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IN SEARCH OF A BETTER WORLD Stabilization Policies in Developing Countries Javier Santiso Chief Development Economist & Deputy Director OECD Development Centre Ministry of Economy & Finance Madrid February 2-3 2006 1 1 Catching up versus falling down 2 The quest for efficient stabilization (a) Macroeconomic anchoring (b) Stabilization funds: the lost paradise? (c) Remittances: a new holy grail? 3 Conclusions 2 Growth performance in developing countries has been disappointing and highly volatile Growth volatility rates in the past 25 years Latin America 2.3% South-East Asia 2.2% USA 2.1% European Union 1.1% World 1.0% Source: The World Bank (2006) 3 In Latin America, macroeconomic volatility has been a major issue… 9 8 Standard Deviation of Real GDP Growth** 7.9 standard deviation 7 6 5.3 4.7 5 4.1 4 3.4 3 3 2.2 2 1 0 MENA SubSaharan Africa LAC Other EastAsia & Pacific South Asia East Asian miracle Industrial countries Source: Hausmann/Reisen (1996) ** 1970-1992 4 …and still remains a serious concern… 0.08 Currernt Account Volatility (standard deviation as ratio of GDP*) standard deviation/GDP 0.07 0.06 0.05 0.04 0.03 0.02 0.01 0.00 a el u ez n Ve m lo o C a bi ile h C M o cc o or yp g E t o M a ic ex ta s Co c Ri in nt e g Ar a n ai p S i az r B l S. U. Source: LACEA (2005) * periods between 1970 and 2000 5 …although the situation has improved over past years Cyclical Volatility Estimates (standard deviations in %) Cyclical Volatility Foreign Output Domestic Output Fixed Investment 1870-1929 3.46 6.49 107.8 1930-1970 7.08 4.56 67.96 1971-2004 2.97 5.01 16.39 1870-1929 3.46 4.84 37.16 1930-1970 7.08 3.25 29.56 1971-2004 2.97 2.94 15.82 1870-1929 3.46 6.25 76.05 1930-1970 7.08 7.69 64.6 1971-2004 2.97 5.35 16.1 1870-1929 3.46 7.29 79 1930-1970 7.08 2.9 102.36 1971-2004 2.97 3.3 14.93 Argentina Brazil Chile Mexico Source: IMF (2005) 6 As a consequence per capita income gap has increased 40,000 GDP per capita (constant 2000 US$) USA 35,000 30,000 High Income Countries 25,000 20,000 15,000 10,000 5,000 LAC Lower & Middle Income 0 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004 Source: Based World Development Indicators (2005) 7 GDP per capita growth minus world per capita growth (% annualized) While Latin American countries experienced a decline… 1970 3 1990 Mexico Chile Brazil 2 1 1950 1990 1960 1990 0 1970 1950 1960 2000/06 1960 -1 1980 1970 1950 -2 2000/06 2000/06 1980 -3 1980 -4 -30 -10 10 30 50 70 90 deviation (%) of GDP per capita with respect to world average ($ 1990) Annual growth (%) calculated as the average annual growth rate for the last six decades; Deviation (%) in the beginning of each decade Source: based on Groningen Growth and Development Centre and The Conference Board, Total Economy Database, 2005 8 GDP per capita growth minus world per capita growth (% annualized) While Latin American countries experienced a decline… 1990 2 Venezuela Colombia 1970 1 1950 1990 0 1990 1950 1960 1980 -1 -2 Argentina 1960 1970 1950 1960 1970 2000/06 2000/06 -3 -4 -5 1980 2000/06 1980 -6 -50 0 50 100 150 200 250 300 deviation (%) of GDP per capita with respect to world average ($ 1990) Annual growth (%) calculated as the average annual growth rate for the last six decades; Deviation (%) in the beginning of each decade Source: based on Groningen Growth and Development Centre and The Conference Board, Total Economy Database, 2005 9 GDP per capita growth minus world per capita growth (% annualized) …the Asian countries experienced an historical jump 5,5 1990 4,5 3,5 2000/06 1980 1950 2,5 1980 2000/06 1,5 1970 0,5 1980 -0,5 1950 -1,5 1970 China India -55 -45 1960 1960 -2,5 -85 -75 -65 deviation (%) of GDP per capita with respect to world average ($ 1990) Annual growth (%) calculated as the average annual growth rate for the last six decades; Deviation (%) in the beginning of each decade Source: based on Groningen Growth and Development Centre and The Conference Board, Total Economy Database, 2005 10 1 Catching up versus falling down 2 The quest for efficient stabilization (a) Macroeconomic anchoring (b) Stabilization funds: the lost paradise? (c) Remittances: a new holy grail? 