Trade finance is likely to tighten this year

Our forecasts assume some tightening in the availability of trade finance. A recent report from the International Chamber of Commerce and the IMF revealed a gloomy outlook for trade finance in 2012. Respondents to the survey indicated a clear division between Asia and Europe. Over one-half of those in the survey expected trade finance in Asia to improve in 2012, whereas only 16% shared this optimism for Europe. Moreover, more than one-half expected trade conditions in Europe to deteriorate in 2012. As the report points out, some of the optimism in Asia may founder, as more than one-half of global trade finance comes from euro area banks. However, as this survey was conducted in January, the full effect from the ECB’s liquidity injections, which improved sentiment in the European banking system, may not have been felt at that time. This suggests that trade finance may still have a difficult year, but nothing like late 2008 and early 2009 when the dearth of such funding was an important factor in the collapse of world trade flows.

The survey also points to regulatory concerns owing to the implementation of Basel III banking standards, where close to three-quarters of respondents claimed to have been affected by the process. Of particular concern is the regulatory perspective that trade finance is not a low-risk activity and should be classed similarly to high-risk derivatives and speculative loans. Banks point to the low-risk nature of this type of finance as a reason to exempt it; a database of 5.2m trade transactions conducted between 2005 and 2009, compiled by the International Chamber of Commerce, found that just 0.022% of these transactions ended in default. In an attempt to reduce some of the regulatory burden of Basel III, market participants are exploring the use of derivatives, such as collateralised debt obligations, for trade finance. Such instruments would transfer exposure to third-party investors and away from providers of trade finance.

More than three years after the global economic crisis erupted in 2008, the recovery remains incomplete and the outlook uncertain. GDP growth at purchasing power parity will slow to 3.2% in 2012, from 3.7% last year. Dragging down global growth will be a contraction in the euro zone, which in turn will contribute to a slowdown in emerging markets. We expect non-OECD countries to grow by 5.6% in 2012, a rate well down on the previous two years. Prospects should improve next year as the euro zone emerges (just about) from recession, with global GDP growth likely to reach 3.8%.

The two biggest risks for the global economy are an intensification of the debt crisis in the euro zone and an oil-price shock. In Europe, a period of relative calm following the ECB’s large-scale monetary interventions in December 2011 and February 2012 has come to an end. The bank’s provision of more than €1trn (US$1.3trn) in cheap three-year loans initially eased financial strains on banks and sovereigns, but government bond yields in Spain and Italy have been rising again in recent weeks. Spain looks likely to be the euro area’s greatest worry in 2012 and 2013, amid concerns about both the achievability and side-effects of fiscal austerity. Although we currently assume that Spain will cope without an EU-IMF bail-out, there is a growing risk that it will need costly support. More broadly, poor fundamentals in many of the euro zone’s so-called “periphery” members continue to weigh on growth prospects.

Following a strong rebound in 2010 to 6% on the back of a surge in global stimulus, growth in the Latin American region as a whole slowed to 4.4% in 2011. The Economist Intelligence Unit forecasts a further deceleration to 3.7% in 2012, in a context of outright contraction in the euro zone (we expect shrinkage of 0.7%) and below-par growth in the US (of 2.2%).

Growth in the region’s largest economy, Brazil, is off to a sluggish start this year after plummeting to 2.7% in 2011 from 7.5% the year before. On the positive side, commodity exporters in South America will continue to benefit from strong Chinese demand. Several factors – such as sound macroeconomic policies, resilient domestic demand and recovery in growth in the OECD – will boost Latin American growth from 2013 (with average growth of 4.2% in 2013-16). However, many countries in the region will remain vulnerable to shifts in market sentiment and rising inflationary pressures.

The region’s external balance sheet has become stronger over recent years, which will help provide a cushion against external shocks. External debt is lower relative to GDP and exports and foreign-exchange reserves are at record levels. Nevertheless, growth in import bills, fuelled by domestic demand and by strong local currencies, will exceed export revenue growth, resulting in large current-account deficits in the region – even for commodities exporters. This situation is particularly problematic for Argentina, for which current-account surpluses have been a pillar of stability in the last decade, given the government’s limited access to international capital markets, use of foreign reserves to repay its external debts and vulnerability to capital flight.

