On Decoupling and the China Connection *

Nombre de la presentación en cuerpo 17

On Decoupling and the China Connection*

Jorge CarreraHead of Economic Research Central Bank of ArgentinaIDB, Washington DCMay 2008

*The views expressed here are my own and do not necessarily reflect the official position of the Central Bank of Argentina.


1. Decoupling Game - Possible Outcomes

2. Key players

US

China

What's the role for Europe?

3. Fields for playing the game

Commodities prices

Reserves accumulation

4. Summing up: Results of the decoupling game

5. Decoupling in Argentina

Agenda


-0.02

-0.02

-0.01

-0.01

0.00

0.01

0.01

0.02

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010

USA ROW

Real GDP Growth (demeaned)


US financial sub prime crisis

Residential Investment(seasonal adjustment)

200

250

300

350

400

450

500

550

600

650

1990-I 1991-IV 1993-III 1995-II 1997-I 1998-IV 2000-III 2002-II 2004-I 2005-IV 2007-III

(Bill

ions

of c

hain

ed (2

000)

dol

lars

)

New home sales

I05 II05 III05 IV05 I06 II06 III06 IV06 I07 II07 III07 IV07

50

100

150

200

250

300

350

400

y. o. y. change

Thousands ofhomes

Key Players2.1 US


US – Policy Reaction I

Key Players2.1 US

Federal Funds Target Rate

0

2

4

6

8

10

12

14

sep-82 sep-84 sep-86 sep-88 sep-90 sep-92 sep-94 sep-96 sep-98 sep-00 sep-02 sep-04 sep-06


US – Policy Reaction IIInstrument Description Objective Amount / size

-325 basis points

(from 5.25% in September to 2.0% in April)

-400 basis points

(from 6.25% in August to 2.25% in April – Primary credit)

Increase the term of operationsImprove liquidity provision to

depositary institutionsFrom overnight to 30 days and

then to 90 days

Term Auction Facility (TAF): Two auctions per month to provide funds to depositary

institutions for 30 days against the assets used as collateral in Discount operations

Reduce signaling fears of Dicount operations from the banks seeking

for liquidity.

USD 175 billion in several auctions

ECB: up to USD 50 billion.

SNB: up to 12 billion.

Repo operations with primary dealers

Term: 1 month. Against Treasuries, Federal Agencies Debt (FAD), Mortgage Backed Securities (MBS).

(AAA)

Provide funds to primary dealers in order to improve liquidity

conditions in particular markets Up to USD 100 billion

Term Securities Lending Facility (TSLF)

Auctions to provide Treasuries for one month (previous term: overnight) to primary dealers against FAD, MBS, Asset Backed Securities (ABS). (AAA)


conditions in particular markets Up to USD 200 billion

Primary Dealer Credit Facility (PDCF)

Overnight repo operations to primary dealers against Treasuries, FAD, Municipal bonds, AAA corporate

securities, MBS, ABS with the same rate as Discount operations (primary credit).


conditions in particular markets

Temporary currency swap Currency swap operations with European Central Bank

(ECB) and Swiss National Bank (SNB).To provide liquidity in USD to

European markets.

Fed Funds rate ReductionImprove general conditions of

liquidity

Discount operations

Reduction of discount rateImprove liquidity provision to

depositary institutions

Key Players2.1 US


US Spillovers - trade channel

Top Exporters & Importers (2007)

Key Players2.1 US

Merchandise Exports

0 0.5 1 1.5 2 2.5

Russia

Korea

Canada

Belgium

United Kingdom

Italy

Netherlands

France

Japan

United States

China

Germany 9.5%

8.8%

8.4%

5.1%

4.0%

4.0%

3.5%

3.1%

3.1%

3.0%

2.7%

2.6%w orld share

U$S 1,000 billions

Merchandise Imports

00.511.522.5

7.5%

6.7%

14.2%4.4%

4.3%

3.5%

3.6%

4.3%

2.9%

2.7%

2.5%

1.6%

U$S 1,000 billions

Source: WTO

w orld share

Trade Balance

-1.5 -1 -0.5 0 0.5 1 1.5

U$S 1,000 billions


US Spillovers - financial channel

Key Players2.1 US

100

150

200

250

300

350

Jan-06 Apr-06 Jul-06 Oct-06 Jan-07 Apr-07 Jul-07 Oct-07 Jan-08 Apr-08

0.00

1.00

2.00

3.00

4.00

5.00

6.00

EMBI+ ASIA

EMBI+ LAT

US Treasury Note (right axis)

%.b. p.

