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Showing posts with label Boom-bust. Show all posts
Showing posts with label Boom-bust. Show all posts

Thursday 6 February 2014

Southeast Asia's Boom Is a Bubble-Driven Illusion?



Since the Global Financial Crisis, Southeast Asia has been one of the world’s few bright spots for economic growth and investment returns. With its relatively young population of 600 million and its growing middle class, Southeast Asia has been the scene of a modern-day gold rush as international companies clamor to get a piece of the action. Unfortunately, my research has found that much of this region’s growth in recent years has been driven by ballooning credit and asset bubbles – a pattern that is also occurring in numerous emerging economies across the globe.

In the past few months, I have published reports about the growing bubbles in Singapore, Malaysia, Thailand, the Philippines, and Indonesia, and I will use this report to explain the region’s economic bubble as a whole. My five Southeast Asian country reports have generated quite a bit of interest and controversy, and were read nearly 1.3 million times, and were publicly denied by the central banks of Singapore, Malaysia, and the Philippines.

Ultra-low interest rates in the U.S., Europe, and Japan, combined with the U.S. Federal Reserve’s $3 trillion-and-counting quantitative easing programs caused a $4 trillion torrent of speculative “hot money” to flow into emerging market investments from 2009 to 2013. A global carry trade arose in which investors borrowed significant sums of capital at low interest rates from the U.S. and Japan for the purpose of purchasing higher-yielding emerging market investments and earning the difference. The surging foreign demand for emerging market investments created bubbles in those assets, especially in bonds. The emerging markets bond bubble resulted in record low borrowing costs for developing nations’ governments and corporations, and helped to inflate dangerous credit and property bubbles across the emerging world.

The flow of hot money into Southeast Asia after the financial crisis caused the region’s currencies to rise strongly against the U.S. dollar, such as the Singapore dollar’s 22 percent increase, the Philippine peso and Malaysian ringgit’s 25 percent increase, the Thai baht and Vietnamese dong’s 30 percent increase, and the Indonesian’s rupiah’s 50 percent increase, which has been subsequently negated now that foreign capital has begun to flow out of Indonesia’s economy.

The post-Crisis bond bubble helped to reduce government bond yields in Singapore, Thailand, Indonesia, Malaysia, and the Philippines (click links for charts), while foreign institutional holdings of many Asian sovereign bonds increased dramatically:

Foreign Holdings Of Malaysian Bonds

Foreign direct investment into several Southeast Asian countries - particularly Singapore, Malaysia, and Indonesia – immediately surged to new highs after the Global Financial Crisis.
Here’s the chart of Singapore’s FDI (net inflows, current dollars):

SingaporeFDI2

Malaysia’s FDI (net inflows, current dollars):

Malaysian Foreign Direct Investment

Indonesia’s FDI (net inflows, current dollars):

Indonesian FDI

How Record Low Interest Rates Are Fueling The Bubble

The emerging markets bond bubble helped to push EM corporate and government borrowing costs to all-time lows, but there is another factor that is causing the inflation of bubbles in Southeast Asia: record low bank loan rates. Large corporations have a choice to borrow from either the bond market or directly from banks, and typically choose the option that provides the lowest borrowing costs.

Western benchmark interest rates – particularly the LIBOR or London Interbank Offered Rate – are used to price bank loans in numerous countries throughout the entire world, and most have been hovering just above zero percent in the five years since the Global Financial Crisis. Most Western economies were hit extremely hard in the financial crisis and have faced a constant threat of falling into a deflationary trap since then, which is why their benchmark interest rates have been at virtually zero. In the U.S. Federal Reserve’s case, it has been running what is known as ZIRP or zero-interest rate policy.

Here is the chart of the LIBOR interest rate:

Libor

Due to the fact that the West was the primary epicenter of the 2003 to 2007 bubble economy and ensuing Global Financial Crisis, emerging market economies were able to rebound more quickly and continue growing at a much greater rate. While many Southeast Asian economies have been growing at a 5 percent or greater annual rate since 2008, they have been able to borrow at record low Western interest rates such as those based on the LIBOR. LIBOR is used as the base rate for nearly two-thirds of all large-scale corporate borrowings in Asia. Western interest rates are too low relative to Southeast Asia’s economic growth and inflation rates, so a large-scale borrowing binge has been occurring as a side-effect. Southeast Asia’s credit bubble may balloon even larger because Western benchmark interest rates are likely to stay at very low levels for several more years.

