Beyond the Crisis: A World Made of BRICs
The US financial crisis that started in July 2007 with the collapse of two Bear Sterns subprime hedge funds has now turned into a full-blown global economic crisis.
Nov 09, 2008
The US financial crisis that started in July 2007 with the collapse of two Bear Sterns subprime hedge funds has now turned into a full-blown global economic crisis. Arguably, the climax of the financial crisis has been reached with the collapse of Lehman Brothers on September 15, and the subsequent fall of stock markets all around the world.
Since then, governments have been hastily working out massive bailout plans for their banking systems, in the United States, the European Union, Russia, South Korea, and elsewhere. This was a long awaited recognition that radical measures were needed to avoid a global collapse given the huge amount of outstanding derivatives and other off-the-balance-sheet liabilities threatening the stability of the global financial system.
Despite this massive effort, it is clear that the large developed economies will undergo one of their most difficult periods in many decades. The deleveraging process will be long and painful because the liquidity crisis has translated into a permanent increase in the cost of capital which makes the current downturn much more pronounced than previous ones.
It is also clear that some medium-sized emerging economies such as Hungary, Turkey or Ukraine, that relied heavily on foreign capital to fuel their domestic growth, are feeling the heat as foreign investors start to repatriate capital to safer places. Hungary and Ukraine are in the process of being bailed-out by the IMF and will have to sacrifice growth for some years. Turkey has also seen large outflows of capital, but it is in better shape now than at the start of the decade when the country had to devalue its currency and drastically restructure its economy.
The key question, however, is the impact of the crisis on the "trillion plus" emerging economies of China, India, Brazil, Russia, Mexico, and Korea, and the extent to which it could jeopardize their long term growth potential.
In this regard, China and India have been relatively spared thanks to their lack of financial integration with the world. By contrast, there is sobering news coming from Russia, Mexico and Brazil, where healthy companies now struggle to roll over debt due to foreign investors. As a matter of fact, in the past few weeks the yield on corporate bonds of leading Mexican companies such as Cemex and Telmex have skyrocketed. Mexican and Brazilian companies are facing billions of losses because of the sharp depreciation of their domestic currencies against the US dollar. Finally, Russian oligarchs are desperately asking for and getting - at a heavy price - the support of the Kremlin to pay back foreign creditors who threatened to seize large shares of Russian companies, which were pledged as a collateral for loans.
Nevertheless, the situation is in no way comparable to the nineties where one big emerging country defaulted after the other. The liquidity problems faced today by Russian, Brazilian, or Mexican companies are much more manageable than the solvency problems faced by their governments a decade ago. With huge foreign exchange reserves of over half a trillion US dollars, Russia has made it clear that it can deal with the crisis without external help. Mexico, Brazil, and South Korea also have reasonable foreign exchange reserves. Besides, they are supported by the Federal Reserve which has committed USD50 billion to each of these countries in currency swap agreements, as a recognition of their "systemic importance". In addition, all these countries have actioned comprehensive bailout plans for their financial sectors and for their blue chip companies through state-guaranteed liquidity lines, injections of capital, tax exemptions and the like.
Most importantly, when the dust settles and the world economy gradually recovers from the crisis, the new expansion cycle will be, by all accounts, dominated by the BRIC economies. China will get out almost unaffected by the crisis. The likely slowdown of the Chinese economy in 2009 will probably be very moderate because it will be cushioned by the massive spending plan
Since then, governments have been hastily working out massive bailout plans for their banking systems, in the United States, the European Union, Russia, South Korea, and elsewhere. This was a long awaited recognition that radical measures were needed to avoid a global collapse given the huge amount of outstanding derivatives and other off-the-balance-sheet liabilities threatening the stability of the global financial system.
Despite this massive effort, it is clear that the large developed economies will undergo one of their most difficult periods in many decades. The deleveraging process will be long and painful because the liquidity crisis has translated into a permanent increase in the cost of capital which makes the current downturn much more pronounced than previous ones.
It is also clear that some medium-sized emerging economies such as Hungary, Turkey or Ukraine, that relied heavily on foreign capital to fuel their domestic growth, are feeling the heat as foreign investors start to repatriate capital to safer places. Hungary and Ukraine are in the process of being bailed-out by the IMF and will have to sacrifice growth for some years. Turkey has also seen large outflows of capital, but it is in better shape now than at the start of the decade when the country had to devalue its currency and drastically restructure its economy.
The key question, however, is the impact of the crisis on the "trillion plus" emerging economies of China, India, Brazil, Russia, Mexico, and Korea, and the extent to which it could jeopardize their long term growth potential.
In this regard, China and India have been relatively spared thanks to their lack of financial integration with the world. By contrast, there is sobering news coming from Russia, Mexico and Brazil, where healthy companies now struggle to roll over debt due to foreign investors. As a matter of fact, in the past few weeks the yield on corporate bonds of leading Mexican companies such as Cemex and Telmex have skyrocketed. Mexican and Brazilian companies are facing billions of losses because of the sharp depreciation of their domestic currencies against the US dollar. Finally, Russian oligarchs are desperately asking for and getting - at a heavy price - the support of the Kremlin to pay back foreign creditors who threatened to seize large shares of Russian companies, which were pledged as a collateral for loans.
Nevertheless, the situation is in no way comparable to the nineties where one big emerging country defaulted after the other. The liquidity problems faced today by Russian, Brazilian, or Mexican companies are much more manageable than the solvency problems faced by their governments a decade ago. With huge foreign exchange reserves of over half a trillion US dollars, Russia has made it clear that it can deal with the crisis without external help. Mexico, Brazil, and South Korea also have reasonable foreign exchange reserves. Besides, they are supported by the Federal Reserve which has committed USD50 billion to each of these countries in currency swap agreements, as a recognition of their "systemic importance". In addition, all these countries have actioned comprehensive bailout plans for their financial sectors and for their blue chip companies through state-guaranteed liquidity lines, injections of capital, tax exemptions and the like.
Most importantly, when the dust settles and the world economy gradually recovers from the crisis, the new expansion cycle will be, by all accounts, dominated by the BRIC economies. China will get out almost unaffected by the crisis. The likely slowdown of the Chinese economy in 2009 will probably be very moderate because it will be cushioned by the massive spending plan