Sovereign spreads vs US T-10 Note(billions U.S. dollars)

decreasing real interest rates, flight to quality (to treasury bonds in dollars


How much China depends on US? How much EMEs depends on China and US?

Key Players2.2 China

0%

10%

20%

30%

40%

50%

60%

70%

ALADI

ASEAN

China

Developing Countries

Exports to US (in % of total exports)

0%

1%

2%

3%

4%

5%

6%

7%

8%

9%

10%

ALADI ASEAN

Developing Countries USA

Exports to China (in % of total exports)


Could China grow inwards?

Key Players2.2 China

% 2000 2001 2002 2003 2004 2005 2006 2007

GDP growth (constant prices) 8.4 8.3 9.1 10 10.1 10.4 11.1 11.4

Consumption/GDP 62.3 61.4 59.6 56.8 54.3 51.8 49.9

Investment/ GDP 35.3 36.5 37.9 41.0 43.2 42.7 42.5

Exports / GDP 20.9 20.2 22.4 26.6 30.6 33.2 35.1

Imports / GDP 18.9 18.5 20.3 25.1 29.0 28.8 28.7

Inflation (CPI) 0.9 -0.1 -0.6 2.7 3.2 1.4 2.0 6.6

RER change -5.4 0.0 4.3 -2.3 -6.6 -2.6 -0.2 2.1

Source: National Bureau of Statistics of China and WEO


New leader for OECD growth? New buyer of last resort?

Key Players2.3 What's the role for Europe?

Current Account Balance (billions U.S. dollars)

-900

-700

-500

-300

-100

100

300

500

2000 2001 2002 2003 2004 2005 2006 2007 2008*

* IMF Estimations

China

Euro area

United States

Japan


New leader for reserve currency?

Key Players2.3 What's the role for Europe?

Dollar Nominal Exchange Rates

0.60

0.70

0.80

0.90

1.00

1.10

1.20

1.30

dec-88 jun-90dec-91 jun-93dec-94 jun-96dec-97 jun-99dec-00 jun-02dec-03 jun-05dec-06

80.00

90.00

100.00

110.00

120.00

130.00

140.00

150.00

160.00

170.00Euro area (left axis)

Japan (right axis)


Commodity Price Index in Real Terms, 1970-2007

0

0.5

1

1.5

2

2.5

1970

M01

1972

M05

1974

M09

1977

M01

1979

M05

1981

M09

1984

M01

1986

M05

1988

M09

1991

M01

1993

M05

1995

M09

1998

M01

2000

M05

2002

M09

2005

M01

2007

M05

Fields for playing 3.1 Commodity boom


Long Run Determinants of Commodity Prices, 1973-2007

Note: Standards Errors in brackets

OLS DOLS

U.S. Real Exchange Rate -0,4844 -0,4406*** (0,0548)

International Liquidity 0,4186 0,4409*** (0,0619)

Industrial Production 1,7622 0,8729*** (0,1977)

Dow Jones -0,1549 -0,0717*** (0,0145)

Constant -12,122 -9,4951*** (1,0613)

Time Trend -0,0072 -0,0062*** (0,0002)

R2 0,95 0,99

F Test (P-value) - 0,00

Fields for playing3.1 Commodity boom


Commodity Price Missalignment, 1973-2007

-30

-20

-10

0

10

20

30

1973

M01

1975

M11

1978

M09

1981

M07

1984

M05

1987

M03

1990

M01

1992

M11

1995

M09

1998

M07

2001

M05

2004

M03

2007

M01

%Fields for playing

3.1 Commodity boom

Nombre de la presentación en cuerpo 17Fields for playing

3.2 Reserves accumulation

Reserves accumulation (and BW II)

Precautionary view: emerging countries have been preparing for this type of crisis

Exchange rate view: Are BWII at risk? Implicit coordination rules of the game requires dollar stability and US deficits (buyer of last resort). Passive attitude in the exchange rate markets


Reserves and Sovereign Wealth Funds (millions of dollars)

SWF: 2 trillons?SWF: 3 trillons?

