How do we get out of the debt trap without printing more money?

The policy options open to major economies, including China, to reduce debt, before another global crisis hits

Pedestrians crossing in Tokyo. Quantitative easing stopped a debt implosion, but its initial success enabled politicians to avoid structural reforms, The result was slower growth from declining productivity, even as companies and governments continued to borrow. In short, we are in a debt trap! 

ALL of us are worried about growing global debt as a precursor to another round of crises. After the last global financial crisis, 2007-2009, global debt rose to more than US$200 trillion or US$27,000 for each person in the world.

Since 2.8 billion or nearly 40% live on US$2 per day, there is no way that the debt can ever be repaid. The bulk of debt owed by governments, banks and companies will be repaid by creating more debt.

If we are happy to create money, we should be happy to create more debt. Right?

Wrong. The right question is not the size of the debt or liability, but where is the net asset? Individually, we can always repay the debt if we spend less than what we earn, or invested in an asset that generates sufficient income to pay the interest.

Collectively, the government can always borrow to repay, because it can always tax to repay, if not principal, at least on the interest. Countries only get into trouble when they owe foreigners and cannot raise enough foreign exchange to repay their debt.

High levels of investment – and debt – are good for China’s economy

Charles Goodhart, Emeritus Professor at London School of Economics and one of the foremost thinkers on money and banking has written a series of important articles for Morgan Stanley, analysing the current debt crisis.

Emerging markets

The reason we ended up with more debt than ever is due to three factors since 1970 – the willingness of the financial sector to lend, the increase in global savings relative to investment and the demand for safe assets. Professor Goodhart attributed the structural increase in savings to favourable demographics in the last forty years – particularly as emerging markets like China increased their savings from growth in their labour force that engaged in international trade.

The increase in savings relative to investments created a global savings glut, which meant lower real interest rates.

The willingness of emerging markets to park their excess savings in advanced countries in the form of official reserves and the banks willing to extend credit at lower interest rates created the boom in financialisation. Lower interest rates encouraged speculative activity (funded by debt) rather than investments in long-term productive projects.

When the bust occurred, the advanced central banks wanted to avoid a debt implosion and added to the bubble by lowering interest rates and flooded the markets with short-term liquidity.

The quantitative easing (QE) stopped the widening of the crisis, but its initial success enabled politicians to avoid taking tough action in structural reforms. The result was further slower growth from declining productivity, even as companies and governments continued to borrow, affordable only at near zero interest rates. In short, we are in a debt trap – more debt, little growth.

China lacks urgency about its debt problem, IMF says

Negative interest rates are causing a major problem in the global economy

 Central banks charged with reviving growth using only monetary policy are now actively using negative interest rates and desperate enough to think about helicopter money.

Negative interest rates as a policy tool was invented by small countries like Sweden and Switzerland to discourage large capital inflows that created excessive currency appreciation.

But for the eurozone and Japan to try that would actually destroy their banks’ profitability, which is why bank shares dropped after these were introduced. If banks think they will lose money, they will cut back lending to the real sector further, negating the objective of QE to stimulate growth. Banks receiving QE funds faced the double prospect of being punished for taking credit risks and also the need to increase both capital and liquidity due to the tighter bank regulations.

Helicopter money

Helicopter money is not about central bankers jumping out of helicopters to atone for their mistakes, but about central bank financing a massive increase in fiscal expenditure – truly monetary creation on a large scale. If this happens, watch out for a rise in gold prices.

Prof Goodhart has carefully analysed the three options for deleverging or getting out of the debt trap. The first is to deleverge by swapping debt for equity, being tried by China.

This is feasible when the country is a net lender and both borrowers and lenders are state-owned entities. The second option is to use inflation to reduce the real value of debt. As the recent experience showed, getting inflation even up to target was tough to achieve.

The third option is to address collateral by inducing lenders and borrowers to renegotiate their debt or make the debt permanent. This is both painful and difficult and is unlikely to be adopted unless other options are tried.

China’s banking regulator moves to contain off-balance-sheet risk

In my view, the true result of the Bank of Japan’s negative interest rates is a tax on the older generation, because they are the ones not spending.

Japan tried Keynesian fiscal spending, which failed to sustain growth but created a huge debt overhang.

The Japanese older generation and the corporate sector keeps on saving because they are worried about the future, not surprising given an aging population and sluggish demand for exports.

So if you can’t increase the inflation tax, or corporate taxation to reduce the fiscal debt, use negative interest rates to reduce the value of savings of retirees and the corporate sector. Only Japanese savers would not revolt under such inequity.

