreign investors interested in the possibilities, but the credit crisis has cooled interest considerably. Nigeria is still considered a frontier market and a somewhat risky investment, especially considering the global credit climate. In the meantime, the NNPC continues to partner with large foreign companies to fund some of its production. For instance, Nigeria has signed $6 billion worth of “carry agreements” in May alone. Carry agreements are short term loans that Nigeria will eventually pay back in cash. Whatever the ultimate effects are, the global credit crisis is sure to have some impact on African producers in the near future.
1) Some experts are advising oil companies to postpone any large expansion until the credit market loosens up. Do you think this advice is practicable for small companies who need to expand or face going out of business? If these companies opt to expand, where will they get their capital?
2) Is it a good idea for a state-run oil company such as the NNPC to engage in private sector investment? As Nigeria relies heavily on oil revenues to fund its government, is there a danger that the NNPC may invest poorly and eventually harm Nigeria?:
This was another bad week for the Russian exchanges, as the regulator closed markets again for a two-day stretch following an 11% plus drop for the RTS and 14.4% drop for the Micex index. This occurred despite the government’s promise to provide $37 billion in long-term loans for two state banks, showing that the Russian injection strategy may not be as strong as originally hoped.
On Friday, the Duma approved a $36 billion bailout to private banks from the Central Bank and the Russian government, and the shares in Russian companies traded on foreign markets continued to fall while the Russian exchanges stayed closed. The money for the bailout will come not from borrowing as with the U.S. bailout but instead from gold and hard currency reserves. Meanwhile, fears of future deficits loom with the price of oil falling to $82 a barrel.
The Duma is considering putting $17 billion from the National Welfare Fund, a fund intended to place oil revenues in excess of 10% GDP each year in long-term investments, on deposit with the large state-owned bank VEB. VEB would then be expected to loan to businesses and other banks.
Other stock markets in the region also experienced trouble at the end of the week. Ukrainian and Romanian markets were closed on Friday, with the Romanian BET index falling 15% in a little more than an hour Friday morning before trading was suspended. The Bulgarian Sofix index closed 7.5% down on Friday, and markets in the Baltic states fell 6-8%. Poland’s WIG20 inex finished 1.3% down on Friday.
1) Do you think markets in Eastern Europe will be capable of recovery independently of Russia if Russia cannot save its own markets, or do you think the markets in the region are inextricably linked?
2) Are these continued problems a sign that former Communist bloc countries have aligned too closely with the West and are therefore doomed to its failures, or should Eastern European countries work together with Western partners on recovery to achieve common solutions?
3) Should the Duma approve the proposal to put money from the National Welfare Fund on deposit with VEB in hopes of a near-future recovery, or should it reject the plan and keep the money safe for future generations?
Saturday, October 11, 2008
Although many stock markets in the Middle East have been negatively affected by the credit crisis, the region has taken the financial crisis in the West as an opportunity to gloat.
Many national representatives in the Middle East, especially in nations counted as enemies of the United States, claim that the global financial crisis is a sign that the United States has lost its superpower status. In addition, some have advocated the doubtful theory that the financial turmoil in the U.S. stems from the huge cost of financing the War in Iraq, rather than a collective regulatory failure to deal with excessive risk-taking in the banking sector.
Moreover, many in the region assume that the apparent failure of the liberal policies adhered to in the United States vindicates their view that the state must play a central role in the economy. Specifically, a Syrian official noted that this crisis has provided support for their social-market economy, which includes strong state control of the Syrian central bank.
Since those promoting more state-centric policies are using the failures of the U.S. market-based system as support for their beliefs, it follows that it will likely be harder for those promoting liberal policies in the region to find support.
Although several Middle Eastern nations have proclaimed the financial crisis as evidence of the end of the United States’ position in the world, many American economists agree that is unlikely, as the position of the U.S. dollar has yet to move.
Discussion: Do you think that the financial crisis marks the beginning of the end of the U.S. as the leader of the free world? Do you think that the nation’s reaction to the credit crisis evidences the end of U.S.-style capitalism? Do you think that the crisis will deter Middle Eastern nations from pursuing liberal economic policies?
The Star (Toronto) - Canada Backs Crisis Plans
Bloomberg - Carney, Flaherty Pledge to Act if Needed on Credit
The Canadian government has announced a C$25 billion effort for shoring up banks' liquidity. The plan will purchase mortgage-backed securities in an effort to spur Canadian banks to resume lending. The move, announced by the Canadian finance minister, comes during a series of G-7 meetings in Washington where global leaders are trying to develop a coordinated response to the increasingly global implications of the financial crisis.
Although the fundamentals of the Canadian economy have so far avoided the dramatic shocks that have occurred in the U.S., lending in Canada has been stalled and the economy is expected to go into a recession. One of the Canadian stock market indexes fell 16 percent this week. Nevertheless, some indicators of the Canadian economy remain strong. The country added 107,000 new jobs in September, a record.
