Sunday, November 30, 2008

Consumers Cautious As They Head Into Holiday Season—But It Is 5 o’clock Somewhere on Wall Street

Sources: Financial Times, Wall Street Drowns Its Sorrows; Financial Times, Black Friday Sales Suggest Longer Stay in Red; Financial Times, US Shoppers Brave Downturn on Black Friday; Washington Post, Hopes for Bargains Dim on Black Friday

The day that has long symbolized the beginning of the Christmas-shopping season and put retailers’ balance sheets on the positive side (or “in the black”) had a different tone this year. Across the country, stores offering deep discounts, such as Wal Mart and Target, brought out throngs of shoppers eager to get high-priced items for cheap. But the tone was different at New York’s high-end luxury stores, such as Tiffany & Co. and Bergdorf Goodman, where business was calm and streets remained clear of lines and crowds.

Retail consultants said preliminary reports from the biggest shopping day in the United States indicate that shoppers were focusing on buying the basics, rather than luxuries, and hunting for discounts. Retailers offered unprecedented discounts on merchandise, hoping to lure more customers into their stores. Many retailers are predicting that their sales will decline this year—partly from a decline in consumer spending and partly from price cuts intended to lure shoppers to stores.

While retailers across the country are fretting, restaurateurs in New York City are noticing that the wine is flowing like water for the City’s businessmen and women. New York City’s top dining spots say they are seeing an increase in alcohol sales between nine and twenty percent. Hard liquor and medium-priced wine sales contribute to the increase in sales. Restaurant managers don’t know whether to attribute the increase to a desire to feel “numb” towards the financial climate or to a desire to take advantage of “the last year of the expense account.”

Questions for Discussion:

1) What do you think is contributing to an increase in alcohol sales among businesspeople in New York City? Is this true across the country or only in New York?

2) Are businesses doing themselves a disservice when they offer deep discounts on their merchandise? Is it economical to get consumers in the stores spending money they might not have to spend in the first place?

Saturday, November 29, 2008

Canada May Finally See a Deficit

The Star (Toronto) - Canadian Exporters' Golden Era May Be Over
Bloomberg - Canada Current Account Surplus Narrows on Less Profit

Canadian current account surpluses are expected to dip into deficits in the last quarter of 2008 and in 2009. A country's current account balance is a broad measure of trade flows in and out of a country, including goods, services, investment, and profits. Canada has run a current account surplus since 1999 based on a high volume of exports, high commodities prices, and investment income earned abroad and repatriated by Canadian companies. The Canadian economy contrasts with the United States economy, where there has been a consistently large current account deficit in recent years.

Canada's current account surplus shrank from C$8.2 billion in the second quarter to C$5.6 billion in third quarter. Canadian exports have slowed the past few years, but the current account surplus has been buoyed by high commodities prices. Now that prices of commodities such as oil are tumbling, the Canadian goods surplus is falling. The global economic crisis has slowed demand for exports, especially in the U.S., Canada's biggest trading partner. Foreign earnings by Canadian companies fell to C$8.8 billion while its foreign investment deficit doubled to C$3.8 billion.

Canada's exports depend heavily on commodities such as oil, natural gas, and metals. These goods' prices have crashed in 2008. One economist forecasts an C$8.5 billion current account deficit for Canada in 2009.

Other recent Canadian economic indicators have been similarly negative. The country's economy is expected to shrink 1 percent in the last quarter of 2008 and 0.4 percent in the first quarter of 2009. The Canadian dollar, worth more than the U.S. dollar at times within the past year, has dropped to 81 cents on the U.S. dollar.

1. What are the long-term economic consequences of running a current account deficit?
2. Which would be expected to decline more during the global economic crisis, Canadian exports or foreign investment profits?

Tuesday, November 25, 2008

A Geriatric EU: After Birthrate Studies, Brussels Calls for Family-Friendly Workplace and Increased Immigration

Sources: Financial Times- Call For Family Friendly Jobs to Sustain EU Birth Rate; European Parliament Website- An Aging Europe: MEPs call for social security reform

The news hit Europe yesterday that its citizens are getting collectively grayer each year. While the average European citizen is currently 39 years old, today’s report by the EU Employment and Social Affairs Committee estimates that by 2050 that average age will increase to 49 years. Another study released yesterday by the Berlin Institute for Population and Development says that by 2040, Europe will have almost twice as many people over age 65 than under 15. This is problematic for social programs, social security, and income tax revenue that are highly dependent on a robust work force. For Europe’s GDP to grow, the birth rate must be expanded or at least maintained, a greater percentage of European women will need to join the work force, or both. The author of the ESAC report, Gabriele Stauner, also suggests changing current policies to allowing Europeans to work past retirement age and giving more working immigrants legal status.

European fertility rates vary greatly from 3.21 births per women in Kosovo, the highest, to 1.2 in Moldova, the lowest. Inside the EU, the rates are lower, with the highest birth rate at 2.21 births per woman in northern Finland and 2.09 in Lancashire, UK. EU countries that have passed progressive family and employment policies, such as France, Iceland, Ireland, and Norway, have an average fertility rate of 2 children per woman. In Greece, Italy, Poland, and Spain however, rates are significantly lower despite fewer woman participating in the work force and in theory, having more time to raise children. Sweden has dealt with declining birth rates by passing a range of social and economic measures to help students who are parents.

Director of the Berlin Institute for Population and Development, Reiner Klingholz, says that the Catholic Church’s agenda to push traditional family values (keeping the woman in the home) negatively affects birthrates, as 3 of the 4 most struggling countries are predominantly Catholic. In contrast, measures that promote women in the workplace, such as quality childcare facilities and full-day schooling, have a positive effect.

Only time will tell whether birthrates will recover but both studies show that in the mean time, Europe will have to look to women and immigrants to boost the dwindling workforce in an increasingly instable job market.

After catastrophic events in world history such as WWII and 911, birthrates skyrocketed. It is clear that employment rates have already plunged and will continue to do so as a result of the financial crisis, but how do you think birth rates will be affected? Why?

Asia to see sharp slowdown in economic growth

Sources: IMF Survey-Asian Growth to Slow Sharply in 2009 Asia to Slow 'Substantially' as Exports, Demand Ebb, IMF says

The IMF today released its economic outlook for Asian and Pacific economies in 2009 and the news was not good.  IMF analysts expect to see growth slow from 7.6 percent in 2007 to 4.9 percent in 2009 as a result of the global effects of the financial crisis. 

Jerald Schiff, a senior advisor in IMF’s Asia and Pacific Department, said that the “recent intensification” of the crisis has made it clear that Asia, once thought to be somewhat isolated from western economic slumps, will not escape the crisis “unscathed.”  In October, the IMF had predicted a less severe slowdown – to just 5.6 percent, but the indefinite status of the financial turmoil has economists feeling far more pessimistic.  This news marks the first simultaneous economic contraction in the United States, Japan, and the euro region since World War II.

The IMF cited two main reasons for the downturn: reduction in global demand for Asian exports and an “extremely challenging” financial environment (meaning weakening currencies, scarce financing, and large capital outflows).  Asia exports most of its goods to the areas hit hardest by the financial crisis and subsequent economic malaise: the United States and the Euro Zone.  With these two major consumers in the midst of severe recessions with no end in sight, the outlook for rising consumer demand seems bleak, at least through 2009.  Both China and Japan are hoping to reduce their reliance on American and European consumers by increasing buying power amongst their own citizens through massive ($9.3 bn and $19 bn respectively) stimulus packages.

The IMF analysts said that governments must “remain vigilant...and be prepared to respond quickly and flexibly to a sharp slowing of domestic activity” and central banks must act “decisively” to maintain stability and growth.  In that regard, China, India, South Korea, Taiwan, and Vietnam have all recently employed monetary tools to reduce borrowing costs.

At the moment, IMF economists predict the beginning of recovery in the second half of 2009, but were careful to say that there are still significant downside risks to this outlook.  In particular, if the global slowdown is deeper or more protracted than currently predicted, the Asian outlook would remain negative for a longer period of time, barring a significant rise in domestic demand. 


Discussion: Will the severe reduction in consumer demand from the U.S. and Europe lead to a fundamental rethinking of policy in nations with large export businesses as well as large domestic populations, such as China and India?  Is that a viable solution for Asian nations to gain greater independence from the West in the future?  

