Monday, December 08, 2008

Dr. KS Jomo sharing on Global Financial Crisis

Thanks to Chia Yee for highlighting to me this talk by Dr. KS Jomo, the Assistant Secretary General for Economic Development, United Nations Department of Economic and Social Affairs and member of the United Nations Commission of Experts on Reforms of the International Monetary and Financial System.

This talk was organized by Chevening Alumni of Malaysia.

He would be speaking on the Global Financial Crisis. Dr. Jomo said that he had only 8 hours of sleep in the last 6 days, so he might not be too awake. It is amazing that Dr. Jomo still looks very alert. He had to cancel his earlier two trips to Malaysia in August and October, so he was quite worried on whether he would be able to make this trip back.

Dr. Jomo highlighted that the current financial crisis is quite similar to the one as the Great Depression in late 1920s and early 1930s. The current financial crisis has spreaded to the real economy and US has been in recession since December 2007.

This crisis has transformed from subprime crisis to mortgage crisis to debt crisis to financial system crisis to the real economy crisis. It is currently affecting the availability of credit and it increases the cost of credit and both of these affect liquidity.

Technically, only China and oil exporting countries, which run significant surpluses can afford to run of deficit.

Dr. Jomo highlighted that Keynes pointed out several ways to avoid this from happening. He highlighted that UN has tried to highlight the carry trade problem, but it was not being addressed.

The current challenges are global imbalances, which is not stable. However, USD has been serving as the main currency, and this helped to assure the rest of the world to continue to lend to US government and household. There is increase inequality within and between government and this increase in economic insecurity is due to retreat of government, growing inter-dependence (globalization) and market reforms of social security system.

Europe imbalance has been growing since 2006, and US housing sales haas been on the decline since 2006. This credit crisis also caused asset price deflation.

Earlier asset price bubbles are due to:-
a) 1990 financial deregulation (repeal of Glass-Steagall in 1999, which eliminate firewall)
b) Aggressive monetary easing following 2001 downturn (Greenspan was being advised by his own staff to be against reduced rate)
c) Greatly increase debt-income ratio of US household (lucky that Asian save more than they use, and they can fund this).

Dr. Jomo praised the leadership of Gordon Brown in rallying other European countries to have a coordinated response to financial crisis.

The US financial crisis is not yet over. There would be more banks that would "go under". There will be de facto nationalization of particular liabilities on large investment banks balance sheet via Federal Reserve, as well as bailing out of Fannie Mae and Freddie Mae. The large scale bail-outs of US financial system likely, but continuous safeguards are unclear.

One thing to note is that UK governments own even greater percentage of its banks than the Indian government.

Since November 2008, China, Japan, Gulf States have been brought in for G20 meetings, but these meetings would not have the participation of other financial centers, like Singapore and Hong Kong. Before this, only G7 countries were involved in this discussion.

Dr. Jomo showed that globalization is partly of trade, but mainly finance is driver of globalization. Financial globalization does not contribute to economic growth and real investment (gross fixed capital formation) has been on gradual decline since 1970. However, there is huge increase in gross financial investment abroad (financial globalization).

Of the US policy response, the tax stimulus package would be largely ineffective in the medium term, as households save much of additional income. The recent housing legislation is going to help about 5% of the households only, and more policy response through US federal reserves, like credit guarantee, softened collateral requirement for financial sector and curbs on short-selling. There is likely of bigger financial stimulus from Obama.

Dr. Jomo described Dr. Mahathir, as "True American Idol".

Dr. Jomo highlighted of US employment contracting and also household consumption receding. Europe has even more unemployment.

Currently, US, Europe and Japan are all in recession. Slower GDP growth in OECD countries and increasingly for developing world too. This will limit the potential for US exports to sustain US growth. Over the last 5 years, finally Africa managed to get some positive growth (4-5% per year). Export-led growth in developing countries are slowing and EU cannot and will not take on external deficit as US do.

Looking at World GDP growth, it was 2.1% in 2002, 2.7% in 2003, 4.0% in 2004, 3.5% in 2005, 4.0% in 2006, 3.8% in 2007, 2.5% in 2008 and 1.0% in 2009.

Price for rice, wheat, maize has hit the peak in Q2 or so this year, so it is on downward trend now. The food prices are generally still high, although there is slight declining. For agricultural, there hasn't been much investmment since 1960s, and this is likely to be forgotten until next crisis hit. Africa is especially hit badly.

