The collapse of Lehman Brothers, the Greek debt crisis, the end of US quantitative easing, the slump in commodity prices, the slowdown of the Chinese economy and depreciation of its currency, the war in Ukraine, sanctions against Russia… a series of events that contributed to putting an end to a decade of strong growth in emerging markets. Some of these countries are more exposed to the slowdown than others.
IMF returns to favour
In the “noughties”, following sovereign defaults in Latin America, Russia and Asia in the 80s and 90s, the IMF was severely undermined. In his book analysing recent crises and the roles played by international institutions, Joseph Stiglitz, Nobel Prize-winning economist, wrote that the IMF made mistakes in every area in which it intervened: development, crisis management and the transition from communism to capitalism. From Stiglitz to Varoufakis (the former Greek Finance Minister), its critics have been blistering. Leading emerging countries have even gone as far as proposing an alternative to the Washington institutions with the creation of the New Development Bank (NDB) 70 years after the IMF was founded. The NDB, launched in July 2014, has authorised capital of 100 billion dollars. Its principal objectives are stated to be infrastructure and sustainable development. Eskom, the South African electricity production and distribution company is one of the beneficiaries of its financing operations.
Meanwhile, the 2008 crisis put the institution that had always been considered as the guarantor of global financial stability back in the saddle. This is reflected in the subsequent history of IMF loans, which had sunk in the preceding decade. In 2012, Greece was one of the first economies to turn to the Fund and in March 2012, the IMF approved a 28 billion euro loan to the Greek economy.
The IMF went on to sign a number of other agreements, particularly in 2015, including:
- flexible credit lines for Mexico and Poland, for 47 billion and 15.5 billion SDRs respectively (equivalent to 67 and 22 billion dollars).
- a 36-month extended arrangement for Ukraine for 12.3 billion SDRs (17.5 billion dollars).
Apart from the credit arrangements, in common with other countries, Ukraine benefits from a technical assistance programme.
The elixir of devaluation
Irrespective of what was happening in the eurozone (social tensions, increasing protests and breakthrough of populist parties, from Madrid to Paris), the fact is that the sharp rise in commodity prices encouraged various emerging markets to massively increase their spending. The Greek debt crisis turned out to be an early sign of what was going to happen in other regions of the world.
In many cases, the noughties led to excessive debt and unsustainable deficits once prices fell. This is illustrated by the situation in Brazil and Venezuela. Unfortunately, the reforms to achieve sustainable growth, such as they are, were not sufficient.
These countries therefore needed more than recourse to international institutions to try and counter the deterioration in their public finances. Devaluation or the adoption of a floating exchange mechanism are another potential solution. China and Argentina were the first to go down this road at the beginning of 2014. They were followed by several other countries, mostly commodity exporters, such as Russia, Kazakhstan, Nigeria and Venezuela. After its currency fell nearly 30% against the dollar, in November 2014, Russia’s central bank allowed its currency to float almost freely, leaving itself the possibility of intervening if needed. Due to its efforts to defend the rouble, its currency reserves dropped from 475 billion dollars to 373 billion dollars between November 2013 and November 2014.
Without going into too much theory, it is useful to remind ourselves of some of the hoped-for objectives when countries devalue their currency:
- in terms of financial balance: to limit the haemorrhaging of a country’s currency reserves which are often needed to cover foreign obligations (such as a high debt in dollars),
- in terms of fiscal balance: offset the drop in income by revaluing foreign receipts in local currency,
- in terms of balance of trade: improve competitiveness and increase exports. This can have indirect effects such as increased production and lower unemployment.
In fact, many countries that let their currency depreciate have already seen a boost in their exports. This is largely the case for manufacturing countries (less so for countries that are net exporters of commodities). The differences are also regional as can be seen from the graph below. Emerging Europe is the region that has benefited most.
Not yet the panacea
Recourse to the IMF or currency depreciation are just a few of the remedies that have been adopted by governments in difficulty. They are not sufficient to resolve the ongoing structural problems. In particular, corporate debt seems to be one of the main variables in the equation. Companies in emerging countries are facing growing difficulties. Some, like Pemex, need to be restructured and recapitalised as their prospective income streams have been undermined. In Malaysia and Brazil, 1MDB and Petrobras have suffered severe governance problems. The remedies described above are only a first step in the search for solutions.
Column by Jean-Philippe Donge, Head of Fixed Income at BLI