Saturday, 30 June 2018

A New Geography of Development Finance




Especially since the early 2000s, large emerging countries have become important providers of development funds. Shifting Wealth has allowed governments to tap a bigger pool of ´transformative infrastructure finance´ (Xu and Carey, 2017) and to choose from more financing options. From a long-term development perspective, infrastructure finance is arguably the most important prerequisite to close the infrastructure gap that has been identified as the major bottleneck for delivering on growth and on the SDGs, notably in Africa. Much of the new funding supply is through official bank credit outside the Paris Club framework, however.  So concerns that a new debt overhang might be building in the absence of a concerted mechanism for debt prevention and resolution have become louder recently.

The rise in South-South finance is being channelled through three major vehicles: i) a rise in remittances within the non-OECD area, often resulting from oil riches; ii) growing corporate equity participation via mergers and acquisitions as well as greenfield FDI by emerging multilateral companies; and iii) an extension of bilateral and multilateral bank credit supply, notably by China. The overall rise of development funds occurred despite a downward trend of official development assistance (ODA) as a fraction of recipient countries rising GDP. Western donors, including private, had reduced in the past decades investment in infrastructure, instead devoting more attention to poverty reduction, health, good governance, and climate change mitigation.

Research at ODI (Prizzon, Greenhill and Mustapha, 2016) found total external development finance to all developing countries to have more than doubled between 2003 and 2012 to $269 billion. In 2012, development finance flows beyond ODA by DAC donors – excluding FDI and portfolio equity and remittances - accounted for $120 billion, or around 45%. 13%  of this $120 billion by so-called emerging donors (13%), such as Brazil, China, the Gulf States, India, Malaysia, the Russian Federation and Thailand. 

Over recent years, remittance flows - funds sent by migrants living and working abroad to their home countries - have been increasing rapidly. Booming oil prices translated in higher demand for immigrants in the construction and other service sectors of the Gulf States and Russia.  While private capital mainly flows to emerging countries, remittances are particularly important in poorer countries where they can represent up to a third of GDP. India, China the Philippines and Mexico are the largest remittances receiving countries in the world. As a share of GDP, however, smaller countries such as Tajikistan (42 percent), the Kyrgyz Republic (30 percent) and Nepal (29 percent) were the largest recipients.

The top six immigration countries, relative to population, are outside the high-income OECD countries (World Bank, 2016b): Qatar (91 percent), United Arab Emirates (88 percent), Kuwait (72 percent), Jordan (56 percent), and Bahrain (54 percent). As a consequence of an upsurge in migration, remittance flows into developing countries sprung up in the 1990s, becoming another important financial resource for developing countries. During the period 1970-2000, workers´ remittances to Sub-Sahara Africa had only reached 2.6% of GDP, an inflow clearly lower than its official inflows that added up to 11.5% of Sub-Saharan Africa´s GDP (Buch and Kuckulenz, 2010). This was in contrast to North Africa and the Middle East that received almost 9% of GDP through remittances over the timespan.  By 2015, remittances represented the largest source of external finance for many developing countries, ahead of ODA and FDI. Then, worldwide remittance flows were estimated to have exceeded $601 billion. Of that amount, developing countries are estimated to receive about $441 billion, nearly three times the amount of official development assistance.

Table 1: Developing-Country FDI Outflows and Inflows, bn $
FDI Outflows
1990
2000
2008
2016
LDCs
0.0
2.1
18.4
11.9
China
0.8
0.9
55.9
183.1
Total Dev
13.1
90.0
288.6
383.4
FDI Inflows




LDCs
0.6
5.3
32.3
37.9
China
3.5
40.7
108.3
133.7
Total Dev
n.a.
233.8
592.7
646.0
Source: UNCTAD, World Investment Report 2017,  http://unctadstat.unctad.org/wds/ReportFolders/reportFolders.aspx


Traditionally, and until the late 1990s, developing countries have rather hosted than homed FDI flows. While inward FDI have plateaued for many of the emerging economies in the 2010s, much of the dynamism is now taking place in outward FDI.  Table 1 provides evidence on FDI outflows and inflows for the years 1990, 2000, 2008 and 2016. It shows that FDI flows have increasingly turned into a two-way street since the GFC. Up to the GFC, Latin American companies used to spearhead outward investment from emerging economies. Since then, China raised its percentage share in developing-country FDI outflows from 1% in 2000 to almost half by 2016. Chinese multinationals have increasingly taken the mergers and acquisitions (M&A) route for their overseas expansion, particularly after the global financial crisis of 2008-09.