The new macroeconomic surveillance mechanism forms part of the EU’s “Six Pack” of economic governance measures agreed in December 2011. It ties in with other reforms to the Stability and Growth Pact (SGP). The EU’s long-time budgetary control mechanism, the SGP was meant to keep euro area deficits to below 3% of GDP and public debt to around 60% of GDP, thus lowering the macroeconomic risks of tying together a number of fiscally sovereign states in a monetary union.

During the financial crisis, it became obvious that the SGP’s budget prescriptions did not suffice for maintaining fiscal stability, especially as two particularly hard-hit euro area countries, Ireland and Spain, had budget surpluses and low public debt before 2008. Both countries ran pre-crisis private-sector deficits of spending over income, and these converted into government budget deficits post-crisis, as private actors retrenched their spending and as public spending picked up the slack. As a result, EU policymakers resolved to develop a new approach to managing macroeconomic imbalances, in order to lower fiscal risks.

With regards to the first, the problem is that structural reforms tend to have effects in the medium to long term, whereas the government needs to present a drastic cut in the deficit by the end of 2013. The problem with cutting government spending is that it, incidentally, also has a negative impact on consumer spending – one of the main reasons for the current recession.

Below is an overview of some of the areas and issues that have been discussed and agreed upon, how such measures are received, and/or what potential impact they may have on the Dutch economy if they were implemented, either in the interim period or by a new government.

• Budget deficit: the question remains whether the Netherlands will aim to bring down its deficit to 3% of GDP by 2013 (from 4.7% in 2011), or whether it will ask for leniency from the EU. Opinions differ on this, with both voices being heard equally. The eurosceptic Freedom Party (PVV) seems to be less serious about this goal than the Christian Democrats (CDA) and the Liberals (VVD). Moreover, the government’s economic advisory body, the Central Planning Bureau (represented by its director, Coen Teulings) has warned about the consequences for the economy of cutting down the budget too severely and recommends focusing on structural reforms instead. By contrast, the Dutch Central Bank (represented by its president, Klaas Knot) and a government advisory body, the Council of State (represented by its vice-president, Piet Hein Donner, from the CDA) have both recommended sticking to the 3% target as closely as possible.

According to the Central Statistics Office (CSO), exports of goods declined in value by 3.8% year on year in February, but were still up by 2.7% in January-February. On a seasonally adjusted basis, the decline was 12.7% month on month in February, and 3.4% in the three months to February compared with September-November 2011. Monthly export data tend be volatile. Nevertheless, the overall picture is of a slowdown in the pace of growth.

The slowdown in exports would have been sharper were it not for the chemicals sector, which is unusually acyclical. Nevertheless, the 1.2% growth in the value of chemicals exports in the year to January-February 2012 was low by the sector’s usual standards. Exports of medical and pharmaceutical products were almost unchanged, at €4bn, while those of organic chemicals increased by 3.3% year on year, to €3.8bn. Export growth was stronger in the largely indigenously owned food sector, which has successfully increased its exports to offset weak domestic demand. In January-February 2012 food exports rose by 4.6% year on year, to €1.2bn. By contrast, further declines in sales of computer equipment (-23.3%) saw exports in the machinery and transport category drop by 11.7% year on year, to €1.6bn.

Leading indicators of manufacturing export performance were mixed during March-April. The CSO’s new orders index fell month on month by 8.2% in January and by 7.1% in February. A slightly more positive picture emerged from the composite purchasing managers’ index (PMI) published by NCB Stockbrokers. This increased from a seasonally adjusted 49.7 in February to 51.5 in March, but fell again to 50.1 in April (a PMI value of 50 indicates no change in the sector; the greater the movement above or below this threshold, the greater the expansion or contraction indicated). Underlying the decline in the index in April, the output index fell below 50, but new orders and new export orders remained above 50, pointing to an expansion.

