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China’s Latin America Litter Litany

2019 March 17 by

China’s MSCI Index comeback, with double-digit gains through February, continues on strong foreign investor inflows. Morgan Stanley and Citigroup predict over $100 billion in allocation this year, even if “A” share weightings only increase incrementally. According to data trackers, around $10 billion went into equities in January, and the Shanghai exchange this week notched the biggest daily rise since 2015 and is up almost 20% for the first two months. Lunar New Year retail sales climbed only 8.5% on an annual basis, the worst performance since coverage began in 2005, and with US trade tensions the current account surplus was barely positive in 2018. However gross domestic product growth is expected to continue in the 6.5% range as the government again opened the fiscal and monetary spigots short of “flood-like” stimulus. It will likely widen last year’s 4% of GDP declared budget deficit, and total social financing hit a record RMB 4.5 trillion in January with a raft of new state bank facilities directed at small business in particular.

The enthusiasm sloughs off research such as respective Morgan Stanley and China Beige Book criticism that the economy is in “long-term decline “ and published national account numbers are “garbage.” It ignores the first offshore state company bond default in 20 years when Qinghai  Provincial Investment Group failed to pay $10 million due in Hong Kong, and stock exchange price-earnings ratios tipping again into double-digits toward recent averages. Retail investor margin loans have resurfaced as a catalyst, and any Beijing- Washington trade truce may prove short lived as President Trump extended the March negotiating deadline. With Venezuela’s eruption spilling over into neighbors, emerging market investors increasingly are wary about China’s large Latin American footprint as a new risk. Bilateral policy bank loans to Caracas totaled almost $70 billion the past fifteen years, according to a database compiled by the Washington-based Inter-American Dialogue. Internationally-recognized President and opposition head Juan Guaido pledged to honor outstanding obligations estimated at $20 billion for principal alone, and Ecuador as another major recipient just agreed on an International Monetary Fund program to be able to settle its own oil for credit ledger, but both contingencies could further erode Chinese financial system and fiscal discipline commitments.

In 2018, the China Development and Export-Import Banks lent over $7.5 billion to Latin American and Caribbean governments and state-owned firms, outstripping activity through the World Bank and Inter-American Development Bank. Venezuela took $5 billion, around two-thirds the sum, and Ecuador and Argentina, which received a record $50 billion IMF rescue last year, each got $1 billion. The Dominican Republic’s electric utility borrowed $600 million, with the regional sector focus as in the past on energy and infrastructure. The arrangements do not attach policy conditions but require Chinese contractors and equipment, as in Argentina’s railway and Ecuador’s earthquake reconstruction. In Venezuela its stake increased in oil output, as the Maduro administration announced the drilling of several hundred wells and a joint venture between the state monopolies CNPC and PDVSA.

Chinese facilities are on commercial terms, but in Ecuador’s case the interest rate was half the 11% through standard global bond issuance. With Venezuela’s additional funding last year, Beijing stipulated an end to a previous principal payment grace period, implying a country exposure limit even before the confrontation between National Assembly leader Guaido and incumbent Nicholas Maduro over presidential legitimacy. Elsewhere dams in Argentina were caught in corruption allegations, and a Bolivian one was halted after lack of local community consultation, the Inter-American Dialogue finds. These projects are under pressure to improve risk assessment and preparation, especially since they were rejected on environmental and social grounds by other development lenders. Latin America’s relationship to the multi-trillion dollar Belt and Road Initiative is also an open question, as Beijing emphasizes closer strategic areas geographically. Argentina and Ecuador reportedly wish to renegotiate loan terms, and Brazil’s new President Jair Bolsonaro campaigned on a platform of reducing oil company Petrobras’ Chinese bank ties. The big four state commercial banks at the same time have been more active in co-financing transactions and specialist funds, as the Asian International Infrastructure Bank also considers regional participation. The review suggests Chinese finance will turn more cautious, and investor sentiment as well, under near-term mounting losses.

