the global economic and financial crisis · 2015-01-30 · the global economic and financial...

ECONOMIC AND SOCIAL COMMISSION FOR ASIA AND THE PACIFIC

THE GLOBAL ECONOMIC ANDFINANCIAL CRISIS

Regional Impacts,Responses and

Solutions

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The Global Economic and Financial Crisis:Regional Impacts, Responses and Solutions

New York, 2009

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The designations employed and the presentation of the material in this publication do notimply the expression of any opinion whatsoever on the part of the Secretariat of the UnitedNations concerning the legal status of any country, territory, city or area or of its authorities,or concerning the delimitation of its frontiers or boundaries.

This publication has been issued without formal editing.

Mention of firm names and commercial products does not imply the endorsement of theUnited Nations.

Reproduction and dissemination of material in this publication for educational or other non-commercial purposes are authorized without prior written permission from the copyrightholder, provided that the source is fully acknowledged.

Reproduction of material in this publication for sale or other commercial purposes,including publicity and advertising, is prohibited without the written permission of thecopyright holder. Applications for such permission, with a statement of purpose and extentof the reproduction, should be addressed to the Regional Commissions New York Office.

United Nations publicationSales No. E.09.II.F.18Copyright � United Nations 2009ISBN: 978-92-1-120585-5

©

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The report is a joint product of the five United Nations Regional Commissions (EconomicCommission for Africa (ECA), Economic Commission for Europe (ECE), Economic Com-mission for Latin America and the Caribbean (ECLAC), Economic and Social Commissionfor Asia and the Pacific (ESCAP) and Economic and Social Commission for Western Asia(ESCWA)).

The report was prepared under the overall coordination and direction of Noeleen Heyzer,Executive Secretary of ESCAP and Current Coordinator of the Regional Commissions,assisted by Shigeru Mochida, Deputy Executive Secretary and Officer-in-Charge of theMacroeconomic Policy and Development Division of ESCAP and Tiziana Bonapace, Chiefof the Macroeconomic Policy and Analysis Section. Amr Nour, Officer-in-Charge, RegionalCommissions New York Office coordinated the preparations and the contributions of theRegional Commissions to the publication.

At ECA the team consisted of Patrick N. Osakwe and Ben Idrissa Ouedraogo; at ECE:Robert Shelburne; at ECLAC: Daniel Titelman, Cecilia Vera and Pablo Carvallo; at ESCAP:Shuvojit Banerjee, Yejin Ha, Somchai Congtavinsutti, Amornrut Supornsinchai and WoranutSompitayanurak; at ESCWA: Khaled Hussein and George Harab.

The manuscript was edited by Peter Stalker, the layout and printing were provided by TREnterprise, and Marie Ange Sylvain-Holmgren contributed to the design of the cover page.

For further information, please see http://www.un.org/regionalcommissions or contact:

ECA:

Mr. Abdoulie Janneh, Executive Secretary, United Nations Economic Commission for Africa,P.O. Box 3005, Addis Ababa, Ethiopia, phone: +251-11-5443336; e-mail: [email protected].

ECE:

Mr. Jan Kubis, Executive Secretary, United Nations Economic Commission for Europe,CH-1211 Geneva 10, Switzerland; phone: +41-22-9171234; e-mail: [email protected].

ECLAC:Ms. Alicia Barcena, Executive Secretary, United Nations Economic Commission for LatinAmerica and the Caribbean, Av. Dag Hammarskjold 3477, Vitacura, Santiago, Chile; phone:+56-2-2102000; e-mail: [email protected].

ACKNOWLEDGEMENTS

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ESCAP:Ms. Noeleen Heyzer, Executive Secretary, United Nations Economic and Social Commissionfor Asia and the Pacific, The United Nations Building, Rajadamnern Nok Avenue, Bangkok10200, Thailand; phone: +66-2-2881234; e-mail: [email protected].

ESCWA:Mr. Bader Al-Dafa, Executive Secretary, United Nations Economic and Social Commissionfor Western Asia, P.O. Box 11-8575, Riad el-Solh Square, Beirut, Lebanon; phone: +961-1-981301; e-mail: http://www.escwa.un.org/main/contact.asp.

ACKNOWLEDGEMENTS (continued)

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CONTENTS

Page

Acknowledgements ......................................................................................................... iii

Acronyms ......................................................................................................................... x

Overview .......................................................................................................................... 1

A crisis across the regions ........................................................................................ 1

All regions have suffered declines in growth ....................................................... 1Despite banking sector rescue plans, risks remain ............................................... 3Falling equity prices ................................................................................................ 3Capital flows have been drying up ........................................................................ 3Sharp falls in commodity prices ............................................................................. 5Contracting global trade .......................................................................................... 5Rising protectionism ................................................................................................ 6Rising unemployment, increasing poverty ............................................................. 6Expansionary monetary and banking policies ....................................................... 8Combating recession with fiscal stimulus ............................................................. 8An uncertain economic outlook .............................................................................. 9Regional responses for early recovery ................................................................... 9Regional financial cooperation ............................................................................... 9Efforts at regional coordination .............................................................................. 10The way forward: the role of regional policy-making ......................................... 10

CHAPTER I ....................................................................................................................... 15

The Economic Commission for Africa ................................................................... 15

The impact of the crisis .......................................................................................... 15Country policy responses ........................................................................................ 22Regional responses................................................................................................... 24The way forward ...................................................................................................... 25

CHAPTER II ...................................................................................................................... 29

The Economic Commission for Europe ................................................................. 29

The impact of the crisis .......................................................................................... 30Country policy responses ........................................................................................ 36Regional responses................................................................................................... 40The way forward ...................................................................................................... 42

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CONTENTS (continued)

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CHAPTER III .................................................................................................................... 45

The Economic Commission for Latin America and the Caribbean ................. 45

Impact of the crisis .................................................................................................. 45Country policy responses ........................................................................................ 50Regional responses................................................................................................... 50The way forward ...................................................................................................... 52

CHAPTER IV .................................................................................................................... 57

The Economic and Social Commission for Asia and the Pacific ...................... 57

The impact of the crisis .......................................................................................... 58Country-specific responses ...................................................................................... 64Regional responses................................................................................................... 66The way forward ...................................................................................................... 67

CHAPTER V ..................................................................................................................... 73

The Economic and Social Commission for Western Asia ................................... 73

The impact of the crisis .......................................................................................... 73Country-specific responses ...................................................................................... 78Regional responses................................................................................................... 80The way forward ...................................................................................................... 82

References ................................................................................................................... 85

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FIGURES

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Figure 1 – Real GDP growth by region, 2009 ...................................................... 2

Figure 2 – Regional emerging markets equity indices, 19 September 2008-16 April 2009 ......................................................................................... 4

Figure 3 – Net private capital flows to developing country regions,2002 and 2007 ....................................................................................... 4

Figure 4 – Total trade as a percentage of GDP (constant 2000 prices) .............. 6

Figure I-1 – Price indices of major commodity groups, 2007-2009 ...................... 18

Figure I-2 – Remittance inflows to Sub-Saharan Africa ($ billions),2000-2008 ............................................................................................... 19

Figure I-3 – Unemployment rates in Sub-Saharan Africa, 2003-2008 ................... 21

Figure II-1 – Real growth in the major ECE subregions, 1999-2010 ..................... 31

Figure III-1 – Countries in Latin America and the Caribbean, estimatedgrowth in 2009 ...................................................................................... 46

Figure III-2 – Latin America, monthly exchange rates in six countries,2008-2009 ............................................................................................... 46

Figure III-3 – Increases in public expenditure, percentage of 2008 GDP ................ 47

Figure III-4 – Current account balance, percentage of GDP at current prices,1994-2008 ............................................................................................... 48

Figure III-5 – ECLAC region, commodity price index, 2008-2009 .......................... 49

Figure III-6 – Measures implemented by ECLAC countries ..................................... 51

Figure III-7 – Benchmark interest rates, 2007-2009 ................................................... 52

Figure III-8 – ECLAC region – GDP growth and net capital flows as apercentage of GDP ................................................................................ 54

Figure IV-1 – Stock of portfolio investments as a percentage of foreign exchangereserves, selected economies, 2001 and 2008 or latest ...................... 58

Figure IV-2 – Current account balances as a percentage of GDP, selecteddeveloping ESCAP economies, 1996 and 2008.................................. 59

Figure IV-3 – Short-term debt as a percentage of GDP, selected developingESCAP economies, 1996 and 2007 ..................................................... 60

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Figure IV-4 – Equity market decline from peak to trough in 1997/98, and in thecurrent crisis from peak to end-March 2009 ...................................... 61

Figure IV-5 – Selected stimulus packages as a percentage of GDP ......................... 65

Figure IV-6 – Fiscal balance, top surplus and deficit economies, 2008 ................... 66

Figure IV-7 – Economic growth, selected ESCAP economies, 2007-2009 .............. 68

Figure IV-8 – Real GDP growth, selected developing ESCAP and developedeconomies, 2003-2009 ........................................................................... 69

FIGURES (continued)

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Page

Table I-1 – Expected exchange rate depreciation in Africa against theUS dollar, 2009 ......................................................................................... 17

Table I-2 – Africa’s merchandise trade, annual percentage change at constantprices, 2006-2008 ...................................................................................... 19

Table I-3 – Net ODA disbursements to key African recipients, 2000-2007 ............ 20

Table IV-1 – Value of exports, year-on-year, selected ESCAPdeveloping economies ............................................................................... 62

Table V-1 – Real GDP growth and consumer inflation rate, 2008 and 2009 .......... 73

Table V-2 – Oil market estimations and projections, 2008 and 2009 ....................... 76

Table V-3 – Destination of ESCWA exports, 2005-2007 ........................................... 77

TABLES

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ACRONYMS

ADB Asian Development Bank

AfDB African Development Bank

AIDS Acquired immunodeficiency syndrome

AIG American International Group

APF African Partnership Forum

ASEAN Association of Southeast Asian Nations

AUC African Union Commission

CAF Andean Development Corporation

CFA Communaute Financiere Africaine

CIS Commonwealth of Independent States

CPIA Country Policy and Institutional Assessment

DSF Debt sustainability framework

EBRD European Bank for Reconstruction and Development

ECA Economic Commission for Africa

ECB European Central Bank

ECE Economic Commission for Europe

ECLAC Economic and Social Commission for Asia and the Pacific

ECOWAS Economic Community of West African States

EIB European Investment Bank

ESCAP Economic and Social Commission for Asia and the Pacific

ESCWA Economic and Social Commission for Western Asia

EU European Union

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EurAsEC Eurasian Economic Community

FDI Foreign direct investment

FLAR Latin American Reserve Fund

G8 Group of eight countries

G20 Group of twenty countries

GCC Gulf Cooperation Council

GDP Gross domestic product

GNI Gross national income

HIV Human immunodeficiency virus

IDB Inter-American Development Bank

IIF Institute of International Finance

ILO International Labour Organization

IMF International Monetary Fund

IOM International Organization for Migration

MDG Millennium Development Goals

NMS New member states

ODA Official development assistance

OPEC Organization of Petroleum Exporting Countries

SDR Special Drawing Right

SEE South-East Europe

SMEs Small and medium-sized enterprises

SWF Sovereign wealth fund

ACRONYMS (continued)

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UNCTAD United Nations Conference on Trade and Development

UN-DESA United Nations Department of Economic and Social Affairs

UNDP United Nations Development Programme

VAT Value added tax

WGP World gross product

WTO World Trade Organization

ACRONYMS (continued)

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Each region, not to mention each country,has its own unique set of challenges, butthe report finds many commonalities and,based on these, it identifies further opportu-nities for policy coordination and coopera-tion at the regional and inter-regional levels.The report concludes that the regional di-mension provides an important and effectiveframework – not just for mitigating theimpact of the current crisis but also forreducing the chances of similar crises in thefuture.

All regions have suffered declinesin growth

According to World Bank estimates, theglobal economy is expected to contract by1.7 per cent in 2009, the first decline onrecord in world output (World Bank, 2009).The crisis will plague economies all over theworld – but the impact will differ in scaleand severity from one country and region toanother (Figure 1). The epicentre is the ECEregion where economic growth in its ad-

The five Regional Commissions come together at a time in which the world’seconomies face some of the most difficult challenges presented in the past century:from climate change effects to extreme food/fuel price volatility to the worst globalrecession since the Great Depression. The effects these are having on developingcountries’ efforts to meet the Millennium Development Goals are worrisome.

This report focuses on the economic crisis. What started as a financial crisis in theUnited States has quickly unfolded into an economic crisis that now threatens to rollback the development gains of the last decade and may precipitate a human tragedyin many parts of the developing world. The issues are global: this affects everydeveloping country from every region requiring that each country devise a strategy foraddressing the challenges. At the same time, intergovernmental cooperation, bothglobally and regionally will be central towards ensuring that the solutions are equita-ble and efficient.

The analysis presented in this report provides a regional perspective on how this crisisis impacting the member states of the five Regional Commissions of the UnitedNations, and examines the type and adequacy of responses at the national and regionallevels. It suggests ways in which the Regional Commissions can use their collectivestrengths to prevent the economic crisis from becoming a human crisis.

OVERVIEW

A CRISIS ACROSS THE REGIONS

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THE GLOBAL ECONOMIC AND FINANCIAL CRISIS: REGIONAL IMPACTS, RESPONSES AND SOLUTIONS

vanced economies turned negative betweenlate 2007 and 2008. Annual real growth inthe region as a whole is forecast to fall from+1.5 to –3.5 per cent between 2008 and2009. The emerging European economies inparticular have been hit hard – sufferingfrom a sudden halt in capital inflows whilelacking the policy space to implement ex-pansionary monetary and fiscal policies.

In the ESCWA region, between 2008 and2009, GDP growth is expected to fall from6.1 to 2.1 per cent. The Gulf CooperationCouncil countries, which are now sufferingfrom large declines in oil prices and de-pressed real estate markets, will see growthfall from 5.8 to 1.1 per cent. The econo-mies in the ECLAC region are also experi-encing falls in commodity prices, which forsome countries make up a large part ofGDP, as well as from declining flows ofremittances. This will depress economicgrowth across Latin America and the Carib-bean where, after six consecutive years ofsteady expansion, ECLAC estimates GDP is

expected to contract to –0.3 per cent. In theECA region, preliminary evidence also indi-cates slower growth. Despite earlier predic-tions that African economies, with relativelylow levels of integration with the globaleconomy, would, to a certain extent, beinsulated from the brunt of the crisis,growth forecasts for 2009 are being reducedby between 2 and 4 percentage points. Inthe ESCAP region the developing econo-mies initially showed resilience since, fol-lowing the Asian financial crisis in 1997,they had implemented wide-ranging finan-cial and regulatory reforms. Now, however,they are feeling the effects through declin-ing trade, on which the region is heavilydependent. As a result, compared with 5.8per cent growth in 2008, the ESCAP regionis expected to grow in 2009 by only 3 percent. This is nevertheless faster than inmany other parts of the world so, given thatthe region’s developing economies accountfor 16% of World GDP, Asia and the Pa-cific is likely to be the locus of globalgrowth in 2009.

Figure 1 – Real GDP growth by region, 2009

ESCAP

ECA

ESCWA

ECLAC

ECE

– 4 – 3 – 2 – 1 0 1 2 3 4

Per cent

Source: Based on data from Regional Commissions.

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Despite banking sector rescueplans, risks remain

When the United States property bubbleburst, dramatic increases in mortgage de-faults brought insurmountable consequencesfor the world’s banking sector and financialmarkets. Many banks were over-exposed tobad loans or the complex financial assetsderived from them. As a result, market par-ticipants became risk adverse and whenquestions arose about the solvency of majorfinancial institutions; this triggered a severecredit crunch which ultimately affected thereal economy.

The IMF estimates that toxic assets held bybanks and financial institutions, most ofwhich are in the developed ECE economies,could reach $4 trillion (IMF, 2009a). Sincetheir exposure is on such scale as tothreaten systemic failures in banking sys-tems, governments have been assemblingrescue plans – unloading the toxic assetsfrom bank balance sheets as well asrecapitalizing the banks so they can resumenormal lending operations. This may be es-sential but it is also risky, for if the plansto ‘fix’ the banks fail, and require largeadditional sums, this will continue to ab-sorb funds that are urgently needed forstimulating the real economy and addressingthe world’s other pressing problems.

A further source of vulnerability in manyplaces, including the emerging Europeaneconomies, is that foreign capital is dryingup. This is not yet a severe issue for themajor economies in ESCWA and ESCAPregions, which have relatively low levels ofnon-performing loans – currently under the 8per cent threshold. But if the credit crunchgets worse many other enterprises and bankswill come under stress. In the ECA region

many of the banks are foreign owned, ex-posing them to a risk that their owners maychoose to offer less support to operations inAfrica or sell their assets with serious conse-quences for Africa’s financial sector.

Falling equity prices

All regions first felt the impact of the eco-nomic crisis through rapidly declining eq-uity markets – in some cases coupled withmassive outward capital flows and an asso-ciated depreciation in exchange rates. TheECE region, especially the emerging mar-kets in Eastern Europe, has substantial ex-posure to foreign capital, and since Septem-ber 2008 markets have declined by over 40per cent, while stock markets in theESCWA region witnessed a sharp decline ofnearly 50 per cent in 2008, pushing them totheir lowest level since December 2004.Most African countries, on the other hand,with less-developed financial markets andlimited links with the global financial mar-kets, have been insulated to some extentfrom the global financial crisis. Neverthe-less, countries like Egypt and Nigeria, withmore developed financial markets, havetaken a hit: between March 2008 andMarch 2009, their stock market indices de-clined by around 67 per cent. Some coun-tries in the ESCAP region have also re-corded sharp declines since the crisis,though the losses in Asia and the Pacifichave generally been lower than elsewhere(Figure 2).

Capital flows have beendrying up

The global economy has seen a reduction inall categories of capital flows includingoverseas development assistance (ODA),

OVERVIEW

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foreign direct investment (FDI) and remit-tances. This has affected developing coun-tries in all five regions, though to varyingextents. Over the past decade, all five re-gions have seen dramatic increases in capi-tal flows (Figure 3). These are now underthreat. Countries in the ECLAC region andthe CIS, for example, have already seen a

drop in FDI. Here one of the triggers hasbeen a fall in commodity prices since mostof the region’s FDI comprises investment innatural resources. The ESCAP region hasalso been affected: after rising dramaticallyduring the past decade, FDI inflows havestarted to decline. The ESCWA region isexpected to have witnessed a decrease of

Figure 2 – Regional emerging markets equity indices, 19 September2008-16 April 2009

Eastern Europe

Middle East and Africa

Latin America

Asia

– 50% – 40% – 30% – 20% – 10% 0%

Per cent decline

Source: ESCAP calculations based on data from MSCI Barra.

Figure 3 – Net private capital flows to developing country regions, 2002 and 2007

250

200

150

100

50

0

Billi

ons

of U

S$

SSA Africa Latin America & East Asia & PacificCaribbean

7.2

56.6

17.1

81.0

35.8

199.2

226.7

60.7

2002 2007

Source: Economic Commission for Africa.

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21 per cent in FDI in 2008, largely due toa sharp setback in the last quarter.

Many developing countries also dependheavily on remittances to combat povertyand meet basic needs, such as food, housing,health and education. As migrant workerslose their jobs, remittances are expected tofall. Indeed there are already reports of anincrease in the return of unemployed mi-grants in Asia as well as the ESCWA region.This will affect some of the poorer countriesin the ESCAP region as well as countries inthe ECLAC, ECA and ESCWA regions.

ODA commitments are increasingly shaky.Pressures are mounting in major donorcountries to recapitalize financial institu-tions, support other ailing industries andrevive domestic demand – leaving lessavailable for ODA. Among the recipientslikely to suffer most from falling ODA arethe least developed countries, of whichmany are in the ECA region and vulnerablepopulations in conflict-affected memberstates throughout the world.

Sharp falls in commodity prices

Following the slump in global demand, thecommodity price boom has turned to bust.Since their peak in mid-2008, oil prices, forexample, have fallen by more than 70 percent, energy prices by 60 per cent, and foodand metals by nearly 36 per cent. This ishurting many developing countries in Africaand Latin America and the transition econo-mies of the CIS that are heavily dependenton primary exports. OPEC members havenow cut production, but oil prices are ex-pected to remain below $60 per barrel for2009 with serious consequences for oil ex-porters, not just in the ESCWA region butalso in North and Central Asia (IMF, 2009b).

On the other hand, many non-oil producingcountries and regions will benefit from therelatively low prices of oil and other com-modities, and a consequent easing of infla-tionary pressures. The volatility of oil pricesin 2007 and 2008 has made it difficultfor countries to make the necessary plansfor meeting basic energy and subsistenceneeds.

Contracting global trade

Falling global demand and the drying up oftrade finance have dramatically reducedtrade. The World Trade Organizationprojects that in 2009 the volume of worldmerchandise trade could plunge by 9 percent (WTO, 2009). The ESCAP region will,given its high trade-orientation, be hit par-ticularly hard – especially in some of theexport-oriented South-East Asian economieswhere, during 2008, exports switched fromdouble-digit growth to double-digit decline.These countries are particularly exposed be-cause they have focused on meeting con-sumer demand in developed countries. Andwhile in recent years they have also in-creased exports to developing Asian mar-kets, this is unlikely to serve as much of acushion because a lot of this intra-regionaltrade, especially with China, consists ofmanufactured parts and components whichare assembled in China but destined fordeveloped country markets. Many Africancountries also depend on a few key exports,such as textiles and cut flowers, and haveseen their trade income fall. The exportdeclines have also been large even in theadvanced economies of the ECE whose ex-ports are extremely diversified in manufac-turing, while the ESCWA region will bedeeply affected by contractions in oil ex-ports to developed countries.

OVERVIEW

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Rising protectionism

There are rising concerns that governmentsin recession-hit countries will give in toprotectionist pressures. The pending conclu-sion of the Doha round of WTO negotia-tions has left trade more vulnerable to gov-ernment impulses for protectionist and othertrade-distorting measures. Many countriesare, to a certain degree, already introducingeither covert or explicit forms of protection-ism through their fiscal stimulus packages.Since September 2008, countries across theworld have implemented 47 trade-relatedmeasures and have proposed an additional33 (Newfarmer, 2009). In the ECLAC re-gion there were five cases of increases intariffs or import restrictions. Such restric-tions have also been seen in the ESCAPregion, where, for example, China and Indiahave imposed more stringent import meas-ures while Indonesia requires special li-censes for imports of some products. Thesectors typically affected are textiles, foot-wear, toys, electronics, food and beverages.

Protectionism while palatable for dealingwith immediate pressures, only exacerbatesthe downturn and makes it more difficult toachieve strong growth during the subse-quent recovery. This makes it all the moreimportant to conclude the Doha round in amanner that institutionalizes the trade anddevelopment linkages through a rules-basedsystem of multilateral trade.

