SOUTH BULLETIN Published by the South Centre ● www.southcentre.int ● 21 November 2013, Issue 76 Global Slowdown Causing Economic Problems in the South

The global economic slowdown is now already affecting many developing countries, many of which face lower growth, current account deficits, falling currencies and a reversal of capital flows. This issue of South Bulletin gives a comprehen- sive analysis of how developing countries are experiencing the effects in various ways.

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 Are Developing Countries Waving or Drowning ? Protests in Europe against austerity policies: the economic crisis of  Economic Trouble in the South the North has many spillover effects on the South.  Strong Spillovers from North’s Crisis to the South New Threat to Economic  The “Decoupling” Debate Role of the State  Financial Spillovers: Volatile Capital Flows and Currency Rates Cause Instability in the South The economically successful developing coun- tries are characterised as having a strong  Downturn in Commodity Prices “developmental state”. But this role of the state  Remittances Remain Stable is coming under attack in new global rules being created.  Impact of Global Crisis on Trade and Trade Imbalances  Pages 19-20  Where Next for Developing Countries? - Future Prospects and Risks for South’s Economies When Foreign Investors  Pages 2-18 Sue the State

The investor-state dispute system, whereby for- Pot Calling the Kettle Black! eign investors can sue the government in an inter- national tribunal, is one of the issues being nego- The negotiations on “food tiated in the Trans-Pacific Partnership Agreement security” in the WTO and other free trade agreements.

 Pages 22, 20  Page 21 Are Developing Countries Waving or Drowning? This is a summary of the South Centre Research Paper 48 on the tion of letting the current ultra-easy current global situation. Other articles in this South Bulletin monetary policy degenerate into credit elaborate on aspects of the paper. and asset bubbles in order to achieve a rapid expansion, very much in the of developing countries to advanced same way as its policy response to the economies have slowed considerably. bursting of the dot-com bubble gave rise to the sub-prime boom, while ex- Furthermore, the one-off effects of ploiting the exorbitant privilege it en- countercyclical policies in developing joys as the issuer of the dominant re- countries have started fading and the serve currency and running growing policy space for further expansionary external deficits. action has narrowed considerably. Whether or not it might help gen- Thus, growth in most major devel- erate a strong expansion, such a return oping countries has now decelerated to business-as-usual could produce yet significantly. In Asia, the most dynamic another boom-bust cycle. It could be developing region, growth in 2012 was By Yılmaz Akyüz more damaging than the present cri- some five percentage points below the sis, not only for the U.S. but the world ore than five years since the out- rate achieved before the onset of the economy at large. M break of the global financial cri- crisis; in Latin America it was reduced sis, the world economy has shown few If, on the other hand, asset and

to almost half. signs of stabilising and moving to- credit bubbles are not allowed to de- The world economy is facing under- wards strong and sustained growth. velop and boost aggregate spending, consumption because of low and de- the outcome could be sluggish growth, While deleveraging continues to clining share of wages in national in- sharply increased interest rates and a stifle private demand, economic activi- come in all major advanced economies, stronger dollar, a combination that ty is further restrained by a fiscal drag including the U.S., Germany and Japan, often breeds problems for developing in the U.S. and Europe, as governments as well as China – countries that have a countries. have turned to fiscal orthodoxy after an disproportionately large impact on initial reflation. There has been exces- global economic conditions. The eurozone appears to be mired sive reliance on monetary policy, espe- in economic weakness for an indefi- There has also been an increased cially in the U.S., through provision of nite period. Thus, the region cannot be concentration of wealth and growing large amounts of liquidity to financial expected to generate expansionary inequality in the distribution of income markets and institutions at close-to- impulses for the rest of the world even earned on real and financial assets. Fi- zero interest rates, using unconvention- if it manages to restore stability in the nancialisation, welfare state retrench- al means. crisis-hit periphery. ment and globalisation are the most This has been largely ineffective in important factors accounting for these China has moved to investment- re-igniting bank lending and private trends. led growth as its exports slowed spending, but has given rise to a search sharply as a result of the crisis and In none of the major advanced econ- for yield in high-risk investments, in- contraction in advanced economies, omies and China is there a tendency for creased leverage and boom in equity and this has added to credit and prop- a significant reversal of the downward markets. It has also generated financial erty bubbles already under way. This trend in the share of wages in national fragility and exchange rate instability pattern of growth cannot be sustained income and a more equitable allocation in major developing countries. indefinitely. Despite the recognition of of wealth so as to allow rapid economic the need to raise the share of the The implications of an extended expansion based on income-supported, household income in gross domestic period of ultra-easy monetary policy in as opposed to debt-driven, household product (GDP) and move to a con- several reserve-currency issuers for spending. future international financial stability sumption-led growth, the distribution- In the U.S. – where the downward remain highly uncertain since these are al rebalancing is progressing very trend in wage share started in the 1980s largely uncharted waters. slowly. – in the past two decades consumption Whether or not China can avoid There have been strong spillovers and property booms and economic ex- the bursting of the bubbles and a hard from the crisis in advanced economies pansions were driven primarily by as- landing, over the medium term it is to developing countries. set and credit bubbles: first the dot-com likely to settle on a lower growth path bubble in the 1990s and then the sub- Although conditions in internation- with a gradual rebalancing of external prime bubble in the 2000s. al financial and commodity markets and domestic sources of demand and have generally remained favourable The current crisis has led to a great- domestic investment and consump- since 2009, the strong upward trends in er concentration of income and wealth. tion. capital flows and commodity prices On current policies the U.S. cannot All these imply that there will be that had started in the first half of the move to wage-led or export-led growth. 2000s have come to an end and exports Rather, it may succumb to the tempta- (Continued on page 3)

Page 2 ● South Bulletin ● Issue 76, 21 November 2013 Economic growth has thus fallen. In 2012, Asia growth was around five Economic Trouble in the South percentage points below the rate achieved before the onset of the crisis; The global economic crisis is finally hitting major developing in Latin America it was reduced to countries, many of which face lower growth, current account almost half. deficits, falling currencies and a reversal of capital flows. According to the paper, there is a By Martin Khor Just as the original headlines of rise lack of demand in the world economy, were exaggerated, so too is the antici- and the major reason is low and de- he global economic crisis is now pated collapse exaggerated. clining share of wages in national in- T hitting many developing countries, come in all major advanced econo- in some ways worse than during the Nevertheless, the world economic mies. Great Recession of 2008-9. crisis has finally come to ground in the developing world. A more equitable allocation of The economic growth rates of big wealth is needed to allow rapid eco- countries like China, India, Brazil and A recent paper by the South Centre nomic expansion based on income- Argentina have gone down. by its chief economist Yilmaz Akyuz supported, as opposed to debt-driven, argues that the present “recovery” In recent months, the currencies of household spending. But this is not phase in the developed countries is ac- happening. India, Brazil and South Africa also de- tually more problematic for developing clined. In itself this may not be bad as countries than when the former fell into In the US, the ultra-easy monetary some of the currencies had been over- recession in 2008-9. policy instead of achieving sustainable valued and a depreciation is good for growth could degenerate into new trade competitiveness. This is because the US, Europe and credit and asset bubbles and yet an- China countered that recession through other boom-bust cycle that is more However, this is also a sign of a expanded government spending, and slowdown in foreign inflow of funds. damaging to the world than the pre- this gave a boost to exports and growth sent crisis. And those countries having a deficit in in developing countries. their current account of the balance of If, on the other hand, the US does payments need inflows to cover it. But there has since been a reversal not allow the new bubbles to develop, of policies as Western governments the outcome could be sluggish growth, They face a bad combination of turned to austerity and budget cuts. high current account deficit, reversal of sharply increased interest rates and a capital flows, declining currency and Instead, they have relied excessively stronger dollar, a combination that the prospect of higher interest rates. on easy-money policy. The US in par- often breeds problems for developing ticular injected massive liquidity into its countries, says Akyuz. Suddenly the Western media story financial markets, with interest rates Meanwhile, the Eurozone appears is no longer about the great rise of the close to zero. South and the BRICS. The hype has to be mired in economic weakness for turned almost full circle to the decline The increased liquidity instead of an indefinite period. It cannot gener- of the emerging economies. benefitting the real economy went ate growth for the rest of the world. mainly as loans to investors which And China, facing an export slow- (Continued from page 2) placed the funds in stock markets and down and the need to shift to domes- developing countries, in their search for tic consumption-led growth, will like- no more Southern tail winds. Even if yield. ly have a lower growth path in the the crisis in the North is fully resolved, Akyuz’s paper highlights the nega- medium term. developing countries are likely to en- tive spill-overs of these policies to de- counter a much less favourable global All these imply that there will be veloping countries. economic environment in the coming economic difficulties for the South. years than they did before the onset of First, the austerity policies meant a Developing countries are likely to en- the Great Recession. slowing down of exports of developing counter a much less favourable global economic environment in the coming Consequently, in order to repeat countries to advanced economies, and commodity prices have started to de- years than they did before the onset of the spectacular growth they had en- the Great Recession. joyed in the run-up to the crisis and cline. catch up with the industrial world, Second, due to the anticipation that “Developing countries need to im- developing countries need to improve the quantitative easing in the US will prove their own growth fundamen- their own growth fundamentals, re- taper off, the flow of funds to emerging tals, rebalance domestic and external balance domestic and external sources economies has slowed or reversed. sources of growth and reduce depend- of growth and reduce dependence on ence on foreign markets and capital,” foreign markets and capital. This re- Third, the good effects of the devel- concludes Akyuz. quires, inter alia, abandoning neoliber- oping countries’ own earlier countercy- Note: The research paper, al policies in practice, not just in rheto- clical policies are fading and the space “Waving or Drowning: Developing ric, and seeking strategic rather than for more expansionary policies is lim- Countries After the Financial Crisis” full integration into the global econo- ited. can be accessed in the South Centre my. website (http:/www.southcentre.int).