For countries that have net savings and large public assets, like China, there is a fourth option to get out of the debt trap, and that is to re-write the national balance sheet. Most foreign analysts who worry about China’s debt overhang forget that after three decades of growth, the Chinese state has also accummulated net assets (net of all liabilities) equivalent to 166% of GDP.

That can be injected as equity into the overleveraged enterprises and banks if and only if the governance and return on assets can be improved under better management.

In the short-run, a clean-up of the over-leveraged enterprise sector and local government debt, embedded in the official and shadow banking system, will help sustain long-run stable growth. How to do this technically will be explained in the next article.

By Tan Sri Andrew Sheng who writes on global affairs from an Asian perspective.

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US's Quantitative Easing (QE) ended, but not financial supremacy

By Luo Jie

The Federal Reserve has officially announced an end to the third round of its quantitative easing bond-buying program. To deal with the financial crisis and make up for the failure of the US government to adequately stimulate the economy, the Federal Reserve has generated trillions of dollars for the American economy in the past six years. It shifted its own financial burden to the rest of the world to some extent.

Europe and Japan also adopted the policy of quantitative easing, albeit with little result. But the US achieved its goal. The fundamental reason is that it is the dollar, rather than the euro or the yen, which is the world's currency for clearance and reserve. The US dominance of the world's financial system has remained quite solid.

When the US pushed forward this policy of quantitative easing, the world complained because the US was dragging down countries and institutions that hold US dollars. Now that the US government and the Federal Reserve have gained some confidence, quantitative easing was abandoned. But Washington has shown indifference to the world's reactions.

In the past six years, there has been much discussion of US decline. The situation in Iraq and Afghanistan enables people to see the limitation of US influence, but the capabilities of US systems still surpass those of other countries. These capabilities are more than enough to maintain the US as a global superpower when it is at the center of a global crisis.

Some media recently speculated that on the purchasing-power basis, China is overtaking the US and becoming the world's biggest economy. China's GDP has been supported by low-end economic activities. It has a long way to go to build up its high-end economic capabilities and build financial systems. Besides the economy, China lags behind the US in terms of national defense, soft power and diplomatic partnerships.

To put it more precisely, China cannot compare with the US. But comparing the two has been popular both within and outside China. Chasing or passing the US can hardly become a China policy. China needs to undergo a tough process to make it stronger.

Both China and the US should keep a sober mind to discuss the possibilities of big power relationship patterns in the 21st century. US financial dominance indeed makes China uneasy, while China takes the initiative to establish an Asian infrastructure investment bank, the US is highly alert and tries to exclude its allies such as Australia and South Korea.

China is clear about its gap with the US. How to narrow it is not only an issue for China, but also for both. The US will not be able to monopolize the world's development opportunities. Its material decline is real, and only when it adds flexibility to the current world order, can its interests be maximized. In the international community, when the strength of a superpower is declining, its morality will be tested.

Souce: Global Time

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The US Federal Reserve was next, announcing that a third round of asset purchases, known as quantitative easing (QE3), would start at the rate of US$40bil (RM122.5bil) a month until the job market recovers “significantly”.

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Rising tides of currencies globally cause inflation, money worthless!

A PACKET of nasi lemak (rice cooked in coconut milk) with a fried egg costs around RM2 nowadays. I remember getting a similar packet (and in bigger portion) at RM1 ten years ago. It is a 100% price appreciation in ten years! My friends and I were jokingly saying that nasi lemak would be a good investment tool if it can be kept for ten years.

However, all of us know that nasi lemak is best served when it is fresh. It can never be kept for long despite its potential for value appreciation. In fact, its value will drop to zero as soon as it turns stale. And interestingly, the same situation applies to the money we hold today. Our currency can be as “perishable” as nasi lemak in this global money printing era if money is not produced for the right purpose and use in the right way and the right time.

The global economies have been embarking on expansionary monetary policies since the financial crisis broke out in 2008. Central banks around the world are printing money to support their economies and increase exports, with the United States as the primary instigator.

The Mighty Dollar

Since 2008, the Fed initiated several rounds of measure termed “Quantitative Easing”, which is literally known as an act of money printing. The Fed's balance sheet was about US$700bil (RM2.1 trillion) when the global financial crisis began; now it has more than tripled. With several countries' central banks including the European Central bank, the Bank of Japan and the Bank of England taking similar expansionary measures and encouraging lending, more than US$10 trillion (RM30.3 trillion) has been poured into the global economy since the crisis began.