Greenfield investment is an important mode of entry for Indian and Malaysian multinationals compared to mergers and acquisitions, behind China the only two other emerging countries listed among the top 15 countries for greenfield FDI in 2016. Emerging countries continue to primarily invest South-South in other emerging and developing economies, as most emerging economies’ regional markets serve as the primary destination for their outward greenfield FDI flows. However, the share of the E20 group OFDI projects (in value) directed to the Asian-Pacific region has declined while the shares of Africa, Latin America and especially North America increased (Casanova and Miroux, 2017).

It is noteworthy that the poorest countries classified by UNCTAD as LDC group has started to participate at last in hosting considerable FDI inflows, as a proportion of their GDP. South-South FDI contributed to that new trend, with growing activity from many firms in China, Brazil, India and South Africa. Keep in mind that net FDI flows do not constitute net capital flows as they are often financed in the host country´s domestic financial markets, as multinational companies try to keep currency and expropriation risk down.

In the 2000s, China became a global leader in official bank credit for infrastructure funding, benefitting Africa above all, by building roads, dams, bridges, railways, airports, seaports, and electricity grids. Meanwhile, China has established a number of bilateral and multilateral funds across the world, in addition to two policy banks, the China Development Bank (CDB) and the Export Import Bank of China (C-EXIM). Figure 22 suggests (for Africa) that in recent years bilateral official lending flows have been substituted for multilateral flows. Despite steady growth in private sector funding in the past decade, official development finance backs 80% of Africa´s infrastructure funding, for example (ECN, 2015).  ). China has also pioneered a host of bilateral and regional development funds in the wake of founding the Belt and Road Initiative (BRI) in 2013 (see next section). These funds add upwards of $100 billion in development finance; a major portion of these Chinese investments is in Asia, with the largest being the $40 billion Silk Road Fund established in 2014 (Kamal and Gallagher, 2016).

 In 2015, two new multilateral financial institutions of consequential size and scope came into existence as legal entities: The Asian Infrastructure Investment Bank (AIIB), a Chinese led initiative, and the New Development Bank (NDB), an effort championed and owned by the BRICS nations (Brazil, Russia, India, China and South Africa) to strengthen cooperation among themselves and beyond. The advent of these new multilateral development banks is emblematic of a decentralization of power from the Bretton Woods system. It reflects a shift in terms of soft power distribution beyond the G-7. Their potential role and influence stems from: 1) the size of their lending activity, even relative to long-established institutions such as the World Bank and the Asian Development Bank (ADB); 2) their relatively high capitalization; and 3) their focus on infrastructure—a sector that is vital for growth and development. AIIB and NDB are expected to add significant financing capabilities with combined loan portfolios estimated at $230 billion (Reisen, 2015).

Staying outside the relatively transparent DAC framework, China does not disclose comprehensive or detailed information about its international development finance activities. Aid Data (Dreher et al., 2017) constructed a dataset with a new methodology for tracking underreported financial flows. According to these new data, the scale and scope of China´s overseas infrastructure activities now rival or exceed that of other major donors and lenders. Between 2000 and 2014, the Chinese government committed more than $350 billion in official finance to 140 countries and territories in Africa, Asia and the Pacific, Latin America and the Caribbean, the Middle East, and Central and Eastern Europe. Transport and power generation are the two main sectors financed. Chinese cooperation also invests significantly in health, education, water and sanitation, agriculture, and other social and productive sectors.

Chinese official finance consists of Official Development Assistance (ODA), which is the strictest definition of aid used by OECD-DAC members, and Other Official Flows (OOF). China provides relatively little aid in the strictest sense of the term (development projects with a grant element of 25 percent or higher). A large proportion of the financial support that China provides to other countries comes in the form of export credits and market or close-to-market rate loans. Table 2 provides a calculation of the weighted average of China´s development finance that was extended at concessional ODA terms: 24.5 percent for the period 2000 – 2014.



