Investment: Prudence without a purpose

GENGHIS KHAN SQUARE in Kangbashi, a new city in the northern province of Inner Mongolia, is as big as Tiananmen Square in Beijing. But unlike Tiananmen Square, it has only one woman to sweep it. It takes her six hours, she says, though longer after the sandstorms that sweep in from the Gobi desert. Kangbashi, or “new Ordos”, as it is known, is easy to clean because it is all but empty. China’s most famous “ghost city”, it has attracted a lot of journalists eager to illustrate China’s overinvestment, but not many residents.

Ordos was one of the prime exhibits in an infamous presentation by Jim Chanos, a well-known short-seller, at the London School of Economics in January 2010. Mr Chanos argued that China’s growth was predicated on an unsustainable mobilisation of capital—investment that provides only for further investment. China, he quipped, was “Dubai times 1,000”.

His tongue-in-cheek reference to the bling-swept, debt-drenched emirate caused a stir. But not everywhere in China shrinks from the comparison. One property development that actively courts it is Phoenix Island, off the coast of tropical Sanya, China’s southernmost city. It is a largely man-made islet, much like Dubai’s Palm Jumeirah. Its centrepiece will be a curvaceous seven-star hotel, rather like Dubai’s Burj Al Arab, only shaped like a wishbone not a sail. The five pod-like buildings already up resemble the unopened buds of some strange flower. Coated in light-emitting diodes, they erupt into a lightshow at night, featuring adverts for Chanel and Louis Vuitton.

After a visit to Ordos or Sanya, it is tempting to agree with Mr Chanos that China has overinvested from its northern steppe to its southern shores. But what exactly does it mean for a country to “overinvest”? One clear sign would be investment that was running well ahead of saving, requiring heavy foreign borrowing and buying. The result could be a currency crisis, like the Asian financial crisis of 1997-98. Some veterans of that episode worry about China’s reckless investment in tasteless property. But although China invests more of its GDP than those crisis-struck economies ever did, it also saves far more. It is a net exporter of capital, as its controversial current-account surplus attests. Indeed, for every critic bashing China for reckless investment spending there is another accusing it of depressing world demand through excessive thrift. China is in the odd position of being cast as both miser and wanton.

Even an extravagance like Kangbashi is best understood as an attempt to soak up saving. The Ordos prefecture, to which it belongs, is home to a sixth of China’s coal reserves and a third of its natural gas (not to mention its rare earths and soft goat’s wool). According to Ting Lu of Bank of America Merrill Lynch, Kangbashi is an attempt to prevent Ordos’s commodity earnings from disappearing to other parts of the country.

China as a whole saved an extraordinary 51% of its GDP last year. Until China’s investment rate exceeds that share, there is no cause for concern, says Qu Hongbin of HSBC. Anything China fails to invest at home must be invested overseas. “The most wasteful investment China now has is US Treasuries,” he adds.

When talking about thrift, economists sometimes draw on a parable of prudence written three centuries ago by Daniel Defoe. In that novel the resourceful Robinson Crusoe, shipwrecked on a remote island, saves and replants four quarts of barley. The reward for his thrift is a harvest of 80 quarts, a return of 1,900%.

Castaway capital

Investment is made out of saving, which requires consumption to be deferred. The returns to investment must be set against the disadvantage of having to wait. In Robinson Crusoe, the saving and the investing are both done by the same Englishman, alone on his island. In a more complicated economy, households must save so that entrepreneurs can invest. In most economies their saving is voluntary, but China has found ways of imposing the patience its high investment rate requires.

Michael Pettis of Guanghua School of Management at Peking University argues that the Chinese government suppresses consumption in favour of producers, many of them state-owned. It keeps the currency undervalued, which makes imports expensive and exports cheap, thereby discouraging the consumption of foreign goods and encouraging production for foreign customers. It caps interest rates on bank deposits, depriving households of interest income and transferring it to corporate borrowers. And because some of China’s markets remain largely sheltered from competition, a few incumbent firms can extract high prices and reinvest the profits. The government has, in effect, confiscated quarts of barley from the people who might want to eat them, making them available as seedcorn instead.

What has China got in return? Investment, unlike consumption, is cumulative; it leaves behind a stock of machinery, buildings and infrastructure. If China’s capital stock were already too big for its needs, further thrift would indeed be pointless. In fact, though, the country’s overall capital stock is still small relative to its population and medium-sized relative to its economy. In 2010, its capital stock per person was only 7% of America’s (converted at market exchange rates), according to Andrew Batson and Janet Zhang of GK Dragonomics, a consultancy in Beijing. Even measured at purchasing-power parity, China has only about a fifth of America’s capital stock per person, depending on how its PPP rate is calculated.

Boom, boom

China needs to “produce lots more of almost everything”, argues Scott Sumner of Bentley University, even if it does not produce “everything in the right order”. Its furious homebuilding, for example, has unnerved the government and cast a shadow over its banks, which worry about defaults on property loans. But it still needs more places for people to live. In 2010 it had 140m-150m urban homes, according to Rosealea Yao of GK Dragonomics, 85m short of the number of urban households. About three-quarters of China’s migrant workers are squeezed into rented housing or dormitories provided by their employer.

Nor is China’s capital stock conspicuously large relative to the size of its economy. It amounted to about 2.5 times China’s GDP in 2008, according to the APO. That was the same as America’s figure and much lower than Japan’s. Thanks to China’s stimulus-driven investment spree, the ratio increased to 2.9 in 2010, but that still does not look wildly out of line.