Monday, November 24, 2008

Citigroup Attempts to Avoid Doom with Government Bailout That Could Set Precedent for Other Plans

Sources: Financial Times, US Agrees Bail-out for Citigroup; New York Times, US Approves Plan to Help Citigroup Cope With Losses; CNN Money, Citigroup Plunges as Bank Mulls Next Move

As another financial giant sat on the brink of failure, federal regulators pondered transitioning to a third phase of government intervention to save the financial industry from ruin. Late Sunday night, the US government announced that it will rescue Citigroup from ultimate failure—by absorbing $306 billion in problematic assets and $20 billion in capital injections.

Federal regulators and Citigroup will guarantee up to $306 billion in residential and commercial real estate loans. The plan requires Citigroup to take on the first $29 billion of losses. The remaining losses will be split 90/10 between the government and Citigroup. The Treasury Department is responsible for the first $5 billion, the FDIC the next $10 billion, and any remaining losses on the government’s shoulders are the responsibility of the Federal Reserve. Citigroup must issue $7 billion in preferred stock to government regulators; the government will also buy $20 billion of preferred stock— which will pay an 8% dividend. Citigroup will halt dividend payments for three years, agree to certain executive compensation restrictions, and will put into place the FDIC’s loan modification plan.

The first two phases of government intervention—buying troubled assets from banks and directly injecting capital into banks—were able to restore investors’ confidence for only a short time before the economic plunge continued. Officials hope this hybrid plan will leave a lasting effect in the market.

President Bush, accompanied by Treasury Secretary Hank Paulson, said that the plan was necessary to keep the economy stable and that it can be used to bail out other institutions in similar distress. Pres. Bush also noted that he has conferred with president-elect Barack Obama on these issues. Obama’s expected appointee for Paulson’s job, Timothy F. Geithner, president of the Federal Reserve Bank of New York, was involved in the weekend’s negotiations.

While Citi’s stock took a beating in the market last week, the cost to insure its loans halved on Monday morning as the risk of default seemed to be lower with the government bailout. With more than $2 trillion in assets, Citigroup is so large and interconnected that other institutions could feel the damage already done.

Questions for Discussion:

1) We have watched regulators unveil several bailout plans in the past few months. Is this the magic one? Is this the solid result of trial-and-error or are there fatal flaws in this plan?

2) At what point do you think the government’s bailout capacities will be maxed? Do these continued bailout plans represent band-aids or are we experiencing a paradigm shift in America’s capitalist system?

Obama Announces Economic Team; Hints at Plans for New Stimulus Legislation

Obama Eyes $500 Billion In Stimulus, Wall Street Journal
Obama Unveils Team to Tackle 'Historic' Crisis, New York Times

As his Inauguration Day draws closer, the pressure mounts on President-Elect Barack Obama to unveil his plans to deal with the increasingly serious economic crisis. Over the course of the weekend and Monday, Obama, his transition team, and congressional Democratic leaders outlined their plans for an ambitious—and expensive—economic stimulus package.

In addition to announcing the formation of his team of core economic advisors—led by Treasury Secretary appointee Timothy Geithner (the current president of the Federal Reserve Bank of New York), Commerce Secretary Appointee New Mexico Gov. Bill Richardson, and Chairman of the White House Economic Council former Treasury Secretary Lawrence Summers—Obama and his aides released certain details of their proposed $500 billion economic stimulus package. The proposed legislation will likely contain increased federal investment in aid to struggling American companies, tax cuts, and measures to make it easier for individual Americans to borrow money. While Obama told reporters that he did not believe that the U.S. auto industry should be allowed to collapse, he did not offer specific opinions on a potential bailout of automakers.

Obama and his team are reportedly working very closely with both the Bush administration and the Congressional leadership in preparing for and crafting the new stimulus legislation. Both the Obama transition team and Congressional leaders expressed the need to pass additional stimuli as soon as possible. Accordingly, Speaker of the House Nancy Pelosi and Senate Majority Leader Harry Reid committed to taking up the legislation immediately after the new Congress convenes so that, in the leaders’ words, it will be ready for President Obama’s signature on inauguration day.

Discussion Questions:
1) Are President Elect Obama's choices for his economic team right? What are the strengths and weaknesses of the team?
2)Should there be a new package of stimulus legislation? What should it contain?

Turkey and the IMF Close to Negotiating a Deal

Sources: Forbes, Turkish Assets Soar on Economic Aid Hopes; Associated Press Turkey, IMF in Talks for Possible Loan; Hürriyet, Turkey, IMF Deal Nears; Hürriyet, Turkish Government Plans 83 Major Steps to Tackle Global Crisis; Financial Times, Ankara Hopeful on IMF Deal

Despite Turkish newspaper Zaman's report that Turkey agreed to a $19 billion loan, the Turkish government claimed on Monday to still be negotiating the size of the deal. However, even the expectation of IMF support gave the Turkish economy a boost – on Monday, the Turkish lira gained five percent against the dollar and stock prices climbed by 9.88%. This loan follows a $10 billion three-year IMF standby arrangement that ended in May.

Though the Prime Minister has been cautious about accepting a new IMF loan, business groups have pressured the government to come to an agreement. They want guarantees of financial support for the country in case of an economic emergency. This weekend, Prime Minister Erdoğan was optimistic about the loan, but at the same time concerned about the conditions attached. Turkey and the IMF are still resolving disagreements both about the size of the loan and its conditions. Erdoğan had previously told legislators to expect $20 – $40 billion, so if the $19 billion figure becomes final it would be on the low end of what was hoped for. It is also unclear whether this is a loan involving immediate access to funds or simply another precautionary agreement.

Whatever the amount and nature of the final deal, Turkey will have to take at least some steps of its own to improve the country's economic situation. The government plans to announce details of some measures including an increase in the state bank deposit guarantee this week. The government's plan would use not only IMF money but also funding from a number of other external sources including the World Bank and European Investment Bank and money from public land sales. It includes eighty-three steps, though these range from abstract in nature – increased cooperation, for example – to more concrete fiscal and monetary policy adjustments. The IMF has also asked Turkey to lower it's growth target for 2009 to two percent, stop investing, and lower the local administrations' income, but Erdoğan has so far refused these conditions.

Like other developing economies, the effect of the global crisis on Turkey has been gradual, but by now it has clearly taken some hold. The flight of foreign capital is a major reason for loan negotiations, and Turkey is also plagued by large trade deficits and a falling currency. However, local elections are coming early next year and politicians are particularly concerned about negotiating a deal with heavy conditions just before voters go to the polls.

1) If you were a Turkish voter, would a heavily conditioned IMF loan make you angry with your current national leaders, or would you be relieved that the country has access to funds given the current global financial climate?

2) Do you think the IMF will consider relaxing its fiscal policy conditions at all when negotiating loans with Turkey or other countries that need funding yet are reluctant to accept very harsh conditions?

Sunday, November 23, 2008

India feeling the effects of the financial crisis


Indian textile industry feels the crunch, Financial Times; India’s IT executives fear worst slowdown, Financial Times; India optimistic about outsourcing, despite global crisis, The Industry Standard; Industry’s Markets Will Be Among the First to Recover, Bhave Says, Bloomberg

India’s economy, the third largest in the world, is being hit hard by the credit crisis. Its textile industry, for example, has laid off an estimated 700,000 workers in the last six months and India’s trade secretary has said that textile companies will likely cut an additional 500,000 jobs in the next five months in order to survive the current economic downturn. The outsourcing industry is also bracing for the worst. The chief executive officer of Infosys Technologies, a major information technology firm headquartered in Bangalore, India, stated that India is experiencing the worst slowdown he has seen in his thirty years in the domestic outsourcing industry. This year’s growth projection is just 13 to 15 percent, less than half of the growth rate the industry has sustained for the last 10 years.

Some government officials remain optimistic about the condition of India’s economy, however, at least in terms of its financial markets. The chairman of Securities and Exchange Board of India claims that India’s markets will be among the first to recover from the financial crisis. In doing so, he said, India will likely climb in the world’s economic standings, placing more pressure on the country to be a world leader. Although the Bombay Stock Exchange Sensitive Index (Sensex) dropped by more than 56 percent this year as a result of the US mortgage meltdown, the chairman says that the only overseas companies getting out of the market are the ones that are overleveraged and, overall, India’s financial system is holding steady.