Rising unemployment, increasingpoverty

Sharp declines in aggregate demand acrossall five regions are taking their toll onindustrial production and leading to risingunemployment. Factory closures and layoffswill hurt the working poor, especiallywomen and youth, as the manufacturingindustry employs large numbers of unskilledworkers. This will place an enormous eco-nomic burden on many developing econo-mies. In the ESCAP region, the 1997 crisisshowed that when people are hit by suddenshocks, those most at risk are the poor, the

Figure 4 – Total trade as a percentage of GDP (constant 2000 prices)

ESCAP

ESCWA

ECA

ECLAC

0% 10% 20% 30% 40% 50% 60% 70% 80% 90%

Average 1992-1995 or nearest year Average 2005-2008 or latest year available

Source: IMF statistical databases, http://www.imfstatistics.org/imf/, as of 5 May 2009.

81%31%

79%

47%

53%42%

41%15%

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youngest and oldest people, and sociallyexcluded groups. In the labour force, themain casualties are those with flexible em-ployment- low skilled, temporary, casualworkers. Women often constitute the major-ity of these workers. The damage also lastsmuch longer than the crisis itself. After the1997 Asian financial crisis, for example,economic growth resumed relativelyquickly, but some countries took up to 10years to recover the ground they had lost inthe struggle against poverty (ILO, 2008a).In 2008, the employment impact was feltmost in the export manufacturing sector,including garments, electronics and automo-biles, but the crisis is also expected to hitconstruction, tourism, finance, services andreal estate. The least developed countrieshave less exposure to the financial crisis,since their financial sectors are less inte-grated into the global markets, but the poorin these countries will nevertheless be af-fected through lost exports and remittancesand reduced donor assistance.

The ILO is predicting that 50 million peoplewill likely lose their jobs during the currentcrisis as world unemployment increasesfrom 180 million in 2007 to 230 million.Over the next year, 23 million workers inAsia and the Pacific could lose their jobs. Inthe ECLAC region unemployment in 2008was 7.5 per cent but in 2009 it is expectedto rise to between 8.5 and 9.0 per cent. Inthe ECE region, by 2010, unemploymentrates in the United States, Europe, Turkeyand the CIS are likely to reach double digits.In sub-Saharan Africa, ILO estimates that in2009 as many as 3 million workers couldlose their jobs. In Western Asia, it is antici-pated that 10 percent of unskilled workerswill return home from the Gulf CooperationCouncil (GCC) countries, thus worseningunemployment in their home countries in

other parts of Western Asia and beyond.According to the latest ILO estimates,the Middle East and North Africa had thehighest unemployment rates – at 10.3 and9.4 per cent respectively – in 2008.

The crisis is disproportionately affecting thegroups that did not benefit much from theearlier expansion of the global economy. Inmost regions the economic crisis will push alarge number of workers into vulnerableemployment in the informal sector – whichalready absorbs a high proportion of workers.Youth, women and migrant workers – groupswhich already face labour market discrimina-tion – would feel the effects most intensely.

Unemployment can threaten many hard-wonsocial achievements, particularly in educa-tion. During times of economic crisis, thepoorest families may pull their childrenfrom school and require them to work tosupplement the family income resulting inlosses in human capital that undermineprospects for future economic and socialdevelopment. The majority of people whobecome unemployed do not get unemploy-ment benefits. About 80 per cent of theworld population is not covered by socialprotection. Supporting households helpssustain domestic demand and thus actscountercylically to promote macroeconomicstability, if such systems are in place beforethe crisis hits. It is clear that effective sys-tems of social protection to make societiesmore resilient will need to be given higherpriority and be implemented with more ur-gency than in the past.

To meet the employment challenge, theUnited Nations supports a “Global JobsPact” to generate decent work as a mainstayof any global stimulus (United Nations,2009a, ILO, 2009a). Such an approach

OVERVIEW

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takes account of the interlinkages betweenthe financial, trade, economic, employmentand social roots of the global crisis and therequired policy responses.

Expansionary monetary andbanking policies

Around the world, most countries have re-sponded to the economic crisis by cuttinginterest rates and injecting more liquidityinto financial systems. In the ECLAC region,for example, several central banks, in addi-tion to cutting key interest rates, have low-ered reserve requirements. Also in somecases in the ESCAP and ESCWA regionguarantees for bank deposits have been pro-vided. Similarly, in the ECA and ESCAPregions, governments have established loanguarantees for domestic firms in order tofacilitate lending and improve the flow ofcredit. But not all countries have the flexibil-ity to implement such policies. In theESCAP region, some countries have alreadyimplemented historically low interest rates.However, for many emerging markets thereare concerns that further cuts in interest ratescould destabilize their currencies by trigger-ing capital outflows; for example, this wouldbe a risk for Egypt and Lebanon and formany of the emerging European economies.

Moreover, if the downturn deepens and in-flation is replaced by deflation, conven-tional monetary easing will lose its effec-tiveness. For this reason, the advancedeconomies in the ECE region that alreadyhave near-zero interest rates, such as theUnited States, the United Kingdom andSwitzerland, have found it necessary to in-crease their money supplies through quanti-tative easing. In the ESCAP region, devel-oping countries experiencing deflationary

pressures may have to consider similarmeasures if the macroeconomic environ-ment deteriorates further. Expansionarymonetary policies do, however, create therisk that excess liquidity, if left unchecked,may find its way into speculative markets,triggering, once again, volatility in com-modity prices and, in the aftermath of thecrisis, inflationary pressures.

Combating recession with fiscalstimulus

In light of the relative ineffectiveness ofmonetary policy caused by already low in-terest rates and dysfunctional financial mar-kets, much of the attention has focused onfiscal policy. Many governments have con-cluded that the best way to combat reces-sion is to introduce fiscal stimulus packagesthat can boost domestic demand and helpcounteract losses in confidence. To date, themajor industrialized countries, and some de-veloping countries, have devised fiscalstimulus plans totalling about $2.6 trillion,or 4 per cent of world gross product(WGP), to be spent between 2009 and 2011(UN-DESA, 2009). In some countries thiswill lead to massive budget deficits, buteven so it may still fall short of what isneeded. The United Nations estimates thatthe world needs a stimulus of around 3 percent of WGP per annum (IMF, 2009c).Also, to maximize the multiplier effectsglobally, there is an urgent need for policycoordination.

Most agree that the stimulus packagesshould be front-loaded and commensuratewith the size of the crisis, but debate contin-ues over their contents – on whether govern-ments should devote their resources to in-vestment in infrastructure, or to direct trans-

9

fers or on tax cuts. The packages also haveto be tailored to national priorities and cir-cumstances. Some countries, for example,are in a better position to embark on exten-sive stimulus packages while others are im-peded by large existing fiscal deficits. In theESCAP region, strong macroeconomic fun-damentals and high savings rates have ena-bled some countries to introduce large fiscalstimulus packages. China for example hasannounced a package amounting to $586billion, the second largest in the world (USbeing the largest) amounting to around 13per cent of GDP. Overall, fiscal stimuluspackages have been focused on macroeco-nomic stabilization and infrastructure spend-ing, with relatively less attention havingbeen given, particularly at the beginning, tothe social consequences, and the dispropor-tionate burden of the crisis on the poor andwomen. Putting in place social protectionsystems is a centrepiece of the policy re-sponses required. Not only does it createmore inclusive and harmonious societies, italso mitigates the depth of the economiccrisis. By increasing income security, thespending power of middle and lower incomepeople is freed up, thus increasing domesticdemand and macroeconomic stability.

An uncertain economic outlook

In the second quarter of 2009, the economicsituation appears to have plateaued andsome countries are showing tentative signsof recovery. However, there is also the riskthat the global economy could take anotherplunge. The uncertainty has been exacer-bated by the outbreak of influenza A, andthe ongoing uncertainties on how virulent itwill turn out to be. It could impose enor-mous economic costs – as have alreadybeen witnessed in Mexico.

Regional responses forearly recovery

Most responses to the economic crisis willtake place at the national level, while othersideally should be globally coordinated. Butmany can best be undertaken at the regionallevel. Even in a globalized world, the strong-est links – whether for trade, finance, remit-tances or migration – are typically withneighbours. Countries in the same region orsubregion are also more likely to share com-mon problems and have a clear self-interest inarriving at mutual solutions. Equally impor-tant is that policy-making at the regional levelpromotes consensus that can serve as buildingblocks for multilateral policy coordination.

In all of this they can take advantage of theexpertise and activities of a large number ofregional institutions, with Regional Com-missions presenting an institutional blend ofmultilateral and regional approaches that isunique.

Regional financial cooperation

Regional financial institutions have been ac-tive in providing support. Many have beenextending their credit lines and lending fa-cilities to help member states overcomeshort-term difficulties, and in certain caseshave been providing access to long-termfinance. Additionally, regional and sub-regional organizations have been playing animportant role in cross-border anti-crisismeasures. In the ESCAP region, for exam-ple, one of the major regional groups hascreated a multilateral foreign exchangepool: in May 2009 the ASEAN+3 FinanceMinisters reached an agreement whichpaves the way for converting an existingbilateral fund of $80 billion to a multilat-eral pool of $120 billion (ASEAN, 2009).

OVERVIEW

10


Efforts at regional coordination

Across all five regions, governments havebeen coordinating their responses to the cri-sis through policy dialogues. For example,following their meeting in Tunis in Novem-ber 2008, the African Ministers of Financeand Planning and Governors of CentralBanks agreed on measures to be taken at thenational, regional and international levels tomitigate the effect of the crisis on Africancountries. Similarly, in Kuwait, in January2009, the First Arab Economic Summitcalled for a coordinated policy responseamong the Central Banks in the region andendorsed several major infrastructureprojects to strengthen regional cooperationamong Arab states and mitigate the impactof the crisis. The EU leaders have been inclose consultations throughout the crisis inattempts to coordinate their countries’ fiscaland regulatory responses, while in the firstLatin American and Caribbean Summit forIntegration and Development, held in Brazilin December 2008, countries agreed to dis-cuss creating a regional and subregionalfinancial architecture for further integrationof financial markets in the regional and subregional sphere, to develop or strengthenregional mechanisms for balance-of-pay-ments stabilization, promote further coopera-tion between national and regional develop-ment banks, and consider the installation ofa mechanism for trade payments in localcurrencies. In the ESCAP region, at the 65thSession of the Commission, held from 23 to29 April 2009, governments adopted resolu-tion E/ESCAP/65/L.7 (ESCAP, 2008). Whileexpressing concern about the financial crisiswhich had become a global economic crisisthat could complicate efforts to achieveenergy and food security in the region, theCommission urged implementation of re-

gional cooperation initiatives. To this endit requested the Executive Secretary tocontinue to assist countries through indepthanalysis, policy dialogue and advocacyand increased capacity-building activities(ESCAP, 2009).

The way forward: the role ofregional policy-making

As the Secretary-General of the UnitedNations said to the leaders of the G20, “agenuine solution of the crisis requires anew international financial and economicarchitecture that reflects the changing reali-ties in the world and gives greater voice toemerging and developing economies”(United Nations, 2009b).

Developing countries are contributing everlarger shares of economic output in theglobalized economy – and are thus deeplyaffected by decisions taken in developedcountries. They must therefore have agreater voice in the global debate, throughparticipation in the bodies charged witheconomic recovery and regulatory reform.

For this purpose, they could use existingregional platforms, more effectively. Thesecretariats of the Regional Commissionscan support governments and their partnersto consider policy options, sharpen theircommon positions and put in place thebuilding blocks for essential multilateral re-forms. They should be able to use theseplatforms to argue for the most positivelong-term solutions – including policies ontrade, finance, and overseas developmentassistance. For finance, the area wherepolicy coordination is still at a nascentstage compared to other areas such trade,this would mean measures to reform theinternational system to make it more inclu-

11

sive with developing countries assuming amore influential voice on the reformsneeded to avoid the depth of boom-bustcycles and encourage the stable flow ofcapital to developing countries. For trade,for example, this would mean an expeditedconclusion of the Doha Round that woulddiscourage protectionist measures and pro-mote international trade for development.For overseas development assistance, thiswould mean encouraging developed coun-tries to follow through on their declarationat the G20 Summit in London in April2009, which reaffirmed all existing commit-ments to provide more aid and debt reliefto the poorest countries and promised $300billion in support.

Developing countries will also play a cen-tral part in the United Nations global vul-nerability monitoring and alert mechanism.This country-driven mechanism will be lightin structure and build on existing alert andmonitoring capacities and mechanismsacross the United Nations system in aninclusive manner. In this regard, the Re-gional Commissions can support developingcountries through their existing well recog-nized analytical and statistical capabilities.Their distinctive region-specific analysiscould make an important contribution infilling the large information gap that existsbetween when a crisis hits vulnerablepopulations and when information reachespolicy-makers through official statisticalchannels (United Nations, 2009c). Therapidity and depth of the current crisisunderlines the importance of real-time andcompelling analysis. Looking forward, whatwill be needed is faster and improved pre-emptive analysis and advocacy.

Regional Commissions can also provide animportant platform for deeper regional eco-

nomic and financial cooperation. In this cri-sis, the current international architecture hasdemonstrably failed to respond with suffi-cient speed or force to the distinctive prob-lems faced by developing countries. Insteadregions can work together to marshal theirown resources and “insulate themselvesfrom regulatory and macroeconomic failuresin systemically significant countries”(United Nations, 2009d). If countries coordi-nate their policies at the regional level theywill gain greater credibility, helping to shoreup confidence while enhancing regional andglobal multiplier effects. This should not,however be regarded as an alternative tofull participation in global economic rela-tions but rather as a complement to it, byfilling in the gaps in the global system.

Future intraregional financial and economiccooperation can include, for example, pool-ing funds to respond to balance-of-paymentsand liquidity crises, cooperating moreclosely on monetary issues such as ex-change rates, integrating equity and debtmarkets, coordinating financial regulationand supervision, and promoting intra-regional trade, such as by providing tradecredit. This enhanced cooperation will alsomean complementing international financialinstitutions by upgrading the existing re-gional financial architecture.

Of particular importance in the current cri-sis is the coordination of fiscal policiesbecause they provide an excellent opportu-nity for promoting the idea that economicrecovery should be based on a more inclu-sive and sustainable development paradigm.The Regional Commissions could providethe institutional infrastructure for an inter-governmental fiscal policy regional coordi-nating mechanism.

OVERVIEW

12


A global crisis demands a global response.But action will be much more effective if itis built on strong regional foundations, asgroups of developing countries with similarproblems share their experiences andcoordinate their activities. Rather than com-

Bader Al-DafaExecutive Secretary of the Economic and Social Commission for Western Asia

peting with each other they can take com-plementary and mutually reinforcing actionsthat re-ignite national economies and enablepeople all over the world to live freefrom want, from fear, and from discrimina-tion.

Abdoulie JannehExecutive Secretary of the Economic Commission for Africa

Jan KubisExecutive Secretary of the Economic Commission for Europe

Alicia BarcenaExecutive Secretary of the Economic Commission for Latin America and the Caribbean

Noeleen HeyzerExecutive Secretary of the Economic and Social Commission for Asia and the Pacificand Coordinator of the Regional Commissions

14



The Economic Commission for Africa

15

CHAPTER I

The global financial and economic crisisrepresents a serious setback for Africa, takingplace at a time when the region has beenmaking progress in economic performanceand management. Since 2000, the Africaregion has achieved an average growth above5 per cent per year and has seen inflationdecline to single digits. The region has alsomade significant improvements in govern-ance and has reduced armed conflicts, mak-ing it more attractive to private capital flows.Between 2002 and 2007, net private capitalflows to Africa increased from $17.1 billionto $81 billion (ECA and APF, 2008). Thecurrent crisis is also taking place at a timewhen the region is slowly recovering fromthe fuel and food crises.

The global financial and economic crisisthreatens these gains. The key challengefacing African countries is to manage thecurrent crisis so as to ensure that it doesnot reverse progress made since the begin-ning of the new millennium and reduce theprospects for achieving the Millennium De-velopment Goals (MDGs).

The following sections identify the keychannels of transmission of the financial

crisis to Africa, as well as the quantitativeimpacts. They also consider recent policymeasures taken by African governments andregional organizations to cushion the effectsof the crisis on regional economies – aswell as the policy measures and actionsneeded at the international level to ensurethat in Africa the economic crisis does notdevelop into a humanitarian crisis.

The impact of the crisis

In the first few months, it was widely as-sumed that the crisis would have minimalimpact on this region. African countrieshave a low level of integration into theglobal economy, most have very small inter-bank markets, and several countries haverestrictions on new financial products aswell as on market entry, which wouldshield them from the direct effects of thefinancial turbulence.

Recent developments have shown, however,that the Africa region is after all experienc-ing the negative effects of contagion. Forexample, the crisis will reduce economicgrowth. The extent of the decline will de-

THE ECONOMIC COMMISSION FOR AFRICA

Africa might have expected to be less affected by the crisis, being less integrated intothe global economy and having smaller financial markets. But the contagion from thedeveloped countries has already reached most African countries, reducing growth andthreatening hard-won achievements in human development. Of great concern is theeffect of the crisis on ODA.

16


pend on the availability of external financeto the region as well as on the effectivenessof measures taken by the advanced coun-tries to boost global demand, but in 2009the reduction in growth could be between 2and 4 percentage points. Given the hetero-geneity of African countries, the crisis iscertainly going to affect some countriesmuch more than others. For example, thedecline will be more severe in Angola, Bot-swana, Equatorial Guinea, South Africa, andSudan. These countries are expected to losemore than 4 percentage points of growth. InCape Verde, Democratic Republic ofCongo, Egypt, Ethiopia, Ghana, Kenya,Lesotho, Namibia, Nigeria, Mozambique,Sierra Leone and Tunisia, the decline ingrowth in 2009 is likely to be between 2and 3 percentage points.

It is also important to note that the crisis isaffecting countries of all categories. It ishaving an impact on those considered tohave good economic policies and govern-ance, as well on those with poor macroeco-nomic records, and those considered asfragile states. It is affecting both small andlarge economies, and both oil and non-oilexporting countries. This implies that thereal effects of the crisis in the region arenot simply due to the nature of macroeco-nomic policies and governance in particularcountries. It will thus be important to pro-vide assistance to countries in the region toenable them to weather the globalslowdown and protect vulnerable groups.

Stock markets, banks and exchangerates

The crisis is affecting Africa through bothdirect and indirect channels. The direct ef-fect has been felt mostly in the financialsector. Since the onset of the crisis, stock

markets have lost value and become morevolatile. Between March 2008 and March2009 the stock market indices in Egypt andNigeria, for example, declined by about 67per cent, and there were also significantlosses in Botswana, Kenya, Mauritius andZambia.

The turmoil in African stock markets isbeginning to have significant negative ef-fects on the financial sector and on aggre-gate demand. For example, there is growingevidence that it has been affecting bankbalance sheets and, on present trends, thebanking sector could see an increase innon-performing loans, with dire conse-quences for the region’s financial stability.Between 2006 and the third quarter of2008, in Ghana, for example, the ratio ofnon-performing loans to gross loans in-creased from 7.9 to 8.7 per cent, and inLesotho from 2.0 to 3.5 per cent (IMF,2009d).

So far, the region has not had any bankfailures, since few African banks have hadany significant exposure to the subprimemortgage market or asset-backed securities.They are however vulnerable to contagion.In several countries in the region a signifi-cant number of banks are owned by foreigncompanies who may decide to reduce theirsupport of local banks, or sell their assets –with serious consequences for Africa’s fi-nancial sector. Countries that are susceptibleto this form of contagion include Botswana,Cape Verde, Central African Republic,Chad, C�te d’Ivoire, Equatorial Guinea,Lesotho and Zambia.

The crisis has also put enormous pressureon African foreign exchange markets. In thefirst quarter of 2009, the Ghanaian cedidepreciated against the US dollar by 14 per

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cent, the Nigerian naira by 10 per cent andthe Zambian kwacha by 13 per cent. TableI-1 presents data on expected changes inexchange rates for selected African coun-tries in 2009. Significant depreciations areexpected in Ghana (21 per cent), Uganda(22 per cent), Democratic Republic ofCongo (23 per cent), South Africa (27 percent), Nigeria (27 per cent), Zambia (43 percent), Comoros (45 per cent), and Sey-chelles (84 per cent). Several of these coun-

tries have high foreign debt so these depre-ciations will impose serious debt serviceburdens. They will also increase the cost ofimported intermediate inputs, with conse-quences for production, output and employ-ment. Exchange-rate depreciation will alsoincrease the exchange-rate risk faced bydomestic firms and increase the likelihoodthat they will default on loans owed todomestic banks and thus also make thesebanks more vulnerable.

CHAPTER I. THE ECONOMIC COMMISSION FOR AFRICA

Table I-1 – Expected exchange rate depreciation in Africa against the US dollar, 2009

Currency Expected depreciation(per cent)

Seychelles rupee 84.2Comoros franc 45.2Zambia kwacha 43.4Nigeria naira 27.3South Africa rand 27.1Congo, Democratic Republic of franc 23.7Uganda shilling 22.4Ghana cedi 21.1Ethiopia birr 19.8Mauritius rupee 19.5Madagascar ariary 17.9Tunisia dinar 17.1Kenya shilling 16.5Namibia dollar 15.0Sierra Leone leone 14.7Mauritania ouguiya 14.3Cape Verde escudo 13.8Botswana pula 13.5Tanzania shilling 13.3Guinea franc 13.1Lesotho loti 12.8Swaziland lilangeni 12.8Morocco dirham 11.4Mozambique metical 10.7

Source: Based on data from the Economist Intelligence Unit.

18


Currency depreciation also has implicationsfor food prices. Several countries in theregion are net food importers so currencydepreciation will raise prices and reduceaccess to food by vulnerable groups.

The financial crisis has also increased riskpremiums for African countries raisingfunds in international markets. Indeed thereis evidence that several countries in theregion are already having difficulties.Kenya, Nigeria, Tanzania and Uganda, forexample, have had to cancel plans to raisefunds. If international capital markets dryup there would be serious consequences fordevelopment in the region because themoney raised would have financed infra-structure development and boosted growth.The private sector is also facing challengesin raising funds in international capital mar-kets.

Commodity prices and trade

The financial crisis is also affecting trade.In particular, since the second half of 2008African countries have seen a significantdecline in the prices of key commodityexports. Figure I-1 tracks prices for fourmajor commodity groups of export interestto Africa, showing a downward trend sincethe second half of 2008. The most affectedcommodity has been crude oil: betweenFebruary 2008 and February 2009 the pricefell by more than 50 per cent. Over thesame period, the prices of copper, coffee,cotton and sugar, also declined by morethan 20 per cent.

The crisis has also reduced Africa’s exportvolumes, as a result of the slowdown ineconomic growth in three key export mar-kets – Europe, the United States and China.

Figure I-1 – Price indices of major commodity groups, 2007-2009a

250230210190170150130110907050

2007

Jan

.Fe

b.M

ar.

Apr

.M

ayJu

n.Ju

l.A

ug.

Sep.

Oct

.N

ov.

Dec

.20

08 J

an.

Feb.

Mar

.A

pr.

May

Jun.

Jul.

Aug

.Se

p.O

ct.

Nov

.D

ec.

2009

Jan

.Fe

b.

Food price Agricultural raw materialsMetals price Fuel (energy)

Source: IMF online database.a Data are up to February 2009.