Local benchmark interest rates in many Southeast Asian countries have hit record lows since 2008 as well. Local interest rates are used for approximately one-third of large-scale corporate loans in Asia, as well as most consumer, mortgage, and smaller business loans. Southeast Asian central banks have kept their benchmark interest rates low to stem export-harming currency appreciation that has resulted from capital inflows since the financial crisis.

The chart below is Singapore’s benchmark interest rate, or SIBOR, which is commonly used as a reference rate for loans throughout Southeast Asia:

singapore-interbank-rate

Here is Malaysia’s bank lending rate chart:
malaysia-bank-lending-rate

The Philippines’ bank lending rate:
philippines-bank-lending-rate

Indonesia’s benchmark interest rate:
Indonesia's Benchmark Interest Rate
Thailand's benchmark interest rate:
thailand-interest-rate

Southeast Asia’s Boom Is Driven By A Credit Bubble

Abnormally cheap credit conditions have led to the inflation of credit bubbles across Southeast Asia, which have been a significant driver of the region’s economic growth in recent years.

Singapore’s total outstanding private sector loans have soared by 133 percent since 2010:


singapore-loans-to-private-sector

Malaysia’s private sector loans have increased by over 80 percent since 2008:
Malaysia Loans to Private Sector

The Philippines’ M3 money supply, a broad measure of total money and credit in the economy, has more than doubled since 2008, and sharply accelerated in 2013 as interest rates hit new lows:
Philippines M3 Money Supply

Indonesia’s private sector loans have risen by nearly 50 percent in the past two years:
indonesia-loans-to-private-sector

Thailand’s private sector loans have risen by over 50 percent since the start of 2010:
Thailand Loans To Private Sector

Though dangerous credit bubbles are inflating across Southeast Asia, some countries’ credit bubbles are driven primarily by consumer or household debt, while others are driven mainly by commercial sector borrowing, particularly for construction and property development. Singapore, Malaysia, and Thailand’s credit bubbles have a significant household debt component as the chart below shows:
BWNLMLjCQAAdNZ-9


Singapore’s household debt-to-GDP ratio recently hit nearly 75 percent, which is up from 55 percent in 2010 and 45 percent in 2005. Though Singapore’s total outstanding household debt has increased by 41 percent since 2010, the city-state’s household income and wages have increased by a mere 25 percent and 15 percent respectively.

Malaysia now has Southeast Asia’s highest household debt load after its household debt-to-GDP ratio hit a record 83 percent, which is up from 70 percent in 2009, and up from just 39 percent at the start of the Asian Financial Crisis in 1997. Malaysian household debt has grown by approximately 12 percent annually each year since 2008.

Thailand’s household debt-to-GDP ratio also hit a recent record of 77 percent, which is up from 55 percent in 2008, and just 45 percent a decade ago. Total lending to Thai households increased at a 17 percent annual rate from 2010 to 2012, while household credit provided by credit card, leasing and personal loan companies rose at an alarming 27 percent annual rate.

Property Bubbles Are Ballooning Across Southeast Asia 

Ultra-low interest rates in Southeast Asia have helped to inflate property bubbles throughout the region, which has also contributed to the staggering rise in household debt.

Singapore’s mortgage rates are based upon the SIBOR rate discussed earlier, which has been held at under one percent for over five years. Singapore’s property prices have roughly doubled since 2004, and are up by 60 percent since 2009 alone:

Singapore-Housing-Bubble
Source: GlobalPropertyGuide.com 

The average price of a new 1,000-square-foot condo has risen to $1 million to $1.2 million Singapore dollars ($799,000 to $965,638 U.S.), making the city-state the world’s third most expensive residential property market behind Canada and Hong Kong. A 2013 study by The Economist magazine showed that Singapore’s residential property prices are 57 percent overvalued based on its historic price-to-rent ratio. Singapore now ranks as one of the world’s ten most expensive cities to live.

Economic bubbles and the resulting false prosperity in other Asian countries have spilled over into Singapore as investors from across the region clamor to buy properties there. In 2013, 34 percent of foreign property-buyers in Singapore were from China, 32 percent were from Indonesia, and 13 percent were from Malaysia.

Total outstanding mortgages increased by 18 percent each year over the last three years, bringing total mortgage loans to 46 percent of Singapore’s GDP from 35 percent. Almost a third of Singapore’s mortgages are utilized for speculative property purchases rather than owner occupation. Singapore’s mortgage loan bubble is one of the primary reasons why the country’s household debt has been increasing at such a high rate in recent years.