Textiles are the country’s second largest employer, after agriculture, and the industry is employs at least 50 million people in India. The industry also accounts for approximately nine percent of India’s gross domestic product, but in October it reported a 12.3 percent decrease in exports from the level it was at in the same period last year. High energy costs, increased prices for leather and cotton and decreased demand from its largest customers—the United States, European Union, and Japan—are responsible for the industry slowdown.

The outsourcing industry brings in $40 billion of offshore revenues each year, making it one of India’s biggest export industries. The industry encompasses a broad range of activities, including handling offshore clients’ computer systems, offshore clients’ accounts and even some of those clients’ business processes, including customer mortgage and insurance applications.


(1) What is the true state of India’s economy? Will it, as one government official claimed, be among the first to recover and emerge as a world economic leader? Or, as another government official said, experiencing one of the worst slowdowns in three decades and in bad shape?

(2) Do government officials have reason to be optimistic about India’s financial markets?

(3) How will India cope with the massive job losses it has incurred and will incur in the next few months?

IMF Approves Loan to Iceland To Aid Faltering Economy

Sources: International Monetary Fund, Iceland Gets Help to Recover From Historic Crisis; International Monetary Fund, Transcript of a Conference Call on the IMF's Executive Board Approval of a Stand-By Arrangement for Iceland

As previously reported on this blog, Iceland has been waiting for the IMF's Executive Board to approve a $2.1 billion stand-by agreement that the country's government submitted to the Board in late October. The Executive Board has recently approved the agreement and will make $827 million immediately accessible to Iceland. The rest of the money will come in the form of eight equal installments over the next two years. The IMF expects that the loan will help Iceland make up for about 42% of its financing gap for 2008-2010. Iceland will also be receiving $3.2 billion from other creditors.

Poul Thomsen, the IMF Mission Chief for Iceland, has said that the foremost goal of the recovery program is to stabilize the Krona, Iceland's currency. How will this program help? Thomsen believes that the key to stabilizing the Krona is to enforce a "tight" monetary policy. By that, Thomsen means that Iceland is going to try to prevent people from withdrawing funds from accounts in Iceland's banks. To Thomsen, Iceland can do this by either raising interest rates or placing restrictions on accounts so that people literally cannot remove capital from their accounts.

Part of the reason for enacting this policies is that, with the onset of the global crisis, investors are so nervous that they have been, and will probably continue to, withdraw funds from banks all over the world. Iceland's banks have been among those that have suffered most from these developments-the country's GDP is down by 10%, the Krona's value has dropped by 70%, and the stock market's value has dropped by over 80%. For now, Thomsen says it is impossible to predict just how "tight" the monetary policy needs to be to mitigate the damage. When questioned about the technical details of Iceland's new policies, he has said that all the IMF and Iceland know is that policies must be "appropriately tight."

The approval of the stand-by agreement has also raised questions as to what extent the IMF will be involved in the development of Iceland's new policies. To these questions, Thomsen has replied that there will be a dialogue between the IMF and Iceland, and that it will be up to the country's government to formulate major proposals. As to the delay in the program's approval, Thomsen has said that those working on the agreement had been unable to take the proposed agreement to the Board until they were sure that other creditors would finance portions of the program that the IMF could not cover.

Discussion Questions:

1- Do you think that, going forth, the interaction between Iceland and the IMF will really be a "dialogue"? Given the circumstances that have resulted from the crisis, and the vulnerable state that Iceland is in, do you think that it is possible for a country to assert its decision-making power in front of the IMF?

2- Do you think that raising interest rates or enacting restrictions will keep nervous investors from withdrawing their funds from Iceland's banks?

Sweet Deal or Neo-colonialism? South Korea to Lease Half of Madagascar’s Arable Land

Financial Times 1
Financial Times 2
Financial Times 3
Financial Times 4

South Korea’s Daewoo Logistics is set to lease 1.3 million hectares of land in Madagascar to farm corn and palm tree oil. The 1.3 million hectares represent over half of the land already farmed in Madagascar and is about the size of Belgium. The sheer size of the deal has many worried, including the United Nations Food and Agriculture Organization (“FAO”), that the deal is not fair to Madagascar. As the agreement currently stands, South Korea will not have to Madagascar any money for the 99 year long lease.

South Korea will be responsible for investing in the necessary roads, irrigation systems and storage facilities in order to support their farming operations. South Korea also promises to use local labor from Madagascar at its farms. Some experts, however, say that the infrastructure investments and using local labor is not enough to make this deal fair. For instance, the FAO gave an example of a similar deal, albeit on a smaller scale, in the Sudan where capital and expertise were not transferred to the host country in any meaningful way. Others are concerned with the potential environmental impact on Madagascar. The majority of the land being leased by South Korea is currently forest that would need to be cleared if farming were to take place.

The Madagascar deal is but one, although perhaps the most extreme, example of Eastern countries investing in resource-laden African countries. China has long been buying up oil and mining resources in Africa. The Madagascar deal arises out of a need for food security. South Korea is the fourth largest corn importer in the world, and the farmland in Madagascar could produce up to half of the corn it needs. Madagascar, however, may also wish to see some of the Korean corn stay in its country. Over 600,000 people in Madagascar rely on the UN’s World Food Program for food relief. Some experts see a potential for conflict in the future if food scarcity becomes a larger problem for Madagascar. Right now, though, it looks like South Korea is getting a good deal, perhaps at the cost of Madagascar.

1) Do you think that it is fair for South Korea to lease so much land for free? It is true that Madagascar is not being forced into this agreement, but how much bargaining power to you think Madagascar has?
2) What type of additional terms would you suggest if you could modify the agreement? Do you think it would be a good idea to have South Korea provide Madagascar with a portion of the agricultural products it produces? Maybe South Korea could also invest in manufacturing or fertilizer facilities?

Saturday, November 22, 2008

Pirates Are Real--and Causing Problems for International Business

Sources: Borderless Boarders, Financial Times; Piracy Set to Escalate Shipping Costs, Financial TImes; Shipping Avoids Suez on Piracy Fears, Financial Times

The recent hijacking of the Sirius Star, a Saudi-owned oil tanker, by Somali pirates in the Gulf of Aden has thrown the spotlight on the growing problem and has caused many shipping companies to divert vessels on longer routes around the Cape of Good Hope, which will cause extra shipping and insurance costs that will ultimately be passed off to customers.

According to the International Maritime Bureau, there have been ninety-five pirate attacks on vessels off Somalia this year. Most of the vessels seized by the pirates have been taken in the Gulf of Aden near the Suez Canal.

Earlier this week, Norway’s Odfjell, one of the largest operators of chemical tankers, became the first tanker owner to publicly announce that it was going to avoid the Suez Canal. Taiwan’s TMT followed suit, ordering its vessels to avoid the Suez Canal and stay at least 2,000 miles off of the Somali coast. On Thursday, Europe’s biggest ship owner, Moller-Maersk, also decided to divert its tankers to the longer route around the Cape of Good Hope.

The re-routing will increase sailing days—possibly up to twenty additional days—delaying the delivery date and forcing consumers to bear additional costs for international deliveries. The crisis could also push up charter rates for tankers because the extra voyage time reduces the number of vessels available. Further, the special risk insurance needed for vessels entering the Gulf of Aden or the Suez Canal has already escalated from $500 per voyage to $20,000 per voyage.

In addition to the added costs passed onto consumers by shipping companies, the government of Egypt is facing a loss in revenue from the Suez Canal, which is its third largest source of foreign currency revenues. In response to this threat, six Arab countries that share the Red Sea met in Cairo to come up with a united response, but no definitive response seems to have come from the meeting. The rest of the world has also been unable to effectively respond to the situation, as the waters in which the pirates operate are too large for international forces to patrol effectively—the Gulf of Aden is 2.5 square nautical miles. Legal obstacles also make it difficult for navies to arrest or prosecute pirates, so captured pirates are often just returned to Somalia—one of the world’s most unstable states—where they can simply resume their work.

Discussion: How should the international community respond to this “piracy threat?” What will happen if insurance companies refuse to insure tankers traveling in the Gulf of Aden or the Suez Canal? Should companies negotiate with pirates, or refuse to speak with them? If they negotiate, who should bear the costs of the ransom? How big of an effect do you think that the threat of piracy will have on international business?

