Brazil, China, Commodities, Economics, Emerging Markets, Latin America, Uncategorized

Has the global trade-development link peaked?

Trade has been a key driver of global growth, income convergence, and poverty reduction. Both developing countries and emerging market economies have benefited from opportunities to transfer technology from abroad and to undergo domestic structural transformation via trade integration in the last decades. Yet, more recently, concerns have been raised over whether the current pace and direction of world trade lead towards a lesser development-boosting potential.

What happened to world trade? Is it cyclical or structural?

World trade suffered another disappointing year in 2015, experiencing a contraction in merchandise trade during the first half and only low growth during the second half. This follows a similar pattern since the onset of the global financial crisis (GFC), in which world trade volumes have lagged behind GDP growth (Figure 1).

Figure 1

World Real GDP and Trade Volume

(Annualized quarterly percentage change)

Has Trade-Dev Peaked-Fig 1.

Source: IMF, World Economic Outlook, October 2015.

 

Economists have indicated some circumstantial factors to explain this post-GFC pattern (Dadush, 2015) (Didier et, 2015, p.18). For instance, world GDP and trade figures would be reflecting the fact that the highly open-trade countries of the Eurozone have had a sub-par growth performance relative to the rest of the world. Furthermore, the  weak recovery of fixed investments in advanced economies – Canuto (2014a) – has suppressed an important source of trade volume, given the higher-than-average cross-border exchanges that characterize such goods.

More disputed hypotheses have also been argued. More stringent capital requirements and financial regulations might be curbing the availability of trade finance. Additionally, rising “murky” trade-restrictive tax-cum-subsidy policy measures adopted in some key sectors by some countries may also have become more significant than usually perceived (Global Trade Alert 18, 2015).

While those post-crisis factors have certainly played a role, some structural trends seem also to be at play. As suggested by Figure 2, after steadily increasing between the mid-1980s and the mid-2000s, the trade elasticity to GDP has lost steam (though it remains above one, thus implying that trade is still rising faster than GDP). After jumping in previous decades, the world’s exports-to-GDP ratio seems to have started to approach some plateau (or a “peak trade”). Since 2008, world trade has been rising slower than GDP at around 0.8:1, leading to a fall in the share of exports in global GDP. However, even if post-GFC factors were partially reversed, the presence of a long-term trajectory of trade elasticity displaying a slowdown already prior to the recent pattern would suggest no automatic return to the heyday.

Figure 2

Trade-income elasticity and Exports-GDP ratio – global economy

Has Trade-Dev Peaked-Fig 2.

Source: Escaith and Miroudot, ch. 7 in Hoekman (2015).

Notes: Merchandise exports only; world GDP and trade at constant 2005 prices; dollar figures for GDP are converted from domestic currencies using official exchange rates. Long-term elasticity is based on 10-year rolling period from 1960-1970 to 2005-2015 (2015 is based on forecasts).

Hoekman (2015) brings a thorough examination of both “cyclical” (post-GFC) and “structural” hypotheses about the global trade slowdown. Regardless of the weight attributed to these factors in explaining recent developments, three processes stand out as relevant for the purpose of analyzing what lies ahead in terms of the link between global trade and development. Two of them were “transitional” – in the sense that they were “one shot” – the unfolding of which occurred behind the extraordinary ascent of the global export-GDP ratio. The third one has evolved more gradually and will likely carry a significant transformative role ahead.

A major wave of vertical and spatial fragmentation of production has passed

The period from the mid-1980s to the mid-2000s was peculiar in several aspects. For one, these decades featured a process of economic reforms that aimed to remove barriers to trade, a multilateral trading system that reduced uncertainty for traders, and technological advances that reduced trade and communications costs. Combined, these trends ushered in years of sustained trade expansion. Average tariffs moved to well below ten percent, and in many countries a significant share of trade became duty-free. Advances in transport (such as containerized shipping) and information and communications technologies greatly reduced the cost of shipping goods and of managing complex production networks. Together these developments led to two major changes in the structure of global trade: (a) the vertical and spatial cross-border fragmentation of manufacturing into highly integrated “global production networks” or “global value chains” (GVCs); and (b) (to a lesser extent) the rise of services trade (Canuto, Dutz & Reis, ch. 3 in Canuto & Giugale, 2010) (Canuto, 2012).

The full establishment of cross-border GVCs intrinsically raises trade measured as gross flows of exports and imports relative to GDP, a value-added measure, because of “double counting” of the former – although the ratio of trade to GDP still increases even when trade is measured on a value-added basis (Canuto, 2013a). Given the then-prevailing technological state of arts in production processes, the policy and enabling-technology breakthroughs above mentioned sparked a powerful cycle of fragmentation, especially in manufacturing, with a corresponding cross-border spread of GVCs.