Malinvestors of great wealth

In Defoe’s tale, Robinson Crusoe spends five months making a canoe for himself, felling a cedar-tree, paring away its branches and chiselling out its innards. Only after this “inexpressible labour” does he find that the canoe is too heavy to be pushed the 100 yards to the shore. That is not an example of overinvestment (Crusoe did need a canoe), but “malinvestment”. Crusoe devoted his energy to the wrong enterprise in the wrong place.

It is surprisingly hard to show that China has overinvested, but easier to show that it has invested unwisely. Of China’s misguided canoe-builders, two are worth singling out: its local governments (see article) and its state-owned enterprises (SOEs).

China’s SOEs endured a dramatic downsizing and restructuring in the 1990s. Thousands of them were allowed to go bankrupt, yet those that survived this cull remain a prominent feature of Chinese capitalism. Even in the retail, wholesale and restaurant businesses there are over 20,000 of them, according to Zhang Wenkui of China’s Development Research Centre.

SOEs are responsible for about 35% of the fixed-asset investments made by Chinese firms. They can invest so much because they have become immensely profitable. The 120 or so big enterprises owned by the central government last year earned net profits of 917 billion yuan ($142 billion), according to their supervisor, the State-owned Assets Supervision and Administration Commission (SASAC). It cites their profitability as evidence of their efficiency. But even now, returns on equity among SOEs are substantially lower than among private firms. Nor do SOEs really “earn” their returns. The markets they occupy tend to be uncompetitive, as the OECD has shown, and their inputs of land, energy and credit are artificially cheap. Researchers at Unirule, a Beijing think-tank, have shown that the SOEs’ profits from 2001 to 2008 would have turned into big losses had they paid the market rate for their loans and land.

Even if the SOEs deserved their large profits, they would not be able to reinvest them if they paid proper dividends to their shareholders, principally the state. Since a 2007 reform, dividends have increased to 5-15% of profits, depending on the industry. But in other countries state enterprises typically pay out half, according to the World Bank. Moreover, SOE dividends are not handed over to the finance ministry to spend as it sees fit but paid into a special budget reserved for financing state enterprises. SOE dividends, in other words, are divided among SOEs.

The wrong sort of investment

Loren Brandt and Zhu Xiaodong of the University of Toronto argue that China’s worst imbalance is not between investment and consumption but between SOE investment and private investment. According to their calculations, if state capitalists had not enjoyed privileged access to capital, China could have achieved the same growth between 1978 and 2007 with an investment rate of only 21% of GDP, about half its actual rate. A similar conclusion was reached by David Dollar, now at America’s Treasury, and Shang-Jin Wei of Columbia Business School. They reckon that two-thirds of the capital employed by the SOEs should have been invested by private firms instead. Karl Marx made his case for collective ownership of the means of production in “Das Kapital”. Messrs Dollar and Wei called their riposte “Das (Wasted) Kapital”.

Perhaps the best that can be said of China’s SOEs is that they give the country’s ruling party a direct stake in the economy’s prosperity. Li-Wen Lin and Curtis Milhaupt of Columbia University argue that the networks linking the party to the SOEs, and the SOEs to each other, help to forge an “encompassing” coalition, a concept they draw from Mancur Olson, a political scientist. The members of such a coalition “own so much of the society that they have an important incentive to be actively concerned about how productive it is”. China’s rulers not only own large swathes of industry, they have also installed their sons and daughters in senior positions at the big firms.

The SOEs provide some reassurance that the government will remain committed to economic growth, according to Mr Milhaupt and another co-author, Ronald Gilson. The party officials embedded in them are like “hostages” to economic fortune, “the children of the monarch placed in the hands of those who need to rely upon the monarch”. That gives private entrepreneurs confidence, because the growth thus guaranteed will eventually benefit them as well—although they will have to work harder for their rewards.

What are the implications of China’s malinvestment for its economic progress? At its worst, China’s growth model adds insult to injury. It suppresses consumption and forces saving, then misinvests the proceeds in speculative assets or excess capacity. It is as if Crusoe were forced to scatter more than half his barley on the soil, then leave part of the harvest to rot.

The rot may not become apparent at once. Goods for which there is no demand at home can be sold abroad. And surplus plant and machinery can be kept busy making capital goods for another round of investment that will only add to the problem. But when the building dust settles, a number of consequences become clear. First, consumption is lower than it could be, because of the extra saving. GDP, properly measured, is also lower than it appears, because so much of it is investment, and some of that investment is ultimately valueless. It follows that the capital stock, properly measured, is also smaller than it seems, because a lot of it is rotten. That would make for a very different kind of island parable, a tale of needless austerity and squandered effort.

Fortunately there is another side to China’s story. It has not only accumulated physical capital but also acquired more know-how, better technology and cleverer techniques. That is why foreign multinationals in the country rely on local suppliers—and also why they fear local rivals. A Chinese motorbike-maker studied by John Strauss of the University of Southern California and his co-authors started out producing the metal casings for exhaust pipes. Then it learnt how to make the whole pipe. Next it mastered the pistons. Eventually it made the entire bike.

China “bears” like Mr Chanos sometimes neglect this side of the country’s progress. In his 2010 presentation he compared China to the Soviet Union, another empire in the east that enjoyed a stretch of beguiling economic growth. Like the Soviet command economy, China is good at marshalling inputs of capital and labour, he pointed out, but China has failed to generate growth in output per input, just as the Soviet Union failed before it. Yet this analogy with the Soviet Union is preposterous.