The C$25 billion comes on top of an already-promised C$20 billion injection into the banking system. The $25 billion plan will purchase mortgage-backed securities that Prime Minister Harper described as solid, government-backed investments - in contrast to the risky subprime loans that the U.S. government will be guaranteeing under the $700 billion bailout plan passed last week.
The Canadian government action comes just days before party elections on October 14. The opposition Liberal leader characterized the Conservative government's action as purely political, criticizing the liquidity injection as too little, too late.
1. How is Canada's economy continuing to add new jobs in the midst of an economic downturn, especially when its biggest trade partner (U.S.) is undergoing a serious financial crisis and shedding jobs?
2. Is the Canadian government move to buy allegedly stable mortgage-backed securities more of a psychological move to encourage confidence, given that the securities are not the risky type of investments now failing in the U.S.?
Thursday, October 09, 2008
United We Recover, Divided We Recess: IMF Director Commends Central Banks For Coordinated Response to Crisis
On October 8th, IMF Managing Director Dominique Strauss-Kahn commended Western central banks for their unified approach to the global credit crisis. On that same day, six Western central banks, including the Federal Reserve and the European Central Bank, coordinated to reduce their interest rates by half a percentage point. The central banks acted together in hopes that their coordinated move would have a stronger effect on the economy than the independent measures of national governments. Strauss-Kahn, who recently advocated for a unified European reaction to the global credit crisis, viewed the banks' joint effort as a sign that the world's financial leaders are ready to restore order and growth in the international financial system.
Strauss-Kahn also issued several recommendations for a unified response to the crisis. His recommendations reflected his belief that restoring confidence in the market is essential to remedying the current state of the economy. One of Strauss-Kahn's principal recommendations was that international actors adopt a uniform approach to protecting depositors. In his view, countries that are guaranteeing deposits in their own banks are only achieving short-term solutions, and in the long-run, are harming other countries' financial systems by "stealing" depositors.
Strauss-Kahn also suggested that institutions provide liquidity to financial institutions to facilitate movement in the market. The European Central Bank has apparently already responded to this suggestion, as it announced on October 9th that it would offer unlimited liquidity to eurozone banks during its weekly auctions.
Notably, since Strauss-Kahn issued his statements, Asian central banks have coordinated to cut their interest rates. On October 9th, Central banks in South Korea, Hong Kong and Taiwan all lowered their interest rates in hopes of reducing the risk that the credit crisis will spark a global recession. As events related to the global credit crisis continue to develop, it will be interesting to see how international financial organizations respond to Strauss-Kahn's recommendations.
1- Strauss-Kahn has consistently called for a uniform response to the credit crisis. Is it reasonable to expect that independent countries, who often act in their own self-interest, will act for the good of the international financial community rather than for the benefit of their own institutions?
2- Shortly after Strauss-Kahn issued his statements regarding the coordinated efforts of the central banks, the European Central Bank took the unprecedented step of offering unlimited liquidity to eurozone banks. What role, if any, do you think Strauss-Kahn's statements played in the central bank's decision?
3- Spokespersons for the central banks stated that they hoped that their coordinated acts would have a greater impact on the state of the global economy than the individual acts of national governments. Do you agree that a cooperative approach to the crisis will lead to better results?
Tuesday, October 07, 2008
Saying Outlook Has Worsened, Fed Hints at Cut, New York Times
Despite last week's passage by Congress of the $700 billion financial rescue package, stock markets across the world marked major declines early this week. The Dow Jones Industrial Average, NASDAQ, London's FTSE, Tokyo's Nikkei, and numerous other global markets plunged--many in excess of five percent--on Monday and Tuesday. In response to the continued trouble in the markets and the exacerbation of investors' worries, the Federal Reserve formally announced one intervention strategy and hinted at another.
First, in an unprecedented move the Federal Reserve announced on Tuesday that it was forming a new Commercial Paper Funding Facility. The formation of this new entity will dramatically expand the Federal Reserve's role as a lender to American banks and financial institutions, by allowing the purchase of certain types of short-term debt, or "commercial paper."
Even after the Federal Reserve's announcement of its new foray into the commercial paper market, American stock markets continued their significant declines on Tuesday. Perhaps in response to the lack of market reaction to the commercial paper announcement, Federal Reserve chairman Ben Bernanke strongly indicated that a cut in interest rates is a very likely outcome of the Fed's late October meeting.
The multi-billion dollar investment in commercial paper, the potential interest rate cut, and the Federal Reserve's other interventions in the global credit crisis are mirrored by recent actions of other governments and central banks, most recently those in Spain, the United Kingdom, and the Benelux countries, all of which recently implemented massive bailout packages or cash infusions in their respective financial markets.
1) Why have investors not reacted as positively as expected to last week's bailout plan? To the formation of the Federal Reserve's Commercial Paper Purchase Facility?
2) Is a cut in interest rates an appropriate next step on the part of the Federal Reserve?
3) What is the ideal role of the Federal Reserve and central banks in the continuing Global Credit Crisis?