Fields for playing3.2 Reserves accumulation

0

1,000,000

2,000,000

3,000,000

4,000,000

5,000,000

6,000,000

7,000,000

8,000,000

9,000,000

1949

1951

1953

1955

1957

1959

1961

1963

1965

1967

1969

1971

1973

1975

1977

1979

1981

1983

1985

1987

1989

1991

1993

1995

1997

1999

2001

2003

2005

2007

Current Dollars


Inertia 0.6181 *** 0.7602 ***[0.0000] [0.0000]

GDP PPP PC 0.00005393 0.00003506 *[0.2806] [0.0840]

GDP PPP PC sq -2.169e-09 * -1.911e-09 ***[0.0543] [0.0095]

Trade Openness 0.4078 ** 0.4963 ***[0.0155] [0.0003]

Financial Openness 0.02629 0.05442 **[0.3537] [0.0156]

Trade Volatility -0.04367 ** -0.02230[0.0282] [0.3363]

Financial Volatility 0.03824 0.002159[0.3626] [0.9455]

Flexible ERR 0.04791 ** 0.06441 **[0.0357] [0.0314]

Indefinite ERR 0.03810 0.0009314[0.7414] [0.9911]

Reserves Yield -0.1202 * -0.03591[0.0755] [0.5701]

Dummy Shift 1990 0.07691 * 0.08703 **[0.0749] [0.0109]

Regional Imitation 0.003160 *** 0.004001 ***[0.0000] [0.0000]

Constant -0.5819 ***[0.0036]

Countries 136 136Observations 2161 2321Hansen Test 0,4840 0,4500Diff. Hansen Test 0,2579AB test for AR(1) 0,0000 *** 0,0000 ***AB test for AR(2) 0,4340 0,3420

Variables Diff GMM System GMM


2

0%

10%

20%

30%

40%

50%

0% 10% 20% 30% 40% 50%

Change in International Reserves

Cha

nge

in M

onet

ary

Bas

e

China 1997

Algeria 2004

Singapore 1995

China 2004

Malaysia 1993

Ukraine 2005

China 19950%

10%

20%

30%

40%

50%

0% 10% 20% 30% 40% 50%

Change in International Reserves

Cha

nge

in M

onet

ary

Bas

e

China 1997

Algeria 2004

Singapore 1995

China 2004

Malaysia 1993

Ukraine 2005

China 1995

Sterilization policy of systematic accumulators

Fields for playing3.2 Reserves accumulation

Nombre de la presentación en cuerpo 174. Summing up

Coordination is a key determinant for a successful decoupling

A successful decoupling is the more probable scenario the more effective the Fed will be in shortening the crisis in the US

YES NO

YES a. Small b. Large

NO c. Medium d. Xlarge

China

(+ Europe)

grows

inwards

Global recession size(Accumulated % decrease in GDP)

Fed manages to avoid financial crisis and

domestic recession

Nombre de la presentación en cuerpo 174. Summing upCrisis duration

A long crisis in US (Japanese style?) implies weak dollar and strong American exports?

-4.00

-3.00

-2.00

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-

1.00

2.00

3.00

4.00

0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15

%

Japan USA

2001

2007

1998

2007

1993

Real GDP Growth (demeaned)

Nombre de la presentación en cuerpo 174. Summing upCrisis duration

Who will absorb additional US exports?

Who will absorb the excess EMEs exports to US?

Are China, Japan, Europe and Middle East prepared to do that? Another unpleasant arithmetic.

We need a new buyer of last resort that take suddenly the role of US has had in the last decades.