Bush, APEC Urge Freer Trade at Summit

Bloomberg - APEC Ministers Reject 'Protectionism' Amid Crisis
Washington Times - APEC Summit to Take Up Trade Barriers
AP - Bush Urges Countries to Avoid Protectionism

Heads of state of the Asia-Pacific Economic Cooperation (APEC) group are meeting this weekend in Lima, Peru and calling for continued liberalization of trade during the global economic crisis. APEC includes economic giants such as the United States, China, Japan, Canada, Russia, and South Korea and represents over half of world GDP.

The APEC meeting comes just a week after heads of state from the G20 group met in Washington. APEC leaders are expected to affirm the principles that emerged from the G20 meeting, such as increased financial regulation and economic stimulus measures.

However, the APEC meeting will also be a rejection of protectionism and a reaffirmation of free trade policies. U.S. President George Bush stated that the goal of freer trade should not be abandoned because of the global economic downturn. One of Bush's legacies as U.S. President has been his fervent support of free trade initiatives. When Bush entered office, the U.S. had three bilateral free trade agreements. Now there are 14, with Bush unable to get Congress to pass three more free trade deals with Colombia, Panama, and South Korea.

The APEC call for free trade comes toward the end of the moribund Doha Round of free trade negotiations. The Doha round began in 2001 and was geared toward reducing agricultural subsidies and tariffs on industrial goods. However, Doha has widely been seen as a failure, with the U.S. and Europe unable to agree on cuts in their agricultural subsidies without certain guarantees from developing countries such as India.

One potential initiative is an APEC free trade agreement. There is already a free trade subgroup within APEC callled the P-4, which consists of New Zealand, Chile, Singapore, and Brunei. The U.S., as well as Australia and Peru, have signaled interest in joining the P-4.

Any agreements on free trade, whether bilateral or multilateral, will likely have to wait until U.S. President-elect Barack Obama takes office. Obama has opposed the pending U.S. bilateral trade agreements and has even called for a re-negotiation of NAFTA. It is therefore unclear the role the Obama administration will take in global free trade negotiations.

1. Many developing countries have been hit by the economic crisis when investors from wealthy countries pulled their investment money out of emerging markets. Should global trade policy make a distinction between unrestricted flows of investment capital and free trade in goods and services?

Friday, November 21, 2008

Ecuador on the Brink of Default? Audit Report Finds Illegalities Surrounding Foreign Debts

Ecuador's Audit Commission Finds `Illegality' in Debt (Update5),
Ecuador's Bonds Fall After Patino Says Government May Default,
Correa: Se tratará de no pagar deuda illegal, El Universo
Ecuador posterga pago de cupón de bono Global 2012, El Universal

Ecuador’s President Rafael Correa has threatened since his 2006 presidential campaign to default on various foreign debt obligations. Last year, Correa set up a debt audit commission to investigate the legitimacy and legality of certain public debts. Ecuador insists it is able to meet all of its foreign debt obligations, but will not pay “illegitimate debt.” This year on Nov. 15 Correa said he would suspend payments on certain bonds if the report provided a legal basis for such a move. With a report released by his government on November 20, those threats of default seem likely to become reality.

In its November 20 report, the audit commission announced it had uncovered “serious signs of illegality” regarding billions of dollars in public debt. The crux of the report was based on Ecuador’s three global bonds of approximately $3.9 billion USD. Ecuador issued the bonds in 2000 and they are due in 2012, 2015 and 2030. The 2012 and 2030 notes were the results of restructured debts from a previous default by Ecuador in 1999. The commission found “illegalities” and “irregularities” surrounding the issuance of the bonds due in 2012 and 2030, including issuance without proper authorization and exorbitant interest rates. Correa called the findings “disastrous” and “conclusive” and suggested that similar irregularities surround bond due in 2015, as well. In addition, the report suggested “irregularities” in bilateral debts with Brazil, Spain, and Italy. While the commission did not recommend specific actions the government should take, some members of the commission stated that those responsible for issuing the bonds should be put on criminal trial.

Ecuador’s Minister of Politics Ricardo Patiño headed the audit commission. Patiño had stated in August that Ecuador’s creditors could be forced to accept a governmental decision to cease payment on debt “even if some don't like it.” The day following the report’s release, Patiño told Bloomberg News that the Correa administration may seek restructuring talks with bondholders after completing its analysis of the debt's legality. Earlier during the announcement event , however, Patiño indicated that if creditors wanted to restructure the debt, those creditors would have to approach the government to talk, not the other way around.

During the announcement of the commission's findings in Ecaudor, applause and shouts of “We owe nothing, the debt is paid” and “Prison for the thieves” rang through the assembly hall. Investors, however, had little to cheer about. The prices of the bonds those investors hold have plummeted since August. Following the announcement, bond rating agency Standard & Poor’s downgraded Ecuadorian debt to CCC- from B-. President Correa stated that the final decision on whether to pay the debts will be announced the first week of December. For further discussion on President Correa's wariness of foreign debt, including IMF loans, see the prior blog titled "Ecuador Wary of IMF Lending".

1) Assuming that the findings of the audit committee are correct, should Ecuador default on its debts? Can you think of any other ways to resolve the situation without resorting to default?
2) Should Ecuador invite a disinterested third party to evaluate the debt? Is the financial community likely to question the validity of the findings of the audit committee set up by the Ecuadorian government?

Wednesday, November 19, 2008

Paulson Defends Bailout Policies Despite Congressional Criticism and Continuing Economic Woes

Treasury Denounced Over Bailout, New York Times
US Economy Chiefs Say Policies Bear Fruit, Financial Times
Wall Street Falls On Latest Economic Data, New York Times

Wednesday brought a new pair of troubling indicators of the continuing deterioration of the U.S. economy and an accompanying slide in market indices. Markets slid lower in response to both the announcements that October housing starts had fallen 4.5% compared to the same month in 2007 and that core consumer prices had fallen 0.1% since September. The fall in consumer prices, which is the largest drop in the history of the measurement, is causing the greater concern within the financial community, as it may indicate the possibility that the U.S. economy is headed toward a period of deflation.

With the apparently worsening economic predicament as a backdrop, Treasury Secretary Henry Paulson and Federal Reserve Chairman Ben Bernanke were called to testify before the House Financial Services Committee about that status and effectiveness of the bailout legislation. At the hearing, Democrats on the committee accused the Secretary Paulson and the Treasury of ignoring congressional intent by refusing to provide aid directly to homeowners facing foreclosure or to the U.S. auto industry.

In spite of the intense criticism of the Treasury's bailout strategy by the congressional committee, Secretary Paulson maintained that the Treasury's actions are having a significant effect. Paulson said that the decision to focus the investment of the $700 billion bailout package on the infusion of capital/liquidity to U.S. financial institutions has caused the financial community to "turn a corner."

Responding to calls for inclusion of relief to individual homeowners and the struggling automotive industry, Paulson said that these actions, not the current path that the Treasury Department has taken, would violate the intent of the bailout legislation. The bailout package, according to Paulson, was intended to be directed specifically to the financial services industry. It was not, Paulson stated, supposed to be a generalized economic stimulus package, under which investment in homeowner relief or loans to the automotive industry would be appropriate.

Discussion Questions:
1) Has the Treasury Department's enactment of the bailout legislation been effective? Has it been true to the intent of the legislation?
2)Should homeowner relief and/or bailout of the U.S. auto industry be included in the existing bailout plan? Or should these types of relief come from additional legislation?

Tuesday, November 18, 2008

Italian Mafia Banks on Financial Crisis

Sources: Financial Times- Mafia Cashes In on Italian Downturn; The Telegraph- Net Profit of Italian Mafia Makes Them Italy's Biggest Business

Italy is home to 4 distinct organized crime units that collectively make up the “mafia”, or Italian mob. Together the organizations account for £57 billion annually in net profits or 6% of Italy’s GDP. A new study entitled “Crime's Hold on Business” by the Italian shopkeepers' association, Confesercenti, says that the Mafia’s stranglehold on the Italian economy has only gotten stronger with the global credit crisis. Because local Italian businesses are becoming more and more desperate to find liquid sources of credit, the Mafia’s loan sharking business has never been better. The study estimates that 180,000 Italian businesses have been victimized to date.

