Download Regional Impact of the Global Economic Crisis

Launch
Forum:
Regional Impact
of the Global
Economic Crisis
Yerevan, 8 July 2009
Development and
Transition newsletter


Published three times annually by
UNDP, London School of
Economics
Distributed to:
– All UNDP staff in Europe, Central
Asia region
– 3000-plus external subscribers

Goals:
– Provide UNDP, independent
views on development, transition
issues in the region
– Disseminate lessons of successful
UNDP projects

Current issue: Regional impact of
global economic crisis
Presentation goals

Focus on some key economic policy issues
that are:
– Explored in the newsletter
– Not covered by the other presentations
– Relevant for Armenia

These are:
– Lessons from the Baltic economies’ collapse
(Rainer Kattel)
– Eurozone expansion? (Anders Åslund)
– Banking nationalisation (Anja Shortland)
“Baltic conundrum”—The
Baltic states:


Did “a lot of things right” . . .
. . . But still became region’s worst crisis
victims (along with Ukraine)
– Large declines in GDP, incomes, employment
– Much development progress lost
– No end to the crisis in sight


Realistically, it’s not clear that Baltic policy
makers could/should have done something
different—even ex post
Conclusion: “Black swans” can be deadly
“Baltic model”: Some
similarities with Armenia

Macro characteristics:
– Relatively small state sectors

Small role of state redistribution
– Privatisation to foreign investors (including banks)
– Currency-board/hard-peg exchange rates

Micro characteristics—Liberal approach to:
– Tax systems (flat tax pioneers)
– Labour market regulation
– Social protection systems

Structural characteristics—Very small, open,
transition economies:
– Small domestic savings pools—FDI needed
– Weak diversification prospects
Structural comparison
(2008 data)
Population
4
Opennness
3
2
1
0
In
mlns
Estonia
Lithuania
Latvia
Armenia
140%
120%
100%
80%
60%
40%
20%
0%
(X+M)
GDP
Pre-crisis performance:
Good on GDP growth . . .
5.7%
6%
3%
2.2%
1.3%
2.4%
0.7%
0%
EU
NMS
Average annual GDP growth 2005-2008
0%
Latvia
Lithuania
Estonia
% points above NMS average
. . . And employment
1.9%
2%
2%
1.4%
1.5%
0.8%
0.5%
0%
EU
NMS
0%
Average annual employment growth 2005-2007
Latvia
Estonia
Lithuania
% point difference from NMS average
Reforms did not hurt state
finances . . .
50%
47%
Spending
Balance
41%
36%
40%
35%
34%
30%
20%
10%
1.8%
0%
-2.2%
-1.9%
-0.9%
-1.1%
-10%
EU
NMS
Latvia
Estonia
Lithuania
General government budget (% of GDP), annual averages for 2002-2007 period. Eurostat data.
. . . Or produce large
public debts
60%
59%
31%
17%
10%
4%
0%
EU
NMS
Lithuania
Latvia
General government debt, % of GDP, 2007. Eurostat data.
Estonia
Crisis hits Baltics
first (in 2008) . . .
15%
2007
2009
7.9%
8.1%
5.6%
10.0%
6.3%
8.0%
13.8%
2008
3.0%
6.8%
4.7%
2.1%
1.1%
0%
-4.6%
-3.6%
-8.0%
-10.0%
-15%
-12.0%
Latvia
Estonia
-5.1%
-6.0%
-5.0%
-10.0%
Lithuania
Ukraine
Russia
Turkey
Source: IMF World Economic Outlook, April 2009
Armenia
. . . And deepens
in 2009:Q1
0%
-6% -6%
-7% -6%
-10%
-5%
-2.5%
-4.5%
-9%
-12%
-15%-14%
-20%
-25%
-19%
UKR LAT EST TUR LIT RUS SLO MOL ARM GEO SVK HUN EU
Change relative to 2008:Q1. Sources: Eurostat, CIS Statistical
Committee, national statistical offices, JPMorgan, press reports.
US
Unemployment: Baltics hit
hard here, too
400
Numbers of unemployed
(LFS data), June 2008 = 100
Lithuania
300
Estonia
Latvia
EU-12*
Cyprus
200
EU-27
* Romania
not included
m
04
20
09
m
02
20
09
m
12
20
08
m
10
20
08
m
08
08
20
20
08
m
06
100
Source: Eurostat
Cause: Rapid growth in
private sector foreign debt
140%
Estonia
Latvia
Lithuania
126%
98%
104%
114%
112%
119%
77% 78%
62%
59%
45%
30%
0%
2005
2006
2007
2008
Ratio of gross foreign debt to GDP. EIU data, UNDP calculations.
Large current account deficits
financed by parent banks