Africa’s Pervasive Power Struggles

2019 March 17 by

African stock markets got off to a mixed start through February with presidential elections and chronic electricity shortages dominant themes in the continent’s biggest economies South Africa and Nigeria. Nigerian equities were lackluster ahead of the contest between political veterans Buhari, vying for a second term, and former vice president Abubakar, a wealthy business executive from energy privatization deals. Both candidates are running on similar platforms, with state oil and gas company reform and fuel subsidies largely untouched as half the population lacks power, as they call for improved standing in the World Bank’s commercial environment rankings and easier foreign exchange access without unraveling controls. The challenger’s main departure is a fiscal decentralization changing revenue and responsibility relationships between the state and federal governments, designed to appeal to grassroots voters long resentful of Abuja’s authority and spending. The plank also aims to slow domestic debt growth to fund chronic budget deficits, with a possible shift toward external fund-raising at one-third the total. The campaigns promise to raise minimum and civil service wages to keep pace with double-digit inflation, and redouble the fight against Boko Haram and other insurgent groups, with moderate 3% GDP growth predicted this year on hesitant consumption. Corruption scandals around both major parties have served to neutralize it as a wedge issue amid official claims against multinational oil companies and banks for aiding embezzlement. JP Morgan is the target of a $900 million lawsuit for allegedly allowing a former state governor to abscond with funds, after the institution was excoriated for dropping the country from its benchmark domestic bond index for currency restrictions. A naira float is not in the cards for the post-election period, although analysts expect further liberalization of the multi-tier market that could suggest an eventual timetable.

South Africa’s President Ramaphosa, preparing to run for formal election in May, had to contend with another wave of power operator Eskom’s rolling blackouts after proposing a plan to split it into separate operating units.  Its $30 billion in debt weighs on the precarious sovereign investment-grade rating as Moody’s considers a demotion, and follows restructuring negotiations for the ailing state airline. With such contingent liabilities the debt/GDP ratio may be well into the 70-80% danger zone, as Finance Minister Gordhan reluctantly agreed to another bailout in view of Eskom’s “too big to fail” status. The management was replaced, and higher tariffs may be approved in the face of labor opposition prompting strikes. The board of the top public pension fund, Africa’s biggest by assets, was also revamped after members were implicated in graft under the previous administration. The President’s housecleaning is in line with his “New Dawn” platform to rally ruling ANC party support into the polls, although critics reiterate establishment ties dating to independence and urge fresh entrants. The successor team faces a continuing fiscal mess on anemic 1-2% growth as well as the fallout from next-door Zimbabwe’s renewed crisis, following a violent crackdown on fuel price hike protestors. President Mnangawa returned from a trip to the World Economic Forum in Switzerland to handle the aftermath, amid rumors the army would unseat him. The electronic proxy currency was formally devalued against real dollars, bowing to daily consumer and banking reality, as the Finance Minister tries to draw on earlier African Development Bank ties to overcome sanctions and obtain hard international community cash.

The Middle East’s Integrated Introspection

2019 March 10 by

Unlike most other emerging stock markets enjoying a bounce this year, as reflected in Bank of America’s latest asset allocation survey where they were a record overweight, Middle East components Jordan, Lebanon, Morocco and Tunisia have limped through February under international development agency criticism and investor ambivalence. An International Monetary Fund report underscored the lack of trade and financial integration among Maghreb countries Algeria, Libya and Mauritania alongside Morocco-Tunisia despite union proclamation three decades ago. Only the last two are not exclusively focused on commodity exports and are out of conflict and in democratic transition, with group average gross domestic product growth only 2.5% on 25% youth unemployment.

 A separate World Bank analysis examines the economic and social dynamics of possible Syrian refugee return from Jordan, Lebanon and Turkey, which together host the greatest population of the 5.5 million registered outside the country. It dissects the so-called “mobility calculus’ to weigh factors beyond hostility end, such as job, land, and infrastructure access in deciding on repatriation. The study finds these considerations remain overwhelming deterrents along with basic security, and explain why only 100,000 have gone back from neighbors. Damascus’ $400 billion reconstruction price tag, with scant expected Western donor support, is another argument for extended displacement both externally and internally, with equal numbers at large.

In 1989 the five Maghreb members established a free trade area again agreed by representatives in 2010, but it was never ratified.  In contrast Morocco and Tunisia inked pacts with Europe, Turkey and the US and they also joined the World Trade Organization and China’s Belt and Road Initiative. Over one-tenth of imports were Chinese in 2016, although trade openness declined overall with limited progress on product quality and export diversification. Intra-Maghreb commerce is less than 5% of the total, and mostly gas and oil, iron and steel, and clothing. Bilateral direct investment statistics are sparse but flows are “insignificant,” the IMF comments. The main example is Moroccan banks’ cross-border expansion, in the North as well as Sub-Saharan Africa. Number one Attijariiwafa Bank is in Tunisia and Mauritania and a dozen other countries, as the region continues to struggle with weak state-owned lenders. Financial technology has spread, with digital and mobile money regulations now in place. A new Maghreb Bank for Investment and Foreign Trade was created in 2017 with $500 million in capital to promote institutional and payments network integration, but the founders warned the process will be slow amid a spike in global financial volatility.