While the global central banks have become addicted to open-ended easing and competed to weaken their currencies to boost economies, the impact of these measures to the global economy is not quantifiable or realised yet. However, basic economic theory tells us that when there is too much money chasing limited goods in the market, it will eventually spark inflation.

When money is created out of thin air, there is no fundamental support to the new money pumped into the economies. More money supply would only be good if the productivity is going up or in the other sense, when more products and value-added services are created. In the absence of good productivity, more and more money would not make people richer. Instead, it would only decrease the purchasing value of the printed notes.

Let's imagine a more simplified situation. For example, we used to purchase an apple for RM1. If the money supply doubled but the amount of apples available in the market remains, one apple will now costs us RM2 instead of RM1. Now, our money has halved its original value. If the central banks of the key economies keep flooding the global markets by printing more money, the scenario can only lead to the worst, i.e. hyperinflation.

This occurred in Germany after the First World War. Hyperinflation happened as the Weimar government printed banknotes in great quantities to pay for its war reparation. The value of the German banknote then fell since it was not supported in equal or greater terms by the country's production.

Flood of money

The sudden flood of money followed by a massive workers' strike, drove prices out of control. A loaf of bread which cost 250 marks in January 1923 jumped to 200 billion marks in November 1923. People collected wages with suitcases. Thieves would rather steal the suitcase instead of the money, and it was cheaper to light fire with money than with newspaper. The German currency was practically worthless during the hyperinflation period.

That scenario may seem incredible in today's context. Nevertheless, we should not downplay the severity of a global inflation should the current synchronised money printing push the economies of major countries to burst like a balloon in sequence.

When this scenario happens, people with savings and fixed income will likely be the hardest hit. To withstand the tide of inflation, the best defence is to invest in assets such as publicly traded shares, metal commodities like gold and silver and properties that can hedge against inflation.

Investing in any assets require in-depth research before embarking on one. Commodities and stock markets are liquid assets that can be bought and sold with relative ease, while properties are favoured as long-term investment.

With Malaysia's current economic and population growth, added with its still comparatively low property prices in the region, our primary and secondary market properties are good investment assets for investors to gain from the continuous capital appreciation that this industry is enjoying.

With the above as a backdrop, are property prices really going up globally?

Using the nasi lemak analogy, if we were to buy a RM100,000 medium-cost apartment 10 years ago, it would be equivalent to 100,000 packets of nasi lemak. Assuming it has doubled in price today, it would still be the equivalent of 100,000 packets of nasi lemak at RM2 today. It would seem to me that the true value of properties hasn't gone up, but that global currencies have just gotten cheaper.

FOOD FOR THOUGHT
By DATUK ALAN TONG

FIABCI Asia Pacific chairman Datuk Alan Tong has over 50 years of experience in property development.

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QE3: Get ready for influx of cash!

QE3 set to boost confidence but experts warn against simply loading up on equities.

A RIVER of cash is likely to wash over the global financial system soon, thanks to decisions by major central banks to unleash their monetary “bazookas” on the faltering global economy.

The money-printing ball started rolling last month when the European Central Bank (ECB) said it would make “unlimited” purchases of bonds from countries such as Italy and Spain.

The US Federal Reserve was next, announcing that a third round of asset purchases, known as quantitative easing (QE3), would start at the rate of US$40bil (RM122.5bil) a month until the job market recovers “significantly”.

It was soon followed by the Bank of Japan, which said it would extend its asset-purchasing scheme by 10 trillion yen.

A big chunk of that excess liquidity will likely flow into Asian financial markets as investors search for better returns, given the low interest rates in most countries.

It is tempting to think investors can simply load up on equities and ride a rally like previous rounds of quantitative easing but this is not so, say experts.

They believe that while QE3 will boost confidence and support markets, the euphoria will be checked by the reality that the real economy is in the doldrums.

The list of worries is long: China is decelerating fast, Europe remains mired in recession, and many US consumers are still looking for jobs.

With countervailing forces at work, wealth managers and analysts have plenty of ideas on what to buy and what to avoid.

Buy
> US, Asian equities 

Analysts believe the flood of money will do much to support markets, but not all will do equally well.

UBS Wealth Management regional chief investment officer Kelvin Tay believes defensive bourses such as Singapore and Malaysia will do less well than markets such as Taiwan, Hong Kong and China.