Economists refer to a rise in output per input of capital and labour as a gain in “total factor productivity”. Such gains have many sources. One textile boss got 20% more out of his seamstresses by playing background music in his factory, recalls Arnold Harberger of the University of California at Los Angeles. The striking thing about the growth in China’s total factor productivity is not its absence but its speed: the fastest in the world over the past decade. Between 2000 and 2008 it contributed 43% of the country’s economic growth, according to the APO. That is just as big a contribution as the brute accumulation of capital, which accounted for 44% (excluding information technology). Thus even if some of China’s recent investment has in fact been wasted, China’s progress cannot be written off.

And even if some of China’s past investment has been futile, adding nothing worthwhile to the capital stock, there is a consolation: it will leave more scope to invest later, suggesting that the country’s potential for growth is even larger than the optimists think. The right kind of investment can still generate high returns. But what if the mistaken investments of the past disrupt the financial system, preventing resources from being deployed more effectively in the future?

 Source: http://www.economist.com/node/21555761

China’s economy: Two twists in the dragon’s tail

DATA points sometimes change faster than debating points. It is conventional wisdom that China’s export-led growth squeezes consumers at home and competitors abroad, even as it adds inexorably to the country’s huge foreign-exchange reserves. But figures released this month complicate these arguments.

China still runs a sizeable trade surplus. But its net exports fell in 2011 (in absolute terms) for only the third time since 2000, subtracting 0.5 percentage points from its growth. Thanks to home-grown spending, China’s economy still managed to expand by 9.2% in 2011, remaining surprisingly strong even in the fourth quarter. This growth owed an unusual amount to consumption (both public and private), which contributed over half for the first time since 2001. As a consequence, the share of consumption in China’s GDP edged up in 2011 after falling for ten years in a row.

The mainstay of China’s growth remains investment, on which its economy remains worryingly dependent. Indeed, when China’s critics are not bashing it for overexporting, they bash it for overinvestment in property. Its housing boom is, however, slowing markedly. China this week reported that the price of new homes fell in 52 out of 70 cities across the country in December, compared with the month before. Households are struggling to obtain mortgages; developers are finding it almost impossible to obtain a loan. The drying up of foreign funds is particularly dramatic, points out North Square Blue Oak, a research firm based in London and Beijing. Foreign capital fell by 65% in December, compared with a year earlier.

The flight of foreigners from property partly explains another unusual twist in the China story. Its foreign-exchange reserves fell in the fourth quarter for the first time since the height of the Asian financial crisis in 1998. The drop was small, from $3.2 trillion to $3.18 trillion, but also a little mysterious. China still exports more than it imports, and attracts more foreign direct investment than it undertakes. These two sources of foreign exchange must, then, have been offset by an unidentified drain.

The worry is that China’s capital controls have sprung a leak. “Hot money”, attracted by the country’s growth, may be flowing out as the property market falters. Some even speculate that China’s rich may begin to smuggle their new-found wealth out of the country en masse.

These fears are overblown, for now. Some of the drop probably reflects a change in the value of China’s euro holdings. Some does represent the departure of short-term money, but an ebb and flow of hot money is not unusual. Moreover, some kinds of hot money are more scalding than others, says Stephen Green of Standard Chartered. At one end of the thermometer, an exporter might delay the conversion of his legitimate foreign-exchange earnings. In other, warmer cases, an importer might illegally overstate the size of his purchases, so as to remit more money out of the country. Capitalists eager to take their money out also have other cards to play. Mr Green estimates that last year about $185 billion might have passed from mainland China through the VIP rooms of Macau’s casinos.

Victor Shih of Northwestern University reckons that China’s richest 1% hold $2 trillion-5 trillion in liquid wealth and property. If they were ever to smuggle that money out, the outflow would dent even China’s reserves. That would be a disaster for China’s economic management, putting heavy downward pressure on the yuan. At least China’s critics could no longer trot out another familiar accusation—that it undervalues the exchange rate.

Source: http://www.economist.com/node/21543176

The euro: Beware of falling masonry

FIRST Greece; then Ireland and Portugal; then Italy and Spain. Month by month, the crisis in the euro area has crept from the vulnerable periphery of the currency zone towards its core, helped by denial, misdiagnosis and procrastination by the euro-zone’s policymakers. Recently Belgian and French government bonds have been in the financial markets’ bad books. Investors are even sniffy about German bonds: an auction of ten-year Bunds on November 23rd shifted only €3.6 billion-worth ($4.8 billion) of the €6 billion-worth on offer.

Worse, there are signs that the euro zone’s economy is heading for recession, if it is not there already. Industrial orders in the euro zone fell by 6.4% in September, the steepest decline since the dark days of December 2008. A closely watched index of euro-zone sentiment, based on surveys of purchasing managers in manufacturing and services, is also signalling contraction, with a reading of 47.2: anything below 50 suggests activity is shrinking. The European Commission’s index of consumer confidence fell in November for the fifth month in a row.

Now an even bigger calamity is looking likelier. The intensifying financial pressure raises the chances of a disorderly default by a government, a run of retail deposits on banks short of cash, or a revolt against austerity that would mark the start of the break-up of the euro zone.

