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Second Round Effects of the Global Financial Crisis; Coping Mechanisms for the Business Community & Exploiting the Opportunities By Emmanuel Mutahunga Presentation to an ACTADE Dialogue on ‘The Causes & Effects of the Fuel Crisis on the Business Community in Uganda’ 6th June 2011 The Global Financial Crisis; what is all about The genesis of the crisis can be traced to the availability of 2 cheaper credit in the world financial system since 2000 The situation encouraged banks to undertake riskier projects; riskier because their true risks were not analyzed or appropriately priced Specifically, mortgage lending to borrowers who in ordinary circumstances would not have been eligible for these facilities pushed up housing prices While housing prices were on the rise, institutions could easily realize the underlying security Institutions that originated the mortgages would securitize them i.e. issue mortgage backed securities that other institutions would then invest in 5/23/2017 The Global Financial Crisis; what is all about The housing bubble burst; house prices declined in the United States and it became harder to realize mortgage securities Financial institutions that invested in mortgage backed securities found themselves holding “worthless assets” The crisis escalated against a backdrop of lack of trust between institutions as the exposures to these assets amongst the various institutions could not be ascertained 3 5/23/2017 The Global Financial Crisis; what is all about This resulted in a credit and liquidity crunch as well as loss of customer confidence The effects have spread to consumers who are uncertain about the future and firms which cannot access credit At the household level, the households that acquired these mortgages have found themselves in negative net worth The crisis: The financial crisis led to a liquidity/ confidence crisis which led to an economic crisis hence economic recession 4 5/23/2017 The Global Financial Crisis; what is all about Uganda was insulated from the first-round effects of the financial crisis because of the underdeveloped nature of its financial market integrated with international markets However, Uganda was vulnerable to the second-round effects, with main channels being through the balance of payments The main transmission channels of the crisis have included trade, private capital flows, private transfers and aid 5 5/23/2017 Manifestation of the Impact of the Crisis Two rounds of shocks First Round Effects – Financial in nature Exchange rate depreciation Rundown on international foreign exchange reserves Short-term capital outflows Sell off at the Stock Market Second Round Effects – economic in nature Slow international demand of commodity exports – our major 6 exports Slow down in FDI and ODA inflows Decline in tourism De-globalization Risk averse credit market 5/23/2017 First Round Effects Exchange rate fluctuations: Pressure on currencies as a result of the global financial crisis as foreign investors “fled to safety” while consolidating their finances to meet their obligations abroad The US dollar perceived by investors as a safe haven; during tough economic times, investors often flee foreign currencies and other risky assets for safe havens like the US dollar. The increased demand for the US dollar drives its price up relative to other currencies – ultimately impacts on domestic prices in cases of imported items In Uganda, the market-determined exchange rate acted as an automatic stabilizer during this crisis 7 5/23/2017 First Round Effects Official Foreign reserves have gone down, however banking sector forex reserves seems to be holding Official forex reserves seem to have mainly gone down {Reserves – months of imports of goods and services – 7.1 in 2004, 6.6 in 2007, 5.1 in 2008, 6.3 in 2009, 5.6 in 2010, estimated at 5.0 in 2011 and 5.4 in 2012 – Source – Regional Economic Outlook – Sub-Saharan Africa, IMF 2011 Overall impact of First Round Effects No significant impact - though relative price movements expected No general panic in East African markets 8 5/23/2017 Second Round Effects The recession in North America and Europe triggered by the credit crunch may reduce demand for Ugandan exports (total exports to Europe – US$ 442,466,000; 14.1% of total national exports in 2009) This however depends on where the markets for Ugandan exports are and the price and income responsiveness of the goods being exported Exports to the region (COMESA) projected to remain on an upward trend – growing from 1,244,532,000 in 2007 to 2,210,354,000 in 2009 Exports to the Middle East and Asia have suffered considerable effects – {declining from US$190,847,000 in 2007 to US$96,384,000 in 2009 for Middle East, but rising from US$71,937,000 in 2007 to US$102,586,000 in 2009 for Asia 9 5/23/2017 Second Round Effects Donor Flows These seem to be declining; we need to ponder over; What is the effect of reduced Aid flows on (i) private consumption (ii) Government expenditure (iii) public investment? IMF Regional Economic Outlook for SSA – ODA as a %age of GDP - 8% in 2005, 4.6% in 2006, 3% 2008, 2.5% in 2009 and 2010, projected at 2.4% in 2012 FDI Where are the sources of FDI? Regional or OECD region? Will the region benefit from Chinese FDI ? China a key source, but so is Europe – which has been hard-hit by the crisis 10 5/23/2017 Second Round Effects Risk averseness during uncertainty Some banks are restricting lending during the slowdown – recent events regarding interest rates Some firms, and a number of donor-funded NGOs have laid off workers Remittances; they are pro-cyclical with domestic events The rising US dollar has increased the purchasing power of remittances, allowing migrant workers to send less money home with similar impact 11 5/23/2017 Impact of the Crisis on Uganda “The global financial crisis affected Uganda’s economy through reduced capital inflows, including remittances, portfolio investment, exports and foreign aid, as well as through capital outflows that include repatriation of profits by foreign investors and withdrawal of portfolio investments. Almost all these categories of capital flows decreased and manifested themselves in a depreciation of the local currency” - Ssewanyana & Bategeka, (2010), Global Financial Crisis Discussion Series, Paper 21, EPRC. 12 5/23/2017 Risks and Opportunities Risks Reduced foreign aid Reduced FDI Reduced Export earnings Trade Restriction (de-globalization) Economic slowdown Opportunities Economic potential of the Region will continue to attract FDI Uganda, and indeed the EAC, as an investment destination (from regions less hit by the crisis) 13 5/23/2017 Coping Mechanisms Maintain high spending in the productive sectors, especially infrastructure development and increasing energy supply Deliberate interventions to reduce the cost of doing business be maintained and intensified where necessary; some need to be fast-tracked Focus on the regional markets, as well as those markets least affected by the crisis 14 5/23/2017 Coping Mechanisms Diversify away from dependence on export of primary commodities – a business led initiative, but with Government playing a primary facilitating role Redefine the role of the State in economic transformation and development – UNECA/AU Economic Report on Africa 2011 clearly articulates this 15 5/23/2017 Conclusion Crisis been around, and its effects are still being felt Not the first economic crisis in the world economy Important aspect is how to address its effects; readjustment in approach to economic policy making and implementation is essential Not everybody is a loser out of the crisis 16 5/23/2017 The end Thank you 17 5/23/2017