Table 2. Recipients of Chinese Official Finance, 2000 - 2014
World Region
Total, $bn
ODA Terms, %

No. of Projects

Africa
118.1
58

2345

Eastern Europe
56.7
3

171

Latin America
53.4
12

317

South Asia
48.8
10

423

Southeast Asia
39.2
7

507

Other Asia
28.5
6

183

Middle East
3.1
1

93

Pacific
2.8
3

265

Total/Average
350.6
24.5

4304

Source: Aid Data (2017); authors´ calculation


Table 2 shows that Africa benefitted most from Chinese development finance during the period 2000-14 – in terms of amounts, degree of concessionality (percentage share at ODA terms) and number of projects. Zimbabwe, Angola, Sudan, Tanzania, Ghana, Kenya and Ethiopia headed the ranking of Africa´s recipients in number of projects. Africa has received more Chinese ODA-like finance than all other developing regions in the world combined.

Infrastructure funding has risks for low-income countries with low debt tolerance, however, despite its transformative nature. Much of China´s and other emerging creditors´ new funding supply is through official bank credit outside the Paris Club framework.  Concerns have become louder recently (notably in Washington DC) that a new debt overhang might be building in the absence of a concerted mechanism for debt prevention and resolution. The expansion of available borrowing opportunities has provided more room to expand development-oriented spending and address infrastructure gaps. But long-term growth is enhanced only if borrowed funds are used productively, yielding a high economic rate of return that exceeds borrowing costs. The IMF (2018) has noted, however, that higher budgetary borrowing levels have been associated with a drop in public investment in many LIDCs.

The Fund is particularly worried by the rise since 2013 and by the composition of debt in several post-HIPC countries now judged by then IMF at high risk of or in debt distress. Those countries are all African: Cameroon, Chad, DR Congo, Ethiopia, Ghana, Mauritania, Mozambique and Zambia. Their rise in debt levels has been financed by a mix of emerging bilateral creditors, commercial external creditors, and the domestic financial system. By contrast, the contribution of traditional creditors (the multilateral development banks, Paris Club creditors) has been modest as they tend to limit their provision of loans to countries at high risk of/in debt distress, or are more likely to provide grant finance in such cases.

Washington DC is also worried by prospective debt distress in connection with the BRI. A recent policy paper at CGD (Hurley, Morris and Portelance, 2018) cites media sources, according to which the BRI could span at least 68 countries with an announced investment as high as $8 trillion over the coming years and decades. The CGD paper identified a subset of 23 countries to be significantly or highly vulnerable to debt distress, of which ten are Asian and four African.

Are these concerns more than ´sour grapes´?


Tuesday, 15 May 2018

South-South Trade: More than China?


by
Helmut Reisen & Michael Stemmer*


The growing dynamism of South-South[i] economic ties has been an essential element of Shifting Wealth since the 1990s. By 2010, developing countries accounted for around 42% of global merchandise trade, with South-South flows making up about half of that total (UNCTAD, 2013). South-South trade has risen fast both as part of extended global production networks and to satisfy the demands of a growing middle class. The dollar value of South-South trade multiplied more than 13 times to USD 4 trillion in 2016 since China joined the WTO early 2001 (Figure 1). In contrast to a drop in North-North trade and stagnation in South-North trade, South-South trade remained dynamic even in the post-crisis period.

Behind the impressive headline development of South-South trade lures quite an uneven pattern, however, as will be shown here in some detail:
  • S-S trade has remained dynamic even after post GFC, thanks to China and the LDCs.
  • Correcting for China and LDCs, South-South trade shares have declined as a percentage of ´Southern´ exports over the past two decades, reflecting lower Suth-South shares in the exports of middle-income countries..
  • As S-S trade has been increasingly China-centric, there are doubts whether or not South–South trade can still offer a developmental promise absent in North-South trade. It is reassuring, though, that LDCs could double their share in S-S trade since 1995.