Malaysian property prices have been increasing parabolically in recent years, as the chart below shows. Mortgage loans account for nearly half of all Malaysia’s household debt, and its rapid increase is the primary driver of the country’s household debt bubble.

Malaysia Property Bubble Chart


Prices have nearly doubled in the past decade in certain Philippine property markets, such as the Makati Central Business District (CBD):

Philippines Property Bubble

In the first six months of 2013, the average price of a 3-bedroom luxury condominium in Makati CBD rose by a frothy 12.92 percent (9.98 percent inflation-adjusted), after rising 5.6 percent in Q1 2013, 8 percent in Q4 and 8.3 percent in Q3 2012. The average price of a premium 3-bedroom condominium in Bonifacio Global City surged by 12.4 percent y-o-y, while secondary residential property prices in Rockwell Center rose by 10.6 percent y-o-y. Philippine outstanding mortgage loans are rising at an even faster rate than consumer credit, such as a 42 percent increase in 2012. The Philippines’ construction sector is expected to expand by double digits in 2014 and account for nearly half of economic growth thanks in large part to the country’s property development boom.

Though Indonesian property market data is spotty and difficult to source for all markets, Jakarta and Bali property prices are becoming frothy, especially at the higher end of the market. Jakarta condominium prices rose between 11 and 17 percent on average between the first half of 2012 and 2013, after rising by more than 50 percent since late 2008. Luxury real estate prices in Jakarta soared by 38 percent in 2012, while luxury properties in Bali rose by 20 percent – the strongest price increases of all global luxury housing markets.  A small two-room apartment on the outskirts of Jakarta can cost nearly $80,000 USD (RM253,373), making housing unaffordable for many ordinary Indonesians. From June 2012 to May 2013, outstanding loans for apartment purchases nearly doubled from IDR 6.56 trillion (USD $659.3 million) to IDR 11.42 trillion (USD $1.15 billion).

Thailand’s property bubble is centered primarily in the condo market, which is the most common type of dwelling for Bangkok residents, and is the speculative vehicle of choice for foreign investors who typically hail from Singapore and Hong Kong. According to Bank of Thailand, condo prices soared by 9.39 percent, while townhouses prices rose by 6.86 percent in Q1 2013, after rising by similar amounts for the past several years. The majority of new mortgages originated are concentrated at the lower end of the Thai housing market, and Bank of Thailand warned that low interest rate home loans could cause a property bubble.

Boonchai Bencharongkul, a wealthy Thai industrialist, said “I think the current situation is worrisome. As one of those who had such an experience, I can smell it now. People are rushing and competing to buy condos while more and more people are driving Ferraris. These are the same things we saw before the 1997 crisis occurred.”

Construction Bubbles Abound Across Southeast Asia

Low interest rates and soaring property prices create the perfect conditions for construction bubbles, which is what occurred in Ireland, Spain, the United States, and other countries from 2003 to 2007, and what has been occurring throughout Southeast Asia in recent years. Construction is a capital-intensive economic activity that benefits from cheap and easy credit, which is certainly the case in Southeast Asia. Southeast Asia’s construction boom has been focused on condominium and residential property development, hotels, resorts, casinos, malls, airports, infrastructure projects, and skyscrapers.

Construction has been the most significant contributor to Singapore’s economic growth since 2008, as the chart below shows:

Singapore Construction Bubble

Construction industry work permits rose to 306,500 in June 2013 from 180,000 at the end-2007, which was the peak of Singapore’s economic boom before the financial crisis hit. Singapore’s construction boom has been driving an over 18 percent annual increase in total outstanding building and construction loans in recent years. Bank loans for building and construction, and mortgages recently rose to 79 percent of Singapore’s GDP, which is up from 62 percent in 2010.

Casino and resort construction has become a strong driver of building activity ever since gambling became legal in Singapore in 2010. The Marina Bay Sands and Resorts World Sentosa opened in 2010 at a cost of over $10 billion. Singapore has also been aggressively upgrading and expanding its Changi International Airport, which has been a driver of construction activity. There is so much construction activity in Singapore that the country has 306,500 construction workers (compared to its 5.3 million population) from other Asian countries living there on work permits.

After growing by over 20 percent in 2012, Malaysia’s construction spending was expected to rise by 13 percent in 2013. Malaysia’s plan to build the tallest building in Southeast Asia, the 118-story Warisan Merdeka Tower, are a major red flag according to the Skyscraper Index, which posits that ambitious skyscraper projects are a common hallmark of economic bubbles.