The re-shaping of the economic geography might have kept the pace with global trade impacts via further dislocation of fragments of GVCs, depending on the evolution of country locational attributes. Technological changes might also have altered optimal spatial configurations of the various manufacturing activities, as well as extended fragmentation to other sectors. This may well be the case ahead, as technologies and country policies keep evolving – some analysts point to a greater reliance on regional production networks, while others refer even to a potential reversal of GVCs because of 3D printing (“additive manufacturing”) (see references in the introduction of Hoekman (2015)).

However, the wave of cross-border manufacturing fragmentation of mid-1980s through the mid-2000s was particularly intense and time-concentrated (Canuto, 2015a). Figure 3 – from Constantinescu et al (2015) – shows that the ratio of foreign value added to domestic value added in world gross exports increased by 2.5 percentage points from 2005 to2012, after having risen by 8.4 percentage points from 1995 to 2005.

Figure 3

Ratio of Foreign Value Added to Domestic Value Added

in World Gross Exports (%)

Has Trade-Dev Peaked-Fig 3.

                                    Source: Constantinescu et al (2015)

 

A major wave of trade-cum-structural-transformation has passed – with China as a special case

The wave of fragmentation of manufacturing activity benefited from the incorporation of large swaths of lower-wage workers from Asia and Eastern Europe into the global market economy (Canuto, 2015a). Conversely, the former facilitated a process of growth-cum-structural-transformation with substantial total factor productivity increases in these countries via transfer of population from low-value, low-productivity activities to the production of modern tradable goods, for which foreign trade was instrumental – with China as a special case both in terms of speed and magnitude (Canuto, 2013b) ((Gautier et al, ch. 5 in Hockman (2015)).

The transitional nature of such a lift of world trade relative to world real GDP, even as the latter grew substantially, stemmed from the inevitable tendency of both starting to rise more in line once the intense transformation approached completion. Its extraordinary intensity also reflected a peculiar – and transitory – combination of ultra-high investments-to-GDP and trade-surplus-to-GDP ratios in China with large current-account deficits of the U.S. (Canuto, 2009).

More recently, China has initiated a rebalancing toward a new growth pattern, one in which domestic consumption is to rise relative to investments and exports, while a drive toward consolidating local insertion in GVCs to move up the ladder of value added is also to take place. That rebalancing has been pointed out as one of the factors behind the recent global trade slowdown, given China’s weight in the world economy and a recent trend of “import substitution” as illustrated in Figure 4.

Figure 4 

China’s Share of Imports of Parts and Components

in Exports of Merchandise

Has Trade-Dev Peaked-Fig 4.

                            Source: (Constantinescu et al, ch. 2 in Hoekman (2015)

Advanced countries are becoming services economies

While both the GVCs’ rise and growth-cum-structural-transformation – especially in China – were taking place, with corresponding impacts on the landscape of foreign trade, advanced – or mature market – economies maintained a steady evolution toward becoming services economies – a trend maintained after the GFC. Lower GDP shares of the value added in manufacturing have accompanied rising shares of employment in services (Figure 5).

Figure 5

Global manufacturing and employment in services

Has Trade-Dev Peaked-Fig 5.

                  Source: Institute of International Finance, “The rise of services – what it       means for the global economy”, December 15, 2015.

Both supply and demand factors explain such trends in advanced economies. On the supply side, beyond the higher pace of increases of productivity in manufacturing than in services (with correspondingly different rhythms of reduction in labor requisites), not only did the relative prices of manufactured goods fall, but a substantial part of local production was also off-shored as a result of GVCs and the incorporation of cheaper labor from areas previously out of the market economy world. On the demand side, one may point out both a higher income-elasticity of demand for services – reinforced by aging of the population – and to technology trends favoring “software” vis-à­-vis “hardware” – or “intangible” relative to “tangible” assets – as leading to an increasing weight of services in GDP and employment (IIF, 2015).

Those evolutionary features of supply and demand would also be valid for emerging market and developing countries – even if, as suggested in the upper half of Figure 5, they were partially mitigated in China and other Asia/Pacific countries by sucking manufacturing activities from other emerging market and developing economies. In any case, given the state of current technological trajectories, rising shares of services throughout would imply an anti-trade bias, given a still higher trade-propensity of manufacturing.