Page 3 ● South Bulletin ● Issue 76, 21 November 2013

Strong Spillovers from North’s Crisis to the South

Not only has the “Great Recession” led to a “Great Slowdown” achieved before the onset of the crisis. in developing countries, but also their longer-term growth pro- In Asia, the most dynamic developing spects are clouded by global structural imbalances and fragili- region, growth in 2012 was some 5 ties that culminated in the current crisis. Even if the crisis in the percentage points below the rate North is fully resolved, developing countries are likely to en- achieved before the onset of the crisis; in Latin America it was almost half of counter a much less favourable international economic environ- the pre-crisis rate. ment in the coming years than they did before the onset of the Great Recession, including weak and unstable growth in major The longer-term growth prospects advanced economies, a significant slowdown in China, higher of DCs are clouded by persistent global US interest rates, stronger dollar and weaker commodity pric- structural imbalances and fragilities es. that culminated in the current crisis. The world economy is facing under- Indeed, they may even face less favourable conditions than consumption because of low and de- those prevailing since the onset of the crisis, notably with re- clining share of wages in national in- spect to interest rates, capital flows and commodity prices. All come in all major AEs including the these imply that there will be no more Southern tail winds. US, Germany and Japan, as well as China - countries that have a dispro- Consequently, in order to repeat the spectacular growth they portionately large impact on global had enjoyed in the run-up to the crisis, developing countries economic conditions (Akyüz, 2011b; need to improve their own fundamentals, rebalance domestic Stockhammer, 2012). There has also and external sources of growth and reduce dependence on for- been an increased concentration of eign markets and capital. wealth and growing inequality in the distribution of income earned on real This requires, inter alia, abandoning the Washington Consensus and financial assets. Financialization, in practice, not just in rhetoric, and seeking strategic rather welfare state retrenchment and globali- than full integration into the global economy. This article and sation are the most important factors the following articles until Page 18 address this theme. accounting for these trends. Still, until the Great Recession the threat of global ued to falter. This did not only revive By Yılmaz Akyüz deflation was avoided thanks to con- the decoupling hypothesis, but also sumption binges and property booms here have been strong spillovers several major DCs, notably China and driven by credit and asset bubbles in from the crisis in Advanced Econo- to a lesser extent India and Brazil, came T the US and a number of other AEs, mies (AEs) to Developing Countries to be seen as engines of growth for the particularly in Europe. Several Asian (DCs). The combination of rapid accel- world economy, notably for smaller DCs, notably China, also experienced eration of growth in DCs and relatively DCs. In the event this happened to a investment and property bubbles weak performance of AEs before the certain degree when a massive counter- while private consumption grew onset of the crisis was widely interpret- cyclical investment package introduced strongly in many DCs elsewhere, often ed as decoupling of the South from the by China in 2008-09 in response to fall- supported by the surge in capital flows North. Although growth in DCs fell outs from the crisis gave a major boost and asset and credit bubbles (Akyüz, sharply in 2009 due to contraction of to commodity-dependent DCs. How- 2008 and 2012). This process of debt- exports to AEs and sudden stop of cap- ever, with continued instability and driven expansion, in its turn, led to ital inflows, this was followed by a rap- weaknesses in AEs, the structural mounting financial fragility in the US id recovery in 2010 thanks to a strong shortcomings of developing economies, and the EU and growing global trade countercyclical policy response made including the major DCs are exposed. imbalances, with the US acting as a possible by their improved macroeco- locomotive to major surplus countries, nomic conditions during the earlier Although conditions in internation- Germany, Japan and China, as well as expansion, while growth in AEs contin- al financial and commodity markets have generally remained favourable to imbalances within the Eurozone since 2009, the strong upward trends in (EZ), culminating in the most serious capital flows and commodity prices post-war economic crisis with which that had started in the first half of the the world is still grappling. 2000s have come to an end and exports In none of the major AEs and China of DCs to AEs have slowed considera- is there a tendency for a significant bly. Furthermore, the one-off effects of reversal of the downward trend in the countercyclical policies in DCs have share of wages in national income and started fading and the policy space for a more equitable allocation of wealth further expansionary action has nar- so as to allow rapid economic expan- rowed considerably. Thus, growth in sion based on income-supported, as most major DCs has now decelerated opposed to debt-driven, household significantly compared to the rates Dr. Yılmaz Akyüz, Chief Economist, South Centre spending. On the contrary the crisis Page 4 ● South Bulletin ● Issue 76,21 November 2013 cannot be expected to generate expan- sionary impulses for the rest of the world even if it manages to restore stability in the crisis-hit periphery. China has moved to investment-led growth as its exports slowed sharply as

Paranjpe/AFP/Getty Images Images Paranjpe/AFP/Getty a result of the crisis and contraction in AEs, and this has added to credit and property bubbles already under way. This pattern of growth cannot be sus- tained indefinitely. Despite the recog- nition of the need to raise the share of the household income in GDP and move to a consumption-led growth,

the distributional rebalancing is pro- gressing very slowly. Whether or not Sudden drop in the value of emerging market currencies is one of the problems they now face. The China can avoid the bursting of the photo above shows the skyline of Mumbai, India, where the rupee has been experiencing volatile changes in value. bubbles and a hard-landing, over the medium-term it is likely to settle on a has widened inequality in AEs as well business-as-usual could produce yet lower growth path with a gradual re- as several DCs (OECD, 2013c). another boom-bust cycle. It could be balancing of external and domestic more damaging than the present cri- sources of demand and domestic in- In the US where the downward sis, not only for the US but the world vestment and consumption. Given the trend in wage share started in the economy at large. If, on the other central role it has played in the com- 1980s, in the past two decades con- hand, asset and credit bubbles are not modity boom in the 2000s, and as a sumption and property booms and allowed to develop and boost aggre- new source of investment in resource- economic expansions were driven pri- gate spending, the outcome could be rich DCs, notably after the onset of the marily by asset and credit bubbles - sluggish growth, sharply increased global crisis, a permanent slowdown in first the dot-com bubble in the 1990s interest rates and a stronger dollar - a China, together with a strong dollar, and then the subprime bubble in the combination that often breeds prob- would not bode well for commodity- 2000s. The current crisis has led to a lems for DCs. dependent DCs. greater concentration of income and wealth. On current policies the US can- The EZ appears to be mired in eco- All these imply that there will be no not move to wage-led or export-led nomic weakness for an indefinite peri- more Southern tail winds. Even if the growth. Rather, it may succumb to the od. The resolution of the underlying crisis in the North is fully resolved, temptation of letting the current ultra- problems of debt overhang in the pe- DCs are likely to encounter a much less easy monetary policy degenerate into riphery and intra-EZ imbalances in favourable global economic environ- credit and asset bubbles in order to trade and competitiveness requires, ment in the coming years than they did achieve a rapid expansion, very much inter alia, a wage-led growth in Ger- before the onset of the Great Recession, in the same way as its policy response many, but this is quite unlikely under including weaker and/or unstable to the bursting of the dot-com bubble its current policy approach. In all like- growth in major AEs and China, high- gave rise to the sub-prime boom, while lihood, the structural reforms that are er US interest rates, stronger dollar and exploiting the “exorbitant privilege” it now being advocated would extend weaker commodity prices. Indeed, enjoys as the issuer of the dominant wage suppression from the core to the they may even face less favourable reserve currency and running growing periphery and widen the deflationary conditions than those prevailing since external deficits. gap. The periphery may find it neces- the onset of the crisis, notably with sary to join Germany in the search for respect to interest rates, capital flows Whether or not it might help gener- export-led growth. Thus, the region and commodity prices. ate a strong expansion, such a return to Consequently, in order to repeat the spectacular growth they had en- joyed in the run-up to the crisis and catch up with the industrial world, DCs need to improve their own growth fundamentals, rebalance do- mestic and external sources of growth and reduce dependence on foreign markets and capital. This requires, inter alia, abandoning the Washington Consensus in practice, not just in rhet- oric, and seeking strategic rather than

ODI full integration into the global econo-

Containers near the port of Zanzibar, Tanzania. Exports of developing countries are being affected my. by the global slowdown. Page 5 ● South Bulletin ● Issue 76,21 November 2013 helped recovery in DCs by directing capital flows back to them after a sud- The “Decoupling” Debate den stop and sharp reversal triggered by the Lehman collapse. The theory that major developing countries have “decoupled” their economies from those of advanced economies had been The combination of the downturn in AEs and strong recovery in the promoted by establishment institutions like the IMF. However South was once again interpreted as this theory has been shown to be wrong by recent events. decoupling. However, the initial mo- mentum in DCs could not be main- tained. Although since 2009 condi- tions in global financial and commodi- ty markets have generally remained favourable, the strong upward trend in capital flows and commodity prices has come to an end and exports to AEs have slowed considerably. Further- more, the one-off effects of countercy- clical policies in DCs have started fad- ing and the policy space for further expansionary action has narrowed AFP/CarlosCarrion considerably. Outside China, fiscal and payments constraints started biting in most major DCs as a result of the shift to domestic- demand-led-growth, leading to fiscal