Baltic banks:
– Privatised in 1990s to
Scandinavian banks
– Benefitted from parents’:



Financing of rapid credit
growth
Corporate governance
Credit growth aided by:
– Fixed exchange rates
– EU accession (“free
movement of capital”)
Did competitiveness suffer?
Effective unit labour cost trends
100%
98%
87%
Nominal depreciation since mid-2008
boosts competitiveness
68%
67%
59%
48%
0%
Latvia
Poland
Czech
Estonia
EU-10
Lithuania
Changes in annual average effective unit labour costs, 2004-2008.
Sources: Eurostat, Oxford Analytica; UNDP calculations.
“Baltic conundrum”—Currency
boards, EU membership:
Preclude use of discretionary
monetary, exchange rate policies
 Leave financial system open to “hot
money”
 May cause competitiveness problems
 Place entire burden of macro
adjustment on fiscal policy . . .

– . . . But discretion here limited by the EU’s
Stability and Growth Pact . . .
– . . . And fiscal space is in any case limited
Causes of “Baltic
conundrum”

Small, open economies + European
integration 
– Extensive Euroisation
– Balance sheet mismatches


Small savings pools + large modernisation
needs (e.g., for competitiveness on single
market)  large capital inflows
Baltic states could raise capital on markets
very easily until 2008
– Cheaper than borrowing from IFIs
– Access to post-accession EU funds further
reduced cost of capital
What could have
been done?

Capital controls?
– Not compatible with EU membership

Tighter fiscal policies?
– Baltic fiscal policies already tightest in EU
– High economic costs in terms of foregone output,
employment, poverty reduction
– High political costs

Unilateral Euro adoption?
– This would help with balance sheets . . .
– . . . But it would not:


create more fiscal space
be permitted by European Central Bank
What should
be done now?

Things that must be done by EC, ECB:
– Euro adoption

Åslund: ECB should have a change of heart (and not
only for the Baltics . . . )
– Expansion of fiscal transfers to reduce intra-EU
productivity disparities


Towards a “federal European economy”
Things that could be done nationally:
– “Vienna process” to prevent spread of financial
contagion from subsidiary to parent banks
– Further reforms of labour market, social policy, to
reduce nominal wages (rather than employment)
Implications for Armenia

Structural similarities:
– Small, open, transition economies
– Current account deficits
– Private banking system

Key differences—Armenia:
– Banks, formal economy not as dollarised
– Forex-denominated private sector foreign
debt is small
– Result: Armenia can devalue without
ruinous balance sheet effects
Bank nationalisation
(Shortland)

Many private banks have been bailed out, or
nationalised, during the crisis
– Both in developed countries and emerging markets
– Counter-argument to “Washington consensus”




“Socialism for the rich”
Large emerging market data set shows state-owned
bank performance is not inferior to private banks’
Reason: In emerging markets, it may be harder for
the state to regulate private banks than it is to own,
manage them directly
Conclusion: “It’s OK to nationalise your banks”
Is Sberbank the answer? Baltic,
Armenian experience suggests not
Armenia: Effective regulation of private banks is possible—
even during crisis


Baltics:
– “Vienna process”
reduces capital flight
– Only one major bank
nationalisation (Parex
Bank, Latvia)

Other countries:
– Nationalisation: Better
than bailouts (moral
hazard)?
– Post-crisis prospects
for privatisation?
Launch
Forum:
Regional Impact
of the Global
Economic Crisis
Yerevan, 8 July 2009