IIF (2015) goes as far as to argue that this has already brought consequences for the global business cycle, rendering it less influenced by swings in manufacturing output, with shock transmission from advanced economies increasingly taking place via trade of services among themselves and more weakly to manufacturing-dependent emerging market and developing economies. This would be one of the factors behind the abrupt decline of the world trade elasticity and of the recent decoupling of growth between recovering advanced and decelerating emerging economies.

Has the window of opportunity of developing via trade integration narrowed?

World trade may well live through a new era of rise relative to GDP (Hoekman’s introduction in Hoekman (2015)): on-going technological trajectories may deepen the fragmentation and increase the tradability of services; new vintage trade agreements – including possible TPP and TTIP (Canuto, 2015b) – are giving special attention to restrictions on trade of services. In fact, the content of services in current foreign trade transactions has already been higher than what gross trade figures display (Canuto, 2014b).

Another question is what lies ahead in terms of growth opportunities for non-advanced economies through foreign trade given the lines of evolution of the latter along the lines here described, one in which the factors that led to the “peak trade” seem to have exhausted. The nature and height of domestic policy challenges have changed substantially in a three-fold way:

First, China is in a league of its own and its rebalancing-cum-upgrading will condition other emerging market and developing economies. If it lets low-skill labor-intensive manufacturing activities go, a new wave of further GVC dislocations may open opportunities for countries currently endowed with cheap and abundant labor. On the other hand, its densification of local parts of GVCs will represent a competitive challenge to medium-range manufactures produced in other middle-income countries. The net result will also depend on the leakages outward of its domestic demand as it rebalances toward a more consumption- and service-oriented economy.

Second, the directions taken by technological trajectories and aggregate demand in advanced economies seem to point toward a broad alteration of the balance of locational advantages for production fragments, decreasing the weight of labor costs and augmenting the relevance of local availability of other complementary intangible assets. A “double whammy” on production and exports of non-advanced economies may take place: a partial reversal of off-shoring and a slower growth of outlets for their typical exports.

Third, the bar, in terms of what it takes to countervail that double whammy (improvements of the local business environment and transaction costs, quality of economic governance and other conditions favorable to accumulation of intangible assets) has been raised. Nonetheless, provided that such bar is reached, the local provision of – embodied or disembodied – services complementary to those produced or used in advanced economies may flourish. This will be the case, e.g. of natural resource-rich countries that manage to develop related intangible assets in terms of applied-science capabilities.

The run-up to “peak trade” was one of primarily exploring complementarities within GVCs to substitute for existing producers. The post-peak trade era may well be one of building complementarities.

* Written from my notes for a presentation at “The role of the US in the world economy”, OMFIF, Federal Reserve Bank of Atlanta, 12-13 November 2015.

Otaviano Canuto is the executive director at the Board of the International Monetary Fund (IMF) for Brazil, Cabo Verde, Dominican Republic, Ecuador, Guyana, Haiti, Nicaragua, Panama, Suriname, Timor Leste and Trinidad and Tobago. The views expressed here are his own and do not necessarily reflect those of the IMF or any of the governments he represents.

Dr. Canuto has previously served as vice president, executive director and senior adviser on BRICS economies at the World Bank, as well as vice president at the Inter-American Development Bank. He has also served at the Government of Brazil where he was state secretary for international affairs at the ministry of finance. He has also an extensive academic background, serving as professor of economics at the University of São Paulo and University of Campinas (UNICAMP) in Brazil.

 

 

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Brazil, China, Commodities, Corporate Finance, Economics, Emerging Markets, Emerging markets, Latin America, Long term finance, Small States, Uncategorized

2015 Retrospect – with links

2015 cover photo

Emerging Market Economies

After a exponential rise in foreign exchange reserves accumulation by emerging markets from 2000 onwards, the tide seems to have turned south since mid-2014. Changes in capital flows and commodity prices have been major factors behind the inflection, with the new direction expected to remain, given the context of the global economy going forward. Although it is too early to gauge whether the on-going relative unwinding of such reserves defenses will lead to vulnerability in specific emerging markets, the payoff from strengthening domestic policies has broadly increased.

China’s shadow banking system thrived in the years after the global financial crisis, until reined in by regulators since 2013. Nevertheless, new forms of shadow banking are emerging.

Industrialized and developing countries have differing fiscal strategies for dealing with the business cycle. But are countries’ strategies different according to whether they are industrialized? This column presents new evidence suggesting that the picture is complex. Procyclical fiscal policies remain the norm amongst most non-industrialized developing countries, but some key developing countries have recently moved toward a counter-cyclical stance as a result of strengthening institutions.