In the Philippines, casinos, condominiums, and shopping malls have been driving construction activity. The Philippines now hosts 9 of the world’s 38 largest malls – beating even the U.S., China, and most other developed countries. The Philippines’ construction sector is expected to expand by double digits in 2014, and account for nearly half of the country’s economic growth.

Indonesia has been experiencing a construction boom in every sector, including hotels, condominiums, infrastructure, airports, and government buildings. At least 61 new hotels are confirmed to open in Jakarta by 2015. Indonesian construction contracts were estimated at more than $40 billion in 2013, up from $32.4 billion in 2012.

Thailand’s construction boom has been centered upon condominium development and infrastructure projects, which are funded by the government’s deficit spending. Construction spending is expected to grow by nearly 7 percent annually for the next five years.

Governments Are Borrowing To Create Economic Growth

The governments of Thailand and Malaysia have been taking advantage of low borrowing costs – courtesy of the emerging markets bond bubble – to finance deficit spending for the purpose of boosting economic growth.

Since 2010, Malaysia’s public debt-to-GDP ratio has been at all time highs of over 50 percent due to large fiscal deficits that were incurred when an aggressive stimulus package was launched to boost the country’s economy during the Global Financial Crisis. Malaysia now has the second highest public debt-to-GDP ratio among 13 emerging Asian countries according to a Bloomberg study. Malaysia’s high public debt burden led to a sovereign credit rating outlook downgrade by Fitch in July.

Malaysia Government Debt to GDP Malaysia’s Malaysia's government has been running a budget deficit since 1999:
Malaysia Government Budget Deficit

Thailand’s government spending ramped up significantly in 2012 after the launch of a $2.5 billion first car tax rebate program that was fraught with problems as well as an unsuccessful rice subsidy scheme that lost the government 136 billion baht or $4.4 billion even though it was promoted as cost-neutral. Thailand’s government also plans to spend 2 trillion baht ($64 billion) – nearly one-fifth of the country’s GDP – by 2020 on growth-driving infrastructure projects, including a network of high-speed railway lines to connect the country’s four main regions with Bangkok. The interest alone on this new debt will cost another 3 trillion baht over the next five decades.

Thailand’s government spending is up by nearly 40 percent since 2008:
Thailand Government Spending
The country’s government has been running a budget deficit since 2008 to support its spending:

Thailand Government Budget Deficit

A wealthy Thai industrialist, Boonchai Bencharongkul, warned against excessive government spending, saying “This time, the nature of the crisis might be different. Last time it was the private sector that went bankrupt, but this time we might see the government collapse.” Sawasdi Horrungruang, founder of NTS Steel Group, cautioned that Thailand’s government should not borrow beyond its ability to service its debt, which will eventually become the burden of taxpayers.

How Singapore’s Financial Sector Is Driving The Bubble

Singapore has grown to become Southeast Asia’s banking and financial center, and the region’s rise – and inflating economic bubble – in recent years has helped the city-state to earn the nickname “The Switzerland of Asia.” Singapore’s financial sector is now six times larger than its economy, with local and foreign banks holding assets worth S$2.1 trillion (US$1.7 trillion). The Singaporean financial sector’s assets under management (AUM) have increased at a 9 percent annual rate from 2007 to 2012, but surged 22 percent in 2012. The primary reason for the country’s rapid AUM growth is its growing role as a banking hub in Southeast Asia, and it has been riding the coattails of the region’s economic bubble. A full 70 percent of assets managed in Singapore were invested in Asia in 2013, which is up from 60 percent in 2012. Singapore’s financial services industry grew 163% between 2008 and 2012.

Singapore’s banks have been contributing to the inflation of Southeast Asia’s economic bubble due to their use of the abnormally-low SIBOR as a reference rate for loans made throughout the region.

Here is the chart of the SIBOR interest rate as a reminder of how low it has been for the past half-decade:

singapore-interbank-rate

To learn more about Singapore’s financial sector and its role in inflating Southeast Asia’s economic bubble, please read this section of my detailed report about Singapore’s bubble economy.

How China Is Driving Southeast Asia’s Bubble

Economic bubbles are not confined to Southeast Asia, unfortunately; since 2008, China’s economy has devolved into a massive economic bubble that has been contributing to Southeast Asia’s bubble.
Here are a few statistics that show how large China’s bubble has become:
  • China’s total domestic credit more than doubled to $23 trillion from $9 trillion in 2008, which is equivalent to adding the entire U.S. commercial banking sector.
  • Borrowing has risen as a share of China’s national income to more than 200 percent, from 135 percent in 2008.
  • China’s credit growth rate is now faster than Japan’s before its 1990 bust and America’s before 2008, with half of that growth in the shadow-banking sector.
As mentioned at the beginning of this report, China’s government has encouraged the construction of countless cities and infrastructure projects to generate economic growth. Many of China’s cities, malls, and other buildings are still completely empty and unused even years after their completion, as these eerie, must-see satellite images show.