Tariff, non-tariff and geopolitical barriers persist, with the average 15% duty a departure from the 5% -10% in advanced and developing economies. Cross-border trading rankings in the World Bank’s Doing Business publication are low, reflecting poor logistics performance. Capital movements are typically restricted, with only Morocco’s account relatively liberal, although it still controls currency conversion for profit repatriation. Its more flexible pegged regime against a dollar-euro basket is far from a competitive float, a goal envisioned over a 15-year time horizon. Further Maghreb steps to closer ties as originally promised could forge a single block of 100 million consumers with combined $350 billion GDP, and facilitate global value chain inclusion through positioning as a hub between Europe and Sub-Sahara Africa, the Fund suggests. Trade is complementary and capital markets would benefit from internal reforms and cross-listing arrangements with existing regional zones in West Africa and elsewhere. Morocco embarked on this path with an application to join the English-speaking ECOWAS, and invited banks and brokers to locate in the nascent Casablanca Financial Center for broad geographic reach.

In the eighth year of the Syrian refugee crisis Jordan remains under intense fiscal and social pressure, as the latest IMF program and the World Bank’s mobility reviews point out. Growth was just 2% last year on 4% inflation, as the budget deficit again exceeded the target ahead of the London donor conference at end-February. Tax evasion and state enterprise losses remain widespread, as subsidies stay intact to mitigate the pain of near 20% unemployment. At international community urging, the government issued more work permits to Syrians to allow them formal jobs. However extreme poverty still affects half that population there, the identical rate as at home with reduction urgent in both places, the World Bank concludes.

Iran’s Somber Revolutionary Stockpile

2019 March 10 by

The Tehran Stock Exchange was down 35% in dollar terms on an annual basis through December, twice the loss of MSCI’s emerging market index, even as the rial-greenback exchange rate stabilized at around 120,000 after post-renewed US sanctions free fall. The currency still lost half its value against the dollar and euro the past year, as the central bank prepares a plan to lop three zeroes off the notes to symbolically restore confidence, following a familiar path for developing economies in double-digit depreciation and inflation. President Hassan Rouhani acknowledged on the eve of the Iranian Revolution’s 40th anniversary that recession and public discontent, from a combination of banking and oil export restrictions and slumping domestic consumption, heralded the worst crisis in decades even as European countries introduced a barter trade instrument for vital food and medicine imports. He promised to continue social spending for the poor and middle class in the latest $40 billion budget despite deficit widening. 

Stock pickers amid bargain single-digit price-earnings ratios now target selective value plays like chemical companies earning hard currency. Partially privatized banks Mellat and Tejarat are also actively traded, as the government forces them to sell real estate portfolios and concentrate on better credit performance to reduce the estimated 15-20% bad loan ratio.  However the currency regime is still a mess, with officials dipping into a presumed $100 billion reserve stash for defense, and jailing and executing unauthorized dealers at the same time without a longer-term strategy. Government borrowing through high-yield Islamic Treasury bills sent public debt toward 50% of gross domestic product, and injects financial system liquidity threatening to embed 20-30% inflation and decimate citizen purchasing power.

The International Monetary Fund expects the economy to contract 3-4% for the fiscal year through March, with daily petroleum sales mainly to Asia at 1 million barrels, half the previous level before Washington exited the nuclear deal. Tourism reportedly increased with the cheaper rial, but industrial production in the auto and other sectors and real estate sales sank 20-30% according to October figures. Europe’s special purpose financing vehicle Instex, created by France, Germany and the UK is at an early stage with only humanitarian shipments qualifying. It is unlikely to evolve into an alternative mainstream banking channel with the US “closely watching” in the words of Secretary of State Mike Pompeo, who is organizing further allied crackdown efforts at a conference this week in Poland.

 Instex’s founders have otherwise hesitated on strong commercial and diplomatic ties. The European Union in January imposed curbs on Iran’s Intelligence Ministry implicated in a Paris bomb plot, and Germany banned Mahan Air, which carries military equipment to Syria, from landing in the country. Damascus and Tehran recently struck a banking cooperation deal on post-war reconstruction estimated to cost $350 billion, as the World Bank calculated $3 billion in Syrian private deposits available in 2016, down from $15 billion at the beginning of the decade. Financing infrastructure around the capital is a priority, along with energy, healthcare and transport according to the two sides.