Growth in the working-age population will slow significantly, to an average of 0.2% a year, in the forecast period, from 0.8% in the historical period. The proportion of the population aged under 15 will shrink slightly in 2012-16, from 19.4% in 2011 to 19% in 2016. The proportion of people over 65 years of age will meanwhile increase to 12.3% of the population by 2016, from 10.1% in 2011. The old-age dependency ratio will continue to rise after the end of the forecast period: according to estimates from the World Bank, the proportion of China’s population aged over 65 will rise to 22% by 2030.

China’s changing demography will have important economic and social implications. The “demographic dividend” that has driven China’s growth in recent decades by providing the country with a supply of surplus labour will begin to disappear in the forecast period, as the labour force is expected to start to contract gradually. The short supply of workers will put upward pressure on wages, particularly in parts of eastern China, where low-skilled workers will be in especially high demand. Wage increases will need to be met by concomitant gains in productivity if China is to retain its comparative advantage in the global economy. However, the shift from labour-intensive industry to a more capital-intensive model will occur only gradually.

However, from a price perspective, risks of overheating appear to be unfounded, with the consumer price index (CPI) rising by only 0.2% month on month in March – compared with 0.8% in the same month a year earlier – and 3.8% in the 12 months to March.

Moreover, underlying inflation, which excludes the highly variable prices of fuels, fruit and vegetables, fell by 0.04% month on month in March, to an annual rate of 3.1%. Prices for tradeables and non-tradeables have also fallen slightly since December 2011, suggesting that both internal and external price dynamics and expectations are within the Central Bank’s target range of 2-4%.

A more worrying sign of growing distortions has been the country’s widening current-account deficit. Despite favourable terms of trade, Chile posted a US$3.2bn deficit in 2011 – equivalent to 1.3% of GDP – compared with an average surplus of 1.7% of GDP in 2009-10, which was the result, in part, of booming imports. However, Chile’s external position remains positive, with considerable inflows in the capital account – both in foreign direct investment (FDI) and portfolio inflows.

The US economy grew at an annualised rate of 2.2% in the first three months of 2012, below expectations and below the 3% rate of growth seen in the fourth quarter of 2011; a strong performance in October-December, coupled with a run of stronger jobs numbers and increases in consumer credit, as well as high car sales, had fed expectations that the first-quarter figures could almost match the fourth-quarter results. In that context, the outturn – which should be understood as an advanced estimate and may well be revised – is disappointing, but it is not notably weaker than might be expected for an over-indebted economy recovering from a financial crisis.

The bulk of the quarter-on-quarter growth in January-March was delivered by private consumption, which benefited from more confident household sentiment. Job growth had already been strong in the months before the turn of the year, and growth of over 200,000 jobs per month was maintained in January-February, before a deceleration in March. Consumers were also more prepared to borrow more in early 2012, and a fair share of the rise in consumer credit looks to have gone towards new car purchases. Indeed, durable-goods purchases, especially motor vehicles and parts, were sizeable contributors to the 2.9% growth in private consumption. Pent-up demand for vehicle purchases is likely to have played a role here, since supply chain problems following the Japanese earthquake in March 2011 disrupted sales into the second half of last year.

The economic and tax environments will be the most competitive areas

The main strengths of South Korea’s business environment in the forecast period relative to that of its global competitors will be the attractive macroeconomic environment, the market opportunities provided by the country’s large and increasingly wealthy and well-educated population, and predictable and low taxes. The twin parliamentary and presidential elections in 2012 could end the control of both branches of government by one party, the Saenuri Party (formerly the Grand National Party), which has endured for the past four years. This could damage political effectiveness, but South Korea’s basic democratic order is expected to remain stable. There will be significant improvements in the foreign trade and exchange controls regime as  the government continues to  pursue free-trade agreements (FTAs) and to liberalise foreign-exchange transactions.

Two of the least attractive features of South Korea’s business environment will be geopolitical uncertainty and the policy towards foreign investment. In the case of the former, the main concern relates to the potential for armed conflict with North Korea. With regard to the latter, there remains a perception that the government continues to pursue policies that favour domestic companies, despite its stated desire to attract more foreign investment into the country. South Korea’s global ranking for the financing category improves owing to further restructuring in the financial sector, but the country’s poor performance in this area continues to weigh on its overall position.