Remarks by Daniel Mminele,
Deputy Governor of the South African Reserve Bank,
at the 9th Annual Conference organised by the Central Reserve Bank of Peru
and the Reinventing Bretton Woods Committee
Cusco, Peru,
24 July 2017
Emerging market economies in a new global cycle
1. Introduction
Ladies and gentlemen, good afternoon.
Let me start by thanking the Central Reserve Bank of Peru and the Reinventing
Bretton Woods Committee for the opportunity to participate in this conference on the
highly relevant topic of how a changing global economic cycle might impact
emerging market economies.
The near-decade since the global financial crisis has brought with it an
unprecedented financial environment for emerging countries. The financial
characteristics of this evolving cycle of globalisation as well as the challenges and
benefits it poses to emerging market economies indeed deserve our attention,
especially against the background of an environment in which the benefits of
multilateralism are being questioned by some, when in fact the role of international
institutions and regional financial cooperation should be intensified.
2. The financial characteristics of a new global cycle
Policy rates in the United States (US) remained at around zero from late 2008 to late
2015, and even today they are 1.7 percentage points below their average of the past
25 years. In Japan, the eurozone and several other European economies, the policy
rates remain near or below zero. Following several phases of quantitative easing, the
balance sheets of the US Federal Reserve, the European Central Bank, the Bank of
Japan and the Bank of England currently account for almost 38% of their respective
country's gross domestic product (GDP), versus 10% in June 2007. Such
accommodative policies have compressed long-term interest rates and financial risk
premiums, with spillover effects of strong portfolio inflows and downward pressure on
domestic real yields enjoyed by emerging market economies. South Africa was no
exception; in the period between 2009 and 2016, non-resident portfolio inflows
averaged 3.9% of GDP, versus 2.4% in the previous 20 years, fully funding a wider
current account deficit and contributing to a compression of average real yields on
government debt.1
Yet this environment may be about to change. The gradual fading of economic slack
in the advanced economies raises legitimate questions about whether the current
degree of global monetary stimulus remains appropriate, and indeed a number of
central banks in advanced economies have signalled intentions to move from their
current highly accommodative monetary policy stances. Policy rates in most of the
advanced economies could eventually follow the US path towards gradual
normalisation, and central bank balance sheets could probably decline to levels
more consistent with 'normal' central banking operations. Such steps may well raise
the real long-term interest rates to levels more in line with economic fundamentals,
especially as budget austerity has faded in most of these economies.
Should this happen, emerging countries may start finding easy and cheap external
financing less forthcoming. Currently, cross-border bank flows from advanced
economies into the emerging world are already experiencing headwinds from a
tighter regulatory environment, which has generally led banks to reduce risk
exposure and place greater focus on the domestic business.2 A situation where
emerging countries have to compete harder for international capital could be another
element in the broader picture of 'reduced globalisation'.
3. Another step towards lesser globalisation?
According to the World Bank, trade in goods and services as a share of GDP has
generally been declining post-crisis. For sub-Saharan Africa, in particular, it had
fallen as low as 55% of GDP in 2015 from 74% in 2008. While cyclical weakness in
import-intensive fixed investment growth accounts, to some extent, for this partial
reversal of earlier trends, other - more structural - factors are also at play. These
include the sharp slowdown in the expansion of global value chains (GVCs) as the
number of trade protection measures put in place across the world now tends to
exceed that of liberalising measures.3 At the same time, current political trends in
some advanced economies make the imposition of restrictions on migratory flows
more likely.
To some extent, the challenges of attracting capital from advanced economies could
be compared to the slowing growth in GVCs. In the late 1990s and early 2000s, the
growing development of securities markets in emerging countries, the further
deregulation of the insurance and pension fund industries in advanced economies as
well as a reduced 'home bias' by international investors all contributed to a structural
rise in the global portfolio allocation to emerging market assets. The monetary
policies implemented after the global financial crisis exacerbated that trend, but this
structural shift appears to have now run its course.
4. Potential challenges and benefits
A slower pace of globalisation, let alone the reversal of some of its aspects, will no
doubt bring challenges to many emerging countries. In an environment where
international trade may no longer grow as a share of GDP, countries which had
followed an export-orientated development model are probably most exposed. Also
exposed are countries which had benefitted from strong integration in GVCs. At the
same time, countries that run structural current account deficits, and hence rely on
capital inflows to finance their investment growth, are exposed to reduced financial
globalisation.
Sub-Saharan African countries, including South Africa, partly 'missed out' on the
inclusion in GVCs, with their exports still largely dominated by raw or less-
transformed commodities. This may leave them relatively sheltered from protectionist
measures, especially as they do not run large external imbalances with advanced
economies, the US in particular. Yet this is no cause for complacency: growth
models are also changing in some large emerging economies, potentially reducing
their relative demand for commodities.
For example, South Africa's exports to Asia grew by an average of 13% per annum
in the past 15 years, a move mostly driven by these countries' surging appetite for
commodities, which is likely to ease as they reach higher levels of development.
Against such a challenging global backdrop, many of South Africa's structural issues
- notably its poor competitiveness in non-commodity exports, its inability to absorb a
large part of the workforce, and its dependency on high value-added imports - stress
the need for an increased focus on implementing structural reforms.