He added that what is also likely to boost shares in Asia, outside of Japan, is simply that some stock markets look cheap, based on a metric known as price-to-earnings ratio. Shares could rise 12% from current levels, he said.

DBS regional equity strategist Joanne Goh said the bank recently recommended an “overweight” for Chinese and Hong Kong stock markets, indicating that investors should buy into these markets. These markets are likely to do well because they are large, open and undervalued, she added.

Analysts’ views were slightly more mixed about US equities, with some believing they will get a boost from QE3, while others warned that the impact would be limited.

Matthew Rubin, Neuberger Berman’s director of investment strategy, said American shares do look relatively cheap compared with investment-grade bonds.

“The additional liquidity should further support a rise in prices,” said Rubin, who helps set strategy at the fund, which manages assets of US$194bil (RM593.9bil).

But Sean Quek, Bank of Singapore’s head of equity research, said past experience shows that US equities benefit less from quantitative easing.

“Also, current valuations are less attractive versus previous QE periods as well as global peers,” he said, adding that he has a neutral rating on American shares.

> Gold

Most analysts believe stocking up on gold and gold-related assets is a good move.

First, with the amount of cash expanding in the system, there could be the risk of higher inflation. And with the value of the currency likely to fall due to the huge amounts of cash flowing about, investors will want “real assets” to protect themselves.

Rubin noted: “Real assets such as precious metals will act as inflation hedges and are per­ceived as diversifiers to holding fiat currency.”

Chew Soon Gek, head of strategy and economic research for the Asia-Pacific at Credit Suisse Private Banking, believes precious metals will outperform other commodities.

“They are the most sensitive to monetary easing, inflation expectations and real interest rates,” she said.

She tips gold to hit US$1,850 (RM5,663.80) per ounce in a year, from the US$1,760 (RM5,388.40) now.

> High-yield securities

With interest rates likely to stay near zero for the next two years, analysts believe that the demand for high-yielding securities will remain strong.

In particular, companies that pay a good dividend and have strong balance sheets are likely to attract investors, say analysts.

“With the QE expected to suppress yields and the Fed’s commitment to keep interest rates low until mid-2015, dividends will remain an important driver of total returns,” said Quek.

He noted that firms giving investors good payouts have generally performed better in the past two years when rates have fallen.

Rubin also believes that high-yield corporate bonds as well as real estate investment trusts are good places to park money.

“The search for yield in a low interest rate environment will continue,” he said.

Avoid
> US dollar 

If there is one asset class that most analysts believe is to be avoided, it is the greenback.

The flood of US dollars into the system through QE3 will lead to what analysts term a “debasement” of the currency – essentially a depreciation. In fact, Rubin believes that cash, and not just the greenback, should be avoided.

“QE3 increases potential for inflation and depreciation of the dollar,” he said.

This may also affect Singapore investors who have taken positions in US equities, as the currency may erode gains or increase losses due to the exchange rate. Likewise, investors might want to avoid the euro.

The poor economic outlook and flood of cash into the market will likely send it down against Asian currencies such as the Singdollar.

Uncertain
> European equities

For investors who take a riskier approach to investing, European stock markets do offer an option. After all, some of the best bargains are made when everyone else is deserting them, said Henderson Global Investors.

The asset management firm said that even though the outlook is gloomy, many firms remain healthy, with global operations.

But Quek is cautious on the region, simply because many question marks over the overall health of the economy remain.

A recent run-up in share prices there, as a result of the ECB’s unlimited bond purchase decision, has also made European stocks more expensive and less attractive, he noted. “As such, we are maintaining a negative stance on Europe.”

> Property 

While previous rounds of quantitative easing may have been one of the causes of property price inflation, this may not be repeated with this latest round.

Singapore has introduced the additional buyer’s stamp duty of 10% that foreigners incur when buying homes. Tay thinks that while QE3 may keep property resilient, price rises will be capped.

But QE3 could still end up boosting the appeal of US property, says Dr Lee Boon Keng, head of the investment solutions group for Singapore at Bank Julius Baer, noting that the housing conditions were improving and rebounding from historical lows.

“The US economy continues a moderate recovery, aided by rising property prices which should have a multiplier effect on consumption and investment,” he said. — The Sunday Times/Asia News Network

By AARON LOW

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QE3 triggers fear of new currency wars! What it means?
New global currency wars warning!  QE3 triggers fear of new currency wars! What it means?

QE3 triggers fear of new currency wars! What it means?