The German government can probably shrug off a failed auction: it likes to price its bonds as richly as it can, and occasionally cannot sell all it would like, even in untroubled times. Still, the timing is awful, and other governments are not so lucky: the contrast between Germany’s borrowing costs and those of other euro-zone sovereigns is stark (see chart 1). European banks are dumping the bonds of the least creditworthy, and other assets, in an attempt to conserve capital and improve cashflow as a full-blown funding crisis looms. Governments are promising ever more severe budget cuts in the hope of pacifying bond markets. The direct result of these scrambles is a credit crunch and a squeeze on aggregate demand that is forcing Europe into recession. Add the indirect effects on the confidence of consumers and businesses, and the downturn will be deep.

A recipe for recession

Consider the three ingredients for recession: a credit crunch, tighter fiscal policy and a dearth of confidence. In aggregate, European banks’ loans exceed their deposits, so they rely on wholesale funds—short-term bills, longer-term bonds or loans from other banks—to bridge the gap. But investors are becoming warier of lending to banks that have euro-zone bonds on their books and that can no longer rely on the backing of governments with borrowing troubles of their own. Long-term bond issues have become scarce and American money-market funds, hitherto buyers of short-term bank bills, are running scared.

Banks are frantically shedding assets both to raise cash and to ration their capital in order to meet European Union minimum capital-adequacy targets by next June. The early victims of this deleveraging are borrowers in emerging markets. The euro zone’s eastern neighbours may be hit particularly hard: the Turkish lira, for instance, has come under pressure in the past week, a hint that money is flowing out. The repatriation of funds by euro-zone banks might explain why the euro has been remarkably stable against the dollar in recent weeks, despite the zone’s internal convulsions. But businesses and householders at home will also soon be hurt by scarcer credit and rising interest rates, as the banks’ higher funding costs are passed on.

Governments are cutting back too. The precise impact of next year’s belt-tightening is tricky to gauge. France’s budget plans are close to being agreed on; further cuts are likely but will be delayed until after the elections in spring. Italy has yet to vote through a much-revised package of cuts. Spain’s incoming government has promised further spending cuts, especially in regional outlays, in order to meet deficit targets agreed with Brussels.

Even so, it seems plain that fiscal tightening will weaken growth. Take the plans that countries presented to the European Commission and add what has been advertised since, and the squeeze across the euro area comes to around 1.25% of GDP next year, reckons Laurence Boone, chief European economist at Bank of America. That alone is enough, says Ms Boone, to chop around a percentage point off GDP growth in 2012. Germany will be the least affected of the zone’s four biggest economies, followed by France. Spain and Italy will be hurt most.

The euro zone’s businesses and consumers will be drawn into the downward spiral of confidence. In the autumn of 2008 companies learned that credit lines could not be relied on when banks were fighting for survival. When banks are short of liquidity, firms have to watch their own cashflow closely. That implies leaner stocks and reductions in discretionary spending, such as capital projects or advertising campaigns.

September’s sharp decline in industrial orders is an early sign that companies are cutting back. Andreas Willi, head of capital-goods research at JPMorgan, notes that SKF, a Swedish firm that is the world’s largest maker of ball bearings and a bellwether of industrial demand, gave analysts a cautious assessment of its future revenues in mid-October. That guidance suggests a further softening of investment demand. Consumers are also likely to defer big purchases as long as the crisis is unresolved and credit is scarce.

A drop in demand for capital equipment, durable consumer goods and cars will strike at the euro zone’s industrial heartland, including Germany. Ms Boone reckons GDP will fall by around 0.5% in Germany next year and by the same amount in the whole zone. In September the IMF forecast that the zone’s GDP would grow by 1.1% in 2012 but estimated that if European banks were deleveraging quickly (as they are now), the economy could shrink by around 2%.

Breaking point

A downturn of such severity will hugely increase the pressures within the zone. Investors will be even less willing to finance banks, as more garden-variety loans to businesses and householders turn bad. As unemployment rises, tax receipts will go down and welfare payments up, making it harder for governments to rein in their deficits and hit the targets they have set, and causing bond markets to question their solvency more pointedly still.

In such circumstances, the chances of a policy error or broader panic increase sharply. The calculations of bond investors, bank depositors and politicians are prone to sudden change. Hopes that the fracture of the euro zone might be averted by far-sighted policymakers could give way to a belief that it is inevitable. Such beliefs, once they take hold, are likely to be self-fulfilling.

How? The drying-up of funding for sovereigns and for banks is a threat to the integrity of the euro, because of the stark divide between debtor and creditor countries within the zone. As late as March 2010, Jean-Claude Trichet, then head of the ECB, boasted that simply belonging to the euro area automatically ensured balance-of-payments financing. It doesn’t look that way now.

During the credit boom, cheap capital flowed into Greece, Ireland, Portugal and Spain to finance trade deficits and housing booms. As a result, the net foreign liabilities—what businesses, householders and government owe to foreigners, less the foreign assets they own—of all four are close to 100% of GDP. (By comparison, America’s net foreign liabilities are 17% of GDP.) Much of their debt is being financed by local bank borrowing or bonds sold to investors in creditor countries, such as Germany. Ireland is unusual in that a large chunk of what it owes is in the form of equity (all those American-owned factories and offices) and so does not need to be refinanced.

With a few exceptions, the benchmark cost of credit in each euro-zone country is related to the balance of its international debts. Germany, which is owed more than it owes, still has low bond yields; Greece, which is heavily in debt to foreigners, has a high cost of borrowing (see chart 2). Portugal, Greece and (to a lesser extent) Spain still have big current-account deficits, and so are still adding to their already high foreign liabilities. Refinancing these is becoming harder and putting strain on local banks and credit availability.