 Much developmental hope has been pegged to the rise in South-South trade, resonating with the former structuralist literature, inspired by the 1950 Prebisch-Singer hypothesis. The structuralists had argued that North-South trade would leave the South in a constant state of underdevelopment, as a result of deteriorating terms of trade, slow technology transfer and concentration on low-end products.  South-South trade, by contrast, would benefit developing countries by stimulating the product and geographical diversification of their exports, thus reducing vulnerability to output cycles in the North (Didier, 2017). The PGD 2010 (OECD, 2010) has pointed to further benefits of South-South relative to North-South trade: more trade creation than trade diversion in practice; better learning-by-doing effects; intermediate technology transfer; proximity; and eased integration into global value chains. So far so good.

Figure 1. South-South trade is still dynamic

- Exports in trillion US$ -
Source: UNCTAD Handbook of Statistics.





The outstanding role of China driving South-South trade and the role of booming oil and metal prices has often been obfuscated (but see Aksoy and Ng, 2014). However, the surge in South-South trade has to a large extent been driven by China, directly and indirectly, accounting for almost 50% of South-South exports. China´s directly measurable impact is clearly indicated by the right column in Figure 1, which depicts South-South trade excluding China: excluding China´s (direct) share from the trade data shows stagnation of South-South trade from 2008. While that trade was virtually nil in 1990, by 2008 it had reached USD 1.9 trillion, also thanks to rising raw material prices and Chinese infrastructure building. As it is difficult to disentangle raw material prices and capacity building from the trade data, these are China´s indirect drivers of South-South trade. In addition to its importance in Southeast Asia, China became Africa’s first commercial partner in 2009 (OECD African Economic Outlook 2017), while expanding commercial ties with Latin America too (OECD Latin American Economic Outlook 2016).

Figure 2. South-South trade shares 1995-2016
- % of total Southern exports –
Source: UNCTAD stats. 

Figure 2 indicates the percentage shares in total Southern exports of total South-South trade (blue), South-South trade excluding China (red) and LDC-South trade (green). South-South trade clearly got a kick from China´s WTO accession and booming raw material prices, particularly during the period from 2001 (42.3%) to 2013 (58.5%). Excluding China from the trade data, however, indicates a flat trend South-South trade shares in the total exports of the South during the observation period, oscillating around 30%. As will become clear from Figure 3, the flat trend in South-South trade has originated in the middle-income countries (ex China). Correcting for the rise of LDC-South trade shares (see below) in addition to excluding China from the trade data, the share of middle-income countries in South-South trade has even slightly declined over the past two decades. Finally, the recent drop in total South-South trade shares may be explained by the cyclical upswing of advanced (Northern) countries.

Figure 3. LDC-South trade shares 1995-2016
- % of total Southern exports –
Source: UNCTAD stats

With South-South trade China-centric and China´s economy increasingly resembling advanced economies, whether or not South–South trade can still offer a developmental promise that might be missing in North–South trade is an open question. Therefore, Figure 3 zooms in on LDC-South trade shares 1995-2016 (as % of total Southern exports). That share doubled from 2% to 4 % during the past two decades, in particular since China´s WTO accession in 2001. The continuous rise of the poorest countries´ share in South-South trade – through peaks and troughs of the commodity cycle - should be indicative of positive development factors. Most likely it reflects improved infrastructure that helps facilitate trade but also regional integration (such as in in West Africa) and other South-South free trade agreements (Wignaraja, 2011). Whith China’s transitioning to the “new normal”, developing economies may increasingly profit from a transferral of manufacturing activities to low-cost destinations.




Literature
Aksoy, A. and F. Ng (2014), “South-South trade: it´s mostly China”, Voxeu, 3rd May.

Didier, L. (2017), “South-South Trade and Geographical Diversification of Intra-SSA Trade: Evidence from BRICs”, African Development Review,  29.2, pp. 139–154.

OECD (2010), “Perspectives on Global Development 2010: Shifting Wealth”, OECD Publishing, Paris. http://dx.doi.org/10.1787/9789264084728-en

UNCTAD (2013), Handbook of Statistics 2013, Geneva.
Wignaraja, G. (2011), “South-South free trade agreements: A work in progress?”, Voxeu, 20th October.


[i] South, North, and LDCs as defined by UNCTAD.
* Helmut Reisen, Scientific Advisor; Michael Stemmer, economist; both at the OECD Development Centre, Paris. This blog post is part of ongoing work for the PGD 2019.