3 Conclusions 11 Stabilization through fiscal mechanisms is difficult… M ex ic o* Ec ua do r Pa ra gu ay El Sa lv ad or Pe ru Pa na m a ep ub lic D om in ic an R ia * Bo l iv ol om bi a C hi le C Ta x R ev en ue LA C (a vg .) as on du r H ic a* R os ta C Ar ge nt in a 40 35 30 25 20 15 10 5 0 Br az il percent Tax Revenue as GDP percentages (2004) simple averages; including social security * without taxes on hydrocarbons Source: Lora (2006) 12 …so is stabilization through reserves… 818.9 Reserves in bn US$ 300 250 200 150 100 50 0 China South Korea India Singapore Malaysia Thailand Poland Czech Republic Saudi Arabia Venezuela South Africa Chile Colombia Pakistan Reserves in % GDP 120% 100% 80% 60% 40% 20% In di a pp in es C hi le H un ga ry Ar ge nt in a Po la nd Tu rk ey C ol om b In do ia ne Sa si ud a iA ra bi a M ex ic o Br az il Pa So k is ta ut n h Af ric a Ph i li Pe ru Si ng ap or H e on g K on Ta g iw an M al ay si a C So hi na ut h Ko re Th a ai la nd R us si a C ze Eg ch yp t R ep ub li c Is ra Ve ne el zu el a 0% Source: Economist Intelligence Unit (2006) and World Bank (GDP 2004) 13 Developing countries following this strategy face social costs and economic arbitrage According to Guidotti-Greenspan rule, liquid reserves should equal a country’s foreign liabilities. This strategy implies costs arising from spread between private sector’s cost of short-term borrowing abroad and the yield Central Banks earn on liquid foreign assets. According to Rodrik (2005), social costs of holding reserves can amount to 1% of developing countries’ GDP (assuming spread of 5%). This amount is roughly the same as the projected gains for developing nations from successful conclusion of the Doha negotiations. “Insurance premium” to stabilise a country through reserves may therefore outweigh expected benefits. Contrary to what has happened, strategy should be to increase reserves AND simultaneously reduce short-term liabilities. 14 Stabilization through financial market access in local currencies is for a lucky few… Date Issued Maturity Amount issued (mill. US$) Argentina Dec-96 Dec-98 250 Argentina Feb-97 Feb-07 500 Argentina Jun-97 Jul-49 500 Argentina Jul-97 Jul-49 500 Argentina Jun-01 Sep-08 931 Uruguay Oct-03 Oct-06 290 Uruguay Aug-04 Feb-06 250 Colombia Feb-05 Oct-15 325 Brazil Sep-05 Jan-16 1479 Colombia Nov-05 Mar-10 500 Country Source: BIS (2005) 15 1 Catching up versus falling down 2 The quest for efficient stabilization (a) Macroeconomic anchoring (b) Stabilization funds: the lost paradise? (c) Remittances: a new holy grail? 3 Conclusions 16 Latin American growth is linked to the performance of primary products… Export of commodities/ GDP and BBVA-MAP Latam Total exports 6% 2004 Venezuela 83% Peru 71% 30% GDP growth rate 5% 20% 4% 10% 3% Chile 60% Colombia 46% 2% BBVA-MAP growth rate Source: BBVA based on national statistics 2004 2003 2002 2001 2000 -30% 1999 31% 1998 Latam Correlation = 0,65 1997 -1% 1996 14% 1995 Mexico -20% 1994 30% 1993 Brazil 0% 1992 38% -10% 1% 1991 Argentina 0% Source: BBVA; BBVA-MAP Latam index monitors the trading prices of commodities in the region 17 Source: CAF (2004) Coffee Gas (USA) Oil Copper Aluminium Tin Zinc Silver Bananas Soy Shrimp Gold Sugar Production Goods (USA) Consumer Goods (USA) Capital Goods (USA) Estimated deviation of the annual change rate …where price volatility is particularly high 45% 40% 35% 30% 25% 20% 15% 10% 5% 18 Changes in commodity prices have a large