A man watches the foreign currencies exchange rate in Rio de Janeiro, Brazil

Fear has crept into the foreign exchange markets: fear of central banks. Currency traders are rapidly shifting assets to countries seen as less likely to try to weaken their currencies, amid concern that the fresh round of US monetary easing could trigger another clash in the “currency wars”.

Fund managers are rethinking their portfolios in the belief that “QE3” – the Federal Reserve’s third round of quantitative easing – will weaken the dollar and trigger sharp gains in emerging market currencies. Such moves would cause a headache for central banks worried about the domestic impact of a strengthening local currency, leading to possible intervention.

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Some investors are allocating money towards countries with beaten-up currencies, such as India or Russia, or those with more benign central banks, such as Mexico, that do not have a history of frequent forex intervention.

Currencies whose central banks have either intervened or threatened to intervene since QE3 have been underperforming the US dollar as investors have steered clear.

The Czech koruna is the worst-performing major currency against the dollar since QE3 was launched this month, according to a Bloomberg list of expanded major currencies. The governor of the Czech central bank last week raised the prospect of forex intervention as a tool to stimulate the economy.

The Brazilian real is also weaker in the past two weeks after Guido Mantega, finance minister, made it clear that the government would defend the real from any fresh round of currency wars sparked by the Fed’s move.

Even the Japanese yen is weaker against the dollar overall since the Fed’s move, despite having clawed back all its losses after the Bank of Japan’s move to add to its bond-buying programme last week.

Currency desks at Baring Asset Management and Amundi are avoiding the Brazilian real, which the country’s central bank keeps managed at around R$2 against the US currency, and are instead buying the Mexican peso, where the central bank has signalled it is happy for the currency to appreciate further.

James Kwok, head of currency management at Amundi, said: “Mexico is an emerging market currency many managers like as they believe the central bank won’t intervene. The Singapore dollar and the Russian rouble are managed by a range, instead of one-way direction, and so are also good candidates for QE play.”

He is concerned that another “big scale” intervention from Tokyo is on the cards after the BoJ failed to weaken the yen substantially this month, and is avoiding the currency as a result.

“We definitely take the intervention risk into account when investing in a currency,” says Dagmar Dvorak, director of fixed income and currency at Barings. “In Asia, intervention risk is fairly high. We have still got positions in the Singapore dollar but remain cautious on the rest of the region.”

Other investors are opting for currencies that have weakened substantially this year. Clive Dennis, head of currencies at Schroders, says: “Russia and India have currencies with strong rate support and levels which remain well below their best levels of the last year, hence pose less intervention risk. I like owning those currencies in a US QE3 environment.”

Some currencies are strengthening on a combination of Fed easing and domestic factors. While the Indian central bank is not seen as likely to intervene to stem any appreciation in the rupee, the currency has also been popular this month due to a reform package from the Indian government aimed at stimulating the economy.

Commodity currencies including the Russian rouble are responsive to expectations of a rise in commodity prices fuelled by Fed easing, while investors view the Mexican peso, along with the Canadian dollar, as a play on any economic recovery in the US because of their strong trade links.

However, some investors believe the QE3 effect could be lower this time. They argue that central banks in emerging markets face a tough decision over whether to weaken their currencies to help struggling exporters and stimulate growth, or allow them to strengthen to offset the impact of rising food prices.

In fact, the US dollar has shown signs of resilience since QE3 as fears over the health of the eurozone continue.

While flows into EM debt and equity funds rose substantially last week, according to data from EPFR Global, Cameron Brandt, research director, says this week’s flows looked more muted: “There’s a certain amount of reaction fatigue setting in.

By Alice Ross, FT.com

What QE3 means for China and rest of Asia?

 China recently announced plans to boost spending on subways and other transportation infrastructure to boost its economy. But China may not be as aggressive with stimulus as the Federal Reserve and European Central Bank.

NEW YORK (CNNMoney) -- Peter Pham, a capital market specialist and entrepreneur with expertise in institutional sales and trading, is the author of AlphaVN.com, an investing blog focusing on Vietnam and other markets in Southeast Asia
 
Now that most of the developed world's major central banks have all committed to some form of open-ended quantitative easing, we can start to make some concrete predictions about the effects this will have in Asia.

In general, QE is being undertaken in the West to stabilize debt markets that are deflating. So this may do little to actually stimulate sustainable economic growth. But, the uncertainty as to whether the central banks would act aggressively kept a lid on many emerging growth markets for months. Here's what may happen next.