19

Between 2007 and 2008 the growth of Afri-ca’s exports fell in real terms from 4.5 to3.0 per cent, while import growth fell from14 to 13 per cent (Table I-2). Althoughtrade figures for 2009 are not yet available,the World Trade Organization has forecast adrop of 9 per cent in global trade whichwill certainly harm Africa’s exports.

2008, remittance inflows to Sub-SaharanAfrica, for example, increased from $4.6billion to $20 billion (Figure I-2). Nowhowever, African migrant workers in Eu-rope, North America and the Gulf States arebeing laid off and returning home – so theflow of remittances will slow. The WorldBank has estimated that as a result of thefinancial crisis, between 2008 and 2009 re-mittance inflows to Sub-Saharan Africa willfall by $1 billion to $2 billion. Gambia,Lesotho, Liberia, and Seychelles are highlyvulnerable to reductions in workers’ remit-tances because these inflows represent morethan 10 per cent of their GDPs. NorthAfrican countries are also vulnerable sincethey receive a significant amount in remit-tances though these represent smaller pro-portions of their GDPs.

Table I-2 – Africa’s merchandise trade,annual percentage change at constantprices, 2006-2008

Exports Imports

2006 1.5 10.02007 4.5 14.02008 3.0 13.0

Source: World Trade Organization.

These declines in commodity prices andexport volumes have significantly reducedexport revenues. In Burundi, for example,between October and November 2008 coffeeearnings fell by 36 per cent. Between 2008and 2009 export earnings are expected todecline in Angola, for example, from $67billion to $23 billion, in Cape Verde from$90 million to $84 million, and in C�ted’Ivoire from $10.4 billion to $7.7 billion. Areduction in export earnings will make itmore difficult for governments to finance theimport of inputs necessary for productionand limit governments’ ability to cushion thenegative effects of the crisis on the economy.

Workers’ remittances

Since the beginning of the new millennium,development finance in Africa has bene-fitted from increasing flows of remittances– which finance household consumptionand help reduce poverty. Between 2000 and

Figure I-2 – Remittance inflows to Sub-Saharan Africa ($ billions), 2000-2008

25

20

15

10

5

0

Rem

ittan

ce f

low

s

2000 2001 2002 2003 2004 2005 2006 2007 2008

Sources: Ratha and Zu (2007) and World Bankdatabase.

Private capital flows

The financial crisis has also diminishedprospects for private capital inflows. In re-cent years, there had been significant in-creases: between 2007 and 2008 foreign


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direct investment, for example, increasedfrom $53 billion to $62 billion. Now thereare indications that FDI flows to the regionwill decline. But since FDI often respondsto growth with a lag, the impact of thecrisis will be felt more in 2009 and beyond.Other forms of private capital have alsobeen affected. Prior to the crisis, companiesin Ghana and Gabon, for example, success-fully issued bonds in international capitalmarkets. Now, as a result of the crisis, thissource of external finance has dried up and

firms in several African countries, includingNigeria and Kenya, are finding it moredifficult to issue bonds. In Burkina Faso,mining companies have delayed new ven-tures because of difficulties in obtainingfinance. Similarly, in the Democratic Re-public of Congo, BHP Billiton, a majorforeign investor, has suspended nickel pros-pecting because of low mineral prices. Thedrying up of these sources of external fi-nance is thus constraining the region’sgrowth and development.

Table I-3 – Net ODA disbursements to key African recipients, 2000-2007(Percentage of GNI)

Average2000 2001 2002 2003 2004 2005 2006 2007 2000-2007

Liberia 17.4 9.6 11.4 30.4 57.1 55.5 56.2 120.4 44.7Burundi 12.9 21.4 28.0 39.4 55.5 46.9 47.8 49.5 37.7Guinea-Bissau 39.5 32.8 30.8 64.6 29.5 22.8 27.6 35.4 35.4Sierra Leone 29.4 42.9 42.3 35.0 36.1 29.6 24.8 32.7 34.1Eritrea 27.7 42.0 36.8 55.0 42.4 36.8 11.9 13.0 33.2Congo, Democratic Republic of 4.5 5.7 22.4 98.8 29.1 26.4 25.2 14.1 28.3Mozambique 22.5 25.5 55.1 23.5 23.2 21.2 26.1 26.3 27.9Sao Tome and Principe .. .. .. .. .. 29.3 18.0 25.0 24.1Rwanda 18.7 18.4 22.1 19.2 25.3 24.4 20.5 21.5 21.3Malawi 26.1 24.1 14.4 21.6 19.5 20.6 21.9 20.8 21.1Zambia 25.8 15.9 22.3 17.8 22.0 17.3 14.4 9.7 18.1Mauritania 19.8 25.0 27.8 18.6 11.7 9.6 6.9 12.5 16.5Uganda 14.5 14.8 12.8 16.3 18.2 14.0 16.7 15.7 15.4Cape Verde 18.1 14.2 15.2 18.3 15.8 16.7 12.2 11.9 15.3Gambia 12.4 13.2 17.4 18.0 14.5 13.7 16.1 12.1 14.7Ethiopia 8.5 13.5 16.8 18.8 18.1 15.6 12.9 12.5 14.6Niger 11.7 13.1 13.9 17.0 18.0 15.3 13.9 12.8 14.5Mali 15.0 14.5 15.3 13.2 12.4 13.8 14.9 15.4 14.3Tanzania 11.6 13.6 13.1 17.0 15.8 10.6 12.9 17.4 14.0Madagascar 8.4 8.2 8.6 10.1 29.2 18.4 13.8 12.3 13.6Burkina Faso 13.0 14.0 14.5 12.2 12.6 12.9 15.1 13.9 13.5Ghana 12.4 12.3 10.9 13.0 16.2 10.9 9.3 7.5 11.6Djibouti 12.6 9.6 12.8 11.7 8.8 9.8 13.7 12.3 11.4

Sources: OECD (for ODA) and World Bank, African Development Indicators (for GNI).

21

Official development assistance

To finance government programmes, severalAfrican countries depend significantly onofficial development assistance (ODA). In2002, the world’s governments adopted theMonterrey Consensus, and donors subse-quently increased their ODA to Africa; be-tween 2002 and 2007 flows increased from$21 billion to $39 billion. Now, however, inresponse to the financial crisis donors mayreduce ODA flows to the region. Whilethere is no evidence yet that donors plan todo so, history and econometric evidencesuggest that their ODA flows tend to beprocyclical and so it seems likely that do-nors will reduce them, especially when theyface pressures to recapitalize their bankingsectors and provide support for their ownailing industries. Table I-3 shows the 23countries that are most vulnerable – thosein which ODA during the period 2000-2007represented over 10 per cent of gross na-tional income. Burundi, Eritrea, Guinea-Bissau, Liberia, and Sierra-Leone are par-ticularly exposed, with extremely high ra-tios of ODA to GNI.

Social development and the MDGs

One of the important consequences of thefinancial crisis for Africa will be the reduc-tion in both internal and external finance –which will reduce the ability of Africancountries to boost growth and achieve theMDGs. With less fiscal space, they willfind it difficult to fund health, education,infrastructure and nutrition programmes.

The expected decline in ODA will have adevastating effect on aid-dependent econo-mies. In several of these, ODA accounts formore than 30 per cent of the governmentrevenue or budget. Across the region manygovernments are heavily dependant on aid-

funded social protection programmes, soany reduction in aid could harm the poorand make them more vulnerable. Donorswill therefore need to honour their existingcommitments to enable governments in theregion to protect the vulnerable and preventmore people falling into poverty.

The financial crisis will also have an indi-rect effect on poverty by increasing unem-ployment. Before the crisis, unemploymentin Sub-Saharan Africa was on a downwardpath: between 2003 and 2008, the unem-ployment rate fell from 8.5 to 7.9 per cent(Figure I-3). The rates came down both formales and females though generally remainhigher for females. There are concerns that,as a result of the crisis, the rate will in-crease in 2009 as firms cut production orshut factories. Preliminary forecasts by theInternational Labour Organization suggeststhat in the worst case scenario the unem-ployment rate for Sub-Saharan Africa willincrease from the 2008 figure by about 0.6percentage points. This implies that between2007 and 2009 the number of unemployedpeople will rise by three million.


Figure I-3 – Unemployment rates inSub-Saharan Africa, 2003-2008

9.5

9.0

8.5

8.0

7.5

7.0

6.5

Une

mpl

oym

ent

rate

(per

cen

t)

2003 2004 2005 2006 2007 2008

MalesSub-Saharan Africa Females

Source: International Labour Organization.

22


Country policy responses

African countries have taken several stepsto mitigate the economic impact of the cri-sis. They have, for example, reduced inter-est rates, recapitalized financial institutions,increased the liquidity available to banksand firms, enacted fiscal stimulus packages,made changes in trade policy, and carriedout regulatory reforms. The measuresadopted differ from country to country de-pending on available fiscal space as well ason the degree of vulnerability to the crisis.For example, the region’s oil-exportingcountries have more fiscal space becauseduring the recent oil price hikes they accu-mulated huge foreign reserves of whichthey can take advantage to conduct coun-tercyclical policies. The non-oil exportingeconomies, however, are less able to adoptcountercyclical policies so in these econo-mies fiscal stimulus measures are not wide-spread. In addition to the above measures,some countries have set up task forces orcommittees to monitor the financial crisisand advise governments on how to respond.Democratic Republic of Congo, Kenya,Nigeria, and Rwanda, for example, haveadopted this approach.

Interest rate changes

Since the onset of the crisis, 18 countriesfor which information is available have re-sponded by changing interest rates. For ex-ample, in December 2008, the central bankin Botswana reduced interest rates by 50basis points and followed this with a onepercentage point reduction on 27 February2009. In Egypt, the central bank cut itsovernight and lending rates by 50 basispoints on 26 March 2009. The CentralBank of Nigeria also cut its interest rate,

from 10.25 to 9.25 per cent. Other coun-tries that reduced interest rates include:Kenya, Mauritius, Namibia, South Africa,Swaziland, Tunisia and the six countriesthat use the CFA franc controlled by theBanque des Etats de l’Afrique Centrale.Democratic Republic of Congo, on theother hand, in an attempt to fight inflationhas responded by raising its policy rate –four times since December 2008.

Liquidity injections

Some countries have taken action to in-crease liquidity both for the banking systemand for domestic firms. For example, inBenin, Burkina Faso, C�te d’Ivoire, Guinea-Bissau, Mali, Niger, and Togo the commoncentral bank – the Banque Centrale desEtats de l’Afrique de l’Ouest – injects li-quidity on a weekly basis into the regionalmoney market. In Cameroon and Liberia, asupport or guarantee fund has been createdfor firms. In Tunisia, the central bank hasset up new deposit and credit facilities toimprove the flow of credit and increaseliquidity in the banking system.

Recapitalization of banks andregulatory changes

Some countries have taken specific meas-ures to recapitalize domestic banks. In Mali,for example, in order to increase finance forhousing, the government has decided torecapitalize Banque de l’Habitat du Mali. InTunisia, in order to boost domestic invest-ments, the central bank doubled the capitalof the bank that finances small and mediumenterprises. In Algeria, the Credit and Mon-etary Council has issued instructions tocommercial banks to increase their capitalfrom 2.5 billion to a minimum of 10 billionAlgerian dinars ($142 million) within 12

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months. The council has also put in place aseries of banking reforms to strengthen thefinancial system. The government of Kenyahas enacted legislation that would increasethe minimum capital requirement for banksfrom 250 million to 1 billion shillings by2012.

Fiscal policy measures

In order to cushion the effects of the crisisand boost growth, a number of countrieshave introduced fiscal stimulus packages. InCape Verde, for example, to provide a fis-cal stimulus the 2009 budget projects a 17per cent rise in public spending. In Egypt,the government has announced a fiscalstimulus package of 15 billion Egyptianpounds. Gabon, Morocco, Namibia, Nigeria,S�o Tome and Pr�ncipe, South Africa andTunisia have also adopted fiscal stimulusmeasures. Most of these packages empha-size infrastructure development. In Namibia,on the other hand the fiscal measures in-volve a 24 per cent public-sector pay raise.The South African stimulus plan, announcedin February 2009, is quite broad and hasfour aspects: a $69 million, three-year pub-lic investment programme; expansion ofpublic-sector employment opportunities; anincrease in social spending; and assistanceto the private sector. Morocco’s stimulusplan includes measures to improve accessto credit, offer tax incentives, increase vo-cational training for workers, and reducered tape and corruption.

Several countries have also responded byexercising fiscal restraint. For example, inKenya the government plans to cut expendi-ture by 25 billion shillings. In Benin, inorder to free up financial resources, thegovernment plans to cut subsidies on foodand oil imports. Botswana has imposed re-

strictions on travel budgets, vehicle pur-chases and the creation of new posts. InAngola, the government plans to revise itsbudget downwards to take account of theanticipated decline in oil revenue.

Trade policy measures

For several countries, an important compo-nent of their response plans is to try toboost economic growth by encouragingtrade. Cameroon, for example, has reducedor waived import taxes on equipment, tools,and goods required for research and oilexploration. In Liberia, the President hasannounced plans to reduce trade tariffs aswell as the ECOWAS trade levy. Tunisiahas increased allotments for export businesstravel, and Mali has introduced measures torefund to mining companies the valueadded tax and import duty due on 2006/2007 gold operations. In Madagascar, thecentral bank has devalued the local cur-rency to restore export competitiveness,while the government has also launched adrive to boost exports.

Improving domestic resourcemobilization

Some African countries have also used thecurrent crisis as an opportunity to introducereforms aimed at boosting domestic re-source mobilization. In Burkina Faso, forexample, the government intends to under-take a comprehensive reform of its taxpolicy in 2009 so as to increase the taxbase and boost revenue collection. CapeVerde, Senegal and South Africa have alsotaken measures to boost tax revenue. Thegovernment of Kenya intends to privatizesome state-owned firms. It has alsolaunched an 18.5 billion shillings infrastruc-ture bond in the local capital market.


São Príncipe,

24


Regional responses

Coordination and consensus-building

In November 2008, in Tunis, Tunisia, at ameeting jointly organized by the EconomicCommission for Africa, the African Devel-opment Bank, and the African Union Com-mission, African Ministers of Finance andPlanning and Governors of Central Banksmet to discuss the implications of the finan-cial crisis for Africa and identify appropri-ate policy responses. The Communiquefrom the meeting emphasized the need forbold and decisive action through key policyresponses which would include:

• Regulatory reform – Countries need toundertake comprehensive reviews oftheir regulatory and supervisory regimesin order to identify areas for furtherimprovement. In particular, all sectors ofthe financial industry should be sub-jected to proper regulation and oversightto avoid excessive risk-taking by finan-cial institutions.

• Macroeconomic policy – Over the lasttwo decades African countries have im-plemented macroeconomic policy andstructural reforms that have served themwell. Now, however, they need to fur-ther deepen their economic reforms, tohelp minimize the effects of crises andlay the foundation for sustainablegrowth.

• Social protection – While governmentsneed to respond with measures to re-store growth and financial stability, theyalso need to take measures to minimizepotential social damage. This will meangiving priority to social protection andpro-poor expenditure.

• Official development assistance – Acrossthe region, governments are faced withshrinking domestic resource bases aris-ing from falling exports, remittances andtourist receipts. To help offset this theyshould be able to rely on official devel-opment assistance. Donors must there-fore, consistent with their Monterrey andG8 summit commitments, increase aidto Africa.

• International financial institutions – Theincreasing globalization of financial mar-kets has made it even more important toreform the governance of the interna-tional financial institutions – particularlyby strengthening the voice and represen-tation of developing countries.

These recommendations were discussed byAfrican Heads of State and Government attheir summit in Addis Ababa in January2009. At the Tunis meeting, African Minis-ters and Governors of Central Banks alsoset up a Committee of Ten to monitordevelopments, provide regular follow up,advise Ministers and Governors on propos-als and contribute to the international dis-course in relation to the economic impactof the financial crisis and the necessarymitigating measures. The Committee heldits first meeting in Cape Town, South Af-rica on 16 January 2009 and its second inDar es Salaam, Tanzania, on 11 March2009. These coordination meetings havehelped build an African consensus on thecrisis and on how the international commu-nity could help countries in the region torespond.

Research support

In order to design and implement effectivepolicy responses it is vital to assess the

25

potential impact of the crisis and identifythe transmission channels. Since the onsetof the crisis, the Economic Commission forAfrica (ECA) has therefore been providingAfrican countries with technical and re-search support. ECA has also played a keyrole in facilitating an African consensus onthe crisis by organizing high-level meetings.For example, ECA organized the Ministerialmeeting in Tunis in collaboration with theAfrican Development Bank (AfDB) and theAfrican Union Commission (AUC). ECA,AfDB and AUC are also providing supportto the Committee of Ten Ministers andGovernors of Central Banks. These techni-cal assistance support and advisory serviceshave played a crucial role in ensuring thatAfrican views and concerns are adequatelypresented to the international community,particularly the G20.

Liquidity support

As credit markets dry up and risk premiumsrise, African countries are facing difficultiesin accessing international financial markets.The AfDB has therefore taken severalmeasures to help countries in the regiongain more access to long-term finance, par-ticularly for essential economic infrastruc-ture. For example, the bank has establisheda $1.5 billion Emergency Liquidity Facilityto provide fast and exceptional support toAfDB eligible countries. It has also set up a$1 billion Trade Finance Facility to improveaccess to trade finance. In addition, in orderto improve access to finance it has put inplace a number of short-term measures.These include: restructuring portfolios andpipelines in favour of faster disbursementinstruments; seeking additional fundingthrough co-financing; reviewing trust fundsto direct activities and funds towards coun-tries in need; and, for African Development

Fund countries, supplementing existing re-sources with a catalytic trust fund.

The way forward

At the national level, African countries havetaken many important steps to mitigate theimpact of the financial crisis on theireconomies. But their range of policy meas-ures is limited by financial constraints. Theinternational community will therefore needto provide appropriate assistance to preventthe financial crisis turning into a regionalhumanitarian crisis. The main areas for in-ternational action will involve enhancingthe availability of resources and reforminginternational financial institutions.

Enhancing resource availability

The developed countries have adopted fiscalstimulus packages to boost their owneconomies, but have paid little attention tothe need to boost demand in Africa andhow to finance such a boost. In fact, theirown fiscal stimulus plans would be a lotmore effective if they were accompanied bysimilar packages in low-income countries.In order to increase global aggregate de-mand Africa must therefore be fully inte-grated into the coordinated effort (ECA,2008). Possible sources of finance for in-creasing demand and growth in Africa in-clude:

- Ensuring that advanced economies meetexisting commitments on aid and debtreduction;

- Improving access to existing finance fa-cilities and accelerating disbursements;

- Urging the IMF, during this crisis, toput in place a new facility with relaxedconditions to support African economies;


26


- Increasing the capital of the AfricanDevelopment Bank to enable it to scaleup its support of African development;

- Selling IMF gold reserves to release ad-ditional resources to help developingcountries deal with the financial crisis;

- Issuing new Special Drawing Rights.

Reforming the international financialsystem

African countries, and developing countriesin general, have long voiced their reserva-tions and criticisms of the existing interna-tional financial architecture and of currentaid delivery frameworks. Even so, the fi-nancial architecture has remained funda-mentally the same since the Second WorldWar. With respect to the reform of theBretton Woods Institutions and of the glo-bal financial architecture, African countrieswould like some key changes.

• Increasing policy space – Africanpolicymakers have been concerned aboutaid delivery and the imposition of policyconditionalities that have constrainedtheir freedom to choose their own policymix and paths. The Country Policy andInstitutional Assessment (CPIA) of theWorld Bank, for example, limits thechoices available to African govern-ments, giving a disproportionately highweight to policy performance relative todevelopment outcomes. Under the CPIA,countries are ranked according to thequality of their policies and institutionalarrangements. This focus on policiesrather than outcomes is problematic be-cause there is no general consensus onwhat constitutes good policy. African

countries want the CPIA to be rede-signed to include a category significantlyweighted towards country-specific out-comes and to measure progress ingovernance using the African PeerReview Mechanism governance indica-tors.

• Debt sustainability framework – Givenits methodological limitations, Africancountries are also concerned about theincreasing use in aid delivery of theDebt Sustainability Framework (DSF).The DSF need to be redesigned to ad-dress its shortcomings and eliminate thejudgmental element of what constitutegood policies and institutions.

• Voice and participation – African coun-tries are unrepresented in many key fo-rums that taken important decisions thataffect their economies. The redesign ofthe financial architecture should providean opportunity to address this issue.Africa would like to participate in theFinancial Stability Forum and haveincreased representation on the Boardsof the IMF and World Bank. Africa alsoto have permanent representation in theG20, in addition to South Africa whichis there as an emerging economy.

• Promoting trade – In Africa, trade is animportant source of development fi-nance. The G20 must therefore refrainfrom trade protectionism and resist thecreeping economic nationalism that un-derpins the developed countries’ rescueand stimulus packages. In this regard,Africa would like a speedy conclusionof the Doha Round with appropriateprovisions and emphasis on the develop-ment dimensions.

28



The Economic Commission for Europe

29

In 2009, each subregion of the ECE isexperiencing or anticipating negative growthaccompanied by rising unemployment andlarge declines in international trade andcapital flows, along with significantly dete-riorating government fiscal positions. Thedeclines in economic growth are likely tobe greatest in the ECE’s emerging econo-mies where there also remains a small pos-sibility of a systemic financial meltdown,along with social and political instability.1

The 56 economies of the ECE region forma very diverse group that includes ad-vanced, emerging economies along with afew rather poor developing countries. Thecrisis will enter these countries in differentways and will have different impacts, so thepolicy options will also vary considerablyaccording to economic circumstances andinstitutional constraints – making it difficultto generalize about the situation of the ECEeconomies overall.

CHAPTER II

THE ECONOMIC COMMISSION FOR EUROPE

The ECE region includes the major economies that were responsible for creating thecrisis, but many others will also be severely affected. While the richer countries havebeen able to respond with dramatic bank bail-outs and fiscal stimulus packages, theEuropean emerging economies have had limited options.

The current crisis resulted from a combina-tion of macroeconomic imbalances andmicroeconomic market failures – both dueto inadequate governance and a failure bymarket participants to properly understandrisk. The regulatory failure, however, wasnot confined to the US. Some of the riski-est behaviour was in European affiliates ofUS firms outside the jurisdiction of USregulators. The European financial sectorthus played an active role in securitizing,distributing, and insuring assets that wouldlater prove to be toxic – and the regulatoryfailure was not confined to one or twocountries but covered a broad spectrum offinancial market activities throughout theUS and western Europe.

The crisis in Europe has been particularlysevere. Many European banks owned a sur-prisingly large share of the toxic assets andwere often more highly leveraged and reli-ant on international wholesale financing,and had lent more to emerging markets.Moreover, their national regulatory and in-stitutional structures were often poorly de-signed and unable to deal with financialmarket turmoil. European policy makers

1 This chapter relies extensively on a study by R.Shelburne and J. Palacin, The 2007-2010 FinancialCrisis in Europe.

30


generally failed to appreciate the need forcountercyclical macroeconomic policy. Sev-eral European economies also had their ownhousing bubbles combined with weakermortgage lending standards.