Yemen is another foreign adventure, with Tehran backing Houthi forces in Sana’a against the Saudi Arabia and United Arab Emirates’ allied, internationally-recognized government in Aden. A United Nations-brokered cease fire briefly allowed food aid and imports into the strategic Hudaydah port in a last-ditch effort to avert mass famine, as economic and monetary policies remain in chaos. The World Bank predicts 3% GDP contraction for 2018, following a 40% cumulative drop the previous three years. Inflation was in the 40-50% range after currency depreciation, staple goods shortages, and widespread money printing by the rival central banks in the two cities to cover public service and troop spending, despite civil service salary and pension payments in hefty arrears. State debt is at 75% of output, with the Sana’a Center think tank in December recommending a restructuring plan. With oil exports suspended and worker remittances dwindling from the Middle East, the current account deficit stands at 9% to shake the currency, even as $2 billion in Saudi deposits and fuel grants the last quarter provided support. The dual monetary authorities are at odds over supervision, and conventional and Islamic banks may join Tehran counterparts in unmet rescue anticipation.

Global Refugee Finance’s Public-Private Priority (Financial Times)

2019 March 4 by

As the Western Hemisphere’s worst refugee crisis unfolds with 3 million Venezuelans pouring into Andean neighbors, and relief agencies projecting that number could soon double with continued standoff between the Maduro and Guiado government claims to legitimacy, the international community is again scrambling for emergency funding. The appeal comes as the budget for the main United Nations arm, the High Commissioner for Refugees, has been running 40% behind the $25 billion requested in 2017; development lenders like the World Bank and Inter-American Development Bank are in the early stages of modest commitments; and private financial markets are just beginning to consider pilot debt and equity issuance from standard emerging economy designs, with three-quarters of displaced populations hosted in developing countries. The Global Compact for Refugees finalized last year after two years of negotiations, and endorsed by all UN members except the US and Hungary, calls for new public-private arrangements and investments to support governments and companies on the front lines, but offers no specific delivery models as global needs continue to increase with the refugee number at almost 70 million at mid-2018. The pact is voluntary and depends on improvised field relationships, and in Latin America’s case and elsewhere a joint official-commercial funding unit could generate resource and policy breakthroughs.

Humanitarian groups have tried for years to change UNHCR’s budget formula, which relies on non-enforceable pledges and draws from a shrinking donor base, with 10 countries contributing nearly 80% of the total. They argue for mandatory assessments as with peacekeeping missions, or separate public goods levies such as on airline tickets that could be earmarked for refugees.  As populist anti-immigrant leaders assumed power throughout advanced and developing economies these proposals have stalled, as initial lack of political will shifted to fierce resistance. UN officials moved from acknowledging the difficulties to considering internal changes a dead end, and instead urge that additional revenue come from wider system partners like the World Trade Organization in the form of host country export preferences. With Jordan the European Union embraced this track and offered duty-free entry for garments using Syrian refugee labor, as part of a broader agreement with bilateral and multilateral donors including the International Monetary Fund. It charted a standard adjustment program for fiscal austerity amid the influx. Subsidy cuts sparked street unrest, forcing King Abdullah to replace his prime minister and cabinet, and the Fund has since come under pressure to rework facilities for protracted refugee emergencies.

The World Bank in 2016 joined with the Islamic Development Bank and European Bank for Reconstruction and Development to create a concessional lending platform, the GCFF, enabling $1 billion in infrastructure projects for Jordan and Lebanon as middle-income economies. The Bank also recently opened a $2 billion window in its low-income International Development Association arm for borrowers like Bangladesh and Ethiopia. It just announced that Colombia, where almost a million Venezuelans have crossed the border, will be the third middle-income country eligible for discount rates, and Inter-American Development Bank President Luis Moreno, himself a Colombian, intends to raise a regional $1 billion fund for refugee social protection and job creation. Bogota has granted work permits and temporary residence, but host community public services have been overwhelmed, as local officials plead for education, health, housing and employment assistance. A national interagency plan was drafted in November, but has yet to be fully aligned with World Bank priorities and procedures to access the low-cost funding. The GCFF is backed by bilateral pledges from ten countries as the World Bank issues traditional bonds and on-lends the proceeds, but has no authority to deal directly with private sector banks and fund managers, despite requests as they organize for trial large scale refugee transactions.