tightening. Consequently, growth in An industrial complex in Argentina: The theory of the South’s “decoupling” from the North DCs declined in both 2011 and 2012 has taken a hit during the present phase of the global crisis. after a strong recovery in 2010. In Asia, the most dynamic developing eveloping countries experienced in their underlying fundamentals as to region, in 2012 it was some 5 percent- D exceptional GDP growth before exceptionally favourable but unsustain- age points lower than the rate achieved the outbreak of the crisis, averaging at able global economic conditions includ- before the onset of the crisis; in Latin an unprecedented 7.5 per cent per an- ing a surge in their exports to AEs, America it was almost half of the pre- num during 2000-08 while growth in booms in capital flows, remittances and crisis rate. advanced economies (AEs) remained commodity prices, largely resulting relatively weak. This was widely inter- from property and consumption bub- The IMF has now “refined” its po- preted as decoupling of the South from bles in the US and Europe, rapid sition on the question of decoupling, the North, including by the IMF. Pre- growth of international liquidity and revisiting the issue in IMF WEO sumably, decoupling in this sense does historically low interest rates. (October 2012: chapter 4) under not imply that the South has become “Resilience in Emerging Market and In the early months of the crisis, economically independent of the North Developing Economies: Will it last?” DCs were again expected to decouple - something that would be far-fetched In a quantitative analysis, lumping from the difficulties facing AEs. The given closer global integration of devel- together more than 100 emerging mar- IMF underestimated not only the depth oping countries (DCs). Rather, it ket and developing economies (with of the crisis, but also its impact on DCs, should mean increased ability of DCs per capita incomes ranging from $200 maintaining that the dependence of to sustain growth independent of cycli- to over $20.000) and examining their growth in the South on the North had cal positions of AEs by pursuing ap- evolution over the past 60 years, it has significantly weakened (IMF WEO propriate domestic policies and adjust- concluded that “[t]hese economies did so April 2007 and WEO April 2008). After ing them to neutralize any shocks from well during the past decade that for the the collapse of Lehman Brothers in Sep- the North. first time, [they] spent more time in expan- tember 2008, the global economic envi- sion and had smaller downturns than ad- Decoupling was discussed in ronment deteriorated in all aspects that vanced economies. Their improved perfor- Akyüz (2012). As shown by several had previously supported growth in mance is explained by both good policies authors cited in that paper, business the developing world, resulting in a and a lower incidence of external and do- cycles understood as deviations from sharp downturn in several DCs. mestic shocks: better policies account for trend or potential output continue to be However, this was soon followed about three-fifths of their improved perfor- highly correlated. Regarding a more by rapid recovery, starting in 2009, mance, and less-frequent shocks account fundamental question of whether there thanks to a strong countercyclical poli- for the rest.” (IMF WEO, October 2012: was an upward shift in the trend 129. Italics in original.) cy response in DCs, made possible by (potential) growth of DCs relative to their improved fiscal and balance-of- “Good policies” that the IMF has AEs, it was concluded that the pre- payments positions during the earlier found to have improved performan- crisis acceleration of growth in DCs expansion. Monetary policy response cein DCs include “greater policy space was due not so much to improvements to the crisis by the US and Europe also Page 6 ● South Bulletin ● Issue 76, 21 November 2013 (characterized by low inflation, and ter-cyclical policies in response to fall- favourable fiscal and external posi- outs from the global crisis. These posi- tions)” created by “improved policy tive shocks provide a better explanation frameworks (countercyclical policy, of the exceptional performance of inflation targeting and flexible ex- many DCs in the past decade than change rate regimes).” No robust link “good” orthodox policies such as infla- could be found between structural fac- tion targeting, single-digit inflation and tors including trade patterns, financial flexible exchange rates. openness, capital flows and income Since 2011 the IMF has been con- distribution on the one hand, and the stantly over-projecting growth in “resilience” of DCs on the other. emerging and developing economies. The Fund ignores the role of positive The IMF WEO (April 2011) projected the medium-term prospects of these external shocks in stimulating growth 6.5 per cent growth for 2012, revised it economies (pp. 22-23). Another IMF and creating policy space in DCs, but downward to 6.1 in September 2011, to report estimates the average potential focuses on the absence of strong ad- 5.7 per cent in April 2012 and 5.3 in growth rate of DCs in the Western verse shocks. There is ample evidence, October 2012. IMF WEO (April 2013) Hemisphere at slightly over 3 per cent, cited in Akyüz (2012), that improved estimates the growth outcome for these far below what is required for a genu- performance of commodity-exporting countries at 5.1 per cent, almost 1.5 ine “rise of the South” and catch-up DCs which account for much of the points below its original projection, with AEs, and recognizes that the acceleration in the South after 2002 was and recognizes the possibility that above-potential growth achieved dur- the result of the twin booms in com- “recent forecast disappointments are ing 2003-12 is not sustainable without modity prices and capital flows which symptomatic of deeper, structural fundamental changes (IMF, 2013). also created space for subsequent coun- problems” (p.19), revising downward

Passing of Dr. Gamani Corea, former South Centre Chairman as well as a distinguished diplomat for mense intellectual and personal sup- his country. port to His Excellency Julius Nyerere, Chair of the South Commission and He is best known as the Secretary- the South Centre (and former Presi- General of UNCTAD in 1974-84, in dent of Tanzania) until his passing which capacity he led the multilateral away in 1999. Dr. Corea played a efforts to strengthen the position of leadership role in directing and super- developing countries in various areas, vising the work of the South Centre in including in commodities and other the various capacities through the areas of trade and development, and years. in the efforts in establishing a new in- ternational economic order. Among his responsibilities, he chaired the South Centre’s Group of He was a great contributor to the Experts on Financing for Development cause of the South and to South-South (2001), and prepared a paper which cooperation. He played a significant was submitted to the Group of 77 to part in the founding of the Group of 77 assist it in its participation in the work developing countries in 1964 and con- of the Preparatory Committee for the tinued to be a great support for the UN Conference on Financing for De- G77 and China throughout the years, velopment. He has chaired the NAM Dr. Gamani Corea, 1925-2013 including during his term as Secretary Ad Hoc Advisory Group of Experts on General of UNCTAD. He also assisted e have learnt with great sadness Debt (1993-1994) and the NAM Ad the Non Aligned Movement (NAM) in the news about the passing Hoc Panel of Economists (1997-1998), W various capacities. away of Dr. Gamani Corea on 3 No- submitting its report to the XII Non- vember 2013. Dr. Corea was a major leader in the Aligned Movement Summit held in establishment and development of the 1998 in Durban, South Africa. Dr. Corea, a Sri Lankan, was one of South Centre, including being a Chair- the most eminent economists of the With his passing away, the devel- person of the Board. developing world, having been educat- oping countries have lost a great ed at the University of Ceylon, and the Dr. Corea was a member of the champion and the world has lost a Universities of Cambridge and Oxford, South Commission (1987-1990), mem- tireless leader in fostering internation- and obtained his doctorate at Oxford. ber of the Board of the South Centre al cooperation. He is leaving behind a He had been the Permanent Secretary (1995-1998), Chairman of the South rich and valuable legacy that will con- of the Ministry of Planning and Eco- Centre’s Policy and Research Commit- tinue to be of benefit for the people of nomic Affairs and Senior Deputy Gov- tee (1998-2001) and Chairperson of the the South and the world for many ernor of the Central Bank of Sri Lanka Board in 2002-2003. He provided im- years to come.

Page 7 ● South Bulletin ● Issue 76, 21 November 2013 Financial Spillovers: Volatile Capital Flows and Currency Rates Cause Instability in the South

he financial crisis in Advanced Chart 1: Private Capital Inflows to Emerging Economies, 1995-2014 T Economies (AEs) has led to consid- erable instability of private capital in- flows, yield spreads, equity prices and exchange rates in Developing Coun- tries (DCs). The surge in capital in- flows to DCs that had begun in the ear- ly years of the 2000s with sharp cuts in interest rates and rapid expansion of liquidity in AEs continued unabated in the early months of the crisis. Howev- er, the flight to safety triggered by the Lehman collapse led to a sudden stop and reversal, resulting in strong down- ward pressures on exchange rates and asset prices. Closer and deeper integra- tion with major financial centres and rapidly growing gross asset and liabili- Source: IIF (January 2013). ties positions of DCs with the AEs in- Note: f = IIF forecast, e = estimate. tensified the transmission of financial stress to asset, banking and currency and uneven. At the end of 2012, in reach the 2007 peak and as a percent- markets. The crisis also led to a con- nominal terms they were below the age of GDP they could continue to fall. peak reached in 2007. As a percentage traction of credit in DCs due to cut- While the pre-Lehman boom in of GDP of the recipient countries, the back in international bank lending and capital inflows was broad-based, pull decline was much steeper, from 8.5 per local lending by foreign banks’ affili- factors have become more important in cent in 2007 to 4 per cent, a level not ates in DCs as well as declines in inter- the post-Lehman recovery with lenders much different from those seen in the bank cross-border lending for funding and investors increasingly differentiat- 1990s (Chart 1). Net flows available for by domestic banks (Cetorelli and Gold- ing among DCs. In absolute nominal current account financing and reserve berg, 2010). terms net inflows to Asia and Latin accumulation in DCs are much lower, America have exceeded the peaks Although private capital inflows less than 1 per cent of GDP, because of reached on the eve of the global crisis recovered quickly from early 2009, resident outflows from DCs through even though the slowdown in China helped by sharp cuts in interest rates direct and portfolio investment abroad. after 2010 has led to some deceleration and quantitative easing (QE) in AEs Institute of International Finance (IIF, in direct investment (Chart 2). By con- and shifts in risk perceptions against January 2013) projections are for a trast, despite some recovery, inflows to them, they have lost their pre-crisis moderate increase in 2013-14; but in European emerging economies have momentum and have become unstable absolute terms they are not expected to remained well below the peak reached before the crisis, largely due to strong Chart 2: Private Capital Inflows to Emerging Economies fallouts from the Eurozone (EZ) crisis. (Billions of U.S. dollars) This is also true for Africa and the Middle East.

The EZ crisis has played a central role in the overall weakness of private capital inflows to DCs. On the one hand, it has led to increased global risk aversion and greater preference for relatively safe assets. On the other hand, it has impinged directly on the volume of global capital flows. Before the outbreak of the global crisis, Eu- rope was the main source of (gross) capital flows to the rest of the world, with $1600 billion per annum during 2004-07, higher than total outflows from the US and Japan taken together.

Source: IIF (January 2013). With the outbreak of the crisis and the

Page 8 ● South Bulletin ● Issue 76, 21 November 2013 consequent bank deleveraging, total Chart 3: Sovereign Bond Interest Rate Spreads outflows from Europe fell sharply, reg- (Basis points over US Treasuries) istering a bare $300 billion a year dur- ing 2008-11. The EZ crisis has also led to consid- erable short-term, month-to-month volatility in capital inflows to DCs as they have become increasingly sensi- tive to news coming from the region, leading to difficulties in macroeconom- ic management in DCs. From mid- 2011, market sentiments turned sour with the deepening of the Greek crisis, strikes and political turmoil in the pe- riphery and credit downgradings, lead- ing to a drop in estimated capital in- flows to DCs and significant down- ward revisions in forecasts. Source: World Bank (Datastream).