Although the shock was generally smallerin Europe than in the US, the Europeanpolicy response was slower and consider-ably weaker and, as a result, Europe’s de-cline in GDP has been as large as, or evenlarger than that in the US. Although theirlevels of unemployment may not reachthose of the 1981-1982 downturn, the ad-vanced economies will experience theirdeepest recessions since the Great Depres-sion of the 1930s.

The countries of emerging Europe experi-enced a ‘sudden stop’ in capital inflows –though the shock was different from thatthan in the advanced economies. Becausethey were unable to implement counter-cyclical macroeconomic policies, their eco-nomic declines have generally been largerthan those in the advanced economies –though they will not be as severe as theirtransitional recessions of the early 1990s.

Once the value of US mortgage-backedsecurities began to fall, the crisis moved tothe wider European region quite rapidlythrough a surprisingly large number ofchannels. In Belgium, Germany, and Swit-zerland the banks owned large quantities ofthe toxic US assets. In Ireland, Spain, andthe UK – the countries had their own burst-ing housing bubbles. In the Russian Federa-tion and most of east-central Europe, banksand companies were dependent on globalcapital markets which seized up. In Austria,

Greece, and Sweden domestic banks hadforeign subsidiaries exposed to non-per-forming loans. In countries such as Arme-nia, Georgia, FYR of Macedonia, Moldova,Serbia, and Tajikistan there were large de-clines in remittances which had been asignificant component of their GNI, in al-most every case, countries suffered fromfalling exports and from declining tourism.

Key macroeconomic indicators

Prior to the crisis, over the period 2005-2007, annual real growth in the ECE regionaveraged 3.2 per cent. But in 2008 thisdropped by half and in 2009 is forecast tofall to –3.5 per cent before recovering toabout one-half per cent in 2010. Previouslythe European emerging economies had beengrowing two to three times faster than theadvanced economies in North America andwestern Europe – due to large capital in-flows which allowed them to maintain in-vestment at higher rates than would havebeen possible from domestic savings alone(Figure II-1). During the current downturn,however, this dependence on external fi-nance has proven a major disadvantage as ithas provided a channel for importing thecrisis.

In each of the ECE’s subregions, growth in2009 is forecast to be between –3 and –5per cent. This will, however, represent amuch greater drop for the European emerg-ing economies – which are also more vul-nerable since, compared with the advancedeconomies, they have weaker social safetynets and a larger percentage of theirpopulations living near subsistence levels.

Growth turned negative in the US fromDecember 2007. But this experience wassoon to be repeated in other ECE countries

31

– in the eurozone in the second quarter of2008, and in the Russian Federation andmost of the emerging economies in the lastquarter of 2008. In 2009, growth is ex-pected to be –5.1 per cent in the CIS, –5.1per cent in Turkey, –4.2 per cent in theeurozone, and –2.4 per cent in the EU newmember states. The downturn has beenmost severe in the Baltic economies andIceland where growth is forecast to be closeto –10 per cent. The impact will be lesssevere in Germany, Ireland, the RussianFederation, and Ukraine. And in 2009growth may be positive in a few ofthe smaller ECE economies, includingAlbania, Azerbaijan, Cyprus, Tajikistan,Turkmenistan, and Uzbekistan – and espe-cially strong in the latter two. For 2010there could be a slow recovery, with growthpositive but low throughout most of theregion, however there is still considerableuncertainty around these forecasts andgrowth in the EU could still be negative.

By 2010, there will also be steep rises inunemployment. In the US, Europe, Turkey,and the CIS, rates are likely to reach dou-

ble digits. But in some countries the situa-tion could be much worse. In Spain, forexample, unemployment may reach 20 percent. By March 2009, employment in theUS had reached 8.5 per cent – the highestrate in 25 years. Since approximately halfthe job losses have been in the male-domi-nated construction and manufacturing sec-tors, the rate for men was approximatelytwo percentage points higher than forwomen. In the spring of 2009, the numberof people receiving unemployment insur-ance benefits in the US reached 5.84 mil-lion, the largest number since record-keep-ing began in 1967. In January 2009, thenumber of people on food stamps increasedto 32.2 million, also the largest in history.

In the EU in February 2009 unemploymenthad reached 7.9 per cent – 7.8 per cent formen and 8.0 per cent for women. But therate varied considerably between countries –from 15.5 per cent in Spain, 14.4 per centin Latvia, and 13.7 per cent in Lithuania toa low of 2.7 per cent in the Netherlands.Currently the EU has 19.2 million unem-ployed. In the Russian Federation in Febru-

Figure II-1 – Real growth in the major ECE subregions, 1999-2010

10.0

8.0

6.0

4.0

2.0

0.0

– 2.0

– 4.0

– 6.0

Real

GD

P gr

owth

, PP

P

1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010

SEE-7 CIS NMS-12 EU-15 (Old) North America

CHAPTER II. THE ECONOMIC COMMISSION FOR EUROPE

32


ary 2009 unemployment rose to 8.5 percent and by the end of 2009 is expected toincrease to 12 per cent.

Initially the European emerging marketswere sheltered from the first wave of finan-cial instability. Their banks used traditionallending models, with no exposure to thetoxic assets. However, the situation deterio-rated dramatically in late 2008, as globalcapital markets came to a standstill. Be-tween 2007 and 2008, private capital flowsto the world’s emerging markets declinedfrom $929 billion to $466 billion and in2009 are forecast to be only $165 billion.Many of these flows had gone to theEuropean emerging economies but wererapidly curtailed as market participantsbecame concerned about current accountdeficits.

Probably the greatest reversal of fortune ofany of the world’s major economies hasbeen in the Russian Federation. Growth,which had been 8.1 per cent in 2007, islikely to decline to –6.0 per cent in 2009 –a 14 percentage points decline, twice that inthe US or the eurozone over the sameperiod. This is all the more remarkablesince the Russian Federation owned few ofthe toxic assets at the centre of the crisis,was running a large current account surplusand had sizeable international reserves, littlegovernment debt and a large fiscal surplus.The main causes were steep falls in exportrevenue and a loss of access to world capi-tal markets. In mid-2008, private capitalinflows came to a sudden stop, followed bya sharp reversal as capital started to floodout; net outflows for the whole year were arecord $130 billion. Net outflows have con-tinued in 2009, amounting to $33 billion inthe first quarter. On several occasions, thestock exchanges have been closed.

For the advanced economies, the crisis hasmoderated inflation – which in early 2008,had begun to exceed target levels. During2009, these countries may experience ashort period of deflation but this is unlikelyto persist. For emerging Europe, however,the crisis, by leading to significant currencydepreciations, has in some cases increasedinflation. In the CIS countries in January2009 average consumer prices were 14 percent higher than a year earlier, and in mostof south-east Europe in 2009 inflation maybe over 5 per cent.

Sectoral impacts

The core of the crisis was in the US hous-ing market, so employment in that sectorhas been hard hit, declining by 15 per centsince December 2007. Following their peakin January 2006, US housing starts inDecember 2008 were 76 per cent down. InEurope, however, except in a few marketswith housing busts, such as Spain, construc-tion is down only slightly.

The greatest declines were in investmentspending on capital goods and consumerspending on non-durables – which hit in-dustrial production and manufacturing. Inthe US in February 2009, industrial produc-tion was down 11.8 per cent from a yearearlier; in the eurozone it was down 18.4per cent and in the EU down 17.5 per cent,a record decline. The largest declines oc-curred in Estonia (–30.2 per cent), Hungary(–29.0 per cent), Latvia (–24.2 per cent),Spain (–22.0 per cent), Slovenia (–21.2 percent), Italy (–20.7 per cent), Germany(–20.6 per cent), the Czech Republic(–20.3 per cent), Sweden (–20.3 per cent),and Finland (–19.9 per cent). Industrial pro-duction was also significantly lower in the

33

largest European economies outside the EU– falling by 34 per cent (January year onyear) in Ukraine, 21 per cent in Turkey and16 per cent in the Russian Federation.

The decline in manufacturing activity hasbeen particularly large in the advancedeconomies. In the eurozone, new orders inJanuary 2009 were 34 per cent lower than ayear earlier. Especially hard hit were Euro-pean exporters of manufactured capitalgoods such as Germany. In Ukraine, thedeclines were large in steel and metal pro-duction – down 43.3 per cent in the firstquarter of 2009, year on year.

Worldwide, one of hardest hit sectors isautomobiles – since car purchases arelargely discretionary and can easily be post-poned, and are often purchased on creditthat is now very scarce. In March 2009,sales were 23.5 per cent lower in theUS and 47 per cent lower in the RussianFederation than a year earlier. In the EU,automobile production has declined signifi-cantly, and some of the governments haveprovided various types of support. InGermany, by far the EU’s largest manufac-turer, production in February 2009 wasdown 65 per cent from a year earlier. ByJanuary 2009 automobile production haddeclined, year on year, by 60 per cent.

Over the last two decades, some economies,such as the UK and the US, had rapidlyexpanded their financial services sectors,probably at the expense of the manufactur-ing sector. However, a now-shrinking finan-cial services sector is likely to result in anincrease in the importance of manufactur-ing. This has several implications. Manufac-turing is generally dispersed more widelythan financial services, which are usually inmajor cities, so any expansion could reduce

geographical inequality. In addition, manu-facturing provides relatively high-wage jobsfor non-college educated workers, so thiscould also reduce education-based inequal-ity.

As in any economic downturn, there hasbeen a fall in world commodity prices, socommodity exporters, many of which are inthe CIS, have suffered a large decline inexport earnings. The steep decline in energyprices has had large repercussions for theRussian Federation and some countries inCentral Asia.

For the ECE economies, trade has declinedsignificantly over the last year, generally bya quarter to a half. This has been due toboth the decline in national incomes andconsumption, and the collapse of trade fi-nancing as credit markets seized up. InFebruary 2009, US merchandise exportswere 22.6 per cent lower than a year previ-ously and imports were 30.4 per cent lower.For the same period, merchandise exportsof the Russian Federation declined by 47.5per cent and imports by 36.5 per cent.

The condition of the financial sectors

Since their peaks in 2007, equity markets inthe ECE’s advanced economies have lostmore than one-half of their value, whilethose in many of the emerging economieshave lost three-quarters of their value. Alarge percentage of the equity capital of thebanking sector in the US, western Europeand the European emerging markets hasbeen wiped out, and a significant numberof the largest marque banks are either insol-vent or close to insolvent. Government at-tempts to recapitalize the banks have beenpoorly designed and implemented, andinterbank markets in the US and Europe


34


remain dysfunctional. Domestic credit ex-pansion in Europe and the US has essen-tially collapsed.

The total global losses from toxic assetsduring this crisis will ultimately reach anestimated $4 trillion – $1.8 trillion in theUS, close to $2 trillion in western Europeand $150 billion in European emergingmarkets. Thus the ECE economies willhave to absorb over 95 per cent of theglobal losses resulting from the current cri-sis. Some $3 trillion of the total lossesresulted from assets originated in the US,while the other quarter originated in Europeand Asia. US bank loan losses will total$1.1 trillion, of which half have alreadybeen written down, while eurozone and UKbank loan losses will be over $900 billion.

Of the $4.6 trillion of foreign bank loans toemerging economies, eurozone banks ac-count for 73.4 per cent while US banksaccount for only 0.3 per cent; UK banksalso have exposure. Thus, European banksare being more affected by a globalslowdown. By March 2009, EU govern-ments had provided $380 billion for bankrecapitalizations and guaranteed $3.17 tril-lion of bank loans.

The Canadian banks largely avoided theseproblems and have had no failures orbailouts. The Russian Federation andKazakhstan banks also owned few USsubprime assets, but were dependent onexternal sources of finance which have nowdried up and a sizeable number are likelyto fail and/or require government support.

The major European banks were muchmore leveraged than the US banks and as aresult were more vulnerable to decliningasset values. The European banks had ap-

proximately twice the leverage of theirAmerican counterparts and about threetimes that of Canadian banks. They hadcompensated for this to some degree byholding less-risky assets and purchasingcredit default swaps, though this insurance,purchased to a large degree from AIGwhich would go bankrupt, was only re-deemable because the US governmentagreed to fund claims with taxpayer funds,without which the situation of westernEuropean banks would currently be evendirer.

In Europe, banks are very large relative totheir home countries’ GDP. This is importantbecause in most advanced economies thereis some expectation that, should the banksfail, the government will guarantee deposi-tors’ funds. In uncertain times, this encour-ages holders of wealth in emerging marketto transfer their funds to advanced econo-mies. This problem was most apparent withIceland where the banks had assets ten timesthe country’s GDP. In the autumn of 2008,with the potential for global bank runs,European governments were forced to guar-antee the liabilities of their banks. In theeurozone there is also an important differ-ence with the US. The US Federal Reservecan act as the lender of last resort if the USgovernment is unable to obtain the neededfunds through taxes or borrowing. Buteurozone governments have no lender of lastresort to monetize their debts. The EuropeanCentral Bank is not authorized to do this.The European situation has been describedquite accurately as one where the banks aretoo big to fail but too large to save.

Considerable uncertainty remains about thefinancial condition of US and Europeanbanks because the true value of their toxicassets cannot be determined until the price

35

of US real estate stabilizes. Through thespring of 2009, US housing prices havecontinued to fall and have probably yet toreach their bottom.

Ultimately, the governments in the US andEurope will have to either nationalize theirproblem banks, bail them out, or purchasetheir toxic assets at a premium – with aserious impact on government finances.None of the approaches attempted to datehave been particularly effective. The USTroubled Asset Relief Program has beenespecially chaotic, and financial markets re-main largely frozen. Government bailouts ofbanks have occurred in several Europeaneconomies – Belgium, Germany, Iceland,Ireland, the Netherlands, and the UK – andwest European banks will need to raise $160billion to $300 billion in new capital. Irelandwas the first country to set up a “bad bank”patterned after the successful Swedish pro-gramme in the early 1990s. The Germanapproach has been to try to distinguish be-tween illiquid and insolvent assets by provid-ing a government guarantee for the former.

The national regulatory and institutionalstructure of the financial sector in mostEuropean economies was inadequate fordealing with financial-market turmoil. Afterthe Great Depression, the US had imple-mented insurance for bank depositors. InEurope such insurance was largely absent,although it had been implemented in Swe-den in 1992 during that country’s real estate-induced financial crisis. As banking solvencyissues arose in the fall of 2008, one govern-ment after another, in an uncoordinated andsomewhat competitive fashion, had to ex-tend government guarantees to bank depos-its. In the UK, banking supervision was soseparated from the central bank’s lender oflast resort facility that the latter had no idea

in its dealings with Northern Rock whetherit was insolvent or just illiquid.

Another fundamental weakness in Europe isthat banking is regional or global but mostregulation is national. More specifically,there is no agreement on how to addressfinancial losses by cross-border banking en-tities. If a bailout is required, there is noagreement on which government is respon-sible, leaving unresolved the obligation of aparent bank not to drain liquidity from asubsidiary in order to shore up its ownfinances.

The banking sectors of the Europeanemerging markets were heavily dependenton external capital markets and when worldcapital markets froze in 2008, were unableeven to roll over existing funds. As theirdomestic economies began to decline, theyalso had increasing numbers of non-per-forming loans which could reach 25 percent of assets. The new member states ofthe EU and countries south-east Europebenefited to some degree from the fact thattheir external borrowing was by local sub-sidiaries from parent banks in western Eu-rope which were somewhat accommodating.However, parent country governments didnot want the assistance they were providingto their domestic institutions to be trans-ferred to subsidiaries abroad. For example,the Greek government warned its multina-tional banks in January 2009 not to transferfunds provided by them in a $37 billionsupport package to foreign subsidiaries inthe Balkans. Countries such as the RussianFederation, Kazakhstan, and Ukraine bor-rowed at arms length in global capital mar-kets and thus received no support fromparent banks, and their governments there-fore had to take a more active role insupporting their banking systems.


36


External financing requirements

One measure of a country’s need for exter-nal financing is how much maturing externaldebt will need to be rolled over, plus thesize of the current account. Overall, theEuropean emerging markets (except the Rus-sian Federation) have an external financingrequirement of $497 billion in 2009 and asomewhat smaller one for 2010. The largestrequirement is in Poland ($190 billion), fol-lowed by Turkey ($180 billion), Romania($100 billion), Hungary ($75 billion), andUkraine ($70 billion). A significant percent-age of this must come from external publicsources. The financing gap is estimated at$186 billion for the two years. The IMF hascalculated it would be able to provide only$81 billion, so more than $100 billion willneed to be covered by other institutions:presumably the EU or member governments,the European Investment Bank, theEuropean Bank for Reconstruction andDevelopment, or the World Bank.

Effects on achieving the MillenniumDevelopment Goals

The crisis will retard or even reverse recentprogress in achieving the Millennium De-velopment Goals (MDGs). History hasshown that during a crisis those who suffermost are usually the poorest and those so-cially marginalized, and this pattern islikely to be repeated. For the ECE region,extreme poverty had almost been eliminatedby the end of 2007 but with higher foodprices, falling employment opportunities, re-duced remittances, and strained safety netsit is likely to surface again. UNDP hasestimated that another 10 million people inthe region have already been pushed backinto extreme poverty.

One of the MDGs for which progress in theEuropean emerging economies has been dis-appointing has been that concerned withcontrolling HIV and AIDS and tuberculosis.The deteriorating economic situation islikely to exacerbate contributory factorssuch as poverty, prostitution and drug use,and governments will have fewer healthresources. This has global implicationssince diseases, including antibiotic-resistanttuberculosis, easily spread from one regionto another.

Another casualty will be gender equality.Since women are more likely to be in theinformal sector, they receive few benefitswhen laid off, and thus the rate of povertyfor them or single-parent households willincrease.

Some of the poorest households in manyEuropean emerging economies rely signifi-cantly on remittances from migrant workerswhich in the next two years are expected todecline significantly. In Moldova, for exam-ple, between 2006 and 2008, remittancesfell from 35 to 25 per cent of GDP. Thepoorest central Asian economies, likeTajikistan, which depend heavily on remit-tances, have also had climatic and othersetbacks which have destroyed infrastructureand farmland.


North America and Western Europe haveconcentrated on addressing the meltdownsin their financial sectors and the ensuingrecession by providing government supportfor the financial sector, along with macro-economic stimulus to minimize the reces-sion. They have also been reforming thegovernance structure and regulatory appara-

37

tus of their financial markets. There have,however, been significant differences. TheUS has focused more on macroeconomicstimulation while continental Europe espe-cially has focused on regulatory reform.

The US reacted quickly with aggressivemonetary and fiscal stimulus. But westernEurope, except the UK, acted more hesi-tantly – failing to appreciate the seriousnessof the situation and constrained by institu-tional limitations in using countercyclicalmacroeconomic policy as well as by inad-equate regional coordination. Comparedwith their American counterparts, Europeanpolicy makers and academics have tradition-ally been far more sceptical of counter-cyclical macroeconomic policies. As a resultthey were slow to act, and timid when theyfinally did so.

The European emerging markets have lesspolicy space to expand fiscal and monetarypolicy to stimulate demand, and have beenessentially forced to tighten fiscal and mon-etary policy to demonstrate to world capitalmarkets that they need not fear defaults orinflation that would destroy asset values.Automatic stabilizers are also weak forthese economies. The new member stateshave additional institutional constraints. Anumber are committed to fixed exchangerates or currency boards so their monetarypolicy has had to follow the lead of theECB. And if they want to stay on track forfuture euro accession they have to keepbudget deficits below 3 per cent of GDP.Finally, a number are under IMF pro-grammes and have to fulfil strict macroeco-nomic requirements. All in all, there hasbeen a stark difference in the economicpolicy options available to the region’s ad-vanced and emerging economies.

Fiscal policy

Although the US and Western Europe haveimplemented historically large fiscal expan-sions, these are currently believed to beonly about one-half of what would havebeen optimal and another round of pack-ages may be required. Comparing the pack-ages is difficult because, for example, therecan be differences in how automatic stabi-lizers (which do not require new legislation)should be counted – they were much largerin Europe. As a result, countries have beenable to calculate the size of packages in amanner favourable to their political objec-tives and thereby deflect criticism fromother governments.

Nevertheless, the US has clearly imple-mented the largest programme in the ECEeconomies. A $787 billion-package (about 6per cent of GDP) was agreed in early 2009,though much of the spending will not actu-ally be until 2010. This was additional tothe stimulus package of 2008, which in-cluded $168 billion of tax cuts and spend-ing increases; it was also separate from the$2.5 trillion-plan for the financial system.Critical to containing the crisis is the needto establish a price for US mortgage-backedsecurities, so the US government has imple-mented a number of programmes to supportthe housing sector and assist mortgageholders experiencing difficulties.

For fiscal policy, the Europeans were muchmore restrained. Although some Europeangovernments, including those of Ireland,Spain, and the UK, readily embraced largedeficits, others criticized this approach. Infact, however, the stimulus packages in themajor EU economies have been on a simi-lar scale. In the three largest economies, theproposed stimulus for 2009 is slightly over


38


1 per cent of GDP: 1.1 per cent in the UK;1.2 per cent in France; and 1.5 per cent inGermany. The non-EU European advancedeconomies also implemented fiscal stimuluspackages; for example, Norway passed aplan worth 2.3 per cent of GDP. The Euro-pean Commission proposed in late Novem-ber 2008 a European Economic RecoveryPlan which included a fiscal stimulus ofC= 200 billion or 1.5 per cent of GDP.

The European bias against fiscal policyarises from legitimate practical historicalexperience, anticipated future economicconditions, and ideology. One issue is thesize of economies – for a small economy, afiscal expansion is not particularly effectivesince much of it will leak out to the rest ofthe world. Although a coordinated EU-widefiscal expansion would be more effective,this bias against fiscal policy is neverthelessingrained into the European policy culture.Also, the European economies have moreextensive safety nets and, as a result, theautomatic stabilizers are approximatelytwice the size of those in the United States– reducing the need for discretionary fiscalspending.

The European fiscal packages, like that ofthe US, consisted of a combination ofspending increases and tax cuts. For exam-ple, the German plan included about C= 8billion in investment projects, C= 18 billionin income tax cuts, and additional subsidiesfor health care, child care, and purchases ofenergy-efficient cars. The French package ofC= 26 billion included C= 11 billion for busi-nesses, C= 11 billion for public projects withan emphasis on social housing, and C= 4billion for infrastructure improvements inthe transport, energy and postal servicesectors.

The percentage of the fiscal packages thatare allocated to environmentally supportiveprojects varies from the 10-20 per centrange in France, Germany and the US toonly about 5 per cent in Spain and the UK.The need for fiscal stimulus, however, im-plied that it was not the time for additionaltaxes – reducing support in the US for acarbon emissions tax.

The fiscal positions of the European emerg-ing economies have also deteriorated – gen-erally as a result of decreasing tax rev-enues. In the Russian Federation there hasbeen a massive swing in the federal budget,from a surplus of 4.1 per cent of GDP in2008 to a deficit of 7.4 per cent of GDP in2009. The new member states not in theeurozone had to cut back governmentspending to try to keep within the 3 percent of GDP deficit limit. Several othereconomies were under IMF programmesthat required spending cutbacks.