Tuesday, 17 April 2018

The Three Acts of the ‘China Shock’

by
Helmut Reisen & Michael Stemmer*


The rising living standards that have come with China´s opening in the 1980s initially lent widespread support to the view of trade as a key engine of economic growth, North and South. The deterioration of China´s terms of trade through the mid-2000s indicated that China´s exports made the world better off[1], raising the purchasing power of its trading partners. Improvements in the range and quality of exports, greater technological dynamism, better prospects for doing business, a larger consumption base, and cheaper consumption goods – all these factors have created substantial welfare benefits for OECD countries.

The rise of China has been shown to be a boon for low- and middle-income countries during the 2000s, benefitting both commodity exporting and non-commodity economies.[2]. As a result, the impact of China’s growth on both the low- and middle-income countries has grown significantly, while the impact of OECD countries has significantly declined.  


The ´China Shock´

Instead of taking satisfaction in global economic development, economic growth in China and the South is regarded by some as a threat. In contrast to the conventional view of globalisation as a win-win setting, recent studies on the ‘China shock’ focus on the job reducing effect of surging imports from China on the US labour market. They suggest that China may have caused poverty to rise in advanced countries, for example in the United States. It is widely assumed, for instance, that the loss of US manufacturing jobs has greatly facilitated Donald Trump´s victory in the last US presidential elections.

The former mainstream consensus that trade could be strongly redistributive in theory but was relatively benign and frictionless in practice has not only been challenged by US evidence[3]. Colantone & Stanig (2018)[4] dwell on the shock of surging imports from China over the past three decades as a structural driver of divergence in economic performance across U.K. regions. They find that support for the Leave option in the Brexit referendum was systematically higher in regions hit harder by Chinese import competition. The German manufacturing sector has on balance gained from rising trade exposure to China (and Eastern Europe), in contrast to the experience of the United States and some European countries. But even across German regional labour markets, there were losers: the Ruhr area, the Palatinate and Upper Franconia[5].

In “The China Shock”, Autor, Dorn & Hanson (2016) trace the substantial adjustment costs and distributional consequences of trade, most discernible in the local labour markets in which the industries exposed to foreign competition are concentrated. They also find adaptation in local labour markets to be slow, with wages and labour-force participation rates remaining depressed and unemployment rates remaining elevated for at least a full decade after the China trade shock commences. This would imply that exposed workers experience reduced lifetime income. These findings suggest that policymakers in advanced countries need to deploy a battery of policies not only to compensate the ´China shock´ losers, but also to counteract trade-related losses with active labour market and place-based regional policies[6].

The ´China shock´ literature does not suggest protectionism but risks being exploited. While unemployment in certain sectors or regions in OECD countries have resulted to a large extent from technological changes rather than from trade, the two drivers are not always easily disentangled. In the OECD countries, both globalization and technological change affect a middle class that is often marked by industry, which has lost its good jobs or is afraid of imminent job losses

Yet, job losses from import competition alone do not give the full picture. By focusing on job gains from China-enhanced globalization, Feenstra, Ma and Xu (2017)[7] show that although the net manufacturing job impact was negative between 1991-2007, it was even for an extended observation period (1991-2011). Such a positive net job effect also exists for the United States since 2009 as Figures 1 and 2 below suggest – absent a newer study.


The Three Phases of China-Enhanced Globalization

What is often missed in analyzing globalization is that the rise of emerging countries has gone and is still going through three distinctive phases. Policymakers risk foregoing the benefits of Asia´s economic rise because they react primarily to the first opening phase of the 1980/90s, which has brought long term cost to the globalization losers. However, important wage and price trends are now being reversed as a result of changes in the global labour supply and of China´s fast transition to a ´New Normal´.

The first phase of the ´China shock´ in the 1980s and 1990s went along with low-skill wage pressures and higher returns to capital in OECD countries. The opening of China, India and the former Soviet bloc had effectively doubled the pool of low-skilled labour. The shape and speed of the newcomers´ integration into the world economy then depended importantly on the transfer of labour from rural low-productivity areas to urban high-productivity sectors. The world economy faced for a while an ´unlimited supply of labour´ at wages not far from the subsistence level. As predicted by the Stolper-Samuelson theorem, the labour supply shock led to a drop in the price of wage-intensive goods that caused a reduction in the equilibrium wage or, alternatively with low wage flexibility, job losses.