Global risk appetite improved in Changes in global risk appetite and China (Chart 5). Many of them chose the early months of 2012 with the private capital flows have also been not to restrain the decline in view of agreement on European Stability Mech- mirrored by bond and equity markets weakened exports. Most DCs have anism (ESM) and austerity packages in of major emerging economies (Charts 3 welcomed the subsequent strong re- Greece and Spain, the implementation and 4). After the Lehman collapse, sov- covery in capital inflows and the boom of the Long-Term Refinancing Opera- ereign bond spreads shot up and stood, in asset prices they helped to generate, tions (LTRO), the signing of the Fiscal at the end of 2008, above 800 basis but they have been ambivalent about Compact and increased lending limits points (bp), about three times the level their impact on exchange rates. The from the European Financial Stability in the previous year while the Morgan ultra-easy monetary policy in AEs has Facility (EFSF) and the ESM. Stanley Capital International (MSCI) been widely seen as an attempt to However, markets became bearish index fell to some 40 per cent of the achieve beggar-thy-neighbour compet- again after spring 2012 when Spain level reached in 2007. With the recov- itive devaluations to boost exports to requested assistance for bank capitali- ery in capital flows, spreads fell and drive recovery in conditions of slug- zation, was downgraded by rating equity prices rose rapidly, but they gish domestic demand. It was de- agencies and its yield spreads mount- both deteriorated after mid-2011 with scribed as a currency war by the Brazil- ed, and concerns grew over Greece. As the deepening of the EZ crisis. Despite ian Minister of Finance while the Gov- already noted, this was followed by some improvements in the second half ernor of the South African Reserve renewed optimism after mid-2012 with of 2012, now spreads are above and the Bank alluded that DCs were in effect the commitment of the European Cen- MSCI index is below the levels reached caught in a cross fire between the ECB tral Bank (ECB) to save the euro. How- on the eve of the crisis. and the US Federal Reserve (Marcus, 2012). ever, the mood changed again with the The Lehman collapse and flight to confusion created by the Cypriot safety also resulted in large drops in DCs have responded in various bailout plan in March 2013. the currencies of most DCs against the ways. Initially, almost all countries dollar, with the notable exception of had a hands-off approach to capital inflows. Many of them, notably in Chart 4: Monthly MSCI Equity Market Indices, December 2006- February 2013 Asia, intervened heavily in foreign exchange markets, absorbing them in reserves and trying to sterilize inter- ventions by issuing government and/ or central bank debt. These countries avoided sharp appreciations. The total foreign exchange reserves of develop- ing Asia increased by some $2200 bil- lion during 2008-12 despite the decline in their overall current account sur- pluses. Others, particularly those pur- suing inflation targeting, including Brazil, South Africa and Turkey, ab- stained from extensive interventions and hence experienced considerable appreciations. There are two obvious reasons for Source: MSCI. Note: Base values at 100. this policy of non-intervention. First, Page 9 ● South Bulletin ● Issue 76, 21 November 2013 Chart 5: Nominal Exchange Rates in Selected Economies (Period average=100)

Source: OANDA. Note: US dollar per unit of domestic currency. since it is difficult to fully sterilize the opment (OECD) and hence is subject to billion stimulus plan in order to sup- impact of interventions on domestic provisions of its Code of Liberalization port exporters facing pressures from a liquidity, attempts to stabilize the cur- of Capital Movements (Singh, 2010). weaker yen and to revive growth, the rency would conflict with inflation tar- The Korean won has been one of the third largest after those introduced in geting. Second, as most of these were weakest currencies in the entire post- response to the 1997 Asian crisis and high-interest-rate economies, steriliza- crisis period. Its effective exchange the 2008 global crisis (Kim, 2013). tion would imply significant fiscal or rate has never gone back to pre-crisis After 2009 several DCs started to quasi-fiscal costs, adding to govern- levels, eliciting remarks that, together control capital inflows, mainly through ment deficits and debt. with the UK, it is the most aggressive market-friendly measures rather than “currency warrior” of the past five and However, as upward pressures on direct restrictions. These included un- a half years (Ferguson, 2013). The the currencies of DCs persisted, several remunerated reserve requirements measures of control used by Korea in- countries abandoned the hands-off ap- (URR) and taxes (Brazil taxes on port- clude ceilings on forex forward posi- proach to inflows and started using folio inflows; Peru on foreign purchas- tions of banks, a levy on non-deposit measures to control them. Interestingly es of CB (Central Bank) paper; and liabilities and a withholding tax on in- the country that has made the most Colombia URR of 40 per cent for 6 terest income from foreign holdings of frequent recourse to such measures is months); minimum stay or holding treasuries and monetary stabilization Korea, a member of the Organisation periods (Colombia for inward FDI; bonds. Korea is now launching a $15 for Economic Co-operation and Devel- Indonesia for CB papers); special re- Page 10 ● South Bulletin ● Issue 76, 21 November 2013 serve requirements (RR) and taxes on banks’ positions (Brazil RR on short positions and tax on short positions in forex derivatives; Indonesia RR for to- tal foreign assets; Peru higher RR on non-resident local currency deposits); taxes and restrictions over borrowing abroad (India on corporate borrowing; Indonesia on bank borrowing; Peru additional capital requirements for forex credit exposure); and taxes on foreign earnings on financial assets (Thailand withholding tax on interest income and capital gains from domes-

BBC News BBC tic bonds). Some DCs such as South Africa liberalized outflows by residents

in order to relieve the upward pressure on the currency. A trader at the African Development Bank in Tunisia anxiously watches market movements. These measures have been designed 2010, putting pressure on the curren- per cent as well as the commitment of not so much to prevent financial fragili- cies of some DCs, protests from the the US Fed to continue with the QE3 ty as to avoid currency appreciations South became much less frequent. until unemployment fell below 6.5 per and deterioration of the current ac- There are basically two reasons for it. cent or inflation rose above 2.5 per cent count. As noted, not only have most From early 2011 most developing econ- suggest that the ultra-easy monetary emerging economies welcomed the omies started to cool and hence the policy in the US and the EZ are here to boom in asset markets, but they have pressure of capital inflows on prices stay for some time to come. The Bank also ignored the build-up of vulnerabil- eased up. Second, the shift to domestic of Japan raised the inflation target in ity resulting from increased corporate -demand-led growth has led to a wid- early 2013 and started a policy of ag- borrowing abroad. However, the ening of current account deficits in gressive QE, leading to a significant measures have not been very effective many major emerging economies, in- fall of the yen against the dollar and in limiting the volume of inflows as cluding Brazil, India, South Africa and eliciting critical remarks, including exceptions were made in several areas. Turkey, and this has increased the need from the Bundesbank president In many cases the composition of in- for foreign capital and eased the up- (Ferguson, 2013). In the UK, devalua- flows changed towards longer maturi- ward pressure on currencies. Indeed, tions and exports have been seen as a ties and types of investment not cov- as seen in Chart 5, from mid-2011 the way out of public and private delever- ered by measures. Furthermore, taxes currencies of most of these countries aging, with the government not ruling and other restrictions imposed were started to weaken. out abandoning inflation targeting. The pound sterling has depreciated in too weak to match arbitrage margins. The so-called currency war among real effective terms more than any oth- Similar measures produced different major AEs continues unabated. The er major currency since August 2007. outcomes in different countries because ECB’s pledge to "do whatever it takes" The Swiss National Bank has capped of differences in the implementation to save the single currency, the an- its currency against the euro and has capacity and the sanctions attached to nouncement of Outright Monetary been intervening heavily in order to violation. Transactions (OMT) and a further in- prevent appreciation, despite a current terest rate cut by the ECB in May 2013 Although ultra-easy monetary poli- account surplus of over 10 per cent of to bring it down to a record low of 0.5 cy has continued with full force after GDP. However, liquidity expansion in AEs is not likely to lead to a general- ized surge in capital inflows to DCs similar to that seen before the onset of the crisis although some countries fa- voured by international investors may experience strong inflows. First, in most emerging economies growth has slowed down sharply compared to the previous period. Secondly, interest China.org.cn rates have often been cut in response, thereby narrowing short-term arbi- trage margins. In any case, a renewed

surge in inflows of all types, including portfolio inflows, may be welcomed by several major DCs because of widened “Hot money” or short-term foreign currency has been flowing into and out of developing countries, current account deficits. causing financial instability.