Monetary policy

Interest rates in the advanced ECE econo-mies have been reduced to historic lows; inthe US, UK and Switzerland rates fell ef-fectively to zero, and in the eurozone, al-though they were still above 1 per cent inearly spring of 2009, they are expected tofall further in the coming months. As withfiscal policy, European monetary policy waseased later and more slowly. However, theloose monetary policy of the advancedeconomies has not proven very simulativesince the financial sector is not functioningproperly.

With interest rates near zero, traditionalmonetary policy has reached its limits. As aresult, the US, UK and Switzerland haveimplemented additional measures, referred to

39

as quantitative easing, to inject additionalliquidity into their financial systems. TheECB currently appears opposed in general toquantitative easing and would face a numberof implementation issues not faced by na-tional central banks. For example, it is notclear what assets it should purchase, as thereare 16 different types of government bondsfrom which to choose. This raises questionsof the effectiveness of the “one size fits all”monetary policy when economic conditionsvary significantly across countries.

Comparison of the monetary policies of theECB and the US Federal Reserve is com-plicated because the two regions are insomewhat different economic situations andhave different structural characteristics.More specifically, European corporationsrely more on bank lending for financingand thus the ECB needs to be more focusedon ensuring that the banks have adequateliquidity.

The central banks of the European emerg-ing economies had limited monetary policyoptions. Given the flight to quality, theyhad to keep interest rates high to avoidcapital outflows, and those that had fixedexchange rates or currency boards had toset monetary policy to maintain the ex-change rate. Economies with extensive for-eign currency-denominated loans also hadto be careful to avoid large exchange ratedepreciations that would increase the do-mestic costs of servicing these debts andincrease non-performing loans. Thus interestrates in the emerging economies were oftenquite high.

Exchange rate policy

One of the standard tools for addressing afinancial crisis is a currency depreciation.

The different monetary policies in the ad-vanced economies produced some currencyvolatility. A significant appreciation in theeuro especially in the first half of 2008harmed the European export sector. How-ever by the spring of 2009, the euro wasback to a rate more consistent with itsmedium-term trend (about $1.30). In thespring of 2009, the UK pound, because ofthe UK’s aggressive monetary policy, wasabout 25 per cent lower versus the USdollar and 15 per cent lower versus theeuro; this provided some additional stimulusfor the UK economy. The Swedish kronaand Danish krone have also depreciatedslightly versus the euro.

The European emerging economies, facedwith declining capital inflows, came underpressure to depreciate, creating an acutefunding problem for those attempting tomaintain fixed exchange rates and espe-cially for those with currency boards. Eventhose with more flexible exchange rates butlarge volumes of foreign currency-denomi-nated debt worried about the potential ef-fects on debtors’ balance sheets.

At the beginning of the crisis some govern-ments intervened to maintain their curren-cy’s value but ultimately had to let it fall.For example, the government of the RussianFederation tried to support the rouble but,after spending about a quarter of its sizeableforeign exchange reserves, had to adopt amore flexible policy. Some, such as Arme-nia were forced to return to a flexibleexchange regime as part of their IMF agree-ment, but Latvia, on the other hand, was notrequired to do so. Those countries that de-preciated did get the positive benefit ofimproving competitiveness for their exportindustries. Those countries with fixed rates,and even Slovenia and Slovakia which are


40


in the eurozone, experienced a loss of com-petitiveness. Nevertheless, being in theeurozone is generally thought to have beenhelpful since it has eliminated currencyspeculation.

As the crisis developed in the spring of2009, the Swiss franc, being regarded as asafe haven currency, appreciated slightlyrelative to the euro, prompting the SwissNational Bank to lower interest rates closeto zero, to intervene on the foreign exchangemarkets, and to begin a form of quantitativeeasing by purchasing corporate bonds.

Industrial policy

Some sectors have been hit harder thanothers, but government attempts to supportthe more vulnerable sectors have run intoobjections from foreign governments overthe competitive implications. In the EU, theprovision of state aid to support domesticindustries was largely considered to be aviolation of existing EU agreements. On theother hand, provision of EU-wide aid wasfinancially impossible, and coordinated gov-ernment responses proved to be too compli-cated and controversial. The EuropeanCommission did, however, agree to someemergency measures.

The crisis has had a serious effect on theautomobile sector. The US government pro-vided large subsidies to two of its big-threedomestic automobile firms. The Frenchgovernment established a C= 6 billion packageof assistance for the domestic automobileindustry (Renault and Peugeot) if theyagreed not to close any French factories forthe next five years. The Italian, Spanish,Swedish and UK governments also pro-vided government aid to their automobilesectors. The German government estab-

lished a C= 1.5 billion subsidy programmefor consumers to buy a new car if their oldcar was scrapped. The Russian Federationand a number of the CIS, which are notmembers of the WTO, were less con-strained, but the European emergingeconomy governments generally did nothave the financial resources to providemuch industrial aid.

Social protection and labour policies

The fiscal stimulus programmes often alsoprovided additional assistance to those mostharmed by the crisis – as with extendedunemployment insurance in the US. TheEuropean emerging economies, on the otherhand have been forced into fiscal retrench-ments and, as a result, are having to reducefunding for social and safety net pro-grammes. The European emerging econo-mies will also now suffer from having re-lied on economic growth to trickle down tothe poor, instead of aiming for pro-poorgrowth and redistribution.

Regional responses

A crisis of this severity demands regionalcooperation. However there have been anumber of problems. The G20 process, forexample, required a number of compro-mises. There have been a surprisingly largenumber of stresses within the EU, some ofwhich concerned polices of national prefer-ence for domestic industries which, rightlyor wrongly, were generally characterized asprotectionist. The French President sug-gested that French automobile companiesshould return car production back to Francefrom their newly established east Europeanplants. This led to a strong public rebukefrom officials in the new member states.

41

In response to these developments, in thespring of 2009 the EU had two “anti-reces-sion” summits to clarify EU rules on indus-try subsidies, to limit other “protectionist”policies, and to maintain political solidarity.In 2009, the EIB provided about C= 7 billionin loans to European automobile firms. TheUS and Canadian governments, on the otherhand agreed that each government wouldcontribute to any bailout in proportion toeach country’s size of the industry.

In early 2009, EBRD (C= 6 billion), EIB (C= 11billion), and the World Bank (C= 7.5 billion)put together a C= 24.5 billion package of sup-port for the European emerging economies,especially their financial sectors. That Euro-pean institutions should provide such sup-port was not surprising. Even before thecrisis there was a well-established pattern ofregional assistance to new member statesand the EU’s eastern neighbours. The EUenlarged its balance-of-payments assistancefund for non-euro economies to C= 25 billionin early 2009 and then in March doubled itto C= 50 billion.

Regional cooperation has been more limitedamong the CIS countries. Nevertheless, theRussian Federation, despite its own seriouseconomic situation, has increased its finan-cial support for neighbouring economies. Inearly 2009, it proposed an anti-crisis fundwithin the framework of the Eurasian Eco-nomic Community (EurAsEC) of about $10billion, primarily to aid the other CISeconomies. Even Ukraine, which had beenhaving rather tense relations with theRussian Federation turned to the RussianFederation for assistance.

The crisis may also encourage the creationof a currency union between the Russian

Federation and Belarus, or the adoptionof the rouble in a larger grouping suchas EurAsEC. Unfortunately the RussianFederation rouble and all the other curren-cies experienced significant declines, andthe crisis provides no evidence that a largercurrency union would necessarily have pro-vided any additional stability.

Multilateral support

Many European emerging markets willprobably need some type of multilateralsupport. By March 2009, six economies(Hungary, Latvia, Ukraine, Belarus, Georgia,and Armenia) already had IMF programmesand others were close to concluding anagreement (Bosnia, Romania, and Serbia).The packages ranged from 5 to 10 per centof their GDPs. Several of the countrieshave experienced difficulties in meetingIMF-agreed targets and their disbursementshave temporarily been put on hold (Latvia,Hungary, and Ukraine). These are in addi-tion to the IMF rescue of Iceland, a Euro-pean advanced economy. Several othercountries established precautionary newcredit lines from the IMF; Poland obtained$20.5 billion to boost the reserves of itsnational bank.

Regional participation in globalreforms

The economies of the ECE region are wellrepresented – arguably over-represented – inglobal forums and international organiza-tions that are addressing the crisis. One ofthe principal ones has been the G20, inwhich about half of the countries, or halfof the people at the table, were from theECE region – which accounts for slightlyover half of the world’s GDP (PPP).


42


Some of the ECE members of the G20,however, disagreed about what to empha-size. For the US and the UK the mostimportant objective has been to increase themacroeconomic stimulus. The continentalEuropeans, led by Germany and France, onthe other hand, have instead preferred tofocus on regulatory reform of the financialsector. At the G20 meeting in London, theUS attempted unsuccessfully to get the Eu-ropeans to increase their stimulus packages.

Within the ECE region, there is broadagreement on the need to regulate the finan-cial sector. But there remains debate aboutthe details. Most countries agree on theneed to tighten mortgage origination proce-dures, strengthen banking supervision andextend it to a wider range of institutions,ensure greater oversight over hedge fundsand derivative markets, regulate credit ratingagencies, and reduce bank leverage. Theyalso agree on the need to reduce procy-clicality in accounting rules and bank lend-ing practices, and to have central banksconsider asset prices when making monetarypolicy. However, the US and Europe differon the necessary institutional changes orcreations. The Europeans have generally fa-voured global structures. The US puts moreemphasis on national legislation, althoughthis does not eliminate the need for interna-tional cooperation and/or coordination.

Although there are unlikely to be significantenhancements in international institutions, itis also unrealistic within the EU to limitreform to separate national responses. Over-all, there is general agreement on the need foran EU-level institution that is independentand has authority over national supervisors.

The ECE economies have generally agreedon the need to increase the resources avail-

able to the IMF. The US favoured this as away to expand world aggregate demand.The western Europeans were initially hesi-tant but later acquiesced, particularly whenit became clear that the alternative was forthem to provide the funds. The advancedECE economies agreed to increase SDRallocations by $250 billion, though most ofthat will go to the advanced economies.

Another issue is the representation in themanagement of the international financialinstitutions. Europe in particular is over-represented. The eurozone is smaller thanthe US yet the eurozone economies have 32per cent of IMF quotas while the US has17 per cent. Increasing the representation ofthe emerging economies will require reduc-ing the representation of western Europe.The Europeans appear to agree in principlebut have been unwilling to commit to spe-cific changes. None of the major or minorEuropean countries has offered to reduce itsstrength in international organizations, orgive up its seat at the tables of the G7 orG20; nor has the US agreed to give up itsIMF veto.

The way forward

Prospects for economic recovery

In the spring of 2009, the economic situa-tion appears to have plateaued, but it re-mains uncertain whether this represents thebottom from which a recovery can begin –or a temporary landing to be followed byanother downward plunge. If there is a shoeleft to fall it is probably in the vulnerableEuropean emerging economies. Growth mayresume in the US in the second half of2009, but in Europe the recovery will prob-ably be delayed because of the weakerpolicy response.

43

Once the recession is over, it will be neces-sary to unwind any stimulus quickly inorder to avoid inflation and limit the exces-sive growth of government debt. The timingwill be tricky. During the Great Depressionin the 1930s macroeconomic policy wastightened prematurely, causing the world torelapse into several more years of depres-sion. The same thing happened in Japan inthe 1990s.

Region-specific recommendations forcrisis resilience

The crisis has revealed not just inadequa-cies in the design and regulation of finan-cial markets, but a long list of failures thatwill require a comprehensive redesign ofnational, regional and global financial sys-tems. Much of this reform will be at thenational level, but it will also be importantto increase intergovernmental cooperation soas to harmonize policies, especially in Eu-rope.

The crisis has also exposed the inability ofinternational monetary systems to provideemerging markets with sufficient externalfinance. This is a particular problem forthose in south-east Europe wishing to copythe development model of the new memberstates. The international financial architec-ture will therefore need to be redesigned toprovide emerging economies with externalcapital, or prevent large imbalances fromdeveloping – a concern that has not been

addressed by the G20 or individual govern-ments.

The European emerging economies havelargely been required to implement procy-clical fiscal and monetary policies – demon-strating how the current international eco-nomic system is fundamentally ‘develop-ment unfriendly’ and how the standardmacroeconomic tools for addressing crisesare unavailable to them. The tripling ofIMF resources, however, should help reducethe negative consequences.

The advanced economies of the ECE haveresponded with unprecedented fiscal stimuliand monetary easing, though with long-runcosts in terms of potential inflation anddebt repayment. Only time will tell whetherthe more aggressive US approach or themore cautious European approach was moreeffective. Whatever the outcome, Europewill need to reconsider its policies and in-stitutions.

The dominance of the advanced economiesof the ECE is no longer consistent with therealities of the world economy. If interna-tional economic institutions are to be moreeffective and legitimate, they will requirefurther reform, including reduced Europeanrepresentation. More generally, with in-creased globalization comes the need forincreased global governance; over the long-term the two will either increase or de-crease together.


44



The Economic Commission forLatin America and the Caribbean

45

When the current financial crisis began tospread, initially it seemed possible that itmight not affect Latin America and theCaribbean so severely since there mighthave been a decoupling of global businesscycles. By mid-2008, however, and espe-cially after September, it became evidentthat the crisis would indeed have an impacton the region. The centre of debate thenshifted to what would be the intensity ofthis impact and on what the region’sgovernments could do to mitigate the ad-verse effects through countercyclical mon-etary and fiscal policies. There has alsobeen an intense debate on the internationalfinancial system and on the reforms neededto enable it to play a countercyclical roleand help countries cope with externalshocks.

Impact of the crisis

Growth

In a context of contraction in both globaland developed countries’ GDPs during2009, Latin America and the Caribbean isfacing a negative scenario, characterized by

CHAPTER III

THE ECONOMIC COMMISSION FOR LATIN AMERICAAND THE CARIBBEAN

The crisis has been transmitted to Latin America and the Caribbean through anumber of channels – including declining exports, low commodity prices, a fall inremittances and tourist income, and a contraction in capital flows. As a result, some ofthe larger economies are now seeing negative growth.

a slowdown of exports, low commodityprices, a drop in remittances andtourist income, and a contraction in capitalflows.

ECLAC estimates that the region’s GDP willcontract 0.3 per cent this year (Figure III-1).The worst performance will be in Mexico(–2 per cent), Brazil (–1 per cent), CostaRica and Paraguay (both 0.5 per cent), whileChile and Ecuador will have zero growth.On the other hand, Panama will have thebest regional performance, with a growthrate of 4 per cent, followed by Peru (3.5 percent), Cuba and Bolivia (both 3 per cent)and Uruguay (2.5 per cent). The remainingcountries will grow between 0.5 and 1.5 percent (ECLAC, 2009a)

Inflation and exchange rates

As a consequence of the increase in foodprices from the second half of 2007, annualinflation in 2008 in Latin America was 8.8per cent, the highest figure in six years.Inflation in 2009, however, is projected tofall to 6 per cent – as a result of theslowdown in economic activity, with lowerinternal demand and high unemployment.

46


Declining inflation rates have given roomfor Latin American Central Banks to easemonetary policies, in an effort to reactivateeconomic activity.

Local currencies started to depreciate whenthe crisis intensified in September 2008, asinvestors, aiming to protect their wealth,hedged in dollars (Figure III-2).

Figure III-1 – Countries in Latin America and the Caribbean, estimatedgrowth in 2009

PanamaPeru

BoliviaCuba

UruguayArgentina

GuatemalaHonduras

DominicanVenezuelaNicaragua

EI SalvadorHaiti

ColombiaCaribbean

ChileEcuador

LACCosta Rica

ParaguayBrazil

Mexico

4.03.5

3.03.0

2.51.51.51.51.5

1.01.0

0.50.50.5

0.10.00.0

–0.3–0.5–0.5

–1.0–2.0

– 3.0 – 2.0 – 1.0 0.0 1.0 2.0 3.0 4.0 5.0

Per cent

Source: Economic Commission for Latin America and the Caribbean.

Figure III-2 – Latin America, monthly exchange rates in six countries, 2008-2009a

140

130

120

110

100

90

80

Jan-

08

Feb-

08

Mar

-08

Apr

-08

May

-08

Jun-

08

Jul-0

8

Aug

-08

Sep-

08

Oct

-08

Nov

-08

Dec

-08

Jan-

09

Feb-

09

Mar

-09

Apr

-09

Argentina Brazil Chile Colombia Mexico Peru

Source: Bloomberg.Note: Indexed to January 2008 rates.

a Data are up to April 2009.

Inde

x

47

Fiscal accounts

During 2008, primary fiscal surpluses at thecentral government level in Latin Americancountries averaged 1.6 per cent of GDP,while for the overall balance there was adeficit of 0.3 per cent (ECLAC, 2008). Inthe first half of last year, commodity priceswere at their historical maximums – allow-ing countries to reduce government debt/GDP ratios, increase reserves and investsurpluses both abroad and at home. Thesecond half of the year, on the other hand,saw the eruption of the financial crisis, ahuge drop in commodity prices and aslowdown in economic activity as a whole.Fiscal surpluses started to decline in themain Latin American countries, and for the

current year it is expected that LatinAmerica and the Caribbean will have aprimary fiscal deficit of about 2 per cent ofGDP.

Governments have implemented manymeasures to reduce the impact of the cur-rent crisis on domestic economies, includingnew public infrastructure, tax reductions,credit facilities, and social expenditure. Onaverage, the regional effort in 2009 willcost around 1.4 per cent of GDP, but withdifferences between countries (Figure III-3).Argentina’s fiscal measures account for 5.7per cent of GDP, and Colombia’s for 4.2per cent. The most limited measures, interms of GDP are in Mexico and Honduras– 0.6 per cent each (B�rcena, 2009).

Figure III-3 – Increases in public expenditure, percentage of 2008 GDP

Argentina

Colombia

Peru

Chile

Bolivia

Latin America

Brazil

Guatemala

Costa Rica

Mexico

Honduras

5.7

4.2

2.4

2.2

1.9

1.4

1.0

0.8

0.7

0.6

0.6

0 1 2 3 4 5 6

Per cent

Source: Economic Commission for Latin America and the Caribbean.

Unemployment and social indicators

Between 2003 and 2008, unemploymenthad steadily come down – from 11 to 7.5per cent – but according to ECLAC esti-mates, in 2009 unemployment will increaseto 8.5-9 per cent. This will increasepoverty. In 2007, 34 per cent of the re-

gion’s population lived below the povertyline –184 million people. Poverty rates toohad been declining, but the current crisismay cause them to rise again, and alsoresult in an increase in inequality.

Those likely to suffer most from increasingunemployment and poverty are vulnerable

CHAPTER III. THE ECONOMIC COMMISSION FOR LATIN AMERICA AND THE CARIBBEAN

(Bárcena,

48


groups, such as women and youth. As aresult of job losses in manufacturing, manymore women, especially in Central America,will be seeking work in the informal sector.The crisis will also affect the economicsecurity of older people. Many have to keepworking because of the limited coverage ofsocial security – as, for example, in Bolivia,Ecuador, El Salvador, Dominican Republic,Guatemala and Paraguay. But now the crisiswill reduce their job opportunities (Jaspers-Faijer, 2009).

Vulnerable groups can be supported in anumber of ways, through various forms ofsocial spending, employment creation pro-grammes and schemes for employment in-surance. It is imperative that measures andpolicies adopted to address the crisis do notreduce the existing social rights of vulner-able groups or reduce the coverage andquality of services and benefits.

The external sector

After five years of current account surpluses,in 2008 the region experienced a deficit of$27 billion, equivalent to 0.6 per cent ofGDP (Figure III-4). All countries exceptArgentina, Bolivia, Ecuador and Venezuelarecorded a deficit (ECLAC, 2008).

During 2009, the region is expected to havea contraction in international trade. Prelimi-nary figures indicate a slowdown in bothexports and imports in Argentina, Brazil,Chile, Mexico and Peru. Mexico and Cen-tral America and the Caribbean will alsoface some difficulties because of their closeties with the US economy where demandhas fallen sharply.

Commodity prices have fallen – on average50 per cent from the maximum levels ofmid-2008. Among these, energy prices have

Figure III-4 – Current account balance,percentage of GDP at current prices,1994-2008

2

1

0

– 1

– 2

– 3

– 4

– 5

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

2006

2007

2008

Source: Economic Commission for Latin Americaand the Caribbean.

fallen 60 per cent, and food and metals, by36 per cent (Figure III-5). This has affectedthe main commodity exporters – Venezuela,Ecuador, Colombia, Chile and Peru.

Falling commodity prices have caused adeterioration in the region’s terms of trade.In 2008, these had increased by 4.6 per cent,but in 2009 are expected to fall by nearly 15per cent. The countries most affected are inSouth America: following a growth of 5.9per cent in 2008 there will be a decline of20.6 per cent in 2009. The main losers areBolivia, Ecuador, Colombia and Venezuela,with an average reduction of 38.8 per cent.For Chile and Peru, the reduction will be25.4 per cent. Mexico’s terms of trade willfall 6.7 per cent this year. In CentralAmerica, on the other hand, the situation islikely to improve – from a 3.4 per cent fallin 2008 to a 3.9 per cent rise in 2009.

Workers’ remittances

The region is also expecting a fall in mi-grant workers’ remittances. In 2008 thesehad risen by 0.9 per cent, to $69 billion,

Perc

enta

ge o

f G

DP

49

but in 2009 they will probably decline, as aconsequence of recession in major remit-tance source countries, such as the UnitedStates, Spain and Japan. Indeed, even forthe last quarter of 2008, remittances hadregistered their first drop since 2000 – 2per cent down on the same period in 2007,to $17 billion. As of January 2009, totalremittances in countries that reported datawere down by as much as 13 per cent. Inhouseholds where remittances represent themain source of income, these falls, com-bined with fluctuations in exchange rates,are making life very difficult (IDB, 2009a).

Capital flows

In late 2008, capital inflows slowed in sev-eral countries of Latin America. Excludingnet direct investment, financial flows aspercentage of GDP dropped in Brazil, Ar-gentina, Mexico and Peru. In 2009, foreigndirect investment (FDI) is expected to drop.In the last three quarters of 2008, net FDI

as a percentage of GDP dropped by 0.8points in Argentina, 2.9 points in Peru and0.5 points in Mexico. This is as a result offalling commodity prices, which have led tothe cancellation of several natural resourceprojects, as well as of low economicgrowth in the region. Lower economic ac-tivity in the main export markets, such asthe United States and Europe, has directlyreduced exports from Mexico and the Car-ibbean Basin. FDI has also been affected bythe difficulties that companies are having inobtaining credit.

Banking

From 2003 to 2008, the region experienceda credit boom. In 2009 in some countries,credit has continued to grow, but moreslowly (ECLAC, 2008). The financial crisishas caused a decline in liquidity throughreductions in domestic and external sourcesof finance. Country risk ratings and lendingand borrowing rates have eased in recent

180

160

140

120

100

80

60

40

Jan-

08

Feb-

08

Mar

-08

Apr

-08

May

-08

Jun-

08

Jul-0

8

Aug

-08

Sep-

08

Oct

-08

Nov

-08

Dec

-08

Jan-

09

Feb-

09

Mar

-09

Apr

-09

Commodities Food Energy Metals

Figure III-5 – ECLAC region, commodity price index, 2008-2009a

Source: Bloomberg.a Data are up to April 2009.