Colombia’s government, an investment-grade frequent emerging market borrower has expressed interest in placing project and sovereign bonds, collateralized by utility revenue streams serving refugee and internally displaced populations. They could feature tax incentives, and be natural portfolio allocations for local banks and private pension funds as well as dedicated overseas asset managers. For equities, a Colombian company investment fund may add to the instrument range where listings on the domestic and regional MILA exchanges can get capital for refugee hiring and product and technology launch. This private market-based innovative approach was a core recommendation of the final January report, A Call to Action, of the World Refugee Council, a two year Canadian-led effort to craft new refugee crisis policy and practical solutions. In the Andean and other pressing regions, commercial emerging market specialists can formally team with humanitarian agencies and official lenders to mobilize additional tens of billions of dollars, and investor insight and discipline that reinforce shared purpose.

Africa’s Churlish China Debt Denial

2019 March 4 by

After double digit declines on African stock markets last year in the face of dire official and private analyst warnings on sovereign debt accumulation, the African Development Bank (AfDB) in its 2019 outlook acknowledged rising loads but dismissed systemic crisis risk. Its more upbeat assessment contrasted with the International Monetary Fund’s recent designation of 15 countries “in distress” and the World Bank’s citation of widespread commercial borrowing above 30% of gross domestic product in its January Global Economic Prospects publication. A separate Washington think tank, the Center for Global Development continued to sound the alarm on Chinese loans in particular owed by poorer countries like Djibouti and the Maldives, which has asked Beijing for restructuring.

 The AfDB report noted the continent’s gross debt/GDP ratio topped the 50% danger zone as of 2017, worsened by commodity price decline affecting the denominator while the numerator increase could be justified by an annual infrastructure financing gap in the $75-100 billion range. It suggested that external debt service was manageable amid a Eurobond boom which brought the total outstanding to $70 billion in 2017, and that new Chinese yearly lines have stabilized below $15 billion. The Bank acknowledged serious average fiscal and current account deficits at 5% of GDP, but urged better foreign funding use for capital goods imports and other productive investment as opposed to reduction.

Economic growth this year is projected at 4%, below the early decade peak, although almost half the region will reach 5% offset by 2% population expansion. The pace will not cut unemployment and poverty, and assumes big oil exporters continue to enjoy price recovery at $70/barrel, despite subsidies in Nigeria and elsewhere exerting countervailing fiscal drag. East Africa is the highest growth area at 6% led by outperformers Ethiopia, Rwanda and Tanzania but also saddled with South Sudan’s unending civil war and refugee crisis. West Africa was hurt by Nigeria’s recession and modest rebound despite fast Francophone clips in Cote d’Ivoire and Senegal. Southern Africa likewise was constrained by giant South Africa’s meager 1% result as i credit ratings were lowered on debt concerns along with lagging public and private investment. The AfDB points out that the latter now equals consumption with each representing over 45% of regional output, with the rest net exports. Inflation is also steep at above 10% and could spike with further currency depreciation, and global trade disputes and rising interest rates, coupled with extreme weather and political unrest, could compromise these forecasts. Upcoming elections in South Africa and Nigeria, where China maintains close natural resources and financial services links, will be scrutinized for economic reform and adjustment signals.

Tax revenue is almost 10% below the 25% of GDP needed for development spending, and Angola will introduce a value-added levy this year, while Botswana, Kenya and Zambia emphasize easier on-line payment that can also elevate their ranking in the World Bank’s Doing Business reference. Remittances at $70 billion in 2017 are roughly double portfolio inflows and outpace as well foreign direct investment and overseas aid.  West Africa and Ghana especially is a popular FDI destination, and expatriate transfers are a large slice of national income in Senegal and Uganda, where the Indian community remains a powerful commercial force. Exports as a share of GDP declined everywhere except for Southern Africa since 2010, and are concentrated in raw materials with “low jobs content and volatile terms of trade.” Global value chain integration is sporadic, with lagging logistics and technology impeding good scores on the World Economic Forum’s Global Competitiveness Index, according to the Bank’s review.

With the launch of a pan-African free trade agreement and China’s Belt and Road Initiative push to forge continental commercial and transport hubs, the respective West and Central African economic and monetary unions are revisiting their purpose against a mixed record of policy and practical outcomes. The benefits of exchange rate calm and reduced transaction costs must be weighed against framework inflexibility that is reinforced with cross-border labor, goods and capital flow restrictions. Unhindered movement should be a “reality” rather than an objective, and central independent fiscal and banking authorities are a “tall order” yet to be achieved despite acceptance of short-term debt paths, the AfDB concludes.