impact on the public budget… Impact of higher oil prices for net oil exporters in 2006 14 12 Impact of US$ 1 change in fiscal accounts % of GDP 10 Estimated fiscal windfall* relative to budget assumption of 2006 8 6 4 2 0 Venezuela Russia Ecuador Colombia Mexico Source: Based on J.P. Morgan (2005) * using average WTI forecast of crude oil price of US$ 56.25 19 …but countries have varying success in using this revenue for macroeconomic stabilization 5 Colombia, Mexico, Russia (4.5) 4 3 2 1 Algeria (3.5) Nigeria (2.5) Chad, Ecuador, Venezuela (1) 0 Source: Own estimates and J.P. Morgan (2006) Scale runs from 0 (bad) to 5 (very good) Oil revenues are captured in stabilization funds while money is spent on debt repayment, investment projects, or stabilization programmes Oil revenues above budget assumption are channelled into stabilization fund while some portion is used to finance larger public budget Newly set-up stabilization fund has so far financed deficits rather than being used to build up savings Stabilization funds are either not utilised (Venezuela) or financial resources are used to support the budget rather than to repay debt Chad has defied The World Bank by changing in 2006 its laws on managing petroleum revenues, to gain more freedom on spending it. 20 …success stories are rare IN THEORY IN PRACTICE: When commodity prices are high revenues are set aside When prices soar, funds are dropped (Zambia in 1970s with mineral fund) When prices go down, funds are used to cushion the blow When they go up or down, the orgy of domestic spending continues (Venezuela after 1974) Commodity shocks have the same impacts Institutions are key stabilisers (Lynn, 1997) 21 The paradox of plenty COMMODITY BONANZAS… AND THEIR CONSEQUENCES: Sudden inflow of dollardenominated revenues Sharp appreciations and loss of competitiveness Rent-seeking behaviour in weak institutional contexts Wasteful government spending and cronyism Military spending and conflict propensity Civil war in an African country varies from less than 1% to nearly 25% depending on resources (Collier, 2002) 22 Beyond economics: resource rents countries show lower democracy scores Period Sample High Natural Rents Countries 1970 3.29 (4.16) 0.96 (2.56) 1974 3.08 (4.22) 0.89 (2.56) 1978 3.18 (4.28) 1.32 (3.09) 1982 3.43 (4.29) 1.76 (3.41) 1986 3.72 (4.35) 1.28 (3.08) 1990 4.52 (4.27) 1.89 (3.49) 1994 5.29 (3.96) 2.00 (3.48) 1998 5.26 (3.98) 1.92 (3.43) 1970-1998 4.03 (4.26) 1.46 (3.11) Source: Based on Collier and Hoeffler (2005) Range: 0 (low) to 10 (high) 23 One way of fostering growth is through cluster approaches… Average growth rate of certain regional clusters (1998) Flowers, Colombia Coffee, Colombia Oil, Venezuela Fruits, Colombia Asparagus, Peru Bananas, Ecuador Soy , Bolivia Shrimp, Ecuador Iron, Venezuela Fish Flour, Peru Wood , Bolivia Minerals, Peru Flowers, Ecuador Minerals , Bolivia Oil, Ecuador Aluminum, Venezuela Gas, Bolivia 0.0 1.0 2.0 3.0 0.0 Source: CAF (2004) 24 …but success has so far been limited Development Level of natural resource clusters in the Andean region (0=low, 10=high) Country Bolivia Cluster Exploitation and Export, minimum processing Processing and export, import substitutions and public goods delivery Export of some of the goods and services that are substituted Export of processed refined products, inputs, machines and services associated to the cluster. The firms of the country associated to the cluster start to invest abroad Gas Wood Minerals Soy 10 10 10 10 0 7 4 8 0 2 4 4 0 2 0 2 Coffee Flowers Fruits 10 10 10 8 10 10 8 10 8 4 5 1 Bananas Shrimp Flowers Oil 10 10 10 6 10 9 5 3 2 2 2 2 2 2 2 2 Asparagus Fish Flower Minerals 10 10 10 9 5 2 1 3 1 8 2 7 Aluminum Iron Oil 10 10 10 0 5 8 0 4 5 0 1 5 Colombia Ecuador Peru Venezuela Source: Osmel Manzano, 2006 25 1 Catching up versus falling down 2 The quest for efficient stabilization (a) Macroeconomic anchoring (b) Stabilization funds: the lost paradise? (c) Remittances: a new holy grail? 