Inde

x (J

anua

ry 2

008

= 1

00)

50


months, but are still above their levels priorto September 2008. In the seven majorLatin American economies, the real creditstock grew in 2008, but at an annual ratearound 15 percentage points lower than in2007.


Broadly speaking, governments have imple-mented measures aimed at restoring confi-dence, unlocking financial markets and bol-stering weakened aggregate demand. How-ever, the measures vary considerably fromone country to another, according to theextent to which each has been affected andits resources and capacity to respond.

The measures fall into five broad catego-ries: monetary and financial policy; fiscalpolicy; exchange-rate and external tradepolicy; sectoral policies; and labour and so-cial policies (ECLAC, 2009b). These areshown in Figure III-6 which indicates thenumber of countries in Latin America andthe Caribbean, out of a total of 33, thathave implemented each of the measures.

• Monetary and financial policy – Coun-tries following an inflation target regimehave generally eased monetary condi-tions, as central banks have loweredbenchmark interest rates, in some casesvery considerably (Figure III-7). Mostcountries have also, through variousmeans, been providing liquidity to theirfinancial systems.

• Fiscal policy – Almost all countrieshave implemented fiscal measures –generally reducing taxes or increasing,or bringing forward public spending, orboth.

• Exchange-rate and external trade policy– Countries have been providing liquid-ity in foreign currency, while providingexport financing. A number of countrieshave negotiated credits from interna-tional financial bodies. Most have alsoreduced tariffs; only a few have resortedto increasing tariffs or restricting im-ports.

• Sectoral policies – Governments havebeen supporting specific sectors – par-ticularly agriculture, housing, manufac-turing and tourism. They have alsogiven special attention to small andmedium enterprises because of their im-portance for the creation of employment.

• Social programmes – Throughout the re-gion, governments have generally putmore emphasis on social programmesthan on policies to counteract the effectsof the crisis on levels of employment.

Regional responses

Regional and subregional financial institu-tions have been playing a key role in sup-porting national efforts to mitigate the im-pacts of the crisis through countercyclicalpolicies. Among them, the Inter-AmericanDevelopment Bank (IDB) has announced itis prepared to approve up to $12 billion in2009, compared with $10 billion in 2008. Ithas also created a new, fast-disbursing li-quidity facility amounting to $6 billionwhich “provides funding for countries facingtransitory difficulties in accessing interna-tional credit markets due to the financialturmoil” (IDB 2008, IDB 2009b). If the totalof the new facilities were to be used, then inthe course of this year IDB total fundscommitted to Latin America and the Carib-bean could amount to $18 billion, “the larg-

51

33

30

27

24

21

18

15

12

9

6

3

0a b c d e f g h i j k l m n o p

Monetary and financial policya Reduction or relaxation of reserve requirementsb Provision of liquidity in national currency

Fiscal policyc Tax cuts or increased subsidiesd Spending increased or brought forward (infrastructure)

Exchange-rate and external trade policye Provision of liquidity in foreign currency*f Increased tariffs or import restrictionsg Tariff cutsh Financing of exportersi Obtaining credit from international financial bodies

Sectoral policiesj Housingk Small and mediun-sized enterprisesl Agriculturem Tourismn Manufacturing

Employment and social policieso Promoting job creationp Social programmes

* Does not include central bank interventions involving the sale of foreign exchange in currency markets

Figure III-6 – Measures implemented by ECLAC countries

Source: Based on ECLAC (2009b).Note: The Y-axis measures the number of countries out of a total of 33 Latin American and the Caribbeancountries that implemented each measure.


52


est and most rapid mobilization of resourcesin the IDB’s 49-year history” (IDB, 2008).

In turn, the Andean Development Corpora-tion (CAF) has extended the credit lines forthe financial institutions of its membercountries, from $1.5 billion to $2 billion.Also in the Andean subregion, the LatinAmerican Reserve Fund (FLAR) has of-fered liquidity credit lines of $1.8 billion,and announced last year that it could makeavailable another $2.7 billion.

The IDB is also coordinating efforts withseveral other multilateral institutions, in-cluding the World Bank, the Caribbean De-velopment Bank, the International FinanceCorporation, the CAF, and the FLAR toensure that resources are provided to coun-tries in a timely manner (IDB, 2008).

Governments of the region have also under-lined the importance, during this crisis, ofregional integration and cooperation. The

first Latin American and Caribbean Summitfor Integration and Development, in Brazilin 2008, recommended that finance minis-ters consider a strategy for a regional andsubregional financial architecture for in-creasing cooperation. The proposals to beconsidered include: further integrating re-gional and subregional financial markets;developing or strengthening regional mecha-nisms for balance-of-payments stabilization;extending cooperation between national andregional development banks; and installinga mechanism for trade payments in localcurrencies. This last initiative is also beingdiscussed in the context of the Latin Ameri-can Integration Association.

The way forward

The international financial system should beable to mobilize and allocate savings totheir most productive uses, as well as playa countercyclical role by smoothing out thebusiness cycles across countries (ECLAC,2009c). Once again, however, it has shownits weakness in reaching these goals, result-ing again in demands for deep reform and amore stable and equitable international fi-nancial system. This time, however, the de-mands have a renewed intensity and arecoming from a much broader group of peo-ple and institutions. This is not only be-cause the current crisis is the most severesince the Great Depression, but also be-cause this episode has shown, more explic-itly than ever, that financial crises are glo-bal and systemic phenomena that generatelarge disturbances from small impulses, andthat no country is isolated from contagion.

Despite the severe problems that it has cre-ated, this crisis also therefore offers aunique opportunity to transform the interna-

15

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11

9

7

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7

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08

Mar

-08

May

-08

Jul-0

8

Sep-

08

Nov

-08

Jan-

09

Mar

-09

Brazil Chile ColombiaPeru Mexico

Figure III-7 – Benchmark interest rates,2007-2009a

Source: Economic Commission for Latin Americaand the Caribbean.

a Data are up to March 2009.

Per

cent

53

tional financial system to enable it to fulfilits fundamental role of mobilizing savingsand smoothing out business cycles acrosscountries. At present, the financial systemhas worked in a procyclical fashion, ampli-fying rather than smoothing business cycles,and at both macro and micro levels it suf-fers from weak regulation.

To reduce volatility in global financial mar-kets, the international financial system andregulations need to operate in a counter-cyclical fashion. Reform is also needed inthe international financial institutions, whichshould benefit from greater surveillance andparticipation from developing countries –and be complemented by a strong regionalfinancial architecture.

Countercyclical role of the financialsystem

Traditionally the financial system has accen-tuated rather than dampened economic fluc-tuations. Private capital flows; in LatinAmerica and the Caribbean have generallybeen highly procyclical (Figure III-8) – asource of economic instability. When facingcrises, developing countries have had fewresources of their own with which to re-spond and limited access to the interna-tional financial system. Developing coun-tries in the ECLAC and other regionshave therefore consistently argued forcountercyclical instruments and policies thatcan pre-empt the negative effects of eco-nomic and financial crises.

The international financial institutions, suchas the IMF, should have the financial andtechnical capacity to provide the necessaryfinancial resources in a timely manner. Thiscan prevent local crises developing into glo-bal ones and ensure that the flow of assist-

ance is not slowed by administrative proce-dures or conditionality. There now appear tobe some steps in this direction, since theIMF has recently created a new FlexibleCredit Line “for countries with very strongfundamentals, policies, and track records ofpolicy implementation”. In April, Mexicorequested $47 billion from this credit line.

Regulations to reduce volatility

Mechanisms that work in a more counter-cyclical fashion can reduce the vulnerabilityof domestic economies to sudden changesin the international financial environment.These can be supplemented by variousforms of capital account regulation thatenable economic policy to act in acountercyclical fashion, along with othermeasures to reduce vulnerability to capitaloutflows by domestic residents.

Prudential counter cyclical regulation

At present prudential regulation largely isprocyclical – as with the patterns of creditratings found in Basle II and the use inUnited States of mark-to-market accountingin the private sector. One of the mostwidely cited proposals for prudentialcountercyclical regulation is the StatisticalProvision for Insolvency that has beenapplied since 2000 in Spain (F�rnandez,2000). In Latin America this type ofregulation can be adapted to take intoaccount the specificities of national finan-cial systems.

Surveillance

Currently the international financial institu-tions fail to provide the level of surveil-lance needed to enhance the stability of theglobal system and avoid undue economic


(Férnandez,

54


imbalances. The developed countries arerarely subject to any surveillance by theIMF, for example, because they do not re-quire the assistance of the IMF to deal withtheir financial and macro-imbalances. How-ever, distortions in these countries can haveglobal implications, introducing sustaineddisequilibria in the international financialsystem. In these circumstances, what isneeded is global regulation. The IMFshould take on functions similar to those ofa global regulator, ruling for all the sys-tem’s participants, and not only for the de-veloping countries that require its financialassistance. The current crisis has demon-strated how the stability of the system canbe threatened by a crisis in financial centresoutside the scope of surveillance of interna-tional financial institutions.

Regional financial architecture

Regional and subregional financial institu-tions are playing an increasingly importantrole in the new international financial archi-

tecture by complementing global financialinstitutions. Subregional development banksand reserve pooling institutions, for exam-ple, have helped countries in the region tomobilize financial resources for productiveactivities. They have been able to providecountercyclical financing and also assistwith surveillance and macroeconomic policycoordination.

In addition, regional and subregional devel-opment banks have allowed the region toincrease its degree of integration in interna-tional capital markets while also developingdomestic capital markets. They have, forexample, been improving their funding con-ditions and issuing bonds in Latin Americancurrencies. Jointly with international finan-cial institutions, regional and subregionalbanks have helped countries in the currentcrisis by providing liquidity.

The region also has a successful experiencein pooling foreign currency reserves, aswith FLAR, which has been providing

8

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– 2

– 4

GD

P gr

owth

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e(p

er c

ent)

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Cap

ital

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s(p

erce

ntag

e of

GD

P)

1980

1982

1984

1986

1988

1990

1992

1994

1996

1998

2000

2002

2004

2006

2008

Source: ECLAC, based on IMF data.

Real GDP growth Private capital flows (net) in % of GDP

Figure III-8 – ECLAC region – GDP growth and net capital flows as a percentageof GDP

55

member countries with countercyclical fi-nancing when facing balance-of-paymentsproblems. During severe crises this systemhas given countries access to finance more

rapidly and on a larger scale than providedby the IMF. This could perhaps be extendedto new members, in order to enlarge theresource base and help avoid contagion.


56



The Economic and Social Commission for Asia and the Pacific

57

For the second time in a decade, Asia andthe Pacific has been hit by a financial cri-sis. But this time the region is better pre-pared. It has implemented regulatory re-forms that have strengthened the bankingsystem, ensured prudent macroeconomicmanagement which has helped stabilizemost macroeconomic indicators, and hasimproved current-account balances. At thesame time, a number of economies in theregion have built up protective shields offoreign-exchange reserves.

As a result of these improvements, the re-gion is more resilient, but it has neverthe-less felt the impact of the crisis. And de-spite uniquely aggressive countercyclicalfiscal and monetary policy measures – glo-bal and regional – since September 2008the economic outlook has darkened consid-erably as the crisis has worked its waythrough the region. There have been deeprepercussions for the real economy and em-ployment. Hardest hit is the export sector.In addition, investment and consumer confi-dence have been shaken by the lack of

CHAPTER IV

THE ECONOMIC AND SOCIAL COMMISSION FORASIA AND THE PACIFIC

A crisis that arrived from the developed countries is biting deeply in many countries,particularly through plummeting exports. Millions of people are losing their jobs andflows of remittances are declining. Even so, Asia and the Pacific is now more resilientthan it was during the 1997 crisis, and though economic growth has slowed it remainshigher than other regions. As a result, in 2009 Asia and the Pacific is likely to remainthe locus of global growth.

credit, poor expectations, corporate losses, aslowdown of remittances and mountingconcerns about job security and householdincome.

Growth has suffered in most countries, butthere are nevertheless considerable varia-tions in performance across the subregions.The economies that will be most resilientare likely to be those that rely more ondomestic demand than exports, and thathave significant room to enact expansionaryfiscal and monetary policies. China and In-dia both meet these criteria so are likely tobe among the countries that will serve asanchors of global economic expansion in2009, albeit growing at a much slower pacethan in 2008.

Much will hinge on how the region usesfiscal policy in 2009. If the larger econo-mies including China, India and Indonesia,can enact fiscal stimulus packages to keeptheir domestic demand buoyant this willinfluence not only the path and speed ofthe region’s economic recovery, but also

58


help maintain socio-political stability. How-ever, it will also be important to have con-certed action at both regional and globallevels so that such stimuli and other meas-ures have the maximum impact, and toenable countries to build resistance againstfuture crises.


External sector and short-term capitalflows

For some economies of the region, the sparkthat led to immediate macroeconomic diffi-culties in the third quarter of 2008 was, onceagain, exposure to short-term portfolio capi-

tal. Figure IV-1 shows that, prior to theeruption of the financial crisis, the Republicof Korea, Indonesia, Singapore, the Philip-pines, and Malaysia all had stocks of foreignportfolio investments whose value exceededforeign reserves. When the financial instabil-ity hit, there was a flight to safety andcapital exited rapidly. For highly leveragedinvestors, declining equity values abroad hadtriggered margin calls. In some of thesecountries, notably the Republic of Korea,currencies came under strain and CentralBanks were forced to defend them withreserves. However, over the past decade,regulatory reforms in the financial sectorcombined with cautious macroeconomicmanagement have improved current-account

Figure IV-1 – Stock of portfolio investments as a percentage of foreign exchangereserves, selected economies, 2001 and 2008 or latest

180

160

140

120

100

80

60

40

20

0

Perc

enta

ge o

f re

serv

es

Indo

nesi

a

Rep

ublic

of

Kor

ea

Phili

ppin

es

Sing

apor

e

Mal

aysi

a

Thai

land

Rus

sian

Fed

erat

ion

Kaz

akhs

tan

Paki

stan

Indi

a

Chi

na

2001 2008 (or latest)

Source: IMF, International Financial Statistics (CD-ROM) (Washington, D.C., April 2009).Note: Derived from international investment position of respective economies, including the categories ofstock of portfolio investment and financial derivatives investment, excluding direct investments and otherinvestments.

59

Figure IV-2 – Current account balances as a percentage of GDP, selected developingESCAP economies, 1996 and 2008

20

15

10

5

0

– 5

– 10

– 15

– 20

Per

cent

Viet

Nam

Paki

stan

Indi

a

Rep

ublic

of

Kor

ea

Thai

land

Indo

nesi

a

Phili

ppin

es

Taiw

an P

rovi

nce

of C

hina

Kaz

akhs

tan

Rus

sian

Fed

erat

ion

Chi

na

Hon

g K

ong,

Chi

na

Mal

aysi

a

Sing

apor

e

1996 2008

Sources: IMF, International Financial Statistics (CD-ROM) (Washington, D.C., 2008), and World EconomicOutlook Database (Washington, D.C., October 2008); and national sources.Notes: Figures for 2008 are estimates. Current account balance for Hong Kong, China refers to 1997.

balances (Figure IV-2) and short-term debtprofiles (Figure IV-3). To a large extent, theregion possessed the resilience to withstandthe worst of the deleveraging process.

Equity and property markets

Since mid-September 2008, the creditcrunch and a worldwide flight to safety byinvestors have caused the value of the re-gion’s equity markets to decline sharply.The global credit crunch, measured by theprice of credit, has been more severe thanat the peak of the 1997 crisis. This led toparticularly sharp falls in markets where,taking advantage of high global liquidity,foreign investors had acquired an increasing

presence. For Hong Kong, China and Tai-wan Province of China the declines haveexceeded those in 1997 (Figure IV-4).

There is no certainty that the trough hasbeen yet reached and there remains a possi-bility of further falls. Thus far, however,overall declines have been less than in1997. Furthermore, as compared to develop-ing countries in other parts of the world,those in the Asia-Pacific region have expe-rienced shallower declines (Overview, Fig-ure 2) – once again underlining the relativeresiliency of the region’s markets. Thesedeclines will lead to lower domestic de-mand, especially in personal consumptionand corporate investment.

CHAPTER IV. THE ECONOMIC AND SOCIAL COMMISSION FOR ASIA AND THE PACIFIC

60


Compared with the developed countries, eq-uity market investments in Asia and thePacific as a whole constitute only a smallproportion of household wealth, and equityfinancing makes up a relatively small pro-portion of corporate investment. The de-clines will, however, be greater in the moreadvanced economies of the region, such asthe Republic of Korea, Singapore, andHong Kong, China. Domestic demand willalso be dampened by the downturn in prop-erty prices. As with equity markets, in theproperty markets foreign capital had in-creasingly contributed to high price rises.Similarly, home mortgages are much lessimportant in the region than in developedcountries. For example, in China they repre-sent 12 per cent of GDP, and in India only5 per cent, compared to 105 per cent in the

US. The more advanced economies of theregion however, are more severely affected.

Banking sector

The region’s ability to grow out of thecrisis is being hampered by restrained banklending. Since private funding from devel-oped countries has seized up, Asian compa-nies have either had to delay issuing newexternal bonds, refinance at shortermaturities, or turn for funding to domesticsources at a time when domestic lenders arealso circumspect. Between 2007 and 2008,private capital flows to Asia slowed sharply,from $315 billion to around $96 billion(IIF, 2009). Trade credit in particular hasbeen reduced, contributing to a sharp de-cline of the region’s trade flows.

Figure IV-3 – Short-term debt as a percentage of GDP, selected developing ESCAPeconomies, 1996 and 2007

30

25

20

15

10

5

0

Perc

enta

ge o

f G

DP

Rep

ublic

of

Kor

ea

Kaz

akhs

tan

Thai

land

Mal

aysi

a

Indo

nesi

a

Chi

na

Rus

sian

Fed

erat

ion

Phili

ppin

es

Indi

a

Paki

stan

1996 2007

Sources: ESCAP calculations on the basis of World Bank, Global Development Finance Database (accessed 5May 2009); and ADB, Key Indicators for Asia and the Pacific 2008 (Manila, 2008).Note: Short-term external debt has an original maturity of one year or less.

61

Private-sector debt had increased in recentyears, especially in the Republic of Korea,Hong Kong China, Taiwan Province ofChina, Indonesia, India and Singapore.Now, however, constrained credit is a causefor concern because, during a period ofslowing domestic growth, an ailing corpo-rate sector could add a new layer of riskaversion and financial stress to the bankingsector.

Small and medium-sized enterprises (SMEs)are particularly vulnerable to a slowdown incredit. With higher risk profiles they aregenerally less likely to attract funding, andwill have a smaller pool of internal funds

to see them through the credit crunch. Theirmost immediate concerns are the difficultyof rolling over short-term debt positions,and obtaining trade finance. The most-af-fected SME sectors are export-oriented en-terprises, such as textiles, footwear andtoys.

Governments have been taking active stepsto ease the credit crunch – aiming to breakthe negative feedback loop between the fi-nancial and real sectors, and to mitigate thedamage to SMEs. They have, for example,reduced interest rates, injected liquidity tosupport interbank lending, injected capitaldirectly into banks, temporarily relaxed

Figure IV-4 – Equity market decline from peak to trough in 1997/98, and in thecurrent crisis from peak to end-March 2009

0

– 10

– 20

– 30

– 40

– 50

– 60

– 70

– 80

– 90

– 100

Rus

sian

Fed

erat

ion

Thai

land

Mal

aysi

a

Phili

ppin

es

Indo

nesi

a

Rep

ublic

of

Kor

ea

Sing

apor

e

Paki

stan

Hon

g K

ong,

Chi

na

Taiw

an P

rovi

nce

of C

hina

1997/98 crisis Current crisis

Source: ESCAP calculations based on data from CEIC Data Company Limited.Note: Declines for the 1997/98 crisis measure major stock market indices falling from the peak to thetrough during that period. Declines for the recent crisis measure the corresponding movement from the recentpeak to end-March 2009.


Per

cent

62


banking requirements such as those for col-lateral, and provided guarantees for work-ing-capital loans to the private sector. Tosupport SMEs specifically they have offeredloan guarantees, tax reductions, export cred-its, and interest subsidies. At present, thelevel of non-performing loans across majoreconomies in the region is still low, cur-rently below the international threshold of 8per cent. This, combined with the range ofgovernment measures, has created an im-portant buffer for the region’s banks, and inthe coming months should reduce the sys-temic risk of increases in non-performingloans.

Trade and growth

The financial crisis has had its most visibleimpact on trade. Asia and the Pacific is atrade-oriented region. Indeed in 1997 it wasable to mitigate the effects of the economic

crisis by boosting exports. This time, how-ever, with the precipitous decline in aggre-gate demand in developed countries, exportshave plummeted. Some of the region’seconomies have gone from double-digit in-creases in the previous decade to double-digit declines (Table IV-1). The economieshardest hit are those with enterprises thatare most directly linked through verticallyintegrated production networks that supplyUS and EU markets – such as China, HongKong, China; Republic of Korea, Singapore,Malaysia and Thailand.

This has had a serious impact on economicgrowth. The economies where growth weak-ened most in the last quarter of 2008 werethe export-oriented ones – owing to thesharp deterioration in exports combinedwith much weaker domestic demand. Thehighest negative growth was registered forTaiwan Province of China at 8 per cent,

Table IV-1 – Value of exports, year-on-year, selected ESCAPdeveloping economies

(Percentage change)2008 2009

Oct Nov Dec Jan Feb Mar

China 19.1 –2.2 –2.8 –17.5 –25.7 –17.1Hong Kong, China 9.4 –5.0 –10.8 –21.3 –22.6 –20.9Taiwan Province of China –8.3 –23.3 –41.9 –44.1 –28.6 –35.7India –12.1 –9.9 –1.1 –15.9 –21.2 –33.3Republic of Korea 7.8 –19.5 –17.9 –34.2 –18.5 –22.0Japan –6.4 –15.8 –20.0 –35.3 –41.4 –43.9Malaysia –6.7 –11.0 –20.1 –33.9 –25.5 ..Philippines –14.8 –11.4 –40.3 –40.6 –39.0 ..Singapore –5.0 –15.4 –22.0 –40.2 –29.1 –28.1Thailand 5.2 –18.6 –12.5 –26.5 –11.3 –23.1

Source: CEIC Data Company Limited.Note: Derived from figures in US dollar terms.

63

followed by Thailand at 4.3 per cent, Singa-pore at 3.7 per cent, the Republic of Koreaat 3.4 per cent and Hong Kong, China at2.5 per cent.

An even greater cause for concern on thetrade front is the accelerating decrease inimports. For example, in China in January2009, the year-on-year decline was 43.1 percent. South-East and East Asia haveregionally integrated production bases sothese import declines, consisting to a largeextent of manufacturing parts and compo-nents, reflect the extent to which verticalproduction chains are downscaling – andindicate the potential for further export de-clines in the months ahead. The region isthus in the midst of an industrial crisis, andcan expect exports to decline for some timeto come.