However, it need not all be gloom and doom for emerging economies. A new global
growth model could also bring opportunities to emerging countries - provided that
they are properly exploited. Monetary policy normalisation in advanced economies
could end up reducing the elevated sensitivity of financial conditions in specific
emerging economies to their global counterparts.4 In market parlance this is often
referred to as 'risk on, risk off' behaviour - and while this facilitates external financing
in periods of elevated risk appetite, it can also reduce domestic policy autonomy. In
fact, in a world where more conventional monetary policies are in place, financial risk
may be priced more accurately, resulting in proper market rewards for good policies
- an incentive for policymakers to implement prudent policies. A reduced role for
cross-border capital flows, or a lower level of dependency, could also provide more
protection for emerging markets in periods of a global crisis, as it would reduce the
risk that advanced economies' fund managers and banks would withdraw their
investments or loans in a rush. In fact, this might greatly reduce the risk of financial
crises, as international financial exposure is managed in a more risk-conscious
manner.
At the same time, a lesser degree of financial globalisation could help to reduce
global imbalances. Sizeable cross-border reallocation of capital allowed the
persistence of large current account deficits or surpluses in some countries which
posed threats to global financial stability. In some countries, capital inflows have
exceeded financing needs, and are either being recycled into excessive domestic
credit growth or forcing authorities to accumulate sizeable and costly foreign
exchange reserves. In other countries, large deficits fuelled strong increases in
external liabilities, endangering macroeconomic stability and putting sovereign
ratings at risk.
5. Role of international organisations and regional financial cooperation
It is important, however, to recognise that the optimal economic development of
emerging countries is still likely to require access to international financial markets.
However, these countries may increasingly have to seek such opportunities within
the emerging region itself. With regard to financial coordination, there are two issues
that have a strong bearing on vulnerabilities in the international financial architecture
that require global action from international organisations such as the International
Monetary Fund (IMF) and forums such as the G20.
The first issue relates to the management of capital flows. The gradual liberalisation
of capital flows in countries with large external surpluses provides additional scope
for the foreign financing of emerging economies. However, excessively volatile
capital flows and the related spillover effects remain key concerns for many
emerging market economies. In instances where these are accompanied by
increased credit extension and posing a threat of increased financial stability risk, a
sharp focus on the management of systemic risks is of importance. In assisting
countries to deal with the unintended consequences of these excessive capital flows
in a manner that promotes sound policies and strong frameworks - including
monetary policy and exchange rate flexibility - as the first line of defence against
excessive capital flows, the IMF published a guidance paper titled "The liberalization
and management of capital flows: An institutional view 5". South Africa's approach to
capital flow management has been broadly in line with the IMF's institutional view.
We have adopted a relatively hands-off approach to managing capital inflows,
allowing the exchange rate to act at as a shock-absorber, while monetary policy is
not focused on the exchange rate but rather on the possible inflationary implications
of exchange rate movements.
As you know, the Organisation for Economic Co-operation and Development
(OECD) is currently reviewing its Code of Liberalisation of Capital Movements
(Code). The IMF is also participating in the review of the OECD Code. Continued
cooperation between the IMF and the OECD remains crucial for addressing any
perception that countries might receive seemingly conflicting signals, or policy
advice, regarding the appropriateness of capital flow measures. Additionally, the
support from the IMF through the establishment of the Data Gaps Initiative
framework, aimed at supporting enhanced policy analysis of risk in the financial
sector as well as an analysis of vulnerabilities, interconnections and spillovers,
including cross-border risks, promises to be of great use.
Let me now address the second issue, which has to do with the adequacy of the
global financial safety net (GFSN) at national, bilateral, regional and global level.
Members of the G20 have agreed to collaborate closely to advance cooperation and
form consistent policy stances with the aim of advancing structural reforms, fostering
economic resilience, promoting infrastructure investment, and promoting the stability
of the international financial architecture - all to enforce stronger, more sustainable,
more balanced, and more inclusive growth.
In this regard, the IMF could assist by applying a consistent approach to the
monitoring and surveillance of countries to help identify potential risks and shocks
that could emanate from the global financial system. The G20 Hamburg Action plan
called on "the IMF to further enhance the effectiveness of its lending toolkit in line
with its mandate, including considerations on a new short-term liquidity instrument
and a new non-financial policy cooperation instrument", and I understand that this
work is receiving attention at the highest level in the IMF. An improvement in the IMF
policy toolkit and financing instruments would assist in closing the gaps in the
financial system and, in so doing, assist with improving the resilience of economies
to exogenous shocks.
The IMF and regional institutions in Africa should further explore ways to improve
access for African countries to the GFSN beyond what is available at multilateral
financial institutions.
The importance of regional financing arrangements (RFAs) remains key to
strengthening the GFSN, and they provide multilateral insurance properties of a
different nature to the safety net. However, there is a need for African countries to
work together with the IMF in developing RFA facilities in the region.
6. Conclusion
In conclusion, the new global cycle, partly characterised by normalisation in the
global financial markets after a prolonged period of a low interest rate environment
and reforms in the banking sector, harbours both challenges and opportunities for
emerging market economies. The interconnectedness and interdependencies of our
economies makes international cooperation indispensable, and the rhetoric around
trade protectionism and pushback against multilateralism is occurring at a time when
we can least afford it. However, any success in international cooperation will only be
achieved if it is built on maintaining macroeconomic policy discipline and
strengthening the depth and regulation of financial markets at individual county level.
Thank you for your attention.
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