China has been lowering interest rates but it cannot afford to do print money to buy bonds like other central banks have done. China's central bank can still announce more fiscal stimulus due to its strong trade surplus. The recent plan to spend $156 billion on domestic infrastructure is significant, but compared to the amount of money the Federal Reserve and European Central Bank may wind up spending, it might was well be $156.

The political situation in China is proving to be more volatile than we may have originally thought as the response to Japan's buying the Senkaku islands seems completely out of proportion with the level of threat or even insult this is represents. It speaks to a party that needs to redirect anger at its own mishandling of the economy.

That this is coming just a few months after Japan and China signed the most sweeping currency and trade agreement of any that China has signed with another country seems very odd.

Japan's response to the QE announcement by the Fed was to extend their existing QE program another 10 trillion Yen (~$128 billion US). That may sound like a lot but it's even less than China's most recent stimulus program.

This suggests that the Bank of Japan is uninterested in printing to oblivion at the same rate as the Fed and ECB, and that Japan will manage the yen's rise while shifting its focus towards more regional trade. Japan and China are each other's largest trading partners, which makes this row over the Senkaku Islands seem manufactured to force the Japanese to choose a side in the growing cold war between the U.S. and China.

So far, Japan has been trying to work with both sides. It is helping to internationalize China's yuan currency and is giving China a clear alternative to U.S. Treasuries with its own bonds. At the same time, Japan has stepped up its purchase of Treasuries, buying more than $200 billion's worth in the past 12 months.

I expect the Bank of Japan to continue to try and position the yen as an alternative regional reserve currency as other Asian nations like Thailand, Malaysia and Indonesia try to lessen their reliance on the U.S. economy.

By keeping the yen strong versus the euro and the dollar, Japan can attract capital from overseas and use it to deploy it around Asia. There should be enough money sloshing around the region so that Asian nations can continue their trade with the West at current levels while also focusing more on regional growth.

The economies of Indonesia, Thailand and Malaysia are already growing above expectations this year despite volatility in their currencies because of the fear over Europe. With worries about Europe starting to wane, these countries, as well as the best companies in them, should have little trouble raising capital through bond sales.

The wildcards for Asia are Hong Kong and Singapore. We're already seeing signs of a property bubble in Hong Kong thanks to the Fed's four-year old policy of interest rates near zero. That's because Hong Kong's dollar is nominally pegged to the U.S. dollar.

Now that the Fed has implemented a program that will further debase the dollar -- and expand its already bloated balance sheet -- Hong Kong is being forced to reassess its currency peg. If they do not make changes, this could result in an even bigger property bubble. That would lead to loan problems for Hong Kong banks similar to those plaguing those in the U.S., Europe, China and, to a lesser extent, Singapore.

Since the Monetary Authority of Singapore (MAS) pegs its interest rates to that of the Fed, its economy is vulnerable to a property bubble like the one in Hong Kong. Inflation is currently above 4% and has recently been above 5%. While Singapore's banks are all very well capitalized and their foreign exchange reserves are higher than their annual GDP, the Fed's QE3 policy will put pressure on an economy already dealing with sluggish growth.

But all in all, the latest round of QE is mostly bullish for Asia as it creates some certainty after the past 12 months of extreme uncertainty. Even though the actions by central banks in the West appear to indicate that their economies are worse than the headlines make it seem, the mere fact that the Fed and ECB have acted should reassure investors throughout Asia.

By Peter Pham @CNNMoneyInvest
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New global currency wars warning!

New global currency wars warning!

The recent money-pumping measure by the United States has been criticised by Brazil as a protectionist move which will adversely affect developing countries.

THE recent announcement by US Federal Reserve chief Ben Bernanke that the United States would be renewing its pumping of money into the banking system has been acclaimed by some parties as a move to revive its faltering economy.

But the Fed’s measure to revive “quantitative easing” is not being welcomed by all. It has instead caused anxiety in some developing countries.

Their fear is that a large part of the massive amounts of money being unleashed into the financial markets may fail to boost the US economy but will find its way as unwanted capital flows into some developing countries.

Bernanke announced that the Fed would purchase US$40bil (RM124bil) per month of mortgage-linked assets from the market, and do so continuously until the jobs situation improves.

The hope is that cheap and abundant money will encourage entrepreneurs and consumers to spend more and spark a recovery.

However, previous rounds of such quantitative easing did not do much for the US economy.

A large part of the extra funds were placed by investors not in new US production but as speculative funds in emerging markets or in the commodity markets, in search of higher returns.