The higher the cost of funding becomes, the more money flows out to foreigners to service these debts. This is why the issue of national solvency goes beyond what governments owe. The euro zone is showing the symptoms of an internal balance-of-payments crisis, with self-fulfilling runs on countries, because at bottom that is the nature of its troubles. And such crises put extraordinary pressure on exchange-rate pegs, no matter how permanent policymakers claim them to be.

One of the initial attractions of euro membership for peripheral countries—access to cheap funds—no longer applies. If a messy default is forced upon a euro-zone country, it might be tempted to reinvent its own currency. Indeed, it may have little option. That way, at least, it could write down the value of its private and public debts, as well as cutting its wages and prices relative to those abroad, improving its competitiveness. The switch would be hugely costly for debtors and creditors alike. But the alternative is scarcely more appealing. Austerity, high unemployment, social unrest, high borrowing costs and banking chaos seem likely either way.

The prospect that one country might break its ties to the euro, voluntarily or not, would cause widespread bank runs in other weak economies. Depositors would rush to get their savings out of the country to pre-empt a forced conversion to a new, weaker currency. Governments would have to impose limits on bank withdrawals or close banks temporarily. Capital controls and even travel restrictions would be needed to stanch the bleeding of money from the economy. Such restrictions would slow the circulation of money around the economy, deepening the recession.

External sources of credit would dry up because foreign investors, banks and companies would fear that their money would be trapped. A government cut off from capital-market funding would need to find other ways of bridging the gap between tax receipts and public spending. It might meet part of its obligations, including public-sector wages, by issuing small-denomination IOUs that could in turn be used to buy goods and pay bills.

When cash is scarce, such scrip is readily accepted by tradesmen. In August 2001 the Argentine province of Buenos Aires issued $90m of small bills, known as patacones, to employees as part of their pay. The bills were soon circulating freely: McDonalds even offered a “Patacombo” menu in exchange for a $5 pata c ón. Argentina broke its supposedly irrevocable currency peg to the dollar a few months later.

Scrip of this kind becomes, in effect, a proto-currency. In a stricken euro-zone country, it would change hands at a discount to the remaining euros in circulation, foreshadowing the devaluation to come. To pre-empt further capital outflows, a government would have to pass a law swiftly to say all financial dealings would henceforth be carried out in a new currency, at a one-for-one exchange rate with the euro. The new currency would then “float” (ie, sink) to a lower level against the abandoned euro. The size of that devaluation would be the extent of the country’s effective default against its creditors.

Market gurus and other students of misaligned stock, bond or home prices often say that although it is easy to spot an asset-price bubble, it is impossible to know the event that finally pricks it. In much the same way, the likeliest trigger for a disintegration of the euro is unknowable. But there are plenty of candidates. One is a failed bond auction that forces a country into default and sends a shock wave through the European banking system. Italy has €33 billion of debt coming due in the final week of January and a further €48 billion in the last week of February (see chart 3). Since bond investors are turning their noses up even at offerings from thrifty Germany, the odds against Italy’s being able to raise the money it needs early next year are uncomfortably short.

Another danger is a disagreement between Greece and its trio of rescuers (the EU, the IMF and the ECB) over the conditions of its bail-out. The risk of a mishap will be greater after the Greek elections in February if the country’s political mood sours yet further. Perhaps the spark will come from another source: the bankruptcy of a bank; fresh trouble in Portugal; or a chain of events that starts with France losing its AAA rating and ends with runs on banks across Europe. The exposure of French banks to Italy and to other countries that have been in bond traders’ sights for longer implies that contagion would quickly spread to the euro’s core (see chart 4). Widespread defaults in the periphery would wipe out a big chunk of Germany’s wealth and begin a chain of bank failures that could turn recession into depression.

The few left in the euro (Germany and perhaps a few other creditor countries) would be at a competitive disadvantage to the new cheaper currencies on their doorstep. As well as imposing capital controls, countries might retreat towards autarky, by raising retaliatory tariffs. The survival of the European single market and of the EU itself would then be under threat.

Such a disaster can still be averted. The ECB might launch a programme of bond-buying on the pretext that a deep recession in the euro area threatens deflation. If done on the scale that the Bank of England has undertaken, it could restore stability to Europe’s panicky bond markets. If bond purchases were made in proportion to the size of each euro member’s economy, that might go some way to overcoming German misgivings that the central bank was being used to provide favourable financing to profligate countries.

Such action by the ECB is an essential short-term palliative. But any lasting stability for the euro must lie with governments, particularly in the degree to which they are willing to give up fiscal sovereignty in return for pooling liabilities. Germany stands firmly at one extreme of this debate. Its chancellor, Angela Merkel, wants big changes to force probity (and wants the EU summit on December 9th to focus on such rule changes), but has opposed the idea of jointly guaranteed “Eurobonds”. German officials have argued that any open-ended commitment to joint liabilities would encourage errant governments to profligacy, violate Germany’s constitution and raise its borrowing costs. Even now, the head of the Bundesbank, Jens Weidmann, appears to believe that the imposition of fiscal rigour will be enough to restore calm to Europe’s bond markets.

Hanging together

Others think that circumstances demand speedier concentration on ways to pool liabilities. On November 23rd the European Commission laid out three approaches for issuing Eurobonds, two of which imply mutual guarantees.