3 Conclusions 26 Remittances have grown stronger than official flows and FDI… 180 160 140 120 Remittances 100 Official flows 80 FDI 60 40 in absolute terms… 20 0 Year 1976 1978 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 3.5 …and as a percentage of GDP 3 2.5 2 Remittances Official flows 1.5 FDI 1 0.5 0 1975 1977 1979 1981 1983 1985 1987 1989 1991 1993 1995 1997 1999 2001 2003 Source: Guiliano and Ruiz-Arranz, IMF (2005) 27 …largely outweighing the inflow of capital through development assistance 180 in bn of US$ 160 200.0% 175.9% Percentage change between 1995 and 2004 140 bn US$ 120 150.0% 100 1995 80 100.0% 2004 60 55.1% 50.0% 40 33.9% 20 -20.0% 0.0% 0 Workers remittances Foreign direct investment Official development Private debt and assistance portfolio equity Workers remittances Foreign direct investment Official development assistance Private debt and portfolio equity -50.0% Source: Based on OECD and World Bank (2006) 28 Remittances flows are particularly strong towards low-income countries… Billions of Dollars Nigeria Share of GDP 2.8 10 Yemen, Rep. United States 3 Kiribati Colombia 3.2 Vietnam 3.2 Portugal 3.2 Egypt, Arab Rep. 3.3 Bangladesh 3.4 Brazil 3.6 Pakistan 3.9 Serbia 4.1 Morocco 4.2 6.4 Germany 6.5 Belgium 6.8 Spain 6.9 Albania 11.7 Nicaragua 11.9 Tajikistan 12.1 Samoa 12.4 Lebanon 12.4 Dominican Rep. 13.2 Philippines 13.5 15.5 16.2 EI Salvador Serbia and Montenegro 17.2 Jamaica 17.4 20.4 Jordan Philippines 11.6 France Bosnia and Herzegovina 12.7 18.1 China India 25.8 Moldova 21.7 15 24.8 Lesotho 21.3 10 22.5 Haiti Mexico 5 11.7 Honduras United Kingdom 0 11.3 Nepal 20 27.1 Tonga 25 31.1 0 5 10 15 20 25 30 35 Source: Based on OECD and The World Bank (2006) 29 …having a large impact on a country’s indebtedness classification 800 Indebtedness classification including and excluding remittances 732 700 debt in % of exports 600 excluding remittances including remittances 500 400 355 300 257 208 200 145 178 114 116 100 124 82 0 Lebanon Ecuador Morocco El Salvador Guatemala Source: Based on The World Bank (2005); data: 2003 30 Although remittances seem to have a procyclical effect in 2/3 of developing countries… Yemen, Rep. of Albania Russia Estonia Dominican Republic Papua New Guinea Thailand Nepal Turkey Maldives Country Correlations between the Cyclical Components of Remittances and GDP (1975-2002) Morocco Cote d Ivoire Kenya Togo Mali Oman Vanuatu Dominica Eritrea Indonesia Honduras Brazil Nigeria Pakistan Argentina Ethiopia Benin Poland Slovak Republic Lebanon -1 -0.8 -0.6 -0.4 Source: Giuliano/Arranz (2005) -0.2 0 0.2 0.4 0.6 0.8 1 31 …there is also evidence that remittance flows can act counter-cyclicaly Remittances as a percentage of private consumption, two years before and two years after natural disaster 18 15.5 16 14 percent 12 10.4 10 7.9 11.3 10.8 11.3 9.6 8.9 8.4 8 6 4 7.7 5.7 5.1 4.4 4.7 3.8 4.2 8.4 5.2 5.5 5.6 2 0 Bangladesh Dominican Republic Haiti Honduras Remittances as a share of personal consumption, two years before and two years after political conflict Remittances as a share of personal consumption, two years before and two years after financial crisis 18 16.9 17.0 16.9 2.5 2.0 16 2.1 2 2.0 1.9 1.7 1.5 1.4 1.5 1.2 1.1 2.0 14 1.8 12.7 12.3 12 10 1.0 1.1 8 1 6 0.5 0.5 4 0.5 2.9 2 0.7 3.2 1.0 0.8 0 0 Mexico Indonesia Thailand Source: Based on The World Bank (2006) Note: in a 5 year interval, red denotes year of external shock Albania Sierra Leone 32 Remittances flows could even grow further through adequate policy measures Estimated increase in formal remittances through transactions cost reduction 140 122 120 99 percent 100 73 80 60 55 54 South Asia All developing