Labor migration and remittances may bring positive economic effects to developing countries. This is the case particularly in countries like those in Eastern Europe and Former Soviet Union members where remittances constitute high shares of foreign-currency revenues and GDP. There is nevertheless clear evidence of an untapped development potential associated with those flows of labor and remittances, especially because of a lack of appropriate institutions. We argue here in favor of a creation of a migration development bank as part of efforts to fill such a gap.

Since last year there has been much talk of possible financial stress stemming from increased debt leverage in non-financial corporates of emerging markets economies. A recent study has brought to light some key evidence on the Latin American case

I am among those economists who have argued that expansive fiscal policy has been missing as a lever to support recovery in advanced economies, especially in the Eurozone. At the same time, I have cast doubts on recent attempts of using it to prop up growth in some emerging markets. Instead of “double standards”, the asymmetrical stance of fiscal policies that I have been preconizing may rather be seen as standards appropriate according to different conditions in terms of economic slack and fiscal space.

Commodity Prices

The end of the upswing phase of the commodity price super-cycle, after its peak in 2011, has lowered economic growth prospects in most of Latin America. While that broad statement can hardly be disputed, Chapter 3 of the latest IMF Western Hemisphere Regional Economic Outlook calls attention to underlying significant differences among countries in the region. Growth implications of the commodity price evolution have varied substantially as a result of commodity-specific price patterns and country-specific exposures and composition of commodity specialization.

The oil price plunge since last June has been deemed, overall, as a boon for the global economy. However, that depends on where one stands as a producer or user, as illustrated here with the divergence of impacts on BRICS economies.

Brazil (esp. Foreign Trade)

Brazil is undergoing its most severe recession in decades, with GDP expected to contract more than 3 per cent this year. Policy adjustments and the fallout from the Petrobras corruption scandal have eroded confidence and resulted in a collapse of investment, while the deterioration of fiscal accounts in the last few years has cost the country its investment grade rating. Not surprisingly, the Brazilian real has depreciated dramatically over the past year, losing about half of its value against the US dollar. However, amid all the gloom, the depreciation of the real also provides a silver lining, as it is supporting the recovery of the trade balance and stimulating growth through increased net exports. Much of this positive effect has so far been overshadowed by weak commodity prices. However, when looking at quantities, an adjustment is clearly under way which should help Brazil restore its external balance.

Brazil’s macroeconomic management faces four major immediate challenges. The response to them will be strengthened if economic agents could have some indication of how the Brazilian economy will be steered back to a growth route.

International trade has undergone a radical transformation in the past decades as production processes have fragmented along cross-border value chains. The Brazilian economy has remained on the fringes of this production revolution, maintaining a very high density of local supply chains, the flipside of which has been low levels of trade integration with the rest of the world. Such option has meant opportunity costs in terms of foregone productivity gains and a reversal might contribute to restoring economic growth in that country.

Although Brazil has become one of the largest economies in the world, it remains among the most closed economies as measured by the share of exports and imports in gross domestic product. This feature cannot be explained simply by the size of Brazil’s economy. Rather, it is due to an economic structure reliant on domestic value chain integration as opposed to participation in global production networking. It also reflects more generally an export base that shows lack of dynamism. Opening up and moving toward integration into global value chains could produce efficiency gains and help Brazil address its productivity and competitiveness challenges.

Trade Negotiations

Even if gradually, the trade facilitation diplomatic architecture seems to be evolving toward one with a higher presence of signed-off deals. Independent efforts by individual countries to facilitate trade should therefore keep a close eye on standards being shaped in order to minimize adjustments when it (finally) comes the moment of cross-border harmonization.

This paper analyzes the impacts of selected trade facilitation measures on international trade flows. A gravity model is used to estimate four equations: a pooled cross-section model; a fixed-effects model; a random effects model; and a Poisson maximum likelihood estimator. The contribution of the paper is twofold. First, the analysis uses a recent data set, a panel that includes trade data from 2011 and 2012 for 72 countries. Second, to measure the impacts of trade facilitation measures, the analysis includes dummy variables for the presence of an authorized economic operator program, the existence of a single-window program in the countries in the sample, and the existence of a mutual recognition arrangement between pairs of countries in the sample. The results show that the presence of an authorized economic operator program and the existence of a single-window program will improve countries’ trade performance. By contrast, the existence of a mutual recognition arrangement will not necessarily improve countries’ trade performance. These results suggest that, in general, trade facilitation measures as a whole will help countries improve their trade performance.