The World Bank’s Sky Writing Scare

2019 February 24 by

In its January Global Economic Prospects publication the World Bank, in transition to a new President, warns of “darkening skies” on lower growth and trade, financial market and commodity difficulties. Emerging and developing economy GDP expansion will again be an under original forecast 4.2% in 2019 and only rise another half a point over the medium term to fall short of 5%. This sober outlook is subject to further “downside risk” with higher government and private sector debt in most of the group, including low-income countries, and current account deficit financing in the face of costlier and more volatile banking and portfolio inflows. Trade shocks are another blow with the world’s biggest economies China and the US threatening higher tariffs as goods volume shrank in the first half of last year with slight recovery since. Protectionist measures affect parts assembly in particular to upset global value chains, and renegotiation of longstanding pacts as between North American partners has also complicated planning. Services and technology trade continues with liberalization as a partial offset, despite the absence of multilateral talks the WTO previously hosted.  Aside from Argentina and Turkey in outright crisis financial market sentiment was negative and contagion was evident in more liquid locations to an extent not experienced since the Federal Reserve taper tantrum five years ago. Bond issuance evaporated for periods and the 150 basis point yield spike on the external index was the sharpest in two decades. FDI and remittances in contrast stabilized, with outward investment from China “robust” under the Belt and Road initiative, the report comments. Commodities prices were mixed as energy fluctuated agriculture and metals slipped, but values should improve this year, with oil coming in at an estimated $67/barrel.

Domestic demand softened with gross capital formation lagging, and commodity importer growth slowed the most, while Asia maintained the lead through infrastructure projects. Poor country performance is at a 5.5-6% clip, but 40% of their population is still in extreme poverty, and fiscal-current account deficits and debt levels all increased. Commercial borrowing exceeds 30% of the total in Ethiopia, Mozambique, Senegal and Zimbabwe, and weather and health related emergencies are another drag. Africa separately will grow at only half that pace at odds with the former “rising” narrative, while the sprinters include Rwanda and Tanzania mainly due to public investment. Per capita developing market income will climb 3% this year, even as underlying demographic and productivity trends are less positive. Dollar strength could aggravate currency and banking system pressures, and tip companies into default with IMF programs not a natural solution for this squeeze. Trade disputes can transform into geopolitical ones, with security already precarious in the MENA region especially. China has adopted looser fiscal and monetary policies, but the broader universe has limited room in view of exchange rate depreciation and budget deficits. Bank health is a priority and officials should consider macro-prudential steps to deleverage, as the long period of low inflation may end as cross-border integration and central bank independence unravel. Emerging markets should concentrate on upgrading human capital, and tapping small business potential and eliminating informality are two promising rays in the gloom, the World Bank concludes.

Lebanon’s Battered Bank Bulwark

2019 February 24 by

Following a year with Middle East stock markets down aside from tiny Tunisia, ratings agencies repeated a gloomy banking sector forecast for 2019, with Lebanon in particular now on a related sovereign debt restructuring precipice as the ratio to gross domestic product tops 150%. S&P Global Ratings in a January report predicts tighter liquidity, falling currencies and geopolitical unrest, while oil importers they should get balance of payments relief. For the region including Turkey annual loan growth will average 7-8%, with Jordan and Lebanon stagnant from a combination of Syrian war refugee and trade spillover and depressed consumption and tourism. Tunisia has upcoming elections and understates bad loans in the absence of international financial reporting standards, as it tries to keep another International Monetary Fund program on track. Banks in Egypt and Morocco depend on expatriate transfers, while Turkey’s must roll over volatile external funding as $40 billion comes due in the next twelve months. Return on assets will fall further to 1.2% despite higher government bond yields, with most countries implementing strict Basel III capital adequacy criteria.

Egypt was removed from the riskiest category on projected medium term 5% GDP growth with rising gas production and tourism. Loan expansion is set at 15%, but double-digit inflation will hurt borrower debt servicing ability. The loan-to-deposit ratio is a conservative 40%, and private sector credit is only 30% of output as banks prefer state company lines and Treasury bill holdings. In Jordan only leader Arab Bank has a cross-border presence for diversification, and amid steady profitability sovereign debt exposure at one-fifth of assets is steep. Morocco’s automotive and phosphate exports will pick up through end-decade, but high unemployment and income inequality stoke social tensions. Banks face increased commercial real estate developer losses to lift bad loans to 7% of the total, and they will turn to domestic capital markets for financing beyond customer deposits, S&P believes. The recent dirham band widening against the currency basket will have negligible balance sheet impact, with the free-float transition timetable extended to 15 years. Tunisia’s economy shows meager 2-3% growth on an uneven reform record to shrink fiscal and current account gaps, with the political cycle likely to again freeze progress. Banks must draw on central bank refinancing, with one-fifth of loans non-performing on glaring asset-liability mismatches, the rater notes.