The second phase of the ´China shock´, from China´s WTO accession 2001 to the 2008/9 Global Financial Crisis (GFC), saw pervasive convergence of poor countries largely due to increasingly China-centric growth and higher raw material prices. While oil and metal producers benefitted, the majority of OECD countries, being net commodity importers, suffered terms of trade losses. As global trade turned increasingly imbalanced, China became singled out as a currency manipulator and predator. Deindustrialization in some OECD countries became wrongly attributed to external deficits. However, during the 2000s, current account surpluses of around 100 countries had largely arisen in response to the US current account deficit – the excess of US investment over US savings.

The third phase of the ´China Shock´ has since the 2008/9 GFC witnessed a reversal of these trends as China is transforming its production and trade patterns toward consumption, away from investment and intermediate trade. As China´s formerly ´unlimited supply of labour´ has been largely absorbed and its population is ageing rapidly, and as India´s fertility rate has come down, the growth of global labour has peaked[8]. A slowing working-age population will increasingly be mirrored by a rising middle-class consumer population. This stimulates ´ordinary´ global trade fueled by higher consumption, whereas intermediate processing trade has started to stagnate[9]. With China´s wages rising rapidly in both dollar and yuan terms (Figure 1), wage pressures felt in the OECD are probably past.

Figure 1: China´s Manufacturing Yuan Wages 1978-2016, avg. yuan/year
Source: CEIC Database, April 17, 2018


Figure 2: US Manufacturing Jobs 1975-2018, million
Source: US Bureau of Labor Statistics, April 16, 2018

Figure 2 suggests China´s clear footprint on the US manufacturing sector. Over forty years, from China´s initial opening at the end of the 1970s to the global financial crisis at the end of the 2000s, the US lost industry jobs. The decline in manufacturing sector employment accelerated once China had joined the WTO (2001). Since 2009, a mini renaissance has taken place in US manufacturing employment as (Figure 2). The negative distribution effects of the ´China Shock´ are probably gone. Sadly, dwelling on the past is today leading to protectionist measures by some OECD countries. They will not only hurt the emerging countries but also OECD countries themselves, especially if they lead to a global trade war. Curtailing trade is not the answer: Protectionism hurts those the most it is supposed to protect. 



* Helmut Reisen, Scientific Advisor; Michael Stemmer, economist; both at the OECD Development Centre, Paris. This blog post is part of ongoing work for the PGD 2019.

[1] Martin Wolf (2006), “Answer to Asia’s rise is not to retreat”, Financial Times, 14 March.
[2] Christopher Garroway, Burcu Hacibedel, Helmut Reisen and Edouard Turkisch, “The Renminbi and Poor-Country Growth”, The World Economy, Vol. 35, Iss. 3, pp. 273–294.
[3] David H. Autor, David Dorn, and Gordon H. Hanson (2016), “The China Shock: Learning from Labor-Market Adjustment to Large Changes in Trade”, Annual Review of Economics, Vol. 8, pp. 205–240.
[4] Italo Colantone & Piero Stanig (2018), „Global Competition and Brexit“,  American Political Science Review, 25 March, https://doi.org/10.1017/S0003055417000685
[5] Wolfgang Dauth, Sebastian Findeisen & Jens Südekum (2017), “Trade and Manufacturing Jobs in Germany”, American Economic Review, VOL. 107, NO. 5, MAY, pp. 337-42.
[6] Jens Südekum (2017), “Besser als das Arbeitslosengeld”, Frankfurter Allgemeine Zeitung, 23 September; also recommended for the European level by Robert C. M. Beyer and Michael A. Stemmer (2016), Polarization or convergence? An analysis of regional unemployment disparities in Europe over time”, Economic Modelling, Vol. 55, June, pp. 373-381.
[7] Robert Feenstra, Hong Ma, and Yuan Xu (2017), “US Exports and Employment”, http://www.nber.org/papers/w24056
[8] Charles Goodhart and Manoj Pradhan (2017), “Demographics will reverse three multi-decade global trends“, BIS Working Paper No. 656, Bank for International Settlements.
[9] Francoise Lemoine and Deniz Unal (2017), “China's Foreign Trade: A “New Normal”China & World Economy, Vol. 25.2, pp. 1-21.