China has a classic property bubble that has resulted in soaring property prices in the past several years. A recent report showed that property prices increased 20 percent in Guangzhou and Shenzhen from a year earlier, and jumped 18 percent in Shanghai and 16 percent in Beijing.

China’s inflating economic bubble has generated an incredible amount wealth (albeit much of it temporary), a portion of which has flowed into Southeast Asia. Wealthy Chinese have been buying condominiums in desirable locations across Southeast Asia, and its notoriously free-spending gamblers are the primary reason for the casino building boom in numerous Southeast Asian countries, particularly in Singapore and the Philippines. Chinese companies have been investing and lending heavily in Southeast Asia, with a strong focus on the natural resources sector.

From 2002 to 2012, China’s bilateral trade with Southeast Asia increased 23.6 percent annually, and China is now Southeast Asia’s largest trade partner, while Southeast Asia is China’s third-largest trade partner.

Though several lengthy books can be written about China’s rise, economic bubble, and how it affects Southeast Asia, my goal is to succinctly show how dangerous China’s economic bubble has become and emphasize the fact that Southeast Asia’s economy has been benefiting from China’s false prosperity. The eventual popping of China’s bubble will send a devastating shockwave throughout Southeast Asia’s economy, which will contribute to the ending of the region’s bubble economy.

The Role Of Southeast Asia’s Frontier Economies

This report has focused primarily on the larger, more developed Southeast Asian countries because they have a far greater influence on the region’s economy compared to the “frontier” economies of Vietnam, Cambodia, Laos, and Burma (Myanmar). The five largest Southeast Asian economies also have more advanced financial markets that are better integrated with global financial markets, and thus pose a greater systemic financial risk than the region’s frontier economies.

Southeast Asia’s frontier economies have been growing rapidly in recent years for many of the same reasons as their more developed neighbors, including:
  • Rising trade with China
  • Rising Chinese investment
  • Increasing intraregional trade
  • Loose global monetary conditions and “hot money”
  • Higher commodities prices
  • Credit and property bubbles
Vietnam experienced a property and credit bubble that popped several years ago and saddled the country’s banking system with bad loans. International realty firm CB Richard Ellis warned last year that Phnom Penh, Cambodia was experiencing a property bubble. Some local observers have suspected that property prices in Vientiane, Laos were in a bubble. Property prices in Yangon, Burma have exploded higher in recent years making commercial rents more expensive than in Manhattan.

While relevant data is few and far between, it is not unreasonable to believe that Southeast Asia’s frontier economies are experiencing froth or bubbles of their own for the same reasons as larger economies in the region. Vietnam, Cambodia, Laos, and Burma are dangerously exposed to the eventual popping of China’s economic bubble as well as the popping of Southeast Asia’s overall bubble.

Cracks Are Beginning To Show

Southeast Asia’s financial markets were strong performers in late-2012 and early-2013 until news of the U.S. Federal Reserve’s QE taper plans surfaced in the Spring of 2013, causing many of these markets to fall sharply due to fears of reduced stimulus. This rout did not come as a surprise to me as I had been warning that hot money flows were inflating asset bubbles in emerging market countries, and I even published a report titled “All The Money We’re Pouring Into Emerging Markets Has Created A Massive Bubble” just a few months before these markets plunged. The sensitivity of emerging market asset prices and currencies to the U.S. Federal Reserve’s stimulus programs was an additional confirmation that the emerging markets bubble owed its existence largely to hot money flows. The ultimate ending of the Fed’s current “ QE3″ program – which many economists expect this year – is likely to put further pressure on emerging markets and contribute to the popping of their bubbles.

While most of Southeast Asia’s financial markets and currencies have been treading water since last Spring’s taper panic, Indonesia’s situation has continued to deteriorate, causing the rupiah currency to significantly weaken due to capital outflows. The rupiah is down by nearly 50 percent from its 2011 peak. Indonesia was hit harder by the taper panic than other Southeast Asian countries because of its worsening trade and current account deficits.