Lebanon was demoted to the top risk “10” group mainly due to the central bank’s “distorting” stimulus and swap operations. Public debt will hit 155% of GDP at year-end and burdens the sector after an official spate of “financial engineering” deals swapping local for foreign currency obligations. Real estate and construction credit will sour without subsidies, but banks have a solid 70% US dollar and euro- denominated non-resident deposit base and a broader regional footprint. Despite parliamentary elections in 2018 for the first time in a decade, government formation remains in limbo, with billions of dollars in donor pledges suspended as a result. With double-digit budget and current account deficits, and the Finance Minister explicitly raising the restructuring option, Eurobond yields spiked to over 900 basis points over US Treasuries the past month. This year respective totals of $7.5 billion domestic and $3 billion foreign bonds must be rolled over, and the central bank and commercial banks hold 85% of that amount. Gulf allies Qatar and Saudi Arabia are in line to buy paper, as growth is estimated at a meager 2%. Almost $35 billion in reserves supports the 1500 exchange rate peg to the dollar, but the prospect of bond write-downs could unravel the delicate balance and spur severe capital outflows and balance sheet damage.

Debt service will absorb one-quarter of GDP this year, and the central bank will likely have to strike more arrangements such as the “soft leverage” one in place with commercial lenders since 2017, which generated short-term profits on favorable regulatory terms, to preserve buyer appetite. The $11 billion in bilateral and multilateral assistance pledged at last year’s CEDRE conference would almost equal the requirement, but even if accessed with a functioning coalition are soft loans demanding repayment and disbursed with delays. Foreign investors controlling over 10% of Lebanese debt are underweight since early 2018, and default scenarios with 25% haircuts would pare capital positions at leading banks like Blom and Audi to simultaneously tarnish their overseas appeal.

Mongolia’s Foggy Misappropriation Mentality

2019 February 18 by

Mongolia bond positions turned underweight in global emerging market strategies, as tens of thousands of Ulaanbaatar protestors in bitter winter cold called for lifting the “fog” in a play on words combining the initials of the main People’s (MPP) and Democrat (DP) political parties. The action followed another spate of scandal revelations, including the parliamentary speaker selling government positions and insider abuse of a decades old discount mortgage lending scheme, where connected officials and families were able to earn tenfold returns on cheap money.

With the popular discontent new splinter parties plan to enter parliamentary elections in 2020, and the MPP Prime Minister Ukhnaagin Khurelsukh and his cabinet are likely to face another vote of confidence after an attempt narrowly missed in November, just a year after a predecessor was ousted for corruption. He claimed wealthy business executives were behind the move, but independent media commentators now urge resignation as the only route to safeguarding democracy. Neighboring China and Russia ties to be combined in an infrastructure and raw materials “economic corridor” impose their own governance strains, as Mongolia’s trade surplus was down 35% to $925 million through the third quarter of last year despite estimated 6% gross domestic product growth.

In October the International Monetary Fund released another $35 million under its 3-year $430 million program anchoring $5.5 billion in overall bilateral and multilateral assistance, amid banking system and foreign reserve warnings. At the same time Anglo-Australian miner Rio Tinto announced a delay in the $4.5 billion expansion of the Oyu Tolgoi gold and copper joint venture, where the state has a one-third stake. With mechanical challenges the first output may not come until late next year, and the operation could again be complicated by profit-sharing demands reflected in the country’s dozen place drop in the latest World Bank Doing Business rankings. Metal and coal export reliance spotlight these flagship projects, with limited diversification into other industries like processed textiles from cashmere. The European Bank for Reconstruction and Development estimates almost $2 billion in earnings potential from garment added value, and is advising local herders and cooperatives.