Foreign direct investment

Over the past decade, following the sharpfall resulting from the 1997 crisis, foreigndirect investment (FDI) in Asia and Pacifichad increased dramatically. FDI is usuallylong term, so during a crisis should be amore stable source of inflows, and overall,given the region’s positive long-term out-look, Asia and the Pacific should be able tooutperform other developing regions in at-tracting investment. Nevertheless, here tooFDI is expected to slow down markedly –as already reflected in estimates of a declin-ing FDI contribution to GDP in 2008. Inaddition there will be some reorientation, asmore of the FDI comes from within theregion and is more market- and labour-seeking, aiming to tap into buoyant domes-tic demand. This reorientation will come atthe expense of the more traditional forms ofintra-firm FDI between and within EastAsian economies and South-East Asian

economies that was used to establish re-gional production networks supplying partsand components for consumer products des-tined for developed country markets.

Remittances

Among its 4.1 billion people the Asia-Pa-cific region has 50 million migrants. Indeedmany countries in the region have experi-enced a surge in labour migration in recentyears, with a concomitant increase in remit-tances. Between 2000 and 2007 remittancesmore than doubled to $121 billion. In 2008,among the main remittance – receivingeconomies five countries in the region werein the top ten – Bangladesh, China, India,Pakistan and the Philippines. Remittancesalso make up an important proportion ofGDP for a number of other economies,especially smaller ones such as Kyrgyzstanand Nepal, and some of the Pacific islandcountries (World Bank, 2008).

Experience suggests that during times ofcrisis, remittances in Asia and the Pacificare generally more stable than other capitalflows and also tend to be countercyclical inthat they increase during economic down-turns or following natural disasters in themigrants’ home countries. Furthermore, re-mittances depend not only on flows of mi-grants but also on the stock of migrantsabroad. Thus, although the crisis is likely toreduce the flow of new migrants this maynot materially affect remittances since themigrant stock is large. Remittances are thusexpected to have a stabilizing effect.

Nevertheless, some sectors are more crisis-sensitive than others. Migrants working inhealth and domestic care, and educationtend to be the most stable, particularly incountries with ageing populations. However,


64


those employed in tourism, construction andthe IT industry are vulnerable to cutbacksor being sent back when their contractsexpire. Already there have been reports ofan increase in the return of unemployedmigrants to India, the Philippines and Indo-nesia. Some countries in the region nowhave policies to retrench migrant workersfirst or to replace them with unemployednationals, and to speed up the deportationof irregular migrants. Kazakhstan, the Re-public of Korea, Malaysia, and Thailand,for example, have also been applyinggreater restrictions on the issue of newwork permits and refusing to renew someexisting ones (IOM, 2009).

Livelihoods and vulnerable groups

As the crisis unfolds, it has been estimatedthat in 2009 unemployment in Asia and thePacific could increase by as much as 23million workers (ILO, 2009b). In 2008, thegreatest impact was felt in the export manu-facturing sector, including garments, elec-tronics and autos which, in many East andSouth-East Asian economies, employ a largepart of the workforce. The crisis also hitemployees in construction, tourism, finance,services and real estate. The countries expe-riencing the greatest impact will be thosewith slowing economies and rapid growthin the labour force, such as Cambodia, Pa-kistan and the Philippines (ILO, 2008b).The crisis will also hit wages. Across theregion, average wage growth in real termsin 2009 is unlikely to exceed 1.8 per cent,and workers in countries with loweconomic growth will probably see wagereductions (ILO, 2008c).

Mere unemployment figures mask the fullextent of the problem. As the 1997 crisisshowed, when people are affected by sud-

den shocks, the ones most at risk are thepoor, women who are labourers in themanufacturing sector, the youngest and old-est populations and low-skilled immigrants.When societies are in danger of collapse,such as in the 1997 crisis, there is evidenceof significant rises in suicide and crimerates; abuse and violence against women;and ethnic tensions (Heyzer et al, 1999;Knowles et al, 1999). Women bear thebrunt, of these social fallouts. The damageof a crisis also lasts much longer than thecrisis itself. After the 1997 crisis, for exam-ple, economic growth resumed relativelyquickly, but some countries took up to 10years to recover the ground they had lost inthe struggle against poverty (ILO, 2008a).Of special concern is youth unemployment,which in some countries is expected toincrease from already high levels. In Indo-nesia, for example, in 2007, youth unem-ployment was 25.1 per cent, in Sri Lanka itwas 25 per cent and in the Philippines itwas 14.9 per cent (ILO, 2008b).

Country-specific responses

At the onset of the crisis, for most of theregion’s economies the first line of defenceagainst economic downturn has been mon-etary policy. However, many of the devel-oped economies have demonstrated the lim-its of what can be achieved by the conven-tional method of aggressive interest rate cutsto inject liquidity into the financial system.If the downturn deepens and inflation movesinto negative territory countries in Asia andthe Pacific may also need to consider uncon-ventional and untested measures.

Inflation rates have come down markedly inthe region since the crisis hit, and for somecountries it is forecast at close to zero in

65

2009. Nevertheless for developing countries,monetary policy remains an important tool– especially in a post-recovery phase whenthe economy may be ill-prepared to produc-tively employ excess liquidity. Easy liquid-ity could then find its way into speculativemarkets, triggering inflationary spikes andcommodity price volatility.

To date, however, the key response hasbeen fiscal policy. Many economies haveadopted stimulus packages – as documentedin the 2009 edition of ESCAP’s Economicand Social Survey of Asia and the Pacific.At the 65th Session of the Commission in2009 the ESCAP secretariat was requestedto provide a one-stop information and ana-lytical service on the various packages. Thisinformation is being regularly updated andshows that while all packages are designedto support aggregate demand, particularlydomestic demand, the approaches differ ac-cording to each country’s level of develop-

ment and national circumstances (ESCAP,2009). For example, China and India havemade large capital outlays for infrastructuredevelopment and activities to create em-ployment. Japan, on the other hand is fo-cusing more on supporting small and me-dium-scale industries and private consump-tion. Estimating the true scale of fiscalstimulus can, however, be difficult. Someannouncements, for example, may refer tocapital outlays that were already in thepipeline. Estimates for a range of countriesare shown in Figure IV-5.

The countries best able to introduce largepackages are those with strong budgetarypositions. China, for example, can afford toenact a fiscal stimulus package amountingto $586 billion, second only to that in theUS. India, on the other hand has lessfreedom since it is already running alarge budget deficit – 6 per cent in 2008(Figure IV-6).

Figure IV-5 – Selected stimulus packages as a percentage of GDP

14

12

10

8

6

4

2

0

Per

cent

Chi

na

Sing

apor

e

Uni

ted

Stat

es

Rep

ublic

of

Kor

ea

Aus

tralia

Japa

n

Indo

nesi

a

Thai

land

Rus

sian

Fed

erat

ion

Mal

aysi

a

Indi

a

Source: Economic and Social Survey of Asia and the Pacific 2009 (United Nations publication, Sales No.E.09.II.F.11).


66


Figure IV-6 – Fiscal balance, top surplus and deficit economies, 2008

8

6

4

2

0

– 2

– 4

– 6

– 8

– 10

– 12

Perc

enta

ge o

f G

DP

Rus

sian

Fed

erat

ion

Rep

ublic

of

Kor

ea

Sing

apor

e

Chi

na

Thai

land

Mal

aysi

a

Iran

(Isla

mic

Rep

ublic

of)

Indi

a

Sri

Lank

a

Paki

stan

Mal

dive

s

Sources: ESCAP, based on national sources; ADB, Key Indicators for Asia and the Pacific 2008 (Manila,2008); and ESCAP estimates.

Some countries have chosen in their pack-ages to boost private consumption throughtax cuts or transfers – measures that usuallywork faster than public spending on physi-cal or social infrastructure. But in thepresent circumstances that may not be thecase. Given the overall pessimism and un-certainty, many households may decide notto spend these benefits, but to save them.So if the downturn is prolonged, govern-ments may prefer longer-lasting publicspending.

One major concern in the region is thatfiscal stimulus packages may pay insuffi-cient attention to social protection. Gener-ally they have been confined to job creationprogrammes and boosting consumption,rather than offering greater protection tothose who enter into employment. In Asiaand the Pacific the coverage of basic social

protection programmes remains very low:only around 20 per cent of the populationhave access to health care assistance; only30 per cent of the elderly receive pensions;and only 20 per cent of the unemployedand underemployed have access to labourmarket programmes.

Regional responses

As an important first step in regional finan-cial cooperation, the ASEAN+3 FinanceMinisters agreed in February 2009 to accel-erate the implementation of a multilateralforeign exchange reserves pool, paving theway for converting an existing bilateral fundof $80 billion to a multilateral pool of $120billion. Of the new funds, 80 per cent willbe provided by ‘+3’ countries while theremainder will come mainly from the moredeveloped ASEAN economies. Nevertheless

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many issues remain unresolved if this agree-ment is to fulfil its function in the event of abalance-of-payments crisis. One of the mainissues concerns the requirements tied to thelending of the funds. This will demand astrengthened ASEAN process of monitoringand surveillance. But as yet this is an issueon which political consensus and thus politi-cal will remain fragmented. Another con-cerns the size of the fund. A contagiousfinancial crisis could result in multi-countryrequests for assistance that would be diffi-cult to meet. It will therefore probably benecessary to increase the size of the fundand/or expand its membership.

On the trade front, the Government of Ja-pan has announced that it will set up a $1-billion fund through the Japan Bank forInternational Cooperation in collaborationwith the Asian Development Bank. Thiswill lend to financial institutions in devel-oping countries to help companies gain ac-cess to much-needed trade finance.

Additionally, in order to spur economicgrowth the ADB will expand its lendingcapacity. In 2009 it will triple its capital to$165 billion. This measure is in line withthe agreement reached by the G20 leadersduring the 2009 London Summit to trebleIMF resources from $250 billion to $750billion, and to support a new SDR alloca-tion, as well as to boost the capital ofmultilateral development banks includingthe ADB.

At the 65th Session of the Commission,held from 23 to 29 April 2009, govern-ments adopted resolution E/ESCAP/65/L.7.While expressing concern about the finan-cial crisis which had become a global eco-nomic crisis that could complicate efforts toachieve energy and food security in the

region, the Commission urged implementa-tion of regional cooperation initiatives. Tothis end it requested the Executive Secre-tary to continue to assist countries throughindepth analysis, policy dialogue and advo-cacy and increased capacity-building activi-ties. (ESCAP, 2009).

The way forward

Economic outlook

In 2009, economic growth in developingeconomies in the region is expected to slowfurther to 3.0 per cent. All Asia-Pacificsubregions will experience a deceleration,but the greatest decline will be in the ex-port-dependent South-East Asian economies(Figure IV-7). Even moderate decreases ingrowth rates can have enormous social con-sequences, but the rates in Asia and thePacific are likely to remain higher thanthose in other regions which, given the sizeof the region, will make it the locus ofglobal growth in 2009.

The region will, however, remain vulnerableto further setbacks in the developed coun-tries, and the arrival of new threats, notablyinfluenza A. Figure IV-8 shows a likelyscenario based on a severe deceleration ingrowth in the United States. In this case theAsia-Pacific countries feeling the pinchwould be the Republic of Korea, Singapore,Hong Kong, China, and Taiwan Province ofChina. China, however, even under adownside scenario is expected to achieverelatively robust growth.

Policy recommendations

Urgent action is needed both to emergefrom the current crisis, and to prevent simi-lar crises in the future. Some of the most


68


important measures can be taken at theregional level – to promote consensus andcommon policy positions that can serve asbuilding blocks for greater coherence inmultilateral economic policy-making andthus result in a truly inclusive multilateralsystem of economic governance. Comparedwith global measures, regional ones are alsomore likely to garner support, since coun-tries appreciate more readily that these arein their own self-interest – and among asmaller group of countries there is less op-portunity for “free riding”.

While the Asia-Pacific region has alreadytaken steps in the right direction, withagreements such as those recently reachedby ASEAN+3, further concerted action isrequired. Among other things, this shouldaim to:

Figure IV-7 – Economic growth, selected ESCAP economies, 2007-2009

Developing ESCAP economies

East and North-East Asia

North and Central Asia

Pacific island economies

South and South-West Asia

South-East Asia

Developed ESCAP economies

8.85.8

3.010.0

6.13.3

8.65.6

3.62.4

4.84.3

7.55.9

4.36.5

4.3–0.7

2.6–0.4–3.1

– 4 – 2 0 2 4 6 8 10 12

Per cent

2007 2008 2009

Sources: ESCAP, based on national sources; IMF, International Financial Statistics (CD-ROM) (Washington,D.C., November 2008); ADB, Key Indicators for Asia and the Pacific 2008 (Manila, 2008); EconomicIntelligence Unit, Country Reports and Country Forecasts, various issues (London, 2008); data from theInterstate Statistical Committee of the Commonwealth of Independent States, accessed from www.cisstat.comon 30 March 2009; and ESCAP estimates and forecasts.Note: Rates of real GDP growth for 2008 are estimates and those for 2009 are forecast.

• Strengthen regional coordination ofmonetary and fiscal policies. The cur-rent crisis has highlighted the impor-tance of coordinating monetary and fis-cal policies, including the design, scale,phasing-in and financing of fiscal stimu-lus packages so that they can havesynergistic multiplier effects across theregion. As a guiding principle, the useof fiscal stimulus packages to assist ineconomic recovery should be basedupon a more inclusive and sustainabledevelopment paradigm. Key elementsare:

� Strengthen the social foundationthrough more effective social protec-tion systems. Using fiscal stimuluspackages to build strong social foun-dations will make societies more cri-

°

69

10

8

6

4

2

0

– 2

– 4

Per

cent

Figure IV-8 – Real GDP growth, selecteddeveloping ESCAP and developedeconomies, 2003-2009

Developing ESCAP economies

Developed economies

Baseline

Downside

2003 2004 2005 2006 2007 2008 2009

Source: Calculated based on national sources; IMF,International Financial Statistics (CD-ROM) (Was-hington, D.C., November 2008); ADB, Key Indica-tors for Asia and the Pacific 2008 (Manila, 2008);website of the Interstate Statistical Committee of theCommonwealth of Independent States, accessed fromwww. cisstat.com, 30 March 2009; and ESCAP esti-mates and forecasts. Figures for developed economiesare extracted from World Bank, World DevelopmentIndicators database and Global Economic Prospects2009, Forecast update (30 March 2009).Note: GDP growth for 2008 and 2009 are esti-mates and forecasts respectively. Developed econo-mies refer to high-income economies.

sis resilient, since social protectionprogrammes have consistent counter-cyclical effects. Also, by providing abasic level of income support, pro-tection schemes make individualsfeel more secure and less inclinedto increase their savings to pro-tect themselves, thereby boostingdomestic demand and contributing tomacroeconomic stability (Heyzer,2009a).

� Utilize the financial crisis as a win-dow of opportunity for addressingclimate change. Climate change ishaving a severe impact on the Asia-Pacific region; the threats are real

and increasing. Just as countries arecoordinating their responses to thecurrent financial turmoil, they alsoneed to work together to galvanizesupport for action on climate change.The stimulus packages for addressingthe financial crisis and economicdownturn could incorporate action onclimate change for sustainable devel-opment. In this regard, the regioncould consider recent initiatives, suchas the “Green New Deal” promotedby the Secretary-General of theUnited Nations and the ESCAPGreen Growth initiative, as a wayforward.

� Engender fiscal stimulus packages.Gender dimensions need to be incor-porated into stimulus packages to ad-dress the disproportionate burden ofeconomic crises on women. Largepublic infrastructure and public workprojects are a common feature in allstimulus packages. They are the mosteffective in reaching a wide range ofunemployed workers without regard-ing their skill mix. However, thesejobs are mostly in construction wherejobs are held mostly by men. Socialservices such as health, education,and agricultural extension servicesthat would open equal opportunitiesfor women need to be incorporatedinto public work programs (Heyzer,2009b).

• Strengthen regional contingency andsurveillance. Asia and the Pacific clearlyneeds a regional mechanism that canrespond quickly with sufficient resourcesto the liquidity and capitalization prob-lems of domestic banks. This would re-quire a strong regional surveillance sys-


°

°

70


tem that can assess systemic financialrisk. As a first step, the ESCAP secre-tariat is working on financial indicatorsthat track the impact of the crisis andanalyse its future implications. This willalso form part of the regional statisticaland analytical contributions that theESCAP secretariat will provide to theUN Global Vulnerability Monitoring andAlert Mechanism.

• Establish more durable regional cur-rency arrangements. In addition to in-creasing the availability of contingencyfunds, the region also needs arrange-ments that can avoid uncoordinated na-tional management of currencies, whichcan result in competitive devaluationswith unnecessary foreign exchangelosses, higher debt-servicing costs andbalance of payments pressures. The re-gion also needs to consider ways ofreducing vulnerability to reversals inshort-term capital, such as through intro-ducing deposit requirements on capitalinflows or levying financial transactiontaxes. There is also an ongoing debateregarding diversifying currency reservesfrom the US dollar to other currencies,or to a basket of currencies, or to IMFSpecial Drawing Rights (SDRs). A re-gional currency arrangement could even-tually serve as a building block for anadditional reserve currency.

• Establish a regional trade financingmechanism. Trade has been curtailed bya lack of trade credit. Somewhat anoma-lously, given its dependence on trade,Asia and the Pacific is the only regionwithout its own institution dedicated toexport credit and export credit guaran-tees. A regional trade-financing facilitywould provide risk pooling across coun-

tries and scale economies. It wouldalso have more credibility than isolatednational initiatives, thus offering coun-tries, particularly those with specialneeds, greater access to internationalfinance.

• Strengthening of the regional financialarchitecture. The most efficient mannerto combine the various regional actionsrelated to financial and monetary coop-eration would be through the establish-ment of an Asian Monetary Fund. Suchan initiative, if properly designed, wouldsupport and strengthen the evolving glo-bal financial architecture. The presenceof existing global institutions should notbe a constraint to the establishment of acomplementary regional setup. The abil-ity of international and regional institu-tions to work in an integrated mannerhas already been shown to be effectivein the development banking sphere.

• Strengthen the multilateral trading sys-tem. A particularly worrisome signal onthe trade front is growing protectionistpressures. Some recession-hit countries,often via conditionalities on bailoutpackages or additional subsidies, aregiving market-distorting preferences tolocal producers which could harm Asia-Pacific exporters. This calls for astrengthening of the multilateral tradingsystem in support of trade and develop-ment objectives. A conclusion of theDoha Round, in accordance with itsdevelopment mandate would offer themost stable and transparent environmentfor conducting global and regional trade.

• Strengthening South-South trade and in-vestment. The region can soften the im-pact of current and future economic cri-

71

ses by tapping into the potential ofSouth-South trade and investment. Tofulfil this potential, governments should

remove non-tariff barriers and accelerateimplementation of regional economic in-tegration agreements.


72



The Economic and Social Commission for Western Asia

73

Western Asia can be considered as twogroups of countries: those in the Gulf Co-operation Council, which are among theworld’s major oil producers, and othercountries such as Egypt, Syria and Lebanonwhich have more-diversified economies. Allhave been seriously affected by the globaleconomic crisis, but in different ways.


As indicated in Table V-1, real GDP growthis expected to decline sharply in the GCCcountries, from 5.8 per cent in 2008 to 1.1per cent in 2009, due mainly to the deep

correction in oil prices, reduced oil produc-tion, and tight credit conditions.

Among the GCC economies, the UnitedArab Emirates (UAE) has been the mostaffected by the crisis. Between 2008 and2009, real GDP growth fell from 7.4 to 0.5per cent. This was due to a severe contrac-tion in domestic demand, notably in Dubai.In the UAE the real estate sector represents16 per cent of GDP, so the slowdown inthis sector is having a severe impact ongrowth. Around 80 per cent of Dubai’sworkforce is composed of expatriates and,as many firms downsize their projects and

CHAPTER V

THE ECONOMIC AND SOCIAL COMMISSIONFOR WESTERN ASIA

Western Asia is critical to the world economy as the leading supplier of oil. Thecurrent crisis has resulted in a dramatic drop in world oil prices which has reducedthe income of oil producers but benefited the region’s other economies – and helpedoffset some of their losses from falling exports to the recession-hit developed countries.

Table V-1 – Real GDP growth and consumer inflation rate, 2008 and 2009(Per cent)

Real GDP Consumergrowth rate inflation rate

2008 2009 2008 2009

GCC countries 5.8 1.1 12.0 5.2More diversified ESCWA members 6.6 4.0 13.9 8.2ESCWA region 6.1 2.1 12.7 6.3

Source: ESCWA (2009).

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start to lay off some of their employees,there is likely to be a significant reductionin consumption (GFH, 2009). Saudi Arabiais also expected to be severely hit: GDPgrowth in 2009 is forecast at 0.7 per cent,down from 4.2 per cent a year earlier,and the country’s lowest rate for manyyears.

Other countries will also see a decline inreal GDP growth between 2008 and 2009:in Bahrain, for example, from 6.3 to 2.0per cent; in Kuwait, from 6.1 to 0.7 percent; and in Oman from 6.0 per cent to 1.5per cent. Qatar has also seen growth fallover this period, from 14.0 to 7.0 per cent,but is likely to remain largely insulatedsince it depends mainly on gas revenues.

Syria will be affected by the adverse globaldevelopments as well as by the slowdownin the GCC countries. Oil output will con-tinue to decline which will reduce govern-ment revenues (IMF, 2008). In Egypt too,GDP growth is expected to fall between2008 and 2009, from 6.5 per cent to be-tween 4.0 and 4.5 per cent. This will takeoutput below its potential, which wouldleave some scope for a modest policystimulus to assist the economy through2009.

In Lebanon, the impact of the global finan-cial crisis has so far been muted. However,the global economic downturn, especially inthe GCC countries, will take its toll.Tighter global credit and a pronounced glo-bal recession are likely to affect remit-tances, tourism, foreign direct and portfolioinvestments, and deposit inflows. As a re-sult, between 2008 and 2009 economicgrowth is expected to decline from 5.5 to3.0 per cent.

Inflation

In the GCC countries, the average inflationrate will decline from a peak of 12 per centin 2008 to 5.2 per cent in 2009. This will bedue to a combination of factors. Low de-mand, for example, will ease pressures onsupply bottlenecks. The region will also ex-perience less imported inflation through re-duced commodity prices, a significant issuefor the very open GCC economies. With thereal estate market coming to a halt, rents arealso starting to fall, along with house prices.In a number of countries, such as Qatar,rents have recently been one of the maincontributors to inflation (GFH, 2009).

In general, in the more diversified ESCWAcountries inflation will fall quickly from the2008 spike that was caused by high foodand fuel prices, and remain low (IMF,2009d). In Egypt, the recent drop in infla-tion is likely to continue, down to 10 percent in 2009, followed by a further decreasein 2010. In Syria, inflation started to decel-erate in the last quarter of 2008 due to thefall in international food prices, and thefigure for 2009 is expected to be about 15per cent.