Thailand has been embroiled in political turmoil in recent months as opposition protestors have been demanding the resignation of Prime Minister Yingluck Shinawatra. Opposition members claim that Yingluck is carrying on the same corrupt practices as her billionaire brother, former Prime Minister Thaksin Shinawatra, who was ousted in a military coup in 2006. The protests have harmed Thailand’s tourism industry, which is expected to slow 2014 economic growth to half of what it would have been without the demonstrations. Thailand’s stock market has fallen sharply in recent months as a result of the political strife.

How Southeast Asia’s Bubble Will Pop

Southeast Asia’s economic bubble will most likely pop when the bubbles in China and emerging markets pop and as global and local interest rates eventually rise, which are what inflated the region’s credit and asset bubbles in the first place. Southeast Asia’s bubble economy may continue to inflate for several more years if the U.S. Fed Funds Rate, LIBOR, and SIBOR continue to be held at such low levels.

I expect the ultimate popping of the emerging markets bubble to cause another crisis that is similar (though not identical in every technical sense) to the 1997 Asian Financial Crisis, and there is a strong chance that it will be even worse this time due to the fact that more countries are involved (Latin America, China, and Africa), and because the global economy is in a much weaker state now than it was during the booming late-1990s.

I recommend taking the time to read my detailed reports on Singapore, Malaysia, Thailand, the Philippines, and Indonesia to get a better understanding of Southeast Asia’s economic bubble.

In the coming months, I will be publishing more reports about bubbles that are developing around the entire world – most of which you probably never knew existed. Please follow me on Twitter, Google+ and like my Facebook page to keep up with the latest economic bubble news and my related commentary.

Jesse Colombo By Jesse Colombo, Forbes Contributor
I'm an economic analyst who is warning of dangerous post-2009 bubbles

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Monday 27 January 2014

US Fed tapering of bond purchases, a new economic boom or bust cycles?

Is a new economic crisis at hand?

The two-day sell-off of currencies and shares of several developing countries last week raises the question of whether this is the start of a new financial crisis.

AT the end of last week, several developing countries saw sharp falls in their currency as well as stock market values, prompting the question of whether it is the start of a wider economic crisis.

The sell-off in emerging economies also spilled over to the American and European stock markets, thus causing global turmoil.

Malaysia was not among the most badly affected, but the ringgit also declined in line with the trend by 1.1% against the US dollar last week; it has fallen 1.7% so far this year.

An American market analyst termed it an “emerging market flu”, and several global media reports tend to focus on weaknesses in individual developing countries.

However, the across-the-board sell-off is a general response to the “tapering” of purchase of bonds by the US Federal Reserve, marking the slowdown of its easy-money policy that has been pumping billions of dollars into the banking system.

A lot of that was moved by investors into the emerging economies in search of higher yields. Now that the party is over (or at least winding down), the massive inflows of funds are slowing down or even stopping in some developing countries.

The current “emerging markets sell-off” is thus not explained by ad hoc events. It is a predictable and even inevitable part of a boom-bust cycle in capital flows to and from the developing countries, coming from the monetary policies of developed countries and the investment behaviour of their investment funds.

This cycle, which is very destabilising to the developing economies, has been facilitated by the deregulation of financial markets and the liberalisation of capital flows, which in the past was carefully regulated.

This prompted bouts of speculative international flows by investment funds. Emerging economies, having higher economic growth and interest rates, attracted investors.

Yilmaz Akyuz, chief economist at South Centre, analysed the most recent boom-bust cycles in his paper Waving or Drowning?

A boom of private capital flows to developing countries began in the early 2000 but ended with the flight to safety triggered by the Lehman collapse in September 2008.

The flows recovered quickly. By 2010-12, net flows to Asia and Latin America exceeded the peaks reached before the crisis. This was largely due to the easy-money policies and near zero interest rates in the United States and Europe.

In the United States, the Fed pumped US$85bil (RM283bil) a month into the banking system by buying bonds. It was hoped the banks would lend this to businesses to generate recovery, but investors placed much of the funds in stock markets and developing countries.

The surge in capital inflows led to a strong recovery in currency, equity and bond markets of major developing countries. Some of these countries welcomed the new capital inflows and boom in asset prices.

Others were angry that the inflows caused their currencies to appreciate (making their exports less competitive) and that the ultra-easy monetary policies of developed countries were part of a “currency war” to make the latter more competitive.

In 2013, capital inflows into developing countries weakened due to the European crisis and the prospect of the US Fed “tapering” or reducing its monthly bond purchases.

This weakening took place just as many of the emerging economies saw their current account deficits widen. Thus, their need for foreign capital increased just as inflows became weaker and unstable.