countries 40 20 0 Sub-Saharan Africa Latin America and the Caribbean Eastern Europe and Central Asia Source: The World Bank (2006) * assuming reduction of transactions cost to 2-5% and elimination of dual exchange rates 33 The central issue for developing countries: Transaction costs but not in all countries Remittances costs in Mexico Remittances costs in Latin America * (%, for 200 USD) (%, 200 USD) 10.6 * From USA; 2004 Source: PEW Hispanic Center 34 Average Ecuador Peru El Salvador Colombia 7.9 7.3 7.3 7.3 6.9 6.4 5.8 5.6 5.4 Nicaragua Bolivia Venezuela 2004 Haiti 7.3 Jamaica 7.4 Cuba Rep. Dominicana Source: Pew Hispanic Center 2002 2001 2000 8.1 2003 9.2 Guatemala 8.9 8.6 8.2 Honduras 11.3 México 12.1 13.0 The central issue for developing countries: How to capitalize remittances’ bonanza? Uses of remittances in Mexico in 2004 % of total 78.0 7.0 5.0 Consummer Education Savings Goods 4.0 Others 1.0 1.0 Investment Households Source: Fomin y Pew Hispanic Center 35 The central issue for developing countries: How to capitalize remittances’ bonanza? More remittances channeled through formal financial systems in order to increase the potential tax base of the recipient country. More competition, combined with appropriate legislations and institutions, in order to reduce transaction costs: -60% between USA and Mexico since 2000. More interconnected banking systems between OECD and non OECD countries in order to facilitate the access to credit in low income countries. Trans-national systems of guarantees in order to facilitate the access to credit for durable goods. Banking accounts in hard currencies in recipient countries in order to transfer the exchange rate risk, and highly remunerate in order to incentive savings and capital accumulation in low income countries. Banking accounts in sending countries highly remunerated (spread with the market covered by the State as ODA?), if the previous option is not technically feasible (second best option). 36 1 Catching up versus falling down 2 The quest for efficient stabilization (a) Macroeconomic anchoring (b) Stabilization funds: the lost paradise? (c) Remittances: a new holy grail? 3 Conclusions 37 GDP per capita growth minus world per capita growth (% annualized) European countries experienced an impressive catching up process … 4,5 1960 Spain 3,5 Italy 1950 1960 2,5 Portugal 1960 1970 1,5 1970 1990 1990 1970 1950 0,5 1990 1950 1980 -0,5 1980 1980 2000/06 -1,5 2000/06 -2,5 2000/06 -3,5 0 50 100 150 200 250 deviation (%) of GDP per capita with respect to world average ($ 1990) Annual growth (%) calculated as the average annual growth rate for the last six decades; Deviation (%) in the beginning of each decade Source: based on Groningen Growth and Development Centre and The Conference Board, Total Economy Database, 2005 38 … which invite to focus on some of the key drivers of their success stories European anchoring and sound macro-economic policies have been major drivers of the impressive Spanish catching up. Interestingly Spain has been a major recipient of remittances: Spanish emigrants had a positive impact in the development of Spanish financial sector. What could be the lessons of the Made in Spain for developing countries? Highly remunerated banking accounts in hard currencies for recipient countries? A Policy Dialogue activity in order to share experiences between bankers and policy makers. Spain is a major sending country of remittances (3,4 billons of Euros in 2004 according to the Banco de España), most of them towards 3 countries (Ecuador, Colombia and Morocco) and at the same time Spanish private institutions are major financial operators in Latin America. A window of opportunity for innovative development finance based on public private partnerships and co-development finance? 39 Thank you for your attention! 40