Emerging Economies and Financial Markets

R.KannanHinduja Group

11th September 2014Global Economic Summit 2014

Mumbai

Flow of the Presentation

• Trends• Transmission Channels and Management• Spill over Effects• Financial Instruments • Strategies and Policies in Challenging Times

Trends

August 2014 flows

• EMs received a mere $9 billion in August, after an average of $38 billion per month in May-July.

• Portfolio debt inflows were particularly affected, grinding to a halt in August.

• a reversal in portfolio flows to EM Europe (-$7.3 bn) and Africa (-$1.5 bn), and a slowdown in flows to Asia ($9.7 bn) and Latin America ($8.3 bn).

Sharp slowdown in August primarily reflected a reversal of portfolio flows to Emerging Europe and Africa, as well as a decline in flows to EM Asia and Latin America.

Portfolio Inflows to Emerging Markets Slow Sharply in August

Trends• There is a greater global integration today of financial markets. • The Monetary action taken by Advanced countries especially US has a

great bearing on financial flows to emerging markets.• After the crisis there is positive correlation in yield in AMs and EMs.• Similar trend was observed in Asset prices• Unconventional Monetary policies benefitted the EM’s more than the

home countries.• Even signals on likely action from AM’s have a great bearing on Financial

markets in EMs.• Responses around UMP announcements are outsized and not in relation

to the economic fundamentals of Ems.• Vulnerable countries are most affected and there is a wide variation in

response by countries to the developments in AMs.• There is always a fear of abrupt reversal of inflows.

Trends - contd Cross border equity investment of Ems rose from $ 3,29 trn in 2009 to $

4.4 trn by end of 2012. International debt of EM corporates tripled to $ 750 bn in the same period.

Investor sentiments play a major role in response to developments in AMs.

At the end of 2012 the foreign share in total holdings of Asian and Latin American local government bonds has risen from very low or negligible to 10–50%. In the equity market, this share was 20– 45% in many cases.

However, the EM official sector has invested much of its foreign assets in major advanced economies’ currencies.

This has been accompanied by rapid growth in the offshore foreign exchange turnover of EM currencies.

Share of EMs in world GDP and trade has doubled from 15% in early 1990s to 30% by 2013

Chinese authorities have initiated a number of steps such as promoting trade settlement in renminbi, partially liberalising capital account transactions and developing offshore markets in renminbi products

Transmission Channels and Management

• Channeling of monetary policy shocks• Signaling channel• Portfolio balance channel• Market functioning channels• Liquidity channel• Exchange rate channel• Trade Channel• Terms of trade channel

Spill over Effects

• Exchange rate• Policy rate• Long term interest rate• International Bank lending• Portfolio flows

Factors determining the impact on EM’s

• Macro / Fiscal Stability• Financial Openness / Dependence• Currency related measures• Bank and Financial system vulnerability

Financial Instruments

• Mortgaged based securities• Additional SDR’s from IMF• Basle III – Additional requirements• Counter cyclical Capital requirements• Currency swap agreements ( substitute )• Direct purchase of assets by Governments• Direct induction of equity by Governments

Strategies and Policies

Strategies for EM’s Well co-ordinated fiscal management and policy / reduce fiscal deficit. Good Macro prudential Framework Good co-ordination between government and regulatory authorities. Synchronised Global monetary policies Adoption of Basle III frame work on capital, incentives and dividends Regulation of loans to sensitive sectors Financial stability framework and close monitoring of stability in the

financial services sector and asset prices. Close monitoring of key variables and appropriate regulatory policy

response on time as per the emerging need . Capital controls. Channelising the local savings for large projects through innovative financial

instruments. Encourage long term capital flows and FDI.

Strategies - Continued• Accumulate forex reserves• Trade and Financial co-operation• Currency swap agreements• External debt reduction• Promote exports / reduce trade deficit• Prudential regulation of cross border flows.• Reduce carry trade flows• Forex market intervention• Counter cyclical fiscal measures.• Management of Long term rates

Thank You