Unfortunately, the fragile economic positions of Italian businesses also make them prime targets for other Mafia business such as extortion, protection rackets, usury (providing cash flow and job security for a price), and money laundering. The report stresses that the Mafia is increasingly using vast cash reserves to buy real estate and a stake in industries such as trade, tourism, the betting industry, restaurants, construction, garbage disposal and health at bargain prices. The report also estimates that Italian small businesses have collectively paid £250m daily to the Mafia for pizzo (slang for protection money). That means roughly £10 million an hour and £160,000 a minute are paid out to one of the 4 organized crime units.

Italian Prime Minister Silvio Berlusconi made it a platform of his conservative campaign to crack down on organized crime. He made good on that promise last April when he sent 400 armed paratroopers to Naples to take on the Camorra Mafia but has since done little to combat the problem. Last week interior minister Roberto Maroni traveled to Sicily to seize confiscated Mafia assets, including villas and farms, and hand them over to local authorities. Critics say the moves are aimed more at winning over public opinion than effecting any real change.

What other businesses with large cash reserves, both legal and illegal, do you think are benefitting from the credit crisis? Do you foresee organized crime gaining strength in all countries or do you think this problem is distinct to Italy?

Monday, November 17, 2008

After G-20, Global Economy Turns a New Page

Sources: The International Monetary Fund, Transcript of a Press Briefing by Dominique Strauss-Kahn, IMF Managing Director, John Lipsky, First Deputy Managing Director, Caroline Atkinson, Director of External Relations; International Monetary Fund, Financial Sector Assessment Program (FSAP)

On Saturday, November 15th, IMF Managing Director Dominique Strauss-Kahn and First Deputy Managing Director John Lipsky shared their impressions of the G-20 meeting that took place that day in Washington, D.C. Their statements focused on how the IMF will proceed after the G-20 meeting and how, if at all, the IMF's role in the credit crisis will change in the coming months. Strauss-Kahn’s comments centered around two major ideas: first, that the international community is still experiencing a credit crisis, and second, that international leaders must take steps to reform international governance to prevent another crisis from taking place.

Strauss-Kahn expanded upon his first idea, that the global economy is still in crisis, by referring to the IMF's recent predictions that the global economy is going to perform even more poorly in 2009 than observers had initially thought. According to Strauss-Kahn, current economic conditions are the worst that the world has seen or contemplated in over sixty years. Though he briefly discussed the monetary and trade policy changes that could help countries survive the crisis, he advocated strongly for fiscal policy changes. To Strauss-Kahn, the key to finding our way out of the crisis is to change fiscal policies to help low-income populations increase their resources. In his view, these are the members of the population who will continue to be most affected by the crisis.

With regard to reforms and changes in governance, Strauss-Kahn recalled previous instances in which international leaders have called for a reform of the Bretton Woods system, but have not effected any change. He cited the Asian crisis as a period of time where there was much talk of reforming the system of international governance, but where major reforms did not result. Strauss-Kahn explained this trend of talk, but no action, as a result of the fact that leaders are concerned when crises are taking place, but turn to other policy matters as crises subside.

In his view, however, the current talk of changing governance is different because the G-20 leadership has taken affirmative steps toward changing governance as the crisis is taking place. In fact, between Saturday’s G-20 conference and the upcoming spring conference, a working group will work on proposals to alter the Bretton Woods system and the G-7, G-8, and G-20 system.

Finally, Strauss-Kahn predicted that the IMF's surveillance role is likely to increase. The IMF has structures called Financial Sector Assessment Programs (FSAPs) that allow the IMF to go into specific countries and evaluate their economies. Strauss-Kahn shared that on Saturday there was talk of making FSAPs mandatory to different countries. Interestingly, four of the twenty countries present at the meeting do not currently have FSAPs. Strauss-Kahn was quick to point out, however, that in order for FSAPs to become more prevalent, the IMF needs more funding. As countries, such as Japan, come forth with contributions, it will be interesting to see whether surveillance tools like FSAPs actually become more prevalent.

Discussion Questions:

1- Strauss-Kahn seems to think that the present crisis is distinguishable from other crises because leaders are taking affirmative steps to meet and discuss reforms. Do you agree that change is more likely to occur now than before?

2- Do you think that mandatory surveillance tools, such as FSAPs, are a good idea? Do you think that it is within the scope of organizations like the IMF to order mandatory surveillance of certain countries?

Chinese President Visits Costa Rica, Cuba and Peru Hoping to Strengthen Economic Ties

China Seeks Boost to Cuba Ties, BBC News
China’s Growth Key for Latin America, BBC News
Hu Jintao to Visit Struggling Ally Cuba, Reuters
China’s Hu on Historic Visit to Costa Rica, Reuters

Chinese President Hu Jintao is traveling from Costa Rica to Cuba to Peru in hopes of strengthening economic ties with the three countries. China’s trade with Latin American countries has gone from $13 billion USD in 2000 to more than $100 billion USD in 2007. China buys massive amounts of Latin America's commodities to satisfy its booming economy. Yet there is room for growth. Even in 2007 only 7 percent of Latin American exports went to China. The concern is whether the high demand for commodities will continue in China given the global economic downturn.

Costa Rica began building ties with China last year, after it switched diplomatic ties from Taiwan after 60 years to China instead. China does not have diplomatic ties with nations that recognize Taiwan, because China considers Taiwan a breakaway province. The visit has been called “historic” as it is the highest-level visit by a Chinese official to Costa Rica. China and Costa Rica are expected to announce talks on a joint free trade accord between the two countries, which could be signed in 2010.

China is already Cuba’s second biggest trading partner after Venezuela. China and Cuba have strong ties due to their shared communist roots, but the two counties run their economies very differently. China has recently pursue market-based reforms, while Cuba’s economic model remains very government controlled. China has loaned large sums to Cuba in the past, and those loans are beginning to come due: just when Cuba has suffered $10 billion USD in damage from three recent storms, and the prices of nickel, Cuba’s main export, and oil, the main export of ally Venezuela, have plummeted. Restructuring those debts and possible future loans will be on President Hu's agenda, according to western diplomats.

China is also Peru’s second largest importer. Much of Peru’s recent high growth rates have been driven by investment in the mining sector, including from China. Peru is currently negotiating a joint free trade accord with China. President Hu Jintao will attend the APEC (Asia-Pacific Economic Co-operation) summit in Lima, which will be held on November 21 and 22.

1) President Raul Castro has already enacted some minor reforms in Cuba since taking over the presidency for his brother Fidel. How might this visit, as well as Cuba's overall ties with China, impact future reforms in Cuba? Might Cuba follow China's example and move from a state-lead economy to a more market-focused economy?

Africa has One Country at G20 Conference, Many Urge that Focus Remain on Trade

Business Daily Africa
Africa Reuters
Financial Times

Africa’s financial institutions have generally been insulated from the direct effects of the credit crisis, but the continent is still concerned with the slew of secondary effects that arise from the crisis. Conversation about the credit crisis and its affect on Africa is again centered around a few key issues; namely, that the crisis will diminish trade opportunities, access to finance, remittances, and foreign direct investment. As the G20 met to discuss international financial coordination, only one African country, South Africa, was invited to represent the continent.

African finance ministers and central bank governors did, however, meet recently in Tunisia to discuss the outlook for Africa. Though those at the meeting admitted that this international credit crisis could not have come at a worse time for Africa, African countries were committed to continuing economic reform and the tough macroeconomic policy that has stabilized economic conditions throughout Africa. The ministers also view the crisis as an opportunity to diversify from predominant commodity exports.

This will not be possible, however, unless countries stay committed to avoiding protectionist stances on trade. The African financial ministers have called for trade talks, such as the WTO’s Roha Round, to begin again. The ministers said that, “This will stimulate the world economy and enhance opportunities for the poor, particularly in Africa. We call on all countries to refrain from protectionist tendencies.” Other experts would like to see a stand alone trade agreement for Africa that increases regional coordination and address infrastructure constraints on trade. They claim that the only way for the success of capitalism to spread to poor African countries is through continued and robust trade.