Trade

ESCWA countries will undoubtedly be af-fected by the severe economic slowdown inthe developed countries. The extent towhich countries in the region are affectedwill depend on a number of issues includ-ing their degree of openness of the econo-mies. This can be assessed using the tradeopenness index which is the ratio of thesum of exports and imports to GDP. For 13Arab countries in 2004 the index averaged71 per cent. In addition, exports accountedfor a significant part of the GDP of

75

ESCWA countries, notably the oil-exporters.The contraction of world trade will thusaffect the GCC countries deeply. In addi-tion, ESCWA countries’ exports are highlyconcentrated, as the lion’s share is ac-counted for by oil. The decline in oil pricesand production will significantly erode therevenues and growth potential of the majoroil-exporting countries.

Another consideration is the degree of con-centration of ESCWA countries’ exports interms of products and geographical orienta-tion. The more diversified member coun-tries, particularly Egypt and Jordan, dependsignificantly on the US market and willtherefore suffer as the US recession re-strains demand for foreign products. On theother hand, a number of ESCWA countriesdepend more on European markets. ForSyria, for example, between 1997 and 2005,the EU-15 took around 60 per cent of thecountry’s exports. The European market isalso important for other countries – taking35 per cent of Egyptian exports and 19 percent of those from Lebanon. These coun-tries will therefore be affected by sluggisheconomic activity in Europe.

Foreign direct investment

In 2008, FDI in Western Asia is expected tofall by no less than 21 per cent – largely asa result of the steep decline in resource-oriented FDI, induced by falling oil prices.(UNCTAD, 2009). Most affected will bethe three countries that have secured a highproportion of the region’s FDI. In 2007,Saudi Arabia took 33.5 per cent, the UAE18.3 per cent, and Egypt 18.0 per cent.

For Saudi Arabia in 2007, the largest sharesin investment came from the US and Japan(ESCWA, 2008). Most of these flows went

to the oil and gas sector for joint venturesbetween international energy firms andSaudi Aramco. As oil prices plummet, suchinvestments have become much less profit-able and, in the short term at least, theflows are likely to cease.

In the UAE, the bulk of FDI inflows haverecently gone to four sectors: oil and gas;financial services; construction; and whole-sale and retail trade. The recent turmoil inDubai’s real estate sector is thus expectedto sharply reduce investments in both com-mercial and residential property. However,over the long run, investment prospects inthe UAE should remain quite interesting asthe country is well equipped in infrastruc-ture and has one of the region’s most busi-ness-friendly environments.

The fall in FDI flows is also likely to affecta number of small countries. Among theresource-endowed countries, this would bethe case for Oman, where recent FDI –originating partly from the US and the UK– was targeted primarily at the oil and gassector (ESCWA, 2008).

Egypt is one of the region’s major recipi-ents of FDI, of which in 2007 around 60per cent came from the EU and the US.These flows have been invested largely inthe energy and construction sectors, but alsoin the telecommunications and banking in-dustries, where there have recently beenlarge privatizations. Some projected privati-zations, as well as cross-border mergers andacquisitions, are likely to be postponed as aresult of the current crisis. Lebanon toocould witness a severe decrease in invest-ment flows as it is largely dependent on asmall number of GCC countries that havebeen affected by the crisis.

CHAPTER V. THE ECONOMIC AND SOCIAL COMMISSION FOR WESTERN ASIA

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Fiscal balance

In 2009, the GCC countries are expected towitness a steep decrease in their fiscal sur-pluses. This will be the result of a severedecrease in export receipts induced by thefall in oil prices, as well as by a high levelof public expenditure, as governments areforced to boost domestic demand. The IIFexpects fiscal surpluses in the GCC coun-tries to decline sharply between 2008 and2009, from 22 to 5 per cent of GDP (IIF,2008). In several of the more diversifiedeconomies, anticipated increases in publicexpenditure will exert severe pressurewhich in some cases will translate intolarge fiscal deficits.

External balance

Between 2008 and 2009, the GCC externalsurplus will narrow from $321 billion to$48 billion and, as a result, the current-account balance as a percentage of GDPwill fall from 29.3 to 4.6 per cent. Themore diversified economies, however, willin general benefit from the collapse of oiland commodity prices. This will signifi-cantly reduce their import bills and thuslessen, and in some cases offset, the ex-pected decline in their exports (EIU, 2008).

Egypt’s trade deficit, for example, is likelyto narrow in 2009-2010, due to the decreasein the prices of imported goods and, overthe next two years, the current-account sur-plus is expected to increase. However, thebalance of payments will remain vulnerableuntil the global economy picks up (IMF,2009b). Moreover, given the ongoing turbu-lence in the global financial markets there isalways the risk of further short-term capitaloutflows. In Lebanon, too the external cur-rent account balance is likely to improvedue to the sharp decline in oil prices, butcapital inflows may weaken.

Export-oriented sectors

The bulk of ESCWA exports are oil andgas, notably to advanced countries. Overthe period 1997-2005, mineral fuels aver-aged around 64 per cent of total Arab ex-ports to the EU-15, and 81.7 per cent ofthose to the US. Since oil prices and pro-duction are expected to fall sharply in 2009the region’s export income will correspond-ingly decline (Table V-2).

Plunging oil prices will exert additionalpressure on the resources of major ESCWAoil-exporters, notably the GCC countries.Less affected will be those that have been

Table V-2 – Oil market estimations and projections, 2008 and 2009

Expected oil market conditions 2008 2009 Percentagechange

OPEC production (millions of barrels/day) 37.2 34.9 –6.6World oil consumption (millions of barrels/day) 85.9 85.6 –0.3Dated Brent price (US dollars/barrel) 97.0 35.0 –63.9West Texas Intermediate price (US dollars/barrel) 98.5 35.7 –63.7

Source: EIU (2008).

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making efforts to diversify their economies,such as Bahrain, Oman and the UAE,where exports of machinery and transportequipment have grown significantly.

The more diversified economies are highlydependent on their main trading partner, the

EU, and are likely to witness a decline inexports which are mostly manufacturedproducts. Over the period 1997-2005,manufactured goods and products accountedfor 39 per cent of Egyptian exports to theEU-15 and 46 per cent of those fromLebanon (Table V-3).

Table V-3 – Destination of ESCWA exports, 2005-2007(Per cent)

2005 2006 2007

Asia EUa North Others Asia EUa North Others Asia EUa North OthersAmerica America America

Oil-exportingcountries 54.6 14.3 11.0 20.1 57.6 17.2 15.6 9.6 71.3 3.9 1.2 23.6

Non-oil exportingcountries 29.2 48.6 6.2 16.0 29.3 45.8 6.2 18.7 26.8 50.0 3.2 20.0

Arab countries 51.7 18.2 10.5 19.6 53.4 21.5 14.2 10.9 47.6 28.5 2.3 21.6

Source: UN-Comtrade (2009).a EU-15.

Banking sector

Despite the global financial crisis, mostGCC banks remain well capitalized andprofitable, with limited exposure to sophis-ticated financial products. With few excep-tions, the ratio of non-performing loans tototal loans is less than 5 per cent. Profitsremain strong, with an average return onequity of 21 per cent. Capital adequacyratios range from 13 to 20 per cent, farexceeding the minimum requirements (IIF,2008).

Only a few GCC banks and investmentfirms have been associated with subprimeassets and their losses have been limited(IIF, 2008). However, the prospects for2009 look more difficult. Repatriation of

foreign funds is contributing to large capitaloutflows that will lead to a credit crunch.In the past few months, the costs of financ-ing have risen sharply. Reduction in banklending will lead to less investment, lowergrowth and an increase in unemployment.This will mean a drop in demand which, inturn, will further reduce economic growth.

Between 2005 and 2008, GCC banks in-creased their foreign liabilities from $53billion to $172 billion – to meet the rise indemand for domestic credit, and in particu-lar to finance the expansion in infrastructureprojects and real estate. Between 2005 andJune 2008, banks in UAE, especially Dubai,had a sharp increase in foreign liabilities,from $23 billion to $93 billion. In 2007these constituted 40 per cent of GDP. Bank


78


foreign liabilities had also risen elsewhere:in June 2008 in Oman to $4 billion; inBahrain to $25 billion; in Kuwait to $24billion; and in Qatar to $20 billion. As aresult, between 2005 and June 2008 theGCC external debt rose sharply, from $10billion to $358 billion, equivalent to 33 percent of GDP. However, all GCC countriesremain net external creditors. On the otherhand, local banks in Kuwait and Saudi Ara-bia are insulated from the current financialcrisis since they have financed the largeincrease in domestic credit with domesticdeposits and local borrowing.

Compared to their GCC counterparts, banksin other ESCWA countries have less expo-sure to the global financial turmoil. InLebanon, banks have the region’s highestcapital adequacy ratio – 24 per cent in2007. The Lebanese banks have also in-creased their capital to match the increasein their assets. Further, a great part of thedomestic credit is financed through domes-tic funds: in 2007, the ratio of private sec-tor deposits to assets exceeded 70 per cent,while the ratio of non-residents’ deposits toassets was about 16.6 per cent. The Leba-nese financial system has no direct expo-sure to distressed financial products or mar-kets and remains very liquid. However, thepolitical uncertainty following the 2009elections may cause a substantial drop indeposit inflows, which could complicategovernment financing.

Similarly in Jordan, the fundamental creditoutlook is stable, reflecting the banks’ solidfundamentals. Banks in Jordan enjoy a sub-stantial amount of excess liquidity. Never-theless, Capital Investments forecasts thatbanks in Jordan will confront challenges inthe upcoming years as, in the face of in-creased uncertainty, most have adopted

tighter lending regulations that will prob-ably affect their profitability. High domesticinflation and falling demand for goods andservices will also affect the quality ofbanks’ assets and thus the effectiveness oftheir credit policies.

In Egypt too, the financial sector has es-caped most of the effects of the interna-tional financial crisis, reflecting the streng-thening of banks’ balance sheets, improvedbanking supervision, and conservative prac-tices with respect to funding, investments,and lending. The Egyptian banking sector isunlikely to face a credit crunch since banksare sitting on excess funds. They havevery low ratios of loans to deposits – under60 per cent – do not depend on foreigncredit lines and have little exposure tofluctuations in the prices of equitiesand other investments. However, domesticliquidity conditions might tighten inresponse to portfolio outflows; repatriationof banks’ overseas assets seems likely,which would give some relief to thebalance of payments.

Country-specific responses

Fiscal policies

A number of GCC governments have an-nounced massive programmes of investmentin infrastructure and real estate (IIF, 2008)– aiming to boost internal demand and re-duce the impact of the crisis on growth.The scale of the stimulus measures rangesfrom 3 per cent of 2008 of non-oil GDP inBahrain to 9 per cent in Saudi Arabia. InSaudi Arabia over the next five years thegovernment plans to spend $400 billion ondevelopment projects in addition to the ex-isting plans to invest around $40 billion invarious tourism sites. Kuwait, on the other

79

hand, appears to be an exception, with draftbudget figures for 2009 that show a decline.

Several of the more diversified countrieshave also announced plans to stimulate do-mestic demand. In Egypt, the governmentannounced a fiscal stimulus package of 30billion Egyptian pounds to support industry,exports, tourism, and retail business that arecurrently feeling the effects of the globalfinancial crisis. The government also in-tends to direct a great part of the fiscalpackage towards accelerating existing infra-structure plans. In addition, Egyptian au-thorities are likely to continue with theprogramme of economic reform, aiming tocreate new job opportunities and improvestandards of living.

In Lebanon, the government’s plans to miti-gate the impact of the financial crisis in-clude an acceleration and reprioritization ofinfrastructure spending, an expansion of in-terest subsidies for Lebanese lira-denomi-nated bank lending to the corporate sector,various measures to improve the businessclimate, and incentive programmes to sup-port job creation.

Monetary policies

In many GCC countries, the monetary au-thorities have recently taken measures toease credit conditions. Central banks reactedswiftly to the current crisis by injectingfunds and providing credit facilities tomaintain the liquidity of the banking sector.In an attempt to ease funding pressure, theyalso cut interest rates and reduced the re-serve requirements. The UAE was the firstGCC country to provide guarantees forbank deposits; in October 2008 it offered aDH50 billion credit facility which was sup-plemented by a government deposit of

DH70 billion in banks. The Saudi MonetaryAuthority reduced reserve requirements oncurrent accounts from 13 to 7 per cent,lowered the repo rate by 150 basis points,and made $36 billion available to localbanks. In October 2008, the Central Bankof Bahrain reduced the one-week depositrate by 25 basis points and dropped theovernight repo rate by 125 basis points. TheCentral Bank of Bahrain also plans to raisethe guarantee on bank deposits for commer-cial banks from 15,000 dinars to 20,000dinars ($53,200). In October 2008, the Cen-tral Bank of Kuwait (CBK) reduced therepo rate by 100 basis points and the dis-count rate by 125 basis points. Then, inDecember it made a further cut of 50 basispoints to the repo rate. In April 2009, theCBK further lowered its discount rate to3.5 per cent. It also allowed banks to raisethe loan to deposit ratio from 80 to 85 percent. Further, the CBK injected about $1.87billion into local banks. In November 2008,to ease liquidity in the financial sector theCentral Bank of Oman reduced its repo rateby 220 basis points.

Sovereign wealth funds (SWFs) have alsoresponded. As an immediate reaction to thecrisis, many SWFs started to place moreemphasis on injecting liquidity into, andpropping up, their home economies. TheKuwait Investment Authority, for example,invested around $1 billion in the local stockmarket to stem further declines. In the samevein, the Qatar Investment Authority an-nounced its decision to buy 10-20 per centshareholdings in local banks to boost theirshare prices (IIF, 2008).

The situation is different for many of theregion’s diversified economies that do nothave sufficient margin for monetary re-sponses. In Egypt, for instance, a cut in


80


interest rates could lead to pressures oncentral bank reserves and the exchange rate.Interest rate cuts are likely to have a greatereffect on the exchange rate than on thedemand for credit, so there would appear tobe room to keep policy rates unchangeduntil there are clear signs that pressure onthe balance of payments has stabilized(IMF, 2008).

The situation in Lebanon too is complex(IMF, 2009e). The economy faces three keyrisks:

1. The global recession and the slowdownin the GCC region will probably affectcapital inflows and economic activity.The most likely outcome is a soft land-ing, though there is still a significantdownside risk.

2. Government financing may be more dif-ficult than anticipated. Slower depositinflows could complicate governmentfinancing and will require contingencyplans.

3. Lebanon remains exposed to politicaland security shocks that would adverselyaffect economic and financial conditions.

Facing these risks, Lebanon has little roomto lower domestic interest rates in the shortterm since, even during an internationalfinancial crisis, interest is essential to main-tain strong inflows of deposits. Thus, inter-est rates should be reduced only graduallywhen deposit growth can be expected tohold up.

Social protection systems and labourpolicies

In the ESCWA region the margin for publicsocial expenditure varies significantly from

country to country. Major oil exportingcountries can afford to implement measuresto protect the most vulnerable segments ofthe population. Saudi Arabia, for example,has announced plans to extend concessionalloans to low-income citizens. But othercountries with greater fiscal constraints aremore cautious about expanding governmentspending.

As the crisis unfolds, the more diversifiedcountries will probably have less capacityto support largely publicly funded pension,social insurance and social protectionschemes. Indeed the least developed coun-tries might end up cutting expenditures onhealth, education and social protection. Thiscould have devastating repercussions. Theabsence of social security programmes, cou-pled with inadequate educational and healthservices, would produce inter-generationalpoverty and lead to vicious cycles ofmarginalization or exclusion.

Moreover, the crisis is likely to increaseunemployment. Across the region, a numberof firms in the finance and real estate sec-tors have already signalled layoffs. The re-gion is still in a stage of demographictransition, with high fertility rates and lowdeath rates. So if both private and publicsectors are less able to absorb labour thereis likely to be a rapid increase in unem-ployment.

Regional responses

To confront the current crisis, ESCWAmember countries have participated in anumber of regional initiatives to coordinatetheir efforts and strengthen economic tieswith developing countries.

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Summit meeting

In an unprecedented effort to coordinatemeasures between the Arab countries, Ku-wait hosted the first ever League of ArabStates’ Economic, Development and SocialSummit in January 2009. Recognizing theserious impact of the unfolding crisis onArab countries, Arab leaders endorsed thefollowing decisions (LAS, 2009):

• Pursuing national measures aimed atstrengthening financial institutions andenhancing regulatory frameworks;

• Strengthening the role of the Arab worldin international economic relations, nota-bly through an active contribution to theongoing efforts aiming at stabilizing theworld financial order;

• Increasing cooperation between centralbanks and regional institutions notablyin terms of regulatory agencies;

• Supporting regional financial institutionsin order to increase intra-Arab invest-ment inflows, notably in projects di-rectly affecting the integration process;

• Facilitating cooperation between Arabministers of economy and public fi-nance.

In the OPEC meeting in Vienna in March2009, member countries emphasized theircommitment to stabilizing the market and nofurther cuts are expected in the short term.The stabilization of oil prices at currentlevels would facilitate worldwide efforts tomitigate the negative impact of the crisis.

As an active regional institution, ESCWAhas taken a number of initiatives to mitigatethe impact of the financial crisis on mem-

ber countries. It has, for example, prepareda number of technical papers. It has alsoorganized a regional consultative meetingfor May 2009 which is expected to shedlight on the current financial crisis andanalyze its impacts on the ESCWA econo-mies. The meeting will attempt to formulatea joint position on the way forward, as wellas a common stand for ESCWA countries atthe forthcoming high-level conference onthe financial and economic crisis in June2009 in New York. In addition ESCWA, incooperation with the International LabourOrganization and the World Bank, is prepar-ing a joint publication on the economic andsocial impact of the crisis.

Another important meeting was the SecondForum for Arab and Latin American Busi-nessmen held during the Doha Summit inMarch 2009. The Forum emphasized theimportance of enhancing Arab-Latin Ameri-can economic relations as a means of cush-ioning the impact of the crisis and endorseda number of decisions, including:

• Eliminating tariffs and non-tariff barrierson Arab-Latin American trade.

• Establishing direct maritime and airtransport routes between Arab countriesand Latin American countries.

• Granting special visas to businessmen inorder to enhance the economic coopera-tion/transactions between the two re-gions.

Arab leaders have demonstrated their deter-mination to mitigate the impact of the crisisat other regional meetings, such as the ArabEconomic Forum held in Beirut in April2009 where experts, leaders and private-sector representatives proposed appropriatemeasures.


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Reforms of the global financialarchitecture

As an active member of the G20, SaudiArabia participated in the Washington Sum-mit on Financial Markets and the WorldEconomy in November 2008. The Summitstressed the need to enhance internationalcooperation to restore global growth, andagreed on a number of principles for re-forming the financial markets. The 2009London Summit reiterated the commitmentto restore confidence, jobs and growth. Inparticular, participating countries, includingSaudi Arabia, agreed to treble the IMF’sfinancial resources to $750 billion.

In recent years the GCC’s sovereign wealthfunds (SWFs) have become important toglobal financial markets. The SWFs cover abroad range of financial instruments, coun-tries, and currencies. They have, however,created a number of concerns. Some peopleare worried about the lack of transparency,and the risks of eventual mismanagementthat could destabilize the financial system.Others have questioned the decision-makingframeworks and hinted that economic in-centives might be outweighed by politicalconsiderations. These concerns were behindmeasures recently implemented in theUS and some countries in the EuropeanUnion.

Arab governments have responded to inter-national calls for a regulatory frameworkfor SWF investments. In March 2008, AbuDhabi’s SWFs reached an agreement withthe US. This stressed the need for bettergovernance, making investments solely oncommercial grounds and ensuring thatregulatory measures by hosting countrieswere non-discriminatory. The Abu DhabiInvestment Authority has also co-chaired

the International Working Group ofSWFs.

Although it is still too early to assess theimpact of these measures, it is clear thattheir effectiveness will depend on a numberof factors, including the speed with whichmajor developed economies bounce back,the evolution of oil prices and the scope ofESCWA member countries’ fiscal and mon-etary stimulus packages.

The way forward

The economic outlook for GCC countries isintimately related to world oil demand. Oilprices are expected to pick up at the end of2009 and the beginning of 2010. For 2010,forecasts for the average annual price perbarrel include $51 (EIU, 2008) and $53(US Department of Energy). These priceswould reflect current cuts in production,growth in non-OPEC production, and asmall expected recovery in global demand.A recovery in world oil demand in 2010will then probably result in an increase inGCC production and, consequently, oil re-ceipts.

Recovery for the GCC countries will alsobenefit the region’s more diversified econo-mies, as a result of higher tourism receipts,remittances and investment inflows. How-ever, the export prospects of the more di-versified economies will depend largely onan economic recovery in Europe. Inflationis forecast to continue to decline inESCWA countries, driven mostly by thedecrease in commodity prices.

Region-specific recommendations

Among the policy options that can be rec-ommended to mitigate the impact of thefinancial crisis are:

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• Continue to apply expansionary fiscalpolicies to boost domestic demand espe-cially in infrastructural projects, to stopthe recent slowdown and increase thelevel of economic activity;

• Inject liquidity to the banking sectorthrough rescue packages, thus restoringconfidence in the banking and financialsector. Monitor mergers between finan-cial institutions and ease governmentregulations to encourage the private sec-tor to take an active role;

• Implement more vigilant regulatorymeasures for the banking sector in thelong term;

• Enhance SWF governance standards, inparticular those related to transparencyand accountability;

• Diversify SWF investments by investingmore in the real economy and targetingdeveloping regions, notably in Africa,Asia and Latin America, as an opportu-nity to increase South-South ties;

• Promote financial integration. ESCWAmember countries with major financialsurpluses may consider providing loansto other ESCWA member countries –either on a bilateral basis or through theregion’s development funds or banks;

• Increase intra-regional investments. Pro-mote investments in sectors in whichmany ESCWA member countries have acomparative advantage, such as agricul-ture, clothing and footwear, textile fi-bres, chemical products, and servicessuch as tourism and research and train-ing centres;

• Ensure the full implementation of theGreater Arab Free Trade Area, in particu-lar by harmonizing production standards,facilitating transborder transit, computer-izing customs services, streamlining in-spection/control methods and by includ-ing services liberalization. Enhance therole of regional institutions, such as theArab Trade Financing Program;

• Pursue efforts to diversify Arab exportsaway from oil, and specialize in prod-ucts with higher added-value, and diver-sify trading partners;

• Continue efforts to improve the environ-ment for doing business, in particular byenhancing good governance and combat-ing inconsistency in the implementationof laws;

• Promote south-south cooperation by,among other things, increasing invest-ments in, and trade with, other develop-ing countries.


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Printed in BangkokMay 2009 – 1,130

United Nations publicationSales No. E.09.II.F.18Copyright � United Nations 2009ISBN: 978-92-1-120585-5

©

The UN Regional CommissionsVoicing regional perspectives on global issues

“We must act now to prevent today’s crisis from becoming worse tomorrow...We can be effective only if we act together, with one voice and a common purpose”

BAN Ki-moon

Secretary-General of the United Nations

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