Another new proposal is intriguing—thanks, in part, to its provenance. Germany’s Council of Economic Experts recently proposed a “European Redemption Pact”. This scheme would place the debt, in excess of 60% of GDP, of all euro-zone governments not already in IMF rescue plans into a jointly guaranteed fund that would be paid off over 25 years. Modelled in part on the federal government’s assumption of the debt of America’s states begun by Alexander Hamilton in 1790, the fund would provide joint liability for these debts under strict conditions. These would require euro-zone countries to introduce debt brakes into their constitutions, like the one Germany and Spain already have; give priority to paying off the mutualised bonds; set aside a specific tax revenue to do so; and pledge foreign-exchange reserves as collateral.

At its peak, the redemption pact would be huge: the joint liability would amount to €2.3 trillion. But it would technically be temporary. For all these safeguards, Germany’s government has so far poured cold water on the idea. But time is running out. And the scale of the impending catastrophe demands radical answers.

Source: http://www.economist.com/node/21540259

Cái giá của cam kết tỷ giá

(TBKTSG) - Cam kết duy trì tỷ giá đến cuối năm không quá 1% của Ngân hàng Nhà nước (NHNN) đã tạo ra phí tổn mà NHNN phải gánh chịu, trong khi những lợi ích lại không rõ ràng.

Mua uy tín bằng cam kết?

Vào thời điểm NHNN đưa ra cam kết nêu trên (tháng 9-2011) thì tỷ giá liên ngân hàng đang ở mức 20.628 đồng/đô la Mỹ. Nếu dựa vào mức tỷ giá này và giả sử NHNN đủ khả năng can thiệp thị trường thì đến cuối năm tỷ giá mục tiêu sẽ không thể vượt quá 20.834 đồng/đô la Mỹ. Hiện, tỷ giá liên ngân hàng đang ở mức 20.803 đồng/đô la Mỹ, tức đã tăng 0,85% so với tỷ giá thời điểm cam kết. Với thực trạng và viễn cảnh không mấy khả quan của các cân đối kinh tế vĩ mô (thâm hụt cán cân thương mại, thâm hụt ngân sách, lạm phát...) từ nay đến cuối năm, thì khả năng duy trì được tỷ giá mục tiêu nêu trên của NHNN là rất khó khăn và tốn kém.

Đứng ở vị trí của NHNN, nếu mục tiêu của sự cam kết này đạt được thì có lẽ lợi ích quan trọng nhất chính là uy tín của NHNN và niềm tin của thị trường - những thứ vốn đã mất đi và NHNN đang cố gắng lấy lại nó. Trong điều kiện đó, NHNN sẽ phải can thiệp trên thị trường ngoại tệ để đưa tỷ giá về mức mục tiêu, tức là phải giảm dự trữ ngoại tệ - thứ mà NHNN lại không hề muốn. Điều này cũng có nghĩa là NHNN phải dùng tiền (ngoại tệ) để mua uy tín cho mình. May mắn thay khi uy tín vẫn có thể mua được bằng tiền nhưng không may là phí tổn của sự cam kết tỷ giá là không hề nhỏ, mà đối tượng hưởng lợi lại không rõ ràng, thậm chí có khả năng lợi ích đang bị phân bổ một cách thiên lệch sang một số nhóm đối tượng vốn đang được hưởng nhiều đặc quyền.

NHNN bán hợp đồng quyền chọn?

Mặc dù không phải hoàn hảo nhưng có thể ví việc NHNN đưa ra cam kết duy trì tỷ giá mục tiêu đến cuối năm như việc một ngân hàng bán cho khách hàng một quyền chọn (options). Chẳng hạn, khi dự kiến tỷ giá tăng, nhà nhập khẩu sẽ gặp bất lợi và người này sẽ tìm cách ký với ngân hàng một hợp đồng quyền chọn mua ngoại tệ (call options) nhằm bảo hiểm rủi ro tỷ giá. Dựa vào hợp đồng quyền chọn mua, nhà nhập khẩu có quyền mua từ ngân hàng một lượng ngoại tệ nhất định theo một mức tỷ giá xác định trước (gọi là tỷ giá thực hiện) vào một thời điểm nhất định trong tương lai. Vào thời điểm này, nếu tỷ giá trên thị trường cao hơn mức tỷ giá thực hiện thì nhà nhập khẩu có quyền buộc ngân hàng phải bán cho mình ngoại tệ theo tỷ giá thực hiện.

Ngược lại, nếu tỷ giá thị trường thấp hơn tỷ giá thực hiện thì nhà nhập khẩu không có nghĩa vụ phải mua ngoại tệ từ ngân hàng, thay vào đó họ có thể mua trên thị trường và hủy hợp đồng quyền chọn mà không phải chịu bồi thường trách nhiệm gì cả. Trong bất kỳ trường hợp nào thì nhà nhập khẩu vẫn phải trả cho ngân hàng một khoản tiền không được hoàn lại để có được cái quyền như trên mà người ta gọi là phí quyền chọn. Phí quyền chọn cũng có thể xem là giá của trách nhiệm hay chi phí của rủi ro mà ngân hàng bán quyền chọn phải gánh chịu một khi quyền thực hiện được trao cho khách hàng.

Như vậy, việc NHNN cam kết duy trì tỷ giá dưới mức 20.834 đồng/đô la Mỹ cũng tương tự như việc NHNN bán cho nhà nhập khẩu một quyền chọn mua với tỷ giá thực hiện là 20.834 đồng/đô la Mỹ. Căn cứ vào tỷ giá hiện hành, kỳ hạn hợp đồng, tỷ giá cam kết của NHNN và một số giả định khác thì giá cho một quyền chọn mua hiện nay được xác định là khoảng 2.800 đồng/đô la Mỹ(1). Điều này có nghĩa NHNN sẽ thu được 2.800 đồng cho mỗi một quyền chọn mua 1 đô la Mỹ được bán ra có kỳ hạn đến cuối năm.