Page 11 ● South Bulletin ● Issue 76, 21 November 2013 rapidly from manufactures to com- modities as a result of its shift from Downturn in Commodity Prices export-led to investment-led growth. As its markets in major AEs started to Chart 6: Monthly Primary Commodity Prices, December 2004-February 2013 shrink in 2008, China introduced a (2005=100, in terms of U.S. dollars) large investment package, notably in infrastructure and property, pushing the ratio of investment to GDP towards 50 per cent. Since such investment is much more intensive in commodities, notably in metals, than exports of man- ufactures which rely heavily on im- ported parts and components from other East Asian economies, the shift from export-led to investment-led growth has led to a massive increase in Chinese primary commodity imports, which doubled between 2009 and 2011 compared to some 50 per cent increase in its manufactured imports (Chart 8). During the same period prices of met- Source: IMF, Primary Commodity Prices database. als rose by 2.4 fold, much faster than he financial crisis in Advanced high as that from AEs, with China im- other primary commodities. T Economies (AEs) has not de- porting as much as the Eurozone (EZ) The downturn in commodity prices pressed commodity prices to the extent and twice as much as Japan. In metals, that started in 2011 has coincided with seen in previous post-war recessions. China alone accounts for more than 40 the slowdown in China and India. The boom that had started in 2003 con- per cent of world demand. Given the credit and property bubbles tinued until summer 2008 with the in- The boom that started in 2003 and and excessive debt and capacity gener- dex for all primary commodities rising has generally continued except for a ated by the 2008 stimulus package, by more than threefold (Chart 6). This short-lived sharp downturn in 2008 is China has been hesitant to respond to was followed by a steep downturn in seen as the beginning of a new com- the slowdown with a similar package, the second half of 2008, which took the modity super-cycle driven by rapid allowing, instead, its growth to fall index back to the level of 2004. But like growth and urbanization in China below 8 per cent for the first time for capital flows and remittances, com- (Farooki and Kaplinsky, 2011; Farooki, several years. The slowdown in China modity prices also recovered strongly 2012). Historically such cycles are has been reflected particularly by a from the beginning of 2009, rising until found to range between 30-40 years sharp decline in metal prices, by some spring 2011 when they levelled off and with amplitudes 20-40 per cent higher 25 per cent between the beginning of started to fall, manifesting increased or lower than the long-run trend, with 2011 and end of 2012, considerably short-term instability. In the early non-oil prices closely following world steeper than declines in other com- months of 2013, the index for all com- GDP (Erten and Ocampo, 2012). modities. modities was 15 per cent below the peak reached in summer 2008. After the outbreak of the financial Because of increased financializa- crisis in AEs, the momentum in com- tion of commodities and growing in- Different commodities that go into modity prices has been kept up entirely terdependence between financial and the aggregate index in Chart 6 are not by growth in the South, notably in Chi- commodity markets, the financial crisis only linked to economic activity in dif- na whose import composition changed has also generated considerable insta- ferent ways, but have also important supply-side differences. Still, the be- haviour of prices of commodity sub- categories has been broadly similar and highly correlated with global economic activity, particularly in Developing Countries (DCs), suggesting the domi- nance of common demand-side factors. Rapid growth in major commodity- importing DCs, notably China and to a lesser extent India, played a central role in the pre-crisis boom. Growth in com- modity-dependent DCs also added to the momentum by creating demand for each other’s primary commodities. Prices increased along with the share of DCs in world commodity consump- tion. Oil demand from DCs is now as Commodity Futures Trading Commission’s Washington offices. Page 12 ● South Bulletin ● Issue 76, 21 November 2013 bility in commodity prices. The severe from the region but also through finan- no drastic change in conditions in two swings seen during 2008 had an im- cial channels. First, it has had a de- main economies strongly affecting portant speculative component. With- pressing effect on commodity prices by commodity prices – China and the EZ. in the first 6 months of that year, the making the dollar stronger than it However, in both cases risks are on the overall price index rose by some 35 per would have otherwise been. Second, it downside, raising the possibility of cent, followed by a sharp decline of 55 has added to commodity instability by steeper declines than is projected. per cent in the second half of the year. triggering surges of entry and exits in No change in supply conditions or de- markets for commodity derivatives. mand for physical commodities in such Like capital flows, commodity prices a short span of time can explain such a have become highly sensitive to news sharp swing. It was largely caused by coming from the EZ. rapid, self-reinforcing shifts in trading The short-term outlook for com- in commodity features triggered by modity prices is highly uncertain not rapid changes in expectations and sen- only because of possible supply-side timents around the collapse of Lehman disruptions, notably in energy and Brothers, about the depth of the crisis food, but also because of demand un- and its possible impact on commodity certainties. The latest projections by prices. the IMF WEO (April 2013) are for con- Since 2011, the EZ crisis has had a tinued declines in 2013-14 for both oil strong influence on commodity prices and non-fuel primary commodities. not only by weighing on the demand These are based on the assumption of

of GDP, compared to over 2 per cent Remittances Remain Stable during the pre-crisis peak (Chart 7). Traditionally, remittances to DCs Chart 7: Remittances Flows to Developing Countries, 2000-2012 have generally served to support con- sumption of families and relatives in the countries of origin of migrant workers and financed mainly from their current earnings. However, existing statistical recording of these flows do not allow a precise determination either of the origin or of the final use of these trans- fers. They may actually be funded from accumulated savings of workers abroad and/or used in their countries of origin not for consumption but for investment in property or financial assets. The continued increase in remittanc- es to DCs after sharp rises in unemploy- ment and declines in wages in the crisis- hit Advanced Economies (AEs) suggests Source: World Bank, Migration and Development Briefs and World Development Indicators database. that a greater proportion of these may have actually come from accumulated orker’s remittances have emerged pines. savings rather than current earnings of as a major source of external fi- migrant workers. In the same vein, W Surprisingly the crisis in the US and nancing for Developing Countries (DCs) these might have been increasingly used EU did not have a strong impact on total in the new millennium, second only to for investment rather than consumption. inflows of remittances to DCs even FDI inflows. They have followed broad- In other words, they may be like capital though these economies account for a ly the same pattern as private capital flows rather than unrequited transfers. very large proportion of total remittanc- inflows, expanding at a rate of 20 per Increased rates of return on real and es and they have experienced sharp in- cent per annum during 2002-08. They financial assets in DCs relative to AEs creases in unemployment after 2008. In reached the peak of some 2 per cent of and the change of the risk perceptions nominal terms, remittances registered a GDP of DCs taken together in the mid- against AEs may have encouraged such small decline in 2009 followed by a mod- dle of the decade, mostly from migrant transfers. This has the implication that erate recovery afterwards, and are esti- workers in the EU, followed by the US. in the event of a shift in relative risk- mated to have reached $400 billion at the For several DCs, they provided an im- return profiles of investments in AEs end of 2012. However, this has not been portant source of current account financ- and DCs, these flows may well be re- sufficient to reverse the decline in per- ing, at a rate of more than 3 per cent of versed in the form of increased capital centage of GDP of the recipient coun- GDP in India and Mexico and over 10 outflows from DCs. tries. At the end of 2012 they are esti- per cent in Bangladesh and the Philip- mated to have amounted to 1.7 per cent

Page 13 ● South Bulletin ● Issue 76, 21 November 2013 by AEs. The decline in dollar terms was almost twice as large because of a sharp Impact of Global Crisis on Trade decline in prices, particularly for com- modities. and Trade Imbalances On some estimates, trade shocks incurred by developing countries in 2009 as a result of the crisis amounted to 4.4 per cent of their GDP, of which 3.3 per cent was due to demand shocks resulting from declines in export vol- umes and the rest was the terms of trade shock resulting from price changes (UN WESP, 2010). Among the regions the total shock was greatest, over 12 per cent of GDP, in West Asia because of a sharp drop in oil prices, followed by Africa (5.5 per cent), East and South Asia (3.3 per cent) and Latin America and the Caribbean (2.3 per cent). Some Caribbean countries are facing a balance of payments problem because of a downturn Among major DCs, the trade impact in tourism and other factors. of the crisis has been particularly severe nternational trade has been the single kets in order to kick-start recovery. for China because of its dependence on exports to AEs. In the period 2002-07, I most important channel of transmis- While all DCs have been hit directly sion of contractionary impulses from the Chinese exports grew by more than 25 or indirectly by the contraction and per cent per annum, accounting for financial crisis and recession in the US slowdown in imports by AEs, the inci- and the EU. After growing at an aver- about one-third of GDP growth, taking dence varied from country to country into account their import contents. The age rate of some 7 per cent per annum, according to their dependence on ex- the volume of imports by Advanced dependence on exports to AEs was even ports, the relative importance of markets higher for smaller exporters of manufac- Economies (AEs) first decelerated sharp- in AEs and the import content of their ly in 2008 and then fell by 12 per cent in tures in Asia, both directly and through exports. In countries with very high supplying parts and components to Chi- 2009, largely because of the decline in ratio of exports to GDP, particularly in imports by the US. It bounced back in na. With the outbreak of crisis in AEs, exporters of manufactures, import con- exports of Asian DCs first slowed sharp- 2010 due to a broad-based recovery, but tent of exports also tends to be high. lost momentum as Europe went into ly in 2008 and then dropped in 2009, Thus, any decline in exports entails cuts, and became a major drag on activity, tailspin. Growth of total volume of im- pari passu, in imports used directly and ports by AEs barely reached 1 per cent reducing growth by 5-6 percentage indirectly for exports. Declines in ex- points (Akyüz, 2012). in 2012. In order to avoid a sharp decel- ports also reduce imports through their eration of growth, Developing Countries impact on income and domestic de- Import cuts in Europe have hit Afri- (DCs) have had to rely on their own mand, including imports from all coun- ca and Central and Eastern Europe par- markets or South-South trade. In fact, tries. Indeed, as a result of these cumu- ticularly hard because of strong trade given the widespread economic down- lative effects, in volume terms the world linkages; more than 50 per cent of ex- turn in AEs, the latter have also sought trade declined at much the same rate as ports of several non-EU European coun- expansion in developing country mar- the rate of decline of volume of imports tries and some North African countries are destined to the EU and the figure is Chart 8: China’s Imports, 2000-2011 over 35 per cent for several countries in (Billions of U.S. dollars) sub-Saharan Africa as well as Russia (IMF, 2011). The direct effects of cuts in exports to the EZ during 2011-12 are estimated to have reduced growth by some 0.8 per cent in South Africa and Russia, 0.5 per cent in China and India, and 0.3 per cent in Brazil and Indonesia (OECD 2012: Box 1.1.). Many DCs in sub-Saharan Africa relying heavily on exports to Europe were also hit hard. These include Côte d’Ivoire, Mozam- bique and Nigeria where exports to the EU account for between 10 and 17 per cent of GDP (Massa et al., 2012). The crisis has resulted in significant changes in the pattern of world trade. Source: UN COMTRADE. Before the crisis South-South trade was