The risks are massive competitive devaluation (or reluctance to appreciate) and trade restrictions


-1.5%

-1.0%

-0.5%

0.0%

0.5%

1.0%

1.5%

-1.00% -0.75% -0.50% -0.25% 0.00% 0.25% 0.50% 0.75% 1.00%

CHN ('07)

USA ('07)

EUR ('07)ROW LAT

RUS

KOR

JAP

ASEAN

USA ('00-'06)

EUR ('00-'06)

CHN ('00-'06)

?

? ?

worldworld M

M

X

X;

worldworld M

M

X

X;

worldworld M

M

X

X;

worldworld M

M

X

X;

worldM

M

worldX

X


Decoupling is not at all a result of passive policy.

Leader Countries should be active and coordinate among them

Central Banks have revealed that they have more than one objectives with variables weights:

Price Stability

Output Stability

Financial Stability


Decoupling and after If US recession is small, it will be the best scenario…

…but if inflation increases we will see:

an abrupt increases in US policy interest rate (Mishkin)

dollar RER appreciation

contraction in liquidity

All these imply lower real commodity prices


Decoupling and after If US recession is Xlarge we will see:

negative real interest rates for a long time

higher fiscal deficits

dollar RER depreciation

expansion in liquidity

high pressures in US financial market as financial center

4. Summing up

Nombre de la presentación en cuerpo 175. Decoupling in Argentina

0%

5%

10%

15%

20%

25%

30%

35%

40%

1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007

USA CHINA UE-15

Argentine Exports to China, UE-15 and US (in % of total exports)

Argentina has a high diversified trade by destination

Share in total exports (avge. 2005-2007)

UE15 16.4%

USA 8.8%

CHINA 8.3%

ROW 66.4%

TOTAL 100%


United States ChinaPrimary

products

6%Agricultural

manufactures

21%Fuel and energy

42%

Industrial

manufactures

31% 8.8% of total exports

2.1% of GDP(U$S 4,190 millions )

Primary

products

14%

Agricultural

manufactures

11%

Fuel and

energy

16%

Industrial

manufactures

59% 21.1% of total exports

5.1% of GDP

(U$S 10,046 millions)

Primary

products

53%Agricultural

manufactures

31%

Industrial

manufactures

3%

Fuel and

energy

13%

8.3% of total exports

2% of GDP

(U$S 3,946 millions)

Mercosur

Argentina has a high diversified trade by sector


A simple estimation on the impact on the Argentine economy of a decrease in exports to China and US

US 2007

Exports/GDP 25%

Exports to US/Total Exports 6,2%

Exports to US/GDP 1,6%

US Total import decrease (pp) -10%

Relocation 50%

Impact on Arg growth -0,16%

Impact on Arg growth with relocation of 50% -0,08%

China 2007

Exports/GDP 25%

Exports to China/Total Exports 7,9%

Exports to China/GDP 2,6%

China Total import increase (pp) 10%

Relocation 50%

Impact on arg growth 0,26%

Impact on arg growth with relocation of 50% 0,13%

Total Impact on Arg growth 0.10%

Total Impact on Arg growth with relocation of 50%

0.05%

5. Decoupling in Argentina


Twin surpluses

-6%

-4%

-2%

0%

2%

4%

6%

8%

10%

12%

IV '93 IV '94 IV '95 IV '96 IV '97 IV 9́8 IV 9́9 IV 0́0 IV 0́1 IV 0́2 IV 0́3 IV 0́4 IV 0́5 IV 0́6 IV 0́7

(% o

f GD

P)

Primary result national public sector (without privat.)

Current account balance

Financial resulta national public sector (withoutprivat.)


INTERNATIONAL RESERVES

AND COMMODITY PRICES

0

4

8

12

16

20

2428

32

36

40

44

48

52

Dec-01 Dec-02 Dec-03 Dec-04 Dec-05 Dec-06 Dec-07

(Inte

rnat

ionl re

serv

es - U

SD

billion)

50

70

90

110

130

150

170

190

210

230

(Co

mm

od

ity

ind

ex A

RG

- D

ec'9

5 =

100

)

International reserves

Commodity index ARG (USD)


Thanks!

On Decoupling and the China Connection *

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