In May to June 2013, the Fed announced it could soon start “tapering”. This led to sudden sharp currency falls, including in India and Indonesia.

However, the Fed postponed the taper, giving some breathing space. In December, it finally announced the tapering — a reduction of its monthly bond purchase from US$85bil (RM283bil) to US$75bil (RM249bil), with more to come.

There was then no sudden sell-off in emerging economies, as the markets had already anticipated it and the Fed also announced that interest rates would be kept at current low levels until the end of 2015.

By now, however, the investment mood had already turned against the emerging economies. Many were now termed “fragile”, especially those with current account deficits and dependent on capital inflows.

Most of the so-called Fragile Five are in fact members of the BRICS, which had been viewed just a few years before as the most influential global growth drivers.

Several factors emerged last week, which together constituted a trigger for the sell-off. These were a “flash” report indicating contraction of manufacturing in China; a sudden fall in the Argentini­an peso; and expectations that a US Fed meeting on Jan 29 will announce another instalment of tapering.

For two days (Jan 23 and 24), the currencies and stock markets of several developing countries were in turmoil, which spilled over to the US and European stock markets.

If this situation continues this week, it may just signal a new phase of investor disenchantment with emerging economies, reduced capital inflows or even outflows. This could put strains on the affected countries’ foreign reserves and weaken their balance of payments.

The accompanying fall in currency would have positive effects on export competitiveness, but negative effects on accelerating inflation (as import prices go up) and debt servicing (as more local currency is needed to repay the same amount of debt denominated in foreign currency).

This week will thus be critical in seeing whether the situation deteriorates or stabilises, which may just happen if the Fed decides to discontinue tapering for now. Unfortunate­ly, the former is more likely.

 Contributed by Global Trends  Martin Khor
> The views expressed are entirely the writer’s own.

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Fed Slows Purchases While U.K. Growth Picks Up: Global Economy   

The global economic expansion is speeding up, data this week are projected to show. In the U.S., a gain in fourth-quarter gross domestic product probably completed the strongest six months of growth in almost two years for the world’s largest economy. The pickup combined with progress in the labor market means Federal Reserve policy makers meeting this week may ease up again on the monetary accelerator.

Across the Atlantic, the U.K. economy may have grown over the past 12 months by the most in almost six years, while in Germany, business confidence probably improved to the highest level since mid-2011.

This week also includes central bank meetings in Mexico and New Zealand. In Mexico, monetary officials may keep the benchmark interest rate unchanged as more government spending reduces the need for stimulus. Such a decision is less clear in New Zealand, where odds of an interest-rate increase have climbed.

U.S. ECONOMY

-- Gross domestic product advanced at a 3.2 percent annualized rate in the fourth quarter as spending by American consumers climbed by the most in three years, economists forecast the Jan. 30 figures will show. Combined with a 4.1 percent inventory-fueled gain in the prior period, GDP in the second half of the year was the strongest since the six months ended March 2012.

-- “A substantial acceleration in private sector demand led by stronger consumer spending and a significant pickup in exports after weakness through the first part of the year should drive a second straight quarter of near 4 percent real GDP growth even with an expected drag of 0.5 percentage point from federal government spending, largely reflecting lost work hours during the government shutdown,” Ted Wieseman, an economist at Morgan Stanley in New York, wrote in a Jan. 17 report.

-- “The first cut of Q4 GDP will be more about the internals of the report than the headline,” economists at RBC Capital Markets LLC, led by Tom Porcelli, wrote in a research note. “While we look for a 2.8 percent annualized advance in top-line growth, the details should seem even brighter with real personal consumer consumption rising 4 percent. We anticipate that the inventory swing will hold growth back a full percentage point.”

FOMC MEETING

-- Ben S. Bernanke will chair his final meeting of Federal Reserve policy makers on Jan. 28-29 before handing over the reins of the world’s most powerful central bank to Janet Yellen. Bernanke and a different cast of regional Fed bank presidents who’ll vote on the Federal Open Market Committee are projected to reduce the pace of Treasury and mortgage-backed securities purchases by a total of $10 billion to $65 billion as the economy improves.

-- “We expect the Fed to announce another $10 billion taper and possibly strengthen its guidance,” Michael Hanson, U.S. senior economist at Bank of America Corp., said in a research note. “The Yellen-led Fed will see numerous personnel changes in 2014, but we still expect a patient and very accommodative policy stance.”