Page 14 ● South Bulletin ● Issue 76, 21 November 2013 Table 1: Share of Primary Commodities in Total Exports: Brazil and Malaysia lion to a surplus of $220 billion. Of the (Per cent) three major surplus countries, the cur- 2006 2007 2008 2009 2010 2011 2012 rent account surplus of Germany has increased after the onset of the crisis, Brazil 47.8 50.1 54.7 60.0 63.2 65.1 63.6 reaching 7 per cent of GDP at the end of Malaysia 24.4 27.4 33.9 29.5 32.1 37.0 37.2 2012 (Table 2). Germany now runs Source: UN COMTRADE database. trade surplus against China. By con- trast, both Japanese and Chinese sur- largely conditioned by trade between Trade imbalances pluses have fallen sharply. The decline DCs and AEs. China’s imports of manu- The crisis has resulted in a significant in China’s surplus has been particularly factures from Asian DCs and commodi- shift in global trade imbalances. With dramatic, from a peak of 10 per cent of ties from all developing regions account- the increased reliance of DCs on domes- GDP in 2007 to 2.6 per cent in 2012. ed for a large proportion of South-South tic demand for growth, current account As noted, in the run-up to the crisis trade and were mainly used, directly or surpluses in export-led East Asia have the share of wages and private con- indirectly, for its exports of manufac- declined while many other DCs have sumption in GDP was on a downward tures to AEs (Akyüz, 2011a, 2012). With moved from surpluses to deficits or trend in all three major surplus econo- the shift of China to investment-led started to run larger deficits. On the eve mies, Germany, Japan and China. In all growth, not only has there been a shift in of the crisis, DCs taken together had a three countries GDP growth rates ex- Chinese imports from manufactures to current account surplus of almost $700 ceeded the growth rates of domestic commodities (Chart 8), but also a larger billion and a little more than one-half of demand. Growth was much slower in proportion of imports have come to be this was due to China. It fell by almost Germany and Japan but more depend- used for domestic demand – over 55 per $300 billion by the end of 2012 despite a ent on exports than in China where im- cent in 2011 compared to less than 50 per $130 billion increase in the current ac- ports expanded by double-digit rates cent in 2007. count surplus of the Middle East and thanks to a very strong growth of do- This has also meant that for many North Africa as a result of increases in mestic demand (Akyüz, 2011b). commodity exporters, China has become oil revenues. The surplus of developing After the outbreak of the crisis, Ger- the single most important market. For Asia fell from $400 billion to $130 billion, many has continued to rely on exports. instance, in 2007 Brazilian exports to the China from $350 billion to $210 billion Its GDP growth exceeded growth of EU and US were four times and twice while Latin America and sub-Saharan domestic demand in every year the level of its exports to China, respec- Africa both moved from surpluses to throughout 2010-12, thereby sucking in tively. Now the Brazilian exports to deficits. foreign demand and effectively export- China and Europe are about the same DCs have absorbed a large part of ing unemployment. It has thus contin- and Brazilian exports to the US are one- adjustment in global imbalances that ued to be a major source of imbalance half of its exports to China. had pervaded before the outbreak of the not only in the EZ, but also globally. By Furthermore, both because of the rise financial crisis. The current account def- contrast, China has provided a major in commodity prices and the expansion icits of AEs taken together fell from a demand stimulus to the rest of the of volume of exports, commodities have peak of $480 billion in 2008 to less than world by expanding domestic demand also come to account for an increasing $60 billion in 2012. The US current ac- and allowing its real effective exchange proportion of exports of several semi- count deficit fell by $200 billion while rate to appreciate by some 20 per cent industrialized exporters of manufactures the EZ moved from a deficit of $100 bil- since the onset of the crisis. in the South. This includes not only Bra- zil but also some South East Asian DCs Table 2: GDP, Domestic Demand and Current Account in Main Surplus Countries such as Malaysia. The increase in the (Annual per cent change unless otherwise indicated) share of primary commodities in total 2004-07 2010 2011 2012 exports of these countries which had Germany already started before the onset of the crisis has accelerated after 2009 (Table 1). GDP growth 2.2 4.0 3.1 0.9 In Brazil export earnings from commod- Domestic demand 1.1 2.6 2.6 -0.4 ities now exceed those from manufac- Private consumption 0.5 0.9 1.7 0.6 tures by a large margin. In Malaysia, CA (% of GDP) 5.9 6.2 6.2 7.0 widely considered as one of the success- Japan ful second-tier Newly Industrializing GDP 1.9 4.7 -0.6 2.0 Economies (NIEs), manufactures do not Domestic demand 1.1 2.9 0.3 2.9 dominate export earnings if measured in Private consumption 1.2 2.8 0.5 2.4 value-added terms since they have CA (% of GDP) 4.0 3.7 2.0 1.0 much higher import contents than com- China modities. If account is taken of import GDP 12.1 10.4 9.3 7.8 contents, the share of manufactures in Domestic demand 10.3* 10.6 10.2 9.2 (value-added) exports would be about Consumption (total) 8.8* 9.2 9.8 9.8 the same as, if not lower than, the share CA (% of GDP) 7.1 4.0 2.8 2.6 of primary commodities. Source: For Germany and Japan IMF WEO (April 2013 and October 2012). For China IMF Staff Report: Article IV Consultation with the People's Republic of China (various years). * 2005-2007 average.

Page 15 ● South Bulletin ● Issue 76, 21 November 2013 Where Next for Developing Countries? Future Prospects and Risks for South’s Economies Downside risks No doubt the EZ is now the Achilles’ heel of the global economy and the immediate threat to stability and growth in DCs. Although financial stress in the region has declined con- siderably, adjustment fatigue or politi- cal turmoil in the periphery could still deepen the crisis and even lead to a total break up. However, it is difficult not only to predict the evolution of the EZ in the coming years, but also the impact of a break-up, since past eco- nomic and financial linkages would provide little guide for estimating the

Bloomberg consequences of such an unprecedent- ed event. Still, even without a total break-up, an intensification of financial

Outside the Bombay Stock Exchange in Mumbai: The prospects for developing countries are stress could have serious repercussions uncertain in the next few years. for DCs, as suggested by various downside scenarios simulated by the espite adverse fallouts from the conditions could worsen before starting IMF, the UN and the Organisation for most severe post-war economic to improve. Second, the exit of AEs D Economic Co-operation and Develop- crisis and downturn in advanced econ- from the crisis may not necessarily im- ment (OECD). omies (AEs), on average, developing prove global economic environment in countries (DCs) have so far managed to all areas that affect the performance of Financial contagion to DCs from a sustain an acceptable pace of economic DCs. AEs may not be able to move to a major turmoil in the EZ, notably a de- growth for the reasons discussed high and stable growth path and global fault and exit, could be much more above. Compared to the beginning of financial conditions may tighten con- serious than adverse spillovers the crisis, total income in the develop- siderably with their exit from the ultra- through trade because it would affect ing world is now higher by almost one- easy monetary policy. Third, growth balance sheets and be more difficult to third whereas AEs have barely man- prospects of most DCs also depend handle with standard macroeconomic aged to maintain their pre-crisis levels crucially on China. Although China policy tools. The main channel would of income. Although growth in many has withstood severe fallouts from the be capital flows, asset prices and ex- major DCs is now considerably slower crisis, there is considerable uncertainty change rates, which have already be- than the rates achieved before the onset whether it can maintain strong growth come highly sensitive to news from the of the crisis, there are widespread ex- over the longer term. EZ, as noted. The impact could be pectations, notably among policy mak- ers, that prospects are brighter in the coming years, once the worst post-war crisis is fully overcome, economic activ- ity is stabilized and employment and output gaps are reduced in AEs. These would allow DCs to go back to catch- up growth and continue to converge towards income levels of AEs, very much as in the period before the onset of the crisis. There are, however, important ques- tion marks regarding these expecta- tions. First, it is not clear when the cri- sis will be over and if DCs can sustain a reasonable pace of growth in the event of protracted instability and weakness AFP in AEs. There are still serious down- side risks, notably from the Eurozone (EZ) and China, and global economic Protests in Lisbon against austerity policies: the economic crisis of the North has many spillover effects on the South. Page 16 ● South Bulletin ● Issue 76, 21 November 2013 similar to that triggered by the collapse of Lehman brothers in 2008 – a flight to safety, stronger dollar and sharp de- clines in assets and currencies in DCs. It could be longer lasting than Lehman, because of difficulties in restoring con- fidence and stability. The outlook of the global economy is also clouded by downside risks sur- rounding China. It has been increas- ingly argued, including by a prominent Asian investment bank, Nomura Hold-

ings Inc., that because of the credit and Bloomberg property bubbles created by its re- sponse to fallouts from the crisis, China

now displays the symptoms that the US showed before the sub-prime crisis. Shoppers walk past food stalls at the Klong Thoei market in Bangkok. On this view, if a loose policy stance is maintained and the risks are not prospects for the US and Europe are of sition to slower growth is already un- brought under control, strong growth course crucial. This has already been der way and the growth rate is ex- above 8 per cent could be attained in analysed in the pervious issue of the pected to come down to 6.5 per cent 2013, but only to be followed by a fi- South Bulletin. We now consider the during 2018-22 after three decades of nancial crisis as early as 2014 (Wall situations of China. double-digit levels (Wolf, 2013). How- Street Journal, 2013; Frost, 2013). The response of China to fallouts ever, the possibility that China may Again, a global survey of fund manag- from the crisis has served to rebalance also get caught in a middle-income ers conducted in March 2013 has domestic and external demand, but trap is not excluded (Bertoldi and Me- shown widespread expectations of a aggravated the imbalance between in- lander, 2013; ADB, 2011). hard landing in China (Emerging Mar- vestment and consumption, which had The transition of China to a lower kets, 2013). The loss of growth momen- already been building up in the period growth path over the next few years tum in the first quarter of 2013 has also before the crisis. Investment has been implies that its demand for commodi- renewed fears of an imminent crisis in the main driver of growth since 2009 ties would grow much more slowly the banking system. and consumption has been growing than in the past decade. This would The impact of a financial turbulence only marginally faster than income. result not only from slower growth but in China on DCs could be more serious However, China cannot keep on push- also rebalancing of demand towards ing investment to fill the deflationary than that of a sharply increased finan- consumption, which is much less im- cial stress in the EZ. It can be expected gap created by the slowdown in ex- port intensive than either exports or ports in conditions of exceptionally low to lead to a sudden reversal of capital investment (Akyüz, 2011a). Improve- inflows, a sharp correction in asset shares of wages and household income ments in the efficiency in the use of markets and strong downward pres- in GDP. That would add more to fi- materials could also reduce the pace of nancial fragility and imbalances than to sures on the currencies in the develop- China’s demand for materials (UNEP, ing world. Such adverse financial spill- productive capacity and potential 2013). Together with a stronger dollar, growth. Nor can it go back to export- overs would be aggravated by the im- these could imply significant loss of led growth and constantly increase its pact of a sharp drop in China’s demand momentum in commodity prices, for commodities. Consequently, DCs penetration of foreign markets. This short-circuiting the commodity super- would be resisted, possibly causing heavily dependent on capital flows and cycle and lowering its mean in con- commodity exports are particularly disruptions in the trading system. formity with the observed historical vulnerable to a financial turbulence Regardless of how the existing finan- pattern (Erten and Ocampo, 2012). and a hard landing in China. cial fragilities created by the credit and Nor can China be expected to be- However, a severe financial stress in investment bubbles are handled, the come a locomotive for exporters of most likely medium-term scenario for China does not have a high probability manufactures in the developing world. China is a sizeable drop in its trend of occurrence. As argued by Anderlini Its imports of manufactures from DCs (2013), even if the risks are not (or growth compared to double-digit rates have so far been destined mainly for it enjoyed in the run-up to the crisis, could not be) immediately brought exports rather than for domestic con- under control, in China “a Lehman with a better balance between domestic sumption which has very low import style collapse is impossible” and its and external demand and a gradual content (Akyüz, 2011a). A more bal- rebalancing of domestic consumption “banking system is more likely to un- anced growth between exports and dergo slow erosion” because of exten- and investment. Indeed, research con- domestic consumption would imply ducted at the Chinese Development sive state ownership and guidance. slower growth of imports of parts and Research Centre on growth prospects components from other DCs. On the Longer-term prospects of China is reported to have concluded other hand, there is still some time be- that, for a number of reasons on the In considering the longer-term pro- fore China could exit from labour- demand and supply sides, such a tran- spects for the global economy, the intensive, low-skill manufactures and

