emerging financial markets prof. zhiwu chen lecture 1: the big picture
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Emerging Financial Markets
Prof. Zhiwu Chen
Lecture 1: The Big Picture
The Rise & Fall of Historical Powers
3000 BC,
Kingdom of Egypt
Then 2500 BC, The Greek Civilization
2000 BC, Shang Dynasty in China
500 BC, The Roman Empire
Then
Middle Ages: China, Aztec in Mexico and
the Incas of Peru
1500 AD, Spanish Adventurers
1700-1900 AD, British Empire
1900 AD - ?, The United States of America
Financial Markets also emerge, submerge and re-emerge
Argentina’s stock market:Argentina’s stock market:
–Founded in 1872Founded in 1872–Submerged in 1965Submerged in 1965–Re-emerged in 1975Re-emerged in 1975
Peru: 1941-52, 57-77, 88-Peru: 1941-52, 57-77, 88-
3
•The IFC Definition: Income less than $9,000
•21% GDP, 85% Population, 76% Area, And 11%
Market Capitalization in the World (1995)
•Higher growth rates & high avg returns in many
countries
•Time Taken to Double Per capita Output (10 years
but unstable)
What is an Emerging Market?
The Emerging Markets
Emerging19%
Developed81%
Share of World GDP, 1996Share of World Population, 1996
Emerging84%
Developed16%
Share of World Equity market Capitalization
Emerging9%
Developed91%
Annual Real GDP Growth1987-1996
9.9%
8.5%
7.7%
5.1%
3.1% 3.0%
2.3%
0.0%
2.0%
4.0%
6.0%
8.0%
10.0%
12.0%
China Tiger Cubs Four Tigers India Latin
America
Japan United
States
Average Annual Returns for theTwelve Years Ended December 1998Source: International Finance Corporation. Returns include capital gains and dividends.
-1.3%
2.1%
5.1%
8.9%
10.4%
15.8%
16.6%
17.1%
19.1%
23.5%
25.4%
27.0%
-5.0% 0.0% 5.0% 10.0% 15.0% 20.0% 25.0% 30.0%
Korea
Malaysia
Thailand
Singapore
Brazil
Taiwan
US
Hong Kong
Mexico
Greece
Chile
Argentina
Table. PRODUCTIVITY GROWTH
Time Taken to Double Per-capita Output (Selected periods)
Country Period Years
China 1977-1987 10
South korea 1966-1977 11
Brazil 1961-1979 19
Turkey 1857-1877 20
Japan 1855-1919 34
U.S. 1839-1886 48
U.K. 1780-1838 59
Sources: For U.K., Crafts 1981; for Japan, Moddison, for others, World Bank data
Why Do Countries Differ?
The Puzzles of Economic Growth
Why growth differs across
countries?
Why growth does not always
translate into stock returns?
Why capital flow is so small?
Which Countries Prosper?Per-capita GDP is expressed in terms of Purchasing Power Parities
(Source: Heritage Fountation)
-0.32%
-1.44%
0.97%
2.88%
-2.00%
-1.50%
-1.00%
-0.50%
0.00%
0.50%
1.00%
1.50%
2.00%
2.50%
3.00%
3.50%
Free Mostly Free Mostly Not Free Repressed
Why Good Opportunities in Emerging Markets?
4
Privatization and Incentives Have shown a high correlation between economic
freedom and growth.
Privatization of SOEs leads to great improvement in
efficiency and profits.
Low Tax Rates provide more incentives for
entrepreneurs.
Free trade and market opening allows
multinationals to leverage their strength,
outsourcing production, and expand their markets.
Effective Corporate Tax RatesData Source: Goldman Sachs
0% 10% 20% 30% 40% 50% 60%
Hong Kong
Singapore
Thailand
China
US
Japan
5
An Educated And Low Cost Labor Pool
High Literacy Rates Make Training
Less Costly.
Young and Energetic
Cost Of Labor Is Low
Technology Leap-frog Allows for
Dramatic Improvement in Efficiency.
World Labor Costs in U.S. Dollars per HourManufacturing Sector
1995 1997Cost (US $) Cost (US$)
Germany 31.88 27.80Japan 23.66 19.08France 19.34 16.91United States 17.20 18.17Italy 16.48 15.81Canada 16.03 16.24Britain 13.77 14.08Spain 12.70 n/aSouth Korea 7.40 4.29Singapore 7.28 7.05Taiwan 5.82 4.98Hong Kong 4.82 5.31Brazil 4.28 n/aChile 3.63 n/aPoland 2.09 n/aArgentina 1.67 n/aMalaysia 1.59 1.81Mexico 1.51 n/aCzech 1.30 n/aRussia 0.60 n/aThailand 0.46 0.39Indonesia 0.30 0.22China 0.25 0.33India 0.25 0.26
Source: Morgan Stanley Research (End of Year Estimates)
Bulge BrackAsian countries, % of population aged 25-59
(source: Higgins and Williamson; * represents forecast)
25
30
35
40
45
50
55
Indonesia Malaysia Thailand Bangladesh Pakistan
1990-1992 2005* 2025*
Domestic Savings And Foreign Capital Flow (FDI)
People are thrifty (high saving rates) in many
markets. But high domestic savings cannot fully
cushion the flow of foreign capital.
The composition of capital flows is healthy (more
private than public flows) but there is a problem
of duration mismatch. 6
6
Foreign Investment
$-
$20
$40
$60
$80
$100
$120
$140
86 87 88 89 90 91 92 93 94 95 96 97
EQUITY
FDI
Economic Impact On Developed Countries
Raising demand of baby boomers in EM vs.
falling demand in many western countries
Rising demand for western technology
Badly needed infrastructure projects create
huge demand for capital and expertise. 7
Comparison of Population GrowthData Source: United Nations
Over the last five years, Japan’s population grew only at a miniscule 0.2% a year. In comparison, the population of other Asian grew at much higher rates, with some growing at over 2% a year.
0.0%
0.5%
1.0%
1.5%
2.0%
2.5%
3.0%
Japan U.S. China Thailand Indonesia Mexico Brazil Hong Kong India Malaysia
Po
pu
lati
on
Gro
wth
Series1
Annual GDP Growth Projection 2000-2025Data Source: “Asia’s Bright Future” (Steven Radlelet and
Jeffrey Sachs ), United Nations, and Financial Times
7.0%
6.7%
6.3%
5.3%
4.2%4.4% 4.5%
4.1%
2.2%
0.0%
1.0%
2.0%
3.0%
4.0%
5.0%
6.0%
7.0%
8.0%
China Indonesia Malaysia Thailand HongKong
SouthKorea
Singapore Taiwan Japan
Of course, what can go wrong?
Past Success has little persistence (Brazil & Asian Tigers).
Excessive public and private borrowing increase the risk of financial crisis.
Currency instability resulted from week financial system.
Overbuilding of production capacity leads to low returns. (Real estate speculation)
Strong special interest groups can block badly needed reform. 8
Nobody says it is easy to invest in EMs!
Can you handle it?Can you handle it?