1) How likely is it that G20 countries will focus on trade agreements at a time when their financial institutions and credit markets are in dire circumstances?
2) Do you think that it is right for Africa to only have one representative at the G20 meeting? Attendance is based on the overall size of a country’s economy, yet this leaves close to a billion people unrepresented. Are there other avenues that Africa countries can pursue in order to have their voice heard?

Serbia Reaches Standby Agreement with IMF as Balkan Neighbors Respond to Crisis

Sources: Associated Press, Serbia Reaches Deal with IMF; Bloombeg, Serbia Secures $516 Million IMF Standby Agreement; Forbes, Croatia Promises Zero Deficit, Wage Freeze; New Kosova Report, Six Point Proposal Destroys Kosovo Economy; Guardian, IMF Sees Albania Growth at 3.4 to 4 Pct Next Year

On Friday, Serbia reached a 15-month standby agreement with the IMF, allowing for a $516 million loan in the case of a situation where foreign investors suddenly stop investing. Serbian officials say that they don't need the money now, but it will increase Serbia's creditworthiness and bolster investor confidence. The agreement is also expected to slow and eventually stop the falling currency and curb inflation.

In exchange for the agreement, Serbia needs to decrease the budget deficit from 2.7 to 1.5% GDP in the 2009 budget. The Serbian central bank has already taken some measures to curb inflation and stabilize the currency, including an increase in the benchmark interest rate and lowered reserve requirements for commercial banks. The IMF Board of Directors still has to approve the loan before the agreement goes into effect.

Meanwhile, other countries in the Balkans are taking their own steps to address the financial crisis. On Thursday, Croatia pledged to balance its 2009 budget and enact a general wage freeze in the face of major government indebtedness. The government hopes that by taking these steps, it will not be forced to ask for a major IMF loan in the future.

On Wednesday, responding to Ban Ki-Moon's six-point plan to amend the mission in Kosovo to be more acceptable to Serbia, the President of Kosovo's Chamber of Commerce warned that the plan would have devastating effects on Kosovo's budget and investor confidence by encouraging organized crime. On a more positive note, an IMF mission in Albania expressed optimism that by following policy recommendations Albania could see 3.5 to 4% growth in 2009 without inflationary consequences.


1) What effect do you think continuing tensions between Serbia and Kosovo will have on the economic stability in the region?
2) What are the advantages of pursuing independent strategies to stabilize the economy, as Croatia has, rather than looking to IMF support?
3) Do you think borrowing by Eastern European countries in recent weeks has had a positive effect on the economic policy of other countries in the region by serving as a warning?

Sunday, November 16, 2008

Chinese government having problems funding stimulus package


Beijing offers just quarter of stimulus funds, Financial Times

China fiscal package raises questions, Financial Times

Testing times as China’s economy turns inwards, Financial Times

China’s fiscal stimulus package appears to be dramatically underfunded. The Chinese government announced on Friday that it would put up only about a quarter of the planned Rmb4,000bn that is to be used to boost a slowing Chinese economy. China intends to rely on its local governments, state-owned banks and companies to come up with the remainder of the funding. The government itself will increase spending by Rmb1,180bn in the next two years.

China announced the stimulus package in response to a slowing economy caused by the current financial crisis. Since that announcement there have signs that the Chinese economy is slowing faster than expected. China had hoped that increased spending, which is part of the stimulus package, would provide an extra 7 percent of gross domestic product each year for the next two years. Economists, however, have expressed doubt about the effectiveness of the stimulus package and the likelihood that local governments, banks and companies can come up with the rest of the funding. Without the remainder of the funding, economists think it unlikely that China will be able to achieve as large a fiscal boost as it is hoping for.

The country’s economy, like the economies of most of the rest of the world, is increasingly feeling the effects of the financial crisis. Local governments are facing cash shortages because the weak property market has decreased revenues from land sales and they aren’t allowed to sell bonds to finance new investments. China has also seen declines in industrial production, imports, tax revenue, and house prices. Additionally, exports are responsible for a third of China’s economic growth, but the financial crisis has caused a sharp decrease in demand for Chinese products. Economists predict that if the stimulus package fails, China could experience up to a 5 percent drop in economic growth.


(1) What impact will a slowed Chinese economy have on the global economy?

(2) What else can China do to prevent its economic growth from slowing further?

(3) Should China be depending on its local governments, state-owned banks and companies to come up with the majority of the funding for the stimulus package or should the Chinese government contribute and intervene more heavily to shore up its economy?

Saturday, November 15, 2008

Order Up: Court Orders Kuwait to Close Stock Exchange

Sources: Court Orders Closure of Kuwait Stock Market, Financial Times; Court Closes Kuwaiti Stock Market, BBC News; Kuwaiti Goes to Court to Close Stock Exchange, International Herald Tribune; Court-Ordered Closure Halts Slide on Kuwait Stock Exchange, Los Angeles Times

On Thursday, November 13, a Kuwaiti judge ordered the country’s stock market to close in order to protect small investors from further declines in their portfolios. The order came after a lawsuit brought by individual investors blaming the government for mismanagement.

The suit, filed Tuesday, asked the government to temporarily close the falling stock exchange to curb losses. The court decided that the stock market should be suspended until November 17, pending the hearing of the investors’ case.

The court’s decision to close the market follows demonstrations and walk-outs by share traders fed up with the government’s lack of action to stem heavy stock market losses in the wake of the global credit crisis.

The global credit crisis has left its mark on the oil-rich Arab nation. The Kuwaiti stock exchange, the second largest in the Arab world, has fallen 43% since June. In addition, one of the main Kuwaiti lenders, the Gulf Bank, is reported to have lost up to $1 billion in failed derivative deals.

Prior to the closure, Kuwaiti sovereign wealth funds bought hundreds of millions of dollars of stock to try to ease the fall. The central bank also injected billions of dollars into the system, but the slide has continued.

Although they respect the decision, government officials said that they would appeal the decisions, which they describe as dangerous. Some analysts and academics agree with the government, questioning the action’s contradiction to principles of free trade and indicating that it will only act to increase panic among investors.

Discussion: Do you think that a state's judiciary should get involved in national economic policy? Should individual investors be allowed to sue government officials for individual economic losses based on what they perceive to be mismanagement? If so, do you think that this will lead to similar lawsuits in situations less dire and comprehensive than the current crisis? Will this action help the situation in Kuwait, or will it simply increase panic?

G20 Summit Leaders Commit to Principles, But No Overhaul

Wall Street Journal - G20 Releases Statement on Crisis
Reuters - World Leaders Agree on Plan to Fight Deep Recession

World leaders at the G20 summit in Washington on Friday and Saturday pledged to ensure that their financial markets were properly regulated and subject to oversight. The G20, a group of developed and developing countries, issued a Statement that agreed to work more closely with other countries to focus on a broader response to the global financial crisis. The crisis, which was precipitated in part by the U.S. subprime mortgage crisis, has widened to a global scope in the past few months as skittish investors pull their money out of emerging economies and as economic fear has slowed lending to a trickle.

The G20 summit had been billed by some as a "Bretton Woods II," referring to the meeting after World War II that established the international financial regulatory system of the IMF and the World Bank. Others, however, had cautioned against high expectations for the summit because of the complicated nature of the crisis and the lack of an international consensus on a proper response. U.S. President Bush called the G20 meeting last month after global economic indicators reached a boiling point.

The Statement issued by the G20 leaders appeared to indicate a compromise, with leaders promising to cooperate and use government measures to prevent a further worsening of the crisis and to re-energize their economies. But the Statement did not establish any new global regulatory bodies, nor did it explicitly change the role or power of the IMF. The Statement did, however, agree to keep the IMF adequately funded to respond to the crisis and also agreed to explore the outlines of a new regulatory body in the future. The G20 participants identified five principles to guide an eventual regulatory change in the global system: strengthening transparency and accountability, improving regulation, promoting market integrity, reinforcing cooperation, and reforming international institutions.

No specific cooperative action such as joint interest rate cuts or public spending goals were established.

President Bush had warned leaders that the global financial crisis should not be an excuse for economic protectionism, and the G20 leaders agreed not to engage in individual protection at the expense of the health of the global financial system. Bush noted that he felt the G20 leaders had reaffirmed their commitment to a free-market, free-trade global economic system.

Because President Bush is the outgoing leader of the world's largest economy, another summit aimed at more concrete measures may be organized after President-elect Barack Obama takes office in January.