Tuy nhiên, việc cam kết duy trì tỷ giá của NHNN giống như việc cung cấp quyền chọn mà không kèm theo khoản phí quyền chọn. Cho nên cứ mỗi một đồng đô la Mỹ được bán ra tại mức tỷ giá cam kết, NHNN phải chịu mất một khoản chi phí cơ hội là 2.800 đồng. Chi phí cơ hội này cũng lớn hơn rất nhiều so với dư địa mà ở đó NHNN có thể giảm giá tiền đồng. Nhân con số chi phí cơ hội này với lượng đô la Mỹ mà NHNN phải bán ra trên thị trường ngoại tệ để duy trì mức tỷ giá mục tiêu cho thấy được một khoản chi phí cơ hội không hề nhỏ mà NHNN đã phải mất đi, chưa tính chi phí trực tiếp do việc suy giảm dự trữ ngoại tệ.

Ai được quyền mua quyền chọn?

Việc “biếu không” quyền chọn mua ngoại tệ của NHNN không khác gì là một hình thức “trợ cấp” của Chính phủ. Vấn đề quan trọng là việc trợ cấp “tỷ giá” như vậy có thực sự cần thiết hay không và ai là đối tượng (đáng) được hưởng trợ cấp. Rõ ràng, trong điều kiện kinh tế hiện nay thì việc trợ cấp theo kiểu của NHNN là quá xa xỉ và quá tốn kém, mà cũng không mang lại hiệu quả gì. Trong khi đó, đối tượng hưởng “trợ cấp” lại không rõ ràng và nguồn lực lại đang được sử dụng một cách kém hiệu quả, không công bằng và thiếu minh bạch. Bằng chứng là không phải bất kỳ thành phần doanh nghiệp nào cũng có thể tiếp cận được với mức tỷ giá mà NHNN cam kết.

Thực tế thì nhiều doanh nghiệp vẫn phải mua ngoại tệ trên thị trường phi chính thức với tỷ giá cao hơn hẳn so với tỷ giá niêm yết chính thức của các ngân hàng thương mại, trong khi tỷ giá của các ngân hàng này cũng gần như đã chạm trần biên độ. Mặc dù đối tượng được phép mua ngoại đã được quy định cụ thể nhưng trên thực tế thì phần lớn các doanh nghiệp vẫn phải chật vật mới có được nguồn ngoại tệ “hợp pháp” nhằm đáp ứng nhu cầu kinh doanh của mình. Chỉ có các tập đoàn kinh tế, các tổng công ty nhà nước và một tỷ lệ nhỏ các doanh nghiệp khối tư nhân vốn có uy tín với ngân hàng mới tiếp cận được nguồn ngoại tệ dễ dàng hơn.

Nói khác đi, không phải đối tượng nào cũng có khả năng và có quyền để mua “quyền chọn”. Bản chất của vấn đề này chỉ là một hình thức thể hiện các đặc quyền nhà nước qua cái gọi là “quyền chọn”.

Nói chung, việc cam kết duy trì tỷ giá đến cuối năm không quá 1% của NHNN là hết sức tốn kém, bởi không chỉ được đánh đổi bằng dự trữ ngoại tệ mà còn là chi phí cơ hội do việc phân phối “quyền chọn” miễn phí. Trong khi đó, khả năng thực hiện cam kết của NHNN lại không cao, lại không có tính ràng buộc, nghĩa là hợp đồng quyền chọn không có khả năng cưỡng chế. Điều này có nghĩa là NHNN không dễ gì có thể dùng dự trữ ngoại tệ để mua uy tín cho mình, lại càng không thể tạo dựng niềm tin thị trường bằng sự thiên lệch trong phân bổ lợi ích với một cam kết chính sách quá nghịch lý như vậy xét trong bối cảnh vĩ mô hiện nay.

Source: http://www.thesaigontimes.vn/Home/taichinh/nganhang/65866/Cai-gia-cua-cam-ket-ty-gia.html

The euro crisis and emerging markets: Drought warning

AS THE rich world lurches from one crisis to the next, a consolation has been that emerging economies, which account for about half of world output, have been growing quickly. Even the wretched euro zone has a few racy emerging markets nearby. Turkey has on occasion rivalled China, with GDP growth of around 9% in 2010. Poland’s was the only economy in the 27-strong European Union to avoid recession in 2009. Sadly, euro misery seems to love company. A deep recession in the currency zone would leave few countries unscathed, even in fast-growing emerging Asia. For developing economies closer to home, the euro zone’s banks may be the main route by which the suffering spreads.

These banks are under pressure to meet higher capital-ratio targets as part of a deal made last month to “save” the euro. Lenders may choose to cut loans rather than raise equity, which would dilute existing shareholders (including bank executives). Europe’s banks are owed $3.4 trillion by emerging economies, $1.3 trillion of which has been lent to eastern Europe, according to the Bank for International Settlements. Many have subsidiaries in the region. If banks choose to sacrifice foreign lending to concentrate on business at home, it could choke the supply of credit.

In a speech on November 8th, Mark Carney, the new head of the Financial Stability Board, a club of international regulators, gave warning about the damaging effects of European bank “deleveraging” on the world economy. Already Germany’s second-largest bank, Commerzbank, has said it will suspend new lending outside its home market—although it made Poland, where it has a subsidiary, an exception.