Ratings agencies maintained their “B” grade, with 6% range growth again expected in 2019 on inflation just above that level. The budget ran a primary surplus last year, and the central bank adopted a tightening stance in September, after selling 10% of $3 billion in reserves to support the depreciating tugrik currency against the dollar. The IMF review cautioned on a return to 20% annual credit extension even with the institution of macro-prudential limits, such as maximum debt service ratios for consumer and mortgage loans. It noted that bad asset classification and recapitalization exercises were incomplete, and that the Financial Action Task Force continued to assign low anti-money laundering scores. Continued decline in world gold and copper prices and Chinese shift to national coal production will widen the current account deficit, and fiscal loosening this year can pose medium-term public debt danger should the sovereign attempt to re-access markets under higher global interest rates, the Fund report implied.

In November the IMF also fielded a mission in Uzbekistan, and flagged economic “overheating” with 5% growth and 15% inflation, as the current account surplus slid to a 3% of GDP deficit.  Sudden price, trade and exchange rate liberalization under President Shavkat Mirzoyev sparked energy and water shortages, and agriculture suffered bad weather. Public wages were hiked 10% to compensate, as the central bank raised rates above 15% to fight government-directed credit expansion. Quasi-fiscal operations, especially through the Reconstruction and Development Fund, left a 2.5% deficit in 2018. In 2019 tax reform is a priority to close the gap, including better collection of value-added and luxury levies. State enterprise restructuring and divestiture is also on the agenda, with possible sales on the 25 year old Tashkent Stock Exchange. With 125 listed companies, only ten are liquid, with daily turnover under $100,000, according to frontier market specialists. Price-earnings ratios are under five times, and foreign investment in banks may soon be authorized, while public and private equity launches are in preparation through Hong Kong and London. Government leaders were in Germany in mid-January on a road show touting financial services, tourism, food processing and auto-making prospects, although specific deals were foggy.

Turkey’s Whirling Word War Backfires

2019 February 18 by

After a Europe worst MSCI index 40% loss last year, Turkey stocks looking for a bottom bounce were caught in another round of economic and diplomatic communications tiffs replaying recent US-Ankara lira crash finger pointing. President Erdogan, with his son-in-law in charge of fiscal and monetary adjustments under no recourse to the IMF, again pressed the central bank to cut benchmark rates to fight 25% inflation, after technical recession with two consecutive quarters of contraction. Last year GDP growth came in around 1.5%, and ratings agencies predict negative 2019 numbers as construction in particular sustains a 5% dip. Hundreds of companies filed for initial protection under a new bankruptcy code setting off a supplier chain reaction, as bank bad loans could double to 6% of the total. Big retail and manufacturing names acknowledge distress, and financial shares were hammered after Akbank rushed out a rights issue for additional capital. To inject confidence and meet borrowing needs, sovereign debt issues were placed in November and in the first weeks of 2019, the former in the wake of global focus on a rare Kazakhstan offering. The lira strengthened toward 5.5/dollar in the aftermath of these operations, and a period of calm with Washington after an evangelical priest was freed from arrest after alleged support for the failed military coup. The government continued to insist on the extradition of opposition cleric Gulen in US exile, and has begun to demand the same for a professional basketball star urging protest almost picked up on travel in Asia. As a NATO ally the Trump administration approved a $3.5 billion missile sale after Ankara threatened to buy equipment from Russia, and it also got a waiver for continued oil imports from Iran following renewed bilateral sanctions. On Syria the two presidents after a phone conversation reached preliminary understanding on withdrawal of American troops battling ISIS and the Assad regime with Kurdish forces, but it degenerated into mutual accusations with Turkish tanks reportedly massing on the border as President Trump vowed economic reprisal for any anti-Kurd action. The move triggered another refugee wave, with 3 million Syrians already in the country with limited education and job access as official unemployment goes deeper into double digits.

Russia’s President Putin and his team have attempted to shift the narrative to repatriation and reconstruction, and a small contingent of returnees from Lebanon was prominent before harsh winter conditions set in to match working ones with formal refugee hiring prohibited. Debt default there is on the emergency agenda, as banks and expatriates reach their comfort limit with sovereign risk without functioning public services on 1% growth. Russian shares were barely down in 2018 at single-digit P/E ratios, and commodity recovery despite bank and energy company Western sanctions. Inflation is above the 4% target, and after a 15% ruble fall against the dollar, the central bank nudged the benchmark rate, as foreign debt investors prepare for future curbs despite US Treasury Department hesitation on global market fallout. Russia moved to eliminate dollar reserve exposure and embrace the Yuan along with the euro as a counter-measure, as Morgan Stanley pulled out of Moscow and relocated securities operations to London to face Brexit’s cross-border standoff.