-- “The FOMC will likely upgrade its summary of current economic conditions in its policy statement,” BNP Paribas’ Julia Coronado, a former Fed Board economist, said in a research note. “The Q4 performance is expected to be driven by final demand, in particular a surge in consumer spending on goods and services. The January FOMC statement could acknowledge this better performance by stating that ‘economic growth picked up somewhat’ of late.

‘‘The confirmation of their long-held optimistic expectation for stronger economic growth and tranquil financial markets will likely lead the Committee to announce another ‘measured step’ in the tapering process. We expect another $10 billion cut in the pace of QE asset purchases.’’

U.K. ECONOMY

-- Britain will be the first Group of Seven nation to report gross domestic product for the fourth quarter when it releases the data on Jan. 28. Economists forecast growth of 0.7 percent, close to the 0.8 percent expansion in the prior three-month period. From a year earlier, GDP probably rose 2.8 percent, driven by domestic demand, which would be the best performance since the first three months of 2008.

-- ‘‘To date, the recovery has been somewhat unbalanced, led by consumption, so we remain skeptical about the sustainability over the medium-term,’’ said Ross Walker, an economist at Royal Bank of Scotland Group Plc in London. ‘‘Still, there is clearly sufficient momentum in the short-term data to underpin trend-like rates of growth.’’ Walker sees the economy expanding 2.7 percent this year, just above the Bloomberg consensus estimate of 2.6 percent.

GERMAN BUSINESS CONFIDENCE

-- German business confidence is heading for its highest reading in 2 1/2 years, underlining the strength in an economy that’s helping to power the euro-area recovery. Economists in a survey, set for release on Jan. 27, see the business climate index increasing to 110 in January from 109.5 last month. Germany will continue to outpace the euro area this year, with the International Monetary Fund forecasting 1.6 percent expansion, compared with 1 percent for the currency region.

-- Thilo Heidrich, an economist at Deutsche Postbank AG in Bonn, said the ‘‘mood in the German economy is likely to have brightened at the start of the year.’’

-- ‘‘The near-term outlook remains one of cautious optimism,’’ Bank of America economists including Laurence Boone said in a note. ‘‘Domestic demand, in particular, should support growth in coming years.’’

JAPAN TRADE

-- Japan’s trade deficit narrowed to 1.24 trillion yen ($12.1 billion) in December from a month earlier, even as import growth probably accelerated, according to a Bloomberg survey of economists before data due Jan. 27. A record run of monthly deficits shows the cost of the yen’s slide against the dollar and the extra energy imports needed because of the nuclear industry shutdown that followed a disaster in 2011.

-- ‘‘Throughout the year, few manufacturers believed that the yen would stay weak, let alone depreciate further,” Frederic Neumann, Hong Kong-based co-head of Asian economics at HSBC Holdings Plc, said in a research report. “As a result, (dollar) prices charged for goods sold overseas were not cut amid fears that such a move would have to be reversed once the currency strengthened again, something that few firms like to do. All this meant nice profits for Japanese firms (higher yen earnings for their shipments) but no gain in export market shares.”

NEW ZEALAND RATES

-- Economists and markets are split on whether the Reserve Bank of New Zealand will increase the official cash rate for the first time in 3 1/2 years at its Jan. 30 meeting. Governor Graeme Wheeler said late last year the RBNZ will need to raise interest rates in 2014 as growth and inflation accelerate and unemployment declines. While only three of 15 economists predict Wheeler will lift the rate by 25 basis points to 2.75 percent this week, markets are pricing in an almost 70 percent chance he will do so.

-- “The lists of reasons are long for both the ‘why wait’ and ‘why not’ sides of the fence,” Nick Tuffley, chief economist at ASB Bank Ltd. in Auckland, said in a research report. “The RBNZ can justify either outcome, and we put the chances of a rate hike as 1 in 4. That is to say, not our core view, but a significant risk.”

MEXICO RATE DECISION

-- Mexico’s central bank on Jan. 31 may keep the overnight interest rate unchanged at a record-low 3.5 percent in its first decision of 2014 as increased government spending stimulates the economy.

-- “There’s no need to reduce the rate any more” after 0.25 percentage-point reductions in September and October, Marco Oviedo, chief Mexico economist at Barclays Plc, said in an e-mailed response to questions. “The economy has shown signs of recovery.”

-- Policy makers have “sent the message that they’re comfortable with the current level of interest rates,” said Gabriel Lozano, chief Mexico economist at JPMorgan Chase & Co. With sales tax increases fanning inflation, “real interest rates are temporarily negative, but the central bank will be confident this is a transitory situation that will correct in the second half of the year” as inflation slows.

Contributed b Bloomberg

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