Page 17 ● South Bulletin ● Issue 76, 21 November 2013 become a major market for lesser de- veloped countries in these products, relocating such industries, à la Flying Geese, in lower-cost countries in South and South East Asia and Africa. Conclusions The crisis in AEs has aggravated the problem of underconsumption that the world economy has been facing due to low and declining share of wages in income and increased concentration of wealth. Rising inequality is no longer only a social problem. It has also be- come a serious macroeconomic prob- lem, compromising the ability of the world economy to achieve strong and sustained growth and financial stabil- ity. The solution calls for strong action on its causes - financialization, the China needs to rebalance external and domestic sources of growth. retrenchment of welfare state and glob- alization of production. However, the though it faces a bumpy road. Brazil, opment to international market forces likelihood of fundamental changes in Russia and South Africa continue to shaped mainly by policies in AEs and these areas is slim. Thus, the post-crisis depend heavily on commodities and their financial conglomerates and world economy may either go back to have indeed deepened their depend- transnational corporations in control of finance-driven boom-bust cycles, en- ence by expanding the commodity sec- international production chains. joying unsustainable expansions fol- tor relative to industry. The two key Despite growing disillusionment in lowed by deep and prolonged crises, or determinants of growth in Latin Amer- the South, the Washington Consensus may have to settle at a slow growth ica and Africa, commodity prices and is dead only in rhetoric. There is little path. It is against this background that capital flows, are largely beyond na- roll back of policies pursued and insti- DCs need to rethink their development tional control and susceptible to sharp tutions created on the basis of that con- policies. and unexpected swings. At a bare 3 sensus in the past two decades. On the per cent, the average potential growth Not only has the “Great Recession” contrary, the role and impact of global rate of Latin America is far too low, led to a “Great Slowdown” in DCs market forces in the development of even if constantly realized, to close the (Economist, 2012), pushing growth DCs has been greatly enhanced by con- income gap with AEs. Many second- rates possibly below stalling speeds in tinued liberalization of trade, invest- tier Newly Industrializing Economies some, but also medium-term prospects ment and finance unilaterally or (NIEs) in Asia seem to be caught in the for global economic conditions look through bilateral investment treaties middle-income trap, facing growing unfavourable compared to pre-crisis and free trade agreements with AEs. competition from below without being years and, in some respects, even com- DCs need to be as selective about glob- able to upgrade and join those above – pared to the period since the onset of alization as AEs, and reconsider their the first-tier NIEs and Japan. India has the crisis. Thus the rapid rise of the integration into the global economic been relying on the supply of labour to South that began in the early years of system, in recognition that successful the rest of the world, not by converting the new millennium appears to have industrialization is associated neither them into higher-value manufactures, come to an end. This should not come with autarky nor with full integration, but by exporting unskilled workers as a surprise since, as argued in Akyüz but strategic integration designed to and IT and other labour services of a (2012), the exceptional performance of use foreign markets, technology and very small proportion of its total labour DCs in the run up to the crisis was finance to pursue industrial develop- force (Nabar-Bhaduri and Vernengo, driven primarily by exceptional global ment. 2012). conditions. There were little signs of This implies rebalancing external tangible improvements in the underly- As one development practitioner and domestic forces of growth and ing growth fundamentals or dynamics has put it, for DCs it would now be development. Since the end of the so- in DCs experiencing acceleration. “unwise to count on tail winds; they called import-substitution, inward- will likely weaken, become more vola- That acceleration took place without oriented policies, the pendulum has tile, or both” (Torre, 2013). The re- any significant progress in industriali- swung too far. Dependence on foreign markable performance of most DCs in zation without which most DCs cannot markets and capital should be reduced. the past decade is in danger of remain- converge and graduate to the levels of There is also a need to redefine the role ing a “one-off success” unless they productivity and living standards of of the state and markets, not only in raise productive investment, accelerate AEs. Of the so-called BRICS (Brazil, finance but also in all key areas affect- productivity growth and make signifi- Russia, India, China and South Africa), ing industrialization and development, cant progress in industrialization. only China promises sustained catch- keeping in mind that there is no indus- Globalization has been oversold to up growth and graduation even trialization without active policy. DCs. They have largely left their devel- Page 18 ● South Bulletin ● Issue 76, 21 November 2013 New Threat to Economic Role of the State The economically successful developing countries like Malaysia Partnership (TTIP). are characterised as having a strong “developmental state”. But this role of the state is coming under attack in new A sub-chapter on state-owned en- terprises (SOEs) is a prominent part of global rules being created. the TPPA, which was negotiated in Kota Kinabalu that fortnight. The United States and Australia are leading the move to have rules to discipline the role of the government in the economy, through a two prong approach. First, to get government or other monopolies to behave in a “non- discriminatory” way, including when they buy or sell goods and services.

AFP This includes that they may not give

preferences or incentives to the local firms. Second, companies that are linked Trade ministers from the nations negotiating the TPP met in Bali. to the government (including through By Martin Khor Private companies also receive state a minority share) should not get ad- assistance and support in many ways, vantages vis-à-vis other firms in com- wo new trade agreements involv- including loans to small and medium mercial activities. Of course the devel- ing the two economic giants, the T enterprises and farmers, subsidies and oped countries that are proposing this United States and European Union, are tax breaks for research and develop- are thinking of their companies – how leading a charge against the role of the ment or technology purchase, prefer- they can get more access to develop- state in the economy in developing ences in government procurement, in- ing countries’ markets. countries. frastructure provision including in spe- In the TTIP, a US-European Union Attention should be paid to this cial economic zones. agreement, negotiations for which initiative as it has serious repercussions Countries provide incentives for started earlier in July, the European on the future development plans and foreign companies, such as tax-free sta- Union is preparing a sub-chapter on prospects of the developing countries. tus. However, the state also has special state owned enterprises, with rules The role of the state, or of govern- treatment for local companies, such as that seem quite similar to what the US ment, in development is a subject of grants, cheaper than normal credit and and Australia are proposing in the long-standing and important discus- subsidies, and government contracts. TPPA. sion. The developmental role of the state Although the TTIP only involves In fact some economists and ana- in developing countries is now coming Europe and the US directly, the rules it lysts consider it perhaps the most im- under attack from developed countries. sets are intended to have consequenc- portant issue that determines the dif- This is promoted by the big compa- es for other countries. ference between economic success or nies in the US, Europe and Japan, which According to press reports, the two failure in developing countries. seek to enter the markets of developing economic giants are planning that the The immediate post-colonial period countries which are the source of their rules they set in the TTIP will become saw a tendency to a strong state, in- future profits. the standard or template for future cluding government ownership of The support given by the state to bilateral agreements that also include some key sectors, including industry domestic companies are seen by the developing countries. and banking. multinational companies as a hindrance They also hope that these rules will Past decades have witnessed a to their quest for expanded market be internationalised in the World wave of privatisation across both rich share in developing countries. Trade Organization, which has over and developing countries. But the state They are thus seeking to change the 130 member states. still owns or controls utilities, infra- worldview and policy framework in The EU’s position paper on SOEs structure, public services, banks and a developing countries, to get them to says that its aim is to “create an ambi- few strategic industries in many devel- reduce the role of state enterprises as tious and comprehensive standard to oping countries. well as to curb the government’s pro- discipline state involvement and influ- State enterprises or commercially motion of local private companies. ence in private and public enterpris- run companies owned by or partially The two latest big attempts towards es”. linked to the government play an im- this is through the Trans-Pacific Part- And that “this can pave the way to portant role in many a developing nership Agreement (TPPA) and the other bilateral agreements to follow a country. Trans-Atlantic Trade and Investment similar approach and eventually con-