1. Has the IMF's emergency lending to Iceland, Hungary, Ukraine, and Pakistan been effective at countering the crises occurring in those countries? Is the present international regulatory scheme adequate?
2. What would be some enforcement difficulties with an explicit and binding G20 agreement?

Friday, November 14, 2008

Iceland Struggles to Save Economy with IMF Loan

Sources: Bloomberg: Icelanders Protest Government Failure to Clinch Loan Iceland must agree Icesave deal before IMF loan-Dutch minfin

Dow Jones Newswires: IMF: Rescue Package for Iceland Held up by Creditor Concerns

Iceland is floundering amidst uncertainty about the status of its requested $6 bn loan from the IMF (in conjunction with the EU and other countries).  As previously reported on this blog, the IMF preliminarily agreed on Oct. 24th to loan Iceland $2.1 bn contingent upon approval by the IMF executive board.  That approval has been delayed several times, raising speculation about its certainty.  The remaining $4 bn from the EU and other countries will not be released unless the IMF first approves its own agreement.

While the IMF has never officially explained the delay, it is widely understood that the principal stumbling block is Iceland’s failure to reach an agreement with the Netherlands to reimburse the thousands of Dutch consumers who lost their deposits when Iceland was forced to nationalize its largest banks, including Landsbanki.  The deposits in question were made with Landsbanki’s online bank Icesave which was nationalized with its parent bank.  The Dutch say that Iceland must come to an agreement for at least partial reimbursement before any further loan arrangements can be finalized. 

Iceland has been in talks with the Netherlands to work out an arrangement in which Iceland would compensate Dutch clients of Icesave for up to $26,360 and the Dutch government would agree to cover any remaining losses up to $100,000 euros.  The Netherlands would also loan Iceland 1.3 billion euros to cover Iceland’s part of the agreement. Experts have speculated that Icesave’s total debt to its clients could be as high as $8.2 bn, a sum that essentially equals the size of Iceland’s economy.  But Icelandic officials have yet to finalize the deal, a move that Dutch officials say is slowing the IMF loan approval process.

The delay in procuring emergency funds to support the Icelandic economy and the Krona (its currency) has infuriated many Icelandic citizens who fear that the economic situation could soon be irreparable.  Officials say that the number of protesters in downtown Reykjavik could soon reach 6 percent of Iceland’s total population.  Iceland is facing 15.9 percent inflation as well as the collapse of the krona.  Loan funds are desperately needed to support the economy and to permit the government to float the currency, which it has been unable to do since the crisis hit Iceland’s borders last month.  The amount of money that Iceland needs to repay its debts currently surpasses the island nation’s entire GDP.

Discussion:  When countries in arguably less dire financial circumstances have been able to reach a lending agreement with the IMF in less than two weeks, is it fair for the IMF to withhold funds in Iceland’s situation?  Does the IMF have a responsibility to move quickly to approve a loan to a nation in desperate need of emergency funds?  How should nations deal with client repayment when banking extends across borders, as in this situation?

Official Eurozone Figures Show Slide Into Recession

Sources: Financial Times- Eurozone Enters First Recession; Wall Street Journal- Euro Zone Enters Recession; Wall Street Journal- Downturn Strikes Germany as Demand for Export Falls

Today official figures were announced showing a 0.2 % contraction of the eurozone GDP during the past two quarters. This marks the first recession since the region joined to share the euro currency in 1999. The 15-country region comprises 5 of the world’s top 10 economies. The reports show that recession began long before markets plummeted in October, hinting that the fourth quarter will be even worse.

Causes cited for the recession in Europe include backlash from the Lehman Brothers failure in the financial sector, high energy costs, less consumer spending on domestic products, job cuts, a strong currency that led to decreased exports, high foreign borrowing costs, and the failure of the European Central Bank to sufficiently cut interest rates.

Yesterday Germany, the world’s fourth largest economy, was the next country to release official data confirming a recession based on a 0.4 % and 0.5 % drop in the second and third quarters, respectively. It followed on the heels of Ireland, who entered recession back in January, and Italy who had the same GDP plunge as Germany. Spain's economy shrunk 0.2%, the first contraction since 1993. France cited a 0.3 % contraction in the second quarter but came out slightly ahead in the third quarter with 0.1 % growth. The numbers are comparatively weaker than the U.S., which experienced a 0.1 % loss in the second quarter but recovered for 0.7 % growth in the third.

As the EU preceded the U.S. in declaring official recession, it became clear that the crisis will play a larger role in Europe than originally thought. Analysts from the European Union statistics agency Eurostat expect a 0.3 % decline in the fourth quarter while the IMF recently predicted that the EU’s GDP will fall 0.9% in 2009. Such glum projections are likely to provoke EU leaders to have another go at collaborating on a regional bail-out plan or concerted system of capital injections when they next meet in Brussels on December 11th. They will also discuss ways to stop the spread of the crisis to other industries, such as the ailing auto industry.

Should the EU budget for capital injections into critical industries, such as automotives, in their next round of proposals? How should they determine which industries should be saved and which will have to fend for themselves? With the worldwide decline of exports, should Germany be rethinking its manufacturing-based economy or will staying away from the financial sector improve its outlook?

Thursday, November 13, 2008

Europe Takes an Introspective Look After Obama Victory

Sources: Financial Times- A Futile European Contest for the Ear of Obama; New York Times- After U.S. Breakthrough, Europe Looks in Mirror; Washington Post- Racism Rears Its Head in European Remarks on Obama; Obama Give Germany the ‘Feel Good’ Factor

Following last Tuesday’s election of President-Elect Barack Obama, Europe is asking itself tough questions. Has the U.S. eclipsed Europe in racial integration? Would Obama have been elected in any European country?

Obama emerged the early European favorite after a tour with stops in Berlin, England, and France last July. Analysts compared his speech to one given by John F. Kennedy on his European tour once voted into office in 1961. Preliminary election polls showed that Obama would prevail 5 votes to 1 in Britain, with even greater margins in France and Germany. Last Tuesday the news featured election night parties across Europe, showing cheering Europeans who had renewed their hope that a more conciliatory approach was in store for American foreign policy. However, despite European support for Obama, many critics argue that institutional barriers, such as the hierarchical Parliamentary system in Britain, make it unlikely that a minority European leader will be elected anytime soon.

Britain has the largest percentage of minority represenation in government in Europe with 15 persons of color in the 646-member House of Commons, plus a few ministers below cabinet rank. The rest of Europe lags far behind. There is only 1 black member of the Italian Parliament, Jean-Léonard Touadi, who was born in the Congo Republic. Germany has just 5 members of color on the 613-seat Bundestag, despite being home to 2.9 million Turkish immigrants. French President Nicolas Sarkozy appointed three women of color to his government, but only one black deputy was elected to the National Assembly.

The eye of the world has focused on the apparent U.S. stride on racial integration, but even U.S. statistics on minority representation in government leave much to be desired. Obama was the only African American in the previous Senate even though blacks make up 13% of the U.S. population. Now that he has ascended to the presidency, there will be no blacks in the Senate. The House of Representatives is about 9% African-American. Still, when combined with the monumental presidential election, these numbers demonstrate that the U.S. has surged past Europe in political representation of minorities.

Do statistics on minority representation in government accurately gauge racial integration? Despite your political affiliations, is the election of Obama good for American foreign policy and/or national security in light of the European reaction?

Wednesday, November 12, 2008

Paulson Shelves TARP Plan for “Household” Bailout Plan

Sources: Washington Post, The Foreclosure Fight Gets Streamlined; Financial Times, Paulson Scraps Plan to Buy Toxic Assets; Washington Post, Federal Bailout May Include Credit Card, Loan Companies

In an effort to alleviate the trickle-down of the credit crisis and continue shifting the focus of the bailout plan from Wall Street to Main Street, Secretary of the Treasury Paulson announced a revised bailout plan that facilitates household and business access to “a broad of borrowing options.” According to Sec. Paulson, there is $350 billion left of Congress’s original $700 billion bailout package—and some of that will go to recharging the credit and student loan market (which accounts for more than 40% of the consumer credit market in the U.S.), as supporting consumer lending has become one of his top priorities. The bailout plan that began as TARP (Troubled Asset Relief Program) and allowed the government to buy banks’ troubled assets to save them from failure has been shelved in favor of getting capital markets moving again.