The potential impact of mega-trade agreements goes beyond how they affect trade, since exposure to increased competition at home, the impact of such a deals on export destinations and in third markets can boost productivity growth and improve competitiveness. This applies not only to tradable sectors, but also to non-tradable activities in participating economies. Second, and relatedly, Brazil might well review its prevailing trade negotiation strategy where efforts have focused on the multilateral track. Bilateral trade agendas with both US and EU may become a way to mitigate the negative potential impacts of TTIP and TTP.

Country Analyses

Colombia has averaged 4.6 percent annual growth over the last ten years, and it is neck and neck with Peru for Latin America’s fastest growing major economy. Colombia’s emergence has not been hindered by economic mismanagement or democratic instability. In Colombia, the problem has always been the violence. If the government can make peace with the political side of FARC, it believes it can undercut the gangster side. And if Colombia can achieve what has been an elusive peace, only then can it really begin to flex its economic muscles.

Nicaragua is far more than just the newest and swankiest destination for world travelers.  It is -and mark our words – on its way to becoming the latest success story in the western hemisphere. Let us just tell you why.

The Petrocaribe membership have many good reasons to appreciate Venezuela’s cooperation and solidarity over the past decade since this initiative has provided much needed financial relief to nations facing tough macro and environmental challenges. The agreement may manage to survive as the Venezuelan economy cope with the severe impact of low oil prices and a distressing outlook. However, the risks of an interruption of the financing mechanism continue to mount up. Consequently, countries should intensify their efforts in favor of energy diversification and, more importantly, seizing the opportunity to reduce their own indebtedness with Venezuela.

While many Cubans welcome change, any transition faces daunting challenges. Can Cuba liberalize commerce without inviting the staggering inequality endemic to Latin America? And can the state relinquish total power without sacrificing high quality, free public services? The Cuban transition will not be easy, and it will not happen overnight. But it has an exponentially greater chance of success if the United States joins the large group of countries that already supports Cuba’s transition through constructive engagement rather than embargo.

All three major candidates—the market-driven Mauricio Macri, the opposition-Peronist Sergio Massa, and even the PJ’s Daniel Scioli—have fronted reform-minded campaigns. The feeling of light at the end of the tunnel has pushed the blue dollar back towards the official rate. Argentine bonds have actually rallied despite the country’s ongoing default. But is this faith well placed? To address Argentina’s economic malaise—and to fully close the door on the 2001 crisis—the next government would need to address subsidies, return the keys to the Central Bank, and come to a solution with respect to debt holdout creditors.

Small States

Small states, like the Caribbean countries, have been negatively affected by recent “de-risking” policies implemented by international banks, with particularly damaging consequences on correspondent banking relationships. While recommendations from the Financial Action Task Force (FATF) to deal with risks of money laundering and terrorism financing have often been mentioned to justify those de-risking practices, a wide variety of factors seems to have been at play. Urgent action to address the issue is needed to avoid unintended potentially devastating effects on the economies of those countries.

Small states are special, not always in favorable ways. The income status of most small states conceals their tall financing challenges. Financial specificities of small states have started to be recognized… but just started!

Gender Equality and Economic Growth

This paper studies the long-run impact of policies aimed at fostering gender equality on economic growth in Brazil. The first part provides a brief review of gender issues in the country. The second part presents a gender-based, three-period OLG model that accounts for women’s time allocation between market work, child rearing, human capital accumulation, and home production. Bargaining between spouses depends on relative human capital stocks, and thus indirectly on access to infrastructure. The model is calibrated and various experiments are conducted, including investment in infrastructure, a reduction in gender bias in the market place, and a composite pro-growth, pro-gender reform program. The analysis showed that fostering gender equality, which may partly depend on the externalities that infrastructure creates in terms of women’s time allocation and bargaining power, may have a substantial impact on long-run growth in Brazil.

Otaviano Canuto is the executive director at the Board of the International Monetary Fund (IMF) for Brazil, Cabo Verde, Dominican Republic, Ecuador, Guyana, Haiti, Nicaragua, Panama, Suriname, Timor-Leste and Trinidad and Tobago. Views expressed in those articles are his own and do not necessarily reflect those of the IMF or any of the governments he represents.

 

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Brazil, Corporate Finance, Emerging Markets, Emerging markets, Latin America, Long term finance

Latin American Corporate Finance: Is There a Dark Corner?

 

Since last year there has been much talk of possible financial stress stemming from increased debt leverage in non-financial corporates of emerging markets economies. A recent study has brought to light some key evidence on the Latin American case (Bastos et al, 2015).

Read here:

http://www.huffingtonpost.com/otaviano-canuto/latin-american-corporate_b_6627016.html

or here:

http://www.economonitor.com/blog/2015/02/latin-american-corporate-finance-is-there-a-dark-corner/

Best regards

OC

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