Page 19 ● South Bulletin ● Issue 76, 21 November 2013 tribute to a future multilateral engage- ment.” In other words, the constraints on the role of the state, and the reduction of the space for behaviour or opera- tions of state-linked companies, will become the way of the future for all countries, if the US and European plans succeed. What is moving these countries in this direction? It is quite well known that the negotiating positions of the developed countries are greatly influ- enced and in fact driven by their big companies. Their trade policy makers and ne- gotiators usually act on behalf of these companies. Reports by the specialist trade bul- The headquarters of the World Trade Organization in Geneva, where negotiations for a “Bali Package” including the food security issue is taking place. letin Inside US Trade show how corpo- rate groups like the US Chamber of (Continued from page 22) Other Green Box subsidies, that Commerce and the Coalition of Ser- developed countries mostly use, do not vices Industries have been pushing for products selling at below production carry such a condition. the new rules on state owned enterpris- costs are still flooding into the poorer es, and also how they are targeting to countries, often eating into the small The developing countries merely open up the markets of developing farmers’ incomes and livelihoods. seek to remove the unfair condition countries especially China. that in effect prevents them from ade- Ironically the developing countries, quately helping their poor to get suffi- These attempts to curb the role of already the victims of the rich world’s cient food. the state in the economy are worthy of subsidies, are themselves not allowed serious study and counter-action. to have the same huge subsidies, even For example, India’s parliament has Developing countries that succeed- if they can afford it. just passed a food bill that entitles the poor (two thirds of the population) to ed in economic development were able The reason is that the agriculture to combine the roles of the public and obtain food from a government scheme rules say that all countries have to cut that buys the food from small farmers. private sectors in a partnership that their distorting subsidies. So if a de- advanced overall national develop- veloping country has not given subsi- But the estimated US$20 billion- ment. dies before, they are not allowed to plus the government will spend annu- Asian countries, including Japan, give any, except for a small minimal ally may exceed the small minimum South Korea, Malaysia, Singapore, and amount (10 per cent of total production amount of subsidy it is allowed, be- China, have pioneered this model of value). cause India was not a big subsidiser public sector collaboration with the before the WTO rules came into force. In other words, if you have given private sector. $100 billion subsidy, you have to bring Other developing countries that Those few developing countries it down to $80 billion and you can provide subsidies to their farmers and that managed to get development go- transfer the rest to the Green Box, but if consumers, such as China, Indonesia, ing were all driven by the you haven’t given any before, you can- Thailand, and Malaysia, may also one “developmental state”, or the leader- not give one dollar, except for the min- day find themselves the targets of com- ship role of government in establishing imum allowed. plaints. the framework of economic strategy, This is where the present WTO con- For rich countries who are subsidis- and the collaboration between the state, troversy comes in. The developing ing a total of US$407 billion a year to state enterprises, and commercial com- countries are asking that food bought disallow poor countries from subsidis- panies, including those in which the from poor farmers and given to poor ing their small farmers and poor con- state has an interest. consumers should be considered part sumers, is really a specially bad form If developing countries like Malay- of the Green Box without conditions. of discrimination and hypocrisy. An sia have to come under new interna- outstanding case of the pot calling the tional rules that curb the role of the The present rule sets an unfair con- kettle black! dition: that any subsidy element in state and that re-shape the structure of Whether this controversy can be their economy, then the prospects for this purchase scheme should be con- sidered a trade-distorting subsidy settled fairly before the WTO’s Bali future development will be adversely Ministerial remains to be seen. affected. which for most developing countries is limited to this minimum amount (10% of production value).

Page 20 ● South Bulletin ● Issue 76, 21 November 2013 When Foreign Investors Sue the State The investor-state dispute system, whereby foreign investors Philip Morris because of its regulation can sue the government in an international tribunal, is one of the that the cigarette boxes cannot pro- issues being negotiated in the Trans-Pacific Partnership Agree- mote the logo and brand names. ment. An American company Renco sued Peru for $800 million because its con- By Martin Khor vestors that claimed losses due to gov- tract was not extended after the com- ernment policies or regulations, such as pany’s operations caused massive en- n the recent public debate surround- tighter health and environmental regu- vironmental and health damage. I ing the Trans Pacific Partnership lations. There are several implications of Agreement (TPPA), an issue that seems The arbitration system has come the ISDS. Not conforming to TPPA to stand out is the investor-state dis- rules can carry a heavy penalty, since pute settlement system (ISDS). under heavy criticism, including that the tribunal decisions are arbitrary and government can be sued in an interna- It enables foreign investors of TPPA can contradict decisions of other tribu- tional court, and thus government will countries to directly sue the host gov- nals in similar cases. be constrained when formulating fu- ernment in an international tribunal. ture policies or implementing existing There is often a conflict of interest ones. In most US free trade agreements, situation. A few lawyers monopolise the tribunal most mentioned is ICSID, the international investment arbitration It is difficult for government to an arbitration court hosted by the business; they act as lawyers in one case make new policies, as it cannot predict

World Bank in Washington. and as arbitrators in other cases. In a whether certain policies it wishes to few cases, an arbitrator was on the introduce or change is allowable, since The ISDS is a powerful system for it is uncertain or unpredictable how a enforcing the TPPA’s rules. Any for- Board of Directors of the parent compa- ny of the investor that took up the case. tribunal will view this, i.e. the view of eign investor from TPPA countries can a particular tribunal can differ from take up a case claiming that the govern- There is a pro-investor bias in many that of another tribunal. ment has not met its relevant TPPA cases, with decisions or arguments that obligations. are quite clearly unfair to the govern- The country’s judicial sovereignty will be affected. Investors will choose If the claim succeeds, the tribunal ments being sued. However there is no appeal possible. to take up cases in the international could award the investor financial tribunal where their chances of success compensation for the claimed losses. If Another issue is the high awards and the pay-out are higher than in the payment is not made, the award and the strong enforcement, including local courts. can potentially be enforced through the seizure of assets. seizure of assets of the government that The country will become vulnera- has been sued, or through tariffs raised The claims have tended to be very ble to multi million-dollar and billion- on the country’s exports. high in recent years, running to billions dollar legal suits taken by foreign in- of US dollars. Awards are usually low- vestors. Potentially this may cost gov- The ISDS is related to relevant parts er, but recent ones can also be very ernment a lot of financial resources. of the TPPA’s investment chapter. One high, for example the US$2.3 billion of the provisions is a broad definition award granted to an American oil com- The TPPA negotiations are still of “investment” which includes credit; pany against Ecuador. going on, and thus the ISDS compo- contracts; intellectual property rights nent can still be negotiated. However, (IPRs); and expectations of future gains The ability to enforce these awards there is probably limited room for ne- and profits. Investors can make claims through seizure of assets owned and gotiation on the key aspects, since the on losses to these assets. located abroad by the government USA is unlikely to deviate from the makes the ISDS a very powerful instru- main points in its FTAs. Under the national treatment provi- ment. sion, foreign investors can claim to be If the ISDS is deemed to contain discriminated against if the local is giv- Among recent cases was an award too many problems, one option is to en preference or other advantage. by ICSID to a US oil company against ask for an exception, i.e. that it does Ecuador for US$2.3 billion; a case taken not apply to the country, similar to Under the clause on fair and equita- against South Africa by a European what Australia has requested. It is ble treatment, investors have sued on mining company claiming losses from doubtful however whether such a re- the ground of non-renewal or change the government’s black empowerment quest will be granted by other TPPA in terms of license or contract; and programme and a US$2 billion claim countries. changes in policies or regulations that against Indonesia by a UK-based oil the investor claims will reduce its fu- company, after its contract was can- ture profits. celled because it was not in line with Martin Khor is Executive Director Finally, investors can sue on the the law. of the South Centre; contact ground of “indirect expropriation”. Australia has also been sued for bil- at: [email protected]. Tribunals have ruled in favour of in- lions of dollars by the tobacco company

Page 21 ● South Bulletin ● Issue 76, 21 November 2013 Pot Calling the Kettle Black!

A fight taking place in the WTO shows how the rules on agricul- ture allow rich countries to continue huge subsidies whilst pe- nalising developing countries’ farmers. By Martin Khor their farmers, stock the food and dis- tribute it to poor households, without ood is one of the most important this being limited by the WTO’s rules and emotive of all issues. As con- F on agricultural subsidies. distorting or minimally trade- sumers, we can’t survive without it. However their proposal is facing distorting.” Agriculture also employs the most resistance, mainly from some major There is no limit to the Green Box people in most developing countries. developed countries, especially the subsidies. So the trick played by the Ensuring farmers have enough income United States, whose Ambassador told rich countries has been to move most is key to development and social stabil- the WTO earlier this year that such a of their subsidies to the Green Box, ity. move would "create a massive new including subsidies that are not direct- Some countries that did not achieve loophole for potentially unlimited ly linked to production, or that are this have faced first rural disgruntle- trade-distorting subsidies". tied to environmental protection. But ment and then upheaval. This clash is an outstanding exam- studies have shown that the Green ple of how the agriculture rules of the Box subsidies are in fact trade dis-

Increasing food self-reliance is a torting as well. goal in many countries. Food security WTO favour the rich countries whilst became a high priority after global food punishing the developing countries, With this shifting around, the rich prices shot up to record highs in 2008, including their poorest people. world’s subsidies have been main- and there was a near-scramble for sup- It is well known that the greatest tained or actually soared. WTO data plies of some food items including rice distortions in the trading system lie in show that the total domestic support because of potential shortages. agriculture. This is because the rich of the United States grew from US$61 billion in 1995 (when the WTO started) Also, reducing and eventually elim- countries asked for and obtained a to US$130 billion in 2010. inating hunger worldwide is one of the waiver in the 1950s from the liberaliza- key development goals adopted by tion rules of the GATT, the predecessor The European Union’s domestic governments at the United Nations. of the WTO. support went down from 90 billion euro in 1995 to 75 billion euro in 2002 Against this background, there is a They were allowed to give huge and then went up again to 90 billion in remarkable discussion now taking subsidies to their farm owners, some of 2006 and 79 billion in 2009. place at the World Trade Organization, who do not even carry out farm activi- as part of preparations for its Ministeri- ties, and to have very high tariffs. A broader measure of farm protec- al Conference in Bali in December. When the WTO was set up, it had a tion, known as total support estimate, shows the OECD countries’ agricul- Developing countries grouped un- new agriculture agreement that basical- ture subsidies soared from US$350 der the G33 are asking that their gov- ly allowed this high farm protection to billion in 1996 to US$406 billion in ernments be allowed to buy food from continue. The rich countries were obliged only to reduce their “trade dis- 2011.

SOUTH BULLETIN torting subsidies” by 20% and could The effects of continuing rich- change the nature of their subsidies and country subsidies have been devastat- EDITORIAL COMMITTEE put them into a “Green Box” containing ing to developing countries. Food subsidies that are termed “non trade- Chief Editor: Martin Khor (Continued on page 20) Managing Editor: Vice Yu

Assistants: Xuan Zhang, Anna Bernardo

The South Bulletin is published by the South Centre, an intergovernmental think-tank of developing countries.

South Centre website: (in English, French and Spanish) www.SouthCentre.int South Centre Tel: +41 22 791 8050 Email: [email protected] A decent income from agriculture is crucial for food security in the South. Page 22 ● South Bulletin ● Issue 76, 21 November 2013