While consumers and policymakers may welcome this change of plan, others in the financial sector are not. They criticize the change for causing confusion and exacerbating the liquidity problem in the markets. Officials from financial institutions say that troubled assets are what are causing the financial crisis and growing uncertainty whether the government will actually buy them is making the problem worse. They claim that if TARP had been implemented as soon as it was passed, the huge losses that companies have incurred since then would not have happened.

Meanwhile, mortgage-lending industry leaders, including Fannie Mae and Freddie Mac, announced a new plan to help keep people in their homes through the Streamlined Modification Program (SMP). The SMP changes the way that the lending institutions can modify a mortgage when the borrower is on the brink of default. The SMP focuses on the borrower’s income and how much he or she can pay, given his or her financial situation. A borrower who is 90 days delinquent on his or her mortgage payments will be eligible for a new loan that does not exceed 38% of his or her income, but must prove that he or she experienced a hardship (such as losing his or her job) and could be subject to interest rate increase down the line.

While the SMP applies only to borrowers who have loans owned or guaranteed by Fannie Mae or Freddie Mac, other major lending institutions, such as Bank of America, Wells Fargo, and Citigroup will extend it to the loans they administer for Fannie/Freddie and are expected to extend it to their own loans. The program will begin Dec. 15, 2008.

Questions for Discussion:

(1) What should the government do with the last $350 billion? Should it go towards carrying out the original TARP plan? Should “Main Street” assistance be the focus of a separate stimulus package?

(2) This difference in opinion seems to be a theoretical difference—should change come from the bottom up or top down?

South Africa’s Credit Woes

The Times
The AP

Though South Africa’s banking system appears to be on solid ground and has not required a government bailout, the general outlook for its credit worthiness is negative. Fitch, the credit rating agency, recently changed its outlook from the country’s creditworthiness from stable to negative. Fitch raised concerns about South Africa’s current account deficit of 7% of its GDP. A country’s current account is a measurement of how much money is flowing out of a country compared to how much is flowing out. An current account deficit, generally speaking, means that a country is a debtor to other countries.

Given the global credit crunch, analysts are concerned that South Africa will not be able to fund its current account deficit given the lack of credit inflows. Investors have sold more of South Africa’s currency, the rand, then they have bought in South African assets. This has caused a large drop in the value of the Rand. Analysts are concerned with the potential for a “hard landing” in South Africa. A hard landing is when large economic growth is immediately followed by a recession.

Though Fitch lowered its credit outlook for South Africa, it did not lower its actual credit rating, which currently stands at BBB+. BBB+ is classified as “investment grade,” which means South Africa stands a decentafr chance of attracting some foreign investment, yet South Africa was hoping to earn an A-grade rating. An A-grade credit rating allows countries to pay lower interest rates on the bonds they issue abroad, and also signals investors that the country is a very safe place to invest.

South African officials do not agree with Fitch’s projections. They claim that their fiscal and macroeconomic policy is disciplined and that South Africa would be able to continue its recent economic growth. South Africa was only one of 17 emerging economies that Fitch reviewed, and compared to the rest (some of whom had their actual credit rating lowered) South Africa faired pretty well. Fitch generally praised the country’s recent economic policies in the face of a falling rand and somewhat high inflation.

1) South African officials seem confident in their fiscal policy. Is this out of necessity, so as not to appear risky in the world’s eyes, or because they truly believe their position is stable.
2) Do you think credit rating agencies should have the important role of rating countries’ worthiness? One credit rating agency could have a large impact on a country’s economy and its ability to raise funds. How would investors determine credit rating if it weren’t for agencies like Fitch?

Tuesday, November 11, 2008

Bailout Attention Turns From Financial Sector

Democrats Press for Car Industry Rescue, Financial Times
Obama Asks Bush to Provide Help for Automakers, New York Times

For a number of weeks, the focus of the United States government's response to the global credit crisis and the accompanying economic troubles has been on the struggling financial sector, from insurance giant AIG to major mortgage providers Fannie Mae and Freddie Mac. Since last week's election, however, significant attention has begun to be paid to a possible extension of federal bailout dollars to the struggling United States automotive industry.

President-elect Barack Obama and congressional leaders Nancy Pelosi and Harry Reid have now called on President Bush and Treasury Secretary Henry Paulson to provide a portion of the $700 billion bailout package, originally intended only for use in the financial services industry, to U.S. automakers, which are experiencing their worst performance in decades. Democratic Party leaders are calling for a three-pronged approach to assisting the auto industry, including: 1)expedited payment of already-appropriated funds for the development of energy efficient cars, 2) allowing the financing divisions of automakers to participate in the capital repurchase program instituted by the bailout legislation, and 3) direct loans of Federal dollars to the industry.

While the President-elect and congressional Democrats acknowledge that these proposals, particularly the direct loans to the manufacturers, will be met with great controversy and opposition, they maintain that the auto industry is so vital to the American manufacturing community and employs such a significant number of people, that the extension of Federal government assistance is warranted.

Discussion Questions
1)Should bailout funds be made available to the United States auto industry?
2)If needed or suggested, should other industries or companies outside of the financial services industry be allowed to receive bailout funds?

Monday, November 10, 2008

China introduces new stimulus plan

China authorizes “massive” stimulus package, Financial Times
China stocks up 5% in response to 4 million yuan stimulus package, China View

China approved a “massive” new stimulus package on Sunday as part of its plan to shore up the country’s troubled economy. As part of this stimulus package, the Chinese government plans to spend $586 billion on infrastructure and social welfare over the next two years, including investing in low-income housing, electricity, water, the environment, technological innovation and disaster relief and transport. The government also said that the new investments stem from its decision to implement an “active” fiscal policy in response to the global financial crisis, and that it will maintain a “moderately active” monetary policy.

The global financial crisis has begun to hit China’s economy hard and it is slowing down more rapidly than expected. The economy’s growth rate could be as low as six percent this year, less than half of last year’s rate. The slowdown is a result of weakening international demand for Chinese products and a struggling local property market. In addition to the stimulus package, the Chinese government has also cut interest rates three times, removed quotas for bank lending and instituted new plans to help homebuyers and exporters.

(1) Is the new stimulus package likely to provide the hoped for boost in the Chinese economy?
(2) What other steps could China take to help its economy deal with the global financial crisis?
(3) What impact does a slowed Chinese economy have on the rest of the world?

Eastern European Countries Look for Solutions as Currencies Fall

Sources: Reuters, Czechs Cut, Hungary Unveils Bank Plan as Crisis Bites; Reuters, Hungary Gov't, Banks to Ease Risks of FX Borrowers

The Czech central bank on cut interest rates to 2.75% on Thursday, following the European trend of cutting rates to increase spending. This is the largest cut for the Czech Republic in six years, justified by a sharp drop in inflation and a development slowdown. The result was a 2.05% drop of the Czech currency on Thursday relative to the Euro.

Central and European nations that depend on the eurozone for exports are facing economic slowdown across the board. Poland, for example, expects growth to slow from a forecast 5.5% over 2008 to 3.5%. The polish zloty fell 2.4% on Thursday, and Poland has indicated that a rate cut may come sooner than expected.

Hungary and Serbia, on the other hand, have both had to raise rates to avoid capital flight. Serbia's currency fell 2% on Thursday, bringing it to a 29-month low, and it hopes that the pending IMF standby deal will come through and give confidence in the economy a boost. Hungary is planning to spend almost $3 million of its rescue package on supporting banks and cutting the budget deficit. It faces especially dire possibilities as a result of the European slowdown, being one of the countries most exposed to the eurozone.

Hungary announced Thursday that the money would go to nine banks particularly exposed by foreign currency borrowing. The deal will allow borrowers to ask for an extension on their loans without a fee if monthly payments increase significantly. It will also allow borrowers to change the denomination of their loans from foreign to local currency without a fee until the end of this year. Finally, borrowers who are having trouble repaying will be able to request temporary relief.


1) Should Eastern Europe look in the future for more export markets to decrease its exposure to Europe (or any one region), or do you think poor performance was inevitable in this world financial climate?

2) How important is IMF reform or additional funding for the success of countries in the region as more and more countries begin to seek outside support?