Polish inflation and Zloty devaluation
50%
Devaluation
45%
40%
35%
30%
Inflation
25%
20%
15%
10%
5%
0%
92
-5%
93
94
95
96
97
98
99
0
1
Direct costs of September 11 Attacks
•
OCTOBER 29, 2001 – BusinessWeek
Now, Argentina's Default Looks Inevitable
With the U.S. preoccupied, a bailout is unlikely
Things in Buenos Aires seem to be going from bad to worse. Any hopes that
Argentina would eventually emerge from a four-year recession were snuffed
out by the September 11 terrorist attacks, which dealt a body blow to the
global economy. Argentine bonds are now trading at less than 60 cents to
the dollar. Meanwhile, local interest rates have soared to a punishing 35%,
even for blue-chip borrowers. These are signs that the markets believe that
Argentina cannot go on servicing its $132 billion national debt. U.S. rating
agencies are assuming as much. On Oct. 9, Standard & Poor's Corp.
downgraded Argentina's sovereign debt rating to CCC+, putting the country
on a par with deadbeats such as Ecuador. Rival Moody's Investors Service
quickly followed suit.
•
Wall Street has already resigned itself to the idea of an Argentine default. A
recent survey of emerging-market portfolio managers by Morgan Stanley
Dean Witter & Co. revealed that 85% now believe default is inevitable.
Emerging Economies: Net capital flows
A Busang Lesson
•
•
The root problem that Bre-X faced was the absence of the rule of law in
Indonesia. This political risk takes on the form of “creeping expropriation,”
something not easily insured.
Rule of law, taken for granted in developed economies, is often missing in
emerging economies. Why?
– The ruling class benefits more from discretion than from the rule of law.
• Discretion or non-transparency gives the ruling class the means to extract rents from
the society.
• The cost of the economic inefficiency is borne by the population.
• Rule of law would limits the power of the ruling class.
– The absence of the rule of law in most developing countries is not simply a result
of history. It is what keeps emerging economies always emerging.
•
•
Portfolio investors would often stay away from some emerging markets
where creeping expropriation/corruption is suspected to be serious.
Direct investors can, in theory, manage this risk. But managing this kind of
political risk is not easy. Barrick tried to take advantage of the environment,
but failed miserably.
Foreign direct investment vs. portfolio investment
• FDI, according to the IMF, is “an investment that
is made to acquire a lasting interest in an
enterprise operating in an economy, other than
that of the investor, the investor’s purpose being
to have an effective voice in the management of
the enterprise.”
• Portfolio investment is “passive.”
• FDI allows the use of almost all risk
management techniques.
• Portfolio investors can only “vote by money” and
employ financial market based risk hedging.