In developing countries that received the funds, adverse effects included an inflation of prices of property and other assets, as well as appreciation of their currencies which made their exports less competitive.

On the other hand, the US dollar depreciated because of the increased supply of US dollars and the reduced interest rates, making US exports more competitive.

Brazil has been in the forefront of developing countries that are critical of the US money pumping. Last week, the Brazilian finance minister Guido Mantega called the US Fed measure a “protectionist” move that would re-ignite global currency wars.

Mantega told the Financial Times that the third round of quantitative easing would only have a marginal benefit in the United States as the already high liquidity in the United States is not going into production.

Instead, it is really aimed at depressing the dollar and boosting US exports.

Japan has also decided to expand its own quantitative easing programme in response to the US move, and this is evidence of tensions and a currency war, said Mantega.

In previous rounds of liquidity expansion in recent years, Brazil has been one of the developing countries adversely affected by sharp currency appreciation, which reduced its export competitiveness and facilitated import increases.

Recently, Brazil’s currency, the real, has weakened from the high of 1.52 real to the dollar to the present two real, which has improved its competitiveness.

But the new liquidity expansion in the United States may again cause a flood of funds to enter Brazil and reverse the currency trend.

In such a situation, Brazil may be forced to take measures to stop the real from appreciating, said the minister.

Previously, the country had taken capital controls to discourage inflows of foreign funds.

What has irritated Brazil even more is an accusation by the US Trade Representative Ron Kirk that Brazil has become protectionist in raising some tariffs, even though the Brazilian measures were within its rights in the WTO framework.

Brazil’s Foreign Minister Antonio Patriota last week wrote to Kirk pointing out the unfairness of a protectionist US accusing Brazil of protectionism.

“The world has witnessed massive monetary expansion and the bailout of banks and industrial companies on an unprecedented scale, implemented by the United States and other developed countries,” said Patriota.

“As a result, Brazil has had to cope with an artificial appreciation of its currency and with a flood of imported goods at artificially low prices.”

He pointed out that the United States was a major beneficiary, as it almost doubled its exports to Brazil from US$18.7bil (RM58bil) to US$34bil (RM105bil) from 2007 to 2011.

“While you refer to WTO-consistent measures adopted by Brazil, we, on our side, worry about the prospect of continued illegal subsidisation of farm products by the United States, which impact Brazil and other developing countries, including some of the poorest countries in Africa.

“The US has managed in a short period to remarkably increase its exports to Brazil and continues to reap the benefits of our expanding market. But it would be fairer if those increases took place in an environment not distorted by exchange rate misalignments and blatant Government support”.

As the quantitative easing from the United States and Japan is only going to take effect in future, it remains to be seen whether history will repeat itself – it will have minimal effect on the United States and Japanese economic recovery but will cause problems for developing countries – or whether it will be different this time.

GLOBAL TRENDS By MARTIN KHOR

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Turbulent economic forecast for 2012

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 Eurozone crisis has caused uncertainty in global economy

By CECILIA KOK cecilia_kok@thestar.com.my

WHILE not everybody believes that the much-hyped prediction of an impending apocalypse by the ancient Mayan society holds any absolute truth, one can be sure that the gloom and doom-like feeling will continue to permeate the world economy as it approaches the new year.

As some economists put it, we are entering an era of even greater uncertainty. With the considerable amount of unknowns presented to us, we can only expect to be in for another round of wild and tumultuous ride in 2012.

The situation in the European Union (EU) at present remains the biggest wildcard for the global economy, as its sovereign debt crisis continues to spread across the region, producing new signs of strains in the financial system each passing day.

Hopes were high when the top EU leaders converge for a make-or-break meeting last week in Brussels, Belgium, to find a resolution that could douse the spreading flame of the euro and sovereign debt crisis. But the crucial meeting went past without a credible solution that could offer a long-lasting impact that could pacify investors in general.

There is no just quick fix to the EU sovereign debt crisis, economists at the Royal Bank of Scotland (RBS) explain in their recent report.

“While the recent fiscal compact' deal might strengthen fiscal union of the EU members, it doesn't solve the immediate insolvency problems of some members,” they say.

RBS reckons that the European Central Bank (ECB) is still at risk of being drawn into an outright quantitative easing (QE), that is printing of money, which could ultimately undermine the euro's strength.

Although QE might help improve liquidity in the region, more of such a measure will also deepen the policy dilemma for non-QE countries such as those in Asia, RBS' economists say.