World trade is a more lagging indicator. The figure is as follow. -0.8% in 2001, 4.4% in 2002, 5.6% in 2003, 11.2% in 2004, 7.4% in 2005, 9.3% in 2006, 6.4% in 2007, 4.4% in 2008 and 2.1% in 2009.

Other limitations in growth for Asian developing countries are that the growth is not very inclusive, and growth is characterized by weak employment expansion "jobless growth" and even during expansion, inequality usually increases.

Looking back in history. In late 1970s, when many developing nations were growing rapidly, developed nations were facing stagflation. It is expected that in 2009, the per capita income would be negative. The recent reclassification of poor also increases the number of people below poverty line to increase from 900 Million to 1.4 Billion people.

Despite growing inter-dependence, the international co-operatiion is weak. Bretton Woods institutions, OECD, G7 and G20 fail to provide leadership. Declining aid since 2005 likely to get worsen with the slowdown, and this will exacerbate poverty and effects of rising food and fuel prices.

On implications for asian emerging markets, decoupling is unlikely. Poverty figures would be even tougher to get it lowered with the slower growth. There will be slow progress on other MDGs, without major social policy investment. There is a need to embed investment, employment and economic security policies in broader national development strategies, to provide sufficient liquidity. By reducing interest rate, it can only help to stimulate economy up to a certain limit. It is important to have fiscal stimulus package. IMF should help by giving credit lines to needy countries.

Previously, it took 15 years and a world war to create Bretton Woods. Then, 44 countries participated, including 2 colonies (Philippines and India) and this was created during world war.

Dr. Jomo warned that when economy rebounces, reform might stop, and this crisis could have been avoided.

For developing countries, they will be hard hit. The financial market of middle income countries would be affected. The slowing trade growth would affect all developing countries, whereas the terms of trade would affect mostly the primary exporters. The lower energy and food prices would affect those net food and oil importers. The balance of payments constraints likely and reserves may be reduced quite quickly.

On technical leadership in Asia, there is pocket of it in China/India, Korea/Japan, but not much in Asia.

When Dr. Jomo was asked on what might transform the Asian economies, he gave some "what if" scenario. Example, the possibility of inventing electric car with large enough battery, significant breakthrough in solar power or tidal power or nuclear power. All this might revolutionize the industry and world.

Leatherback turtles have been wiped out within 1.5 generation in Malaysia, due to plastic bags. Maybe new subsitutes of plastic bags can change our life.

The international regulation and national regulation needs to be thrashed out.

Keynes gave the advice of paying off debt during good time and accumulate deficit during bad time. This is counter cyclical policy.

On Malaysia's stimulus policy, Dr. Jomo said that a pre-emptive fiscal stimulus is good to have. We would be affected by this slowdown too, due to our connectedness to the world.

Dr. Jomo gave an example of before 1974, Malaysai does not have palm oil refining capabilities, but then the country tax on palm oil export and within 10 years, Malaysia has hte most efficient refinery for palm oil around the world, as we are most focused (due to economy of scale and scope).

On Islamic banking, Dr. Jomo defined it as dealing with bank instrument which are syariah compliance. Dr. Jomo said that most banks are into Islamic Banking, mainly due to the fact that it can make money. London and Singapore have overtaken Malaysia for Islamic Banking. Dr. Jomo also pointed out that Islamic Development Bank does not deal much in Islamic Banking.

On where we are in the crisis, Dr. Jomo said that we are not yet in the tunnel. Developing nations used to grow at 7-8%, but now it would grow at abut 4%, and for developed nations, it could be negative. This is also due to slower population growth.

Europe can't really export, as US has account deficit.

Dr. Jomo concluded that there is not enough right forum for many stakeholders to talk. Some countries today close off some options, as it is afraid that it would benefit its neighbours. We have a lot to learn from Europe on policy coordination. Latin America has a lot more discussion, leaving Asia still quite disjointed.

Hope that you enjoy learning from the sharing by Dr. KS Jomo. He is definitely a fantastic economist, and from what I understand of this sharing by Dr. Jomo, we still have a long way to go, before economy would really rebounce. What Dr. Jomo shared and what Clinton shared, do have some similiarity too, especially in terms of policy that Barack Obama should carry out.

Enjoy reading!

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