The current-account balance is a rough guide to which countries are most vulnerable. On that basis, Asia is generally a safer place than eastern Europe, where several countries run large current-account deficits, and so rely in part on fresh loans from big European lenders. Turkey looks at risk: the IMF puts its deficit at 10% of GDP this year. Poland has a biggish deficit, although Commerzbank’s pledge suggests its credit line to rich Europe may be more solid. Hungary is in surplus but it still has a financing hole to fill, says Gillian Edgeworth of UniCredit, because it has IMF loans to pay off and because foreign banks have been slowly withdrawing from it. Investors have been spooked by the government’s rows with its IMF rescuers and by a plan to cap repayments on Hungarians’ foreign-exchange mortgages. Greece’s banking troubles are a threat to economies in south-east Europe.

A drying up of foreign bank credit would also put downward pressure on the currencies of countries that rely on foreign capital, making it trickier for them to cut interest rates to stimulate their economies. Some emerging markets have already seen their currencies drop in recent months (see chart). A big sell-off in September, since partly reversed, was a warning of future trouble, says Stephen Jen of SLJ Macro Partners, a hedge fund.

There is an irony here. As the euro zone’s trouble spots, such as Italy, struggle against the constraints of a currency union, some developing countries (and a few rich ones, such as Japan and Switzerland) have long grappled with the problem of managing floating exchange rates. Brazil imposed a tax on the flightier sorts of foreign capital to stop the real from appreciating too much. In a similar vein Turkey initiated a range of unorthodox measures late last year to curb capital inflows and relieve the upward pressure on its currency, the lira. To cool a credit boom, the authorities forced banks to hold more cash reserves and put ceilings on property loan-to-value ratios as alternatives to raising interest rates (which might attract yet more footloose money). Turkey’s central bank also intervened in currency markets to hold down the lira.

Now a different set of problems looms. Fearful of inflation, which has risen to 7.7%, in part because of the weaker currency, the bank has recently reversed tack and sold some of its foreign-currency reserves to prop up the lira. Since its reserves are quite modest, Turkey may have to keep interest rates fairly high to defend its currency and maintain external financing, which would increase the chances of a hard landing. A cheaper currency should, in principle, boost exports and curb imports, narrow the current-account deficit and so reduce the amount of fresh borrowing needed from abroad. But the inflation that comes with higher import prices will temper the competitive gain from a cheaper lira; and euro-zone recession will hurt exports.

Europe’s banks are not the only source of foreign capital for Turkey, Poland and the rest. Purchases of bonds and stocks by foreign investors (“portfolio inflows”) are important, too, and have held up surprisingly well, says Ms Edgeworth. Rich-world investors have been keen on exposure to emerging markets because of low yields at home. But weakening currencies would mean losses on such investments, which could slow—or reverse—portfolio flows. That in turn would further depress currencies, reinforcing a vicious cycle.

A few policymakers are alive to the risks. Mr Carney suggested European banks should be required “to meet at least part of their requirements by raising private capital” rather than being able to do so entirely by deleveraging. The IMF is also sounding warnings. Erik Berglof of the European Bank for Reconstruction and Development has called for a second “Vienna Initiative”, a successful 2009 pact to keep bank loans flowing to eastern Europe. But the pressure on the euro-zone is now far greater than it was back then, so the near-abroad is less of a priority.

Source: http://www.economist.com/node/21538141

Financial stability in South Korea: The won that got away

IN MANY respects South Korea looks like a developed economy—if that is not too dirty an expression these days. But its currency, the won, still behaves as if it is part of an old-fashioned emerging market. According to the Korea Institute of Finance, only the Brazilian real and the South African rand exhibited more volatility during the 2008 crisis.

The currency is gyrating again, thanks to grim news from Europe and America. The won lost almost 10% of its value against the dollar in the past month (see chart), although it has since rebounded slightly. At a recent conference held by The Economist in Seoul, one banker labelled it the “VIX currency” in honour of the market gauge that measures volatility.

As one of the world’s most export-oriented economies, South Korea is sensitive to global growth. In good times it can be a magnet for speculative capital, which is why foreign investment has poured into the bond market in recent years. According to Tim Condon of ING, the windfall has produced the highest level of foreign debt relative to reserves in Asia. In bad times speculators can tap those gains to cover losses elsewhere. That does not just hit the currency: the KOSPI stockmarket index lost 11% over three trading sessions last month.

The won’s tendency to weaken when the chips are down is a blessing for the carmakers and shipbuilders who made South Korea what it is today. The Japanese, whose currency tends to strengthen in adversity, seethe with jealousy. But there are costs, too. The Bank of Korea, the central bank, may miss its inflation target as higher import prices drive up the cost of living. On September 23rd, when the won hit its weakest level against the dollar in a year, the Bank of Korea reportedly spent $4 billion propping it up.

The central bank has lots of firepower. Its foreign-exchange hoardings stood at $312 billion at the end of August, which puts it among the top ten of reserve holders. Officials note that this amount is much greater than it was in 2008, and that Korea’s banks are less reliant on short-term, foreign-denominated debt than they were when Lehman collapsed. A string of banking scandals has muffled this message: seven mutual savings banks had their operations suspended in September. But the mutuals account for just 2% of the financial system. They present little real danger, even if they damage perceptions. Much like the won.

Source: http://www7.economist.com/node/21530993