More QE in 2012? 

QE has become commonplace in developed economies from the United States to the UK and Japan in recent years since the onslaught of the global financial crisis in 2008, as governments resorted to pumping liquidity into their systems to jumpstart economic growth.

While such a measure may seem convenient to implement, it does bring with it some negative side effects such as the weakening of a country's currency and inflation.

But desperate situation calls for desperate measures. The severity of the global economic downturn three years ago necessitated policymakers to undertake such controversial measures.

The United States, for one, has already had two rounds of QE. QE1 launched in 2008-2009 was valued at US$1.3 trillion, while QE2 announced at the end of last year was worth US$600bil.

No fresh QE by the US Federal Reserve is in sight yet, as policymakers, coming out from its last Federal Open Market Committee (FOMC) meeting for 2011 over the week, have decided to save the QE bullet for another day.

Their decision was premised on a slightly more optimistic outlook for the US economy, as indicators had been pointing to some improvements, especially in the overall labour market conditions.

Still, most experts believe QE3 is on the cards, and will probably be unleashed within the first half of 2012.

As it stands, the US Fed remains very cautious on the prospects of the country's economy, citing significant downside risks posed by strains in global financial markets.

If and when QE3 comes - and depending on its size - one can expect to see asset prices (from stocks to commodities and properties) to be inflated once again, and some countries, especially developing markets in Asia, will likely have to contend with inflationary pressure once again. But until then, the prevailing uncertainties are already pointing to a waning global risk appetite going into 2012.



Depreciating Asian currencies

The trend of global funds reversing from emerging markets back to developed markets has started since September 2011, and it is likely to persist next year, according to analysts.

Save for China and Hong Kong, this trend will spell a further weakening of currencies for economies in Asia (excluding Japan).

(The renminbi, deemed significantly undervalued, has been under intense political pressure to appreciate faster, while the Hong Kong dollar is pegged to the US dollar.)

For reasons not related to their economic fundamentals, Asian currencies in general have already started trending lower against the US dollar since the second half of this year. This was due mainly to capital outflows arising from global risk aversion, as well as intensified deleveraging process foreign investors.

Several Asian central banks have reportedly been stepping into the foreign exchange market to smooth the volatility, even though those measures have not been sufficient to stem the decline of their currencies.

Year-to-date, Malaysia's ringgit has weakened by around 4% to 3.1869 against the US dollar.

Expecting capital outflows to accelerate in the first quarter of 2012, economists believe the ringgit could weaken further to as much as 3.25, before recovering in the second half of next year.

Depreciating currencies aside, there is also a growing concern among experts that the continuous outflow of capital could result in tighter domestic liquidity conditions, although countries with larger current account surpluses will be less affected.

In Asia, Malaysia has the second largest buffer in its current account balances at more than 10% of its gross domestic product (GDP), after Singapore, whose buffer in current account balances exceeds 20% of its GDP.

It is unmistakable that policymakers in Asia will be kept very, very busy next year, as they contend with the challenges that await them.

Besides having to manage the lingering effects of weakness in developed economies on their economies, policymakers in some countries will also deal with domestic economic challenges that could add salt to the wound.

According to Morgan Stanley Global Economics team, the risks for Asian economies in 2012 remain skewed to the downside, with China facing the potential of a sharper-than-expected correction in its property market, India facing a weaker investment sentiment, and South Korea facing the prospects of high household debt weighing down consumption growth.

The risk factors, if materialised, could result in a bear case scenario, in which the global financial institution expect economies in Asia (ex-Japan) to slow to 5.9% next year, compared with its base-case forecast of a 6.9% GDP growth.

For Malaysia, Morgan Stanley argues that the risk factors are mainly external, with a sharper-than-expected global slowdown increasing the country's downside growth risks via the trade and commodity channels.

This is because a severe global slowdown will not only result in the demand for Malaysia's exports of goods and services, but it will also cause further decline in commodity prices, in which case, Malaysia, being one of the largest net commodity exporter in the region, could see the terms of trade to deteriorate further.

“Malaysia's vulnerability to a global growth shock remains similar to that in 2008. Its open economic structure means that there is no escape from a global slowdown,” Morgan Stanley explains.

Although it notes that policymakers in the country have been making efforts to boost domestic demand, particularly in private investment, it remains concerned that such policies at this juncture have not gathered enough momentum to provide much growth catalyst in view of the country's high trade